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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
{x} ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended June 30, 1998
{ } TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition Period From ____to____
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Commission File Number 1-14198
DIGITAL TRANSMISSION SYSTEMS, INC.
(Exact name of small business issuer as specified in its charter)
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Delaware 58-2037949
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
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3000 Northwoods Parkway, Building 330, Norcross, GA 30071
(Address of principal executive office) (Zip Code)
(770) 798-1300
(Issuer's telephone number, including area code)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
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NAME OF EACH EXCHANGE ON
TITLE OF EACH CLASS WHICH REGISTERED
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Common Stock Philadelphia and Boston Stock Exchanges
Warrants Philadelphia and Boston Stock Exchanges
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SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
Common Stock and Warrants
(Title of Class)
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the proceeding
12 months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days. Yes {x} No { }
Check if disclosure of delinquent filers in response to Item 405 of Regulation
S-B is not contained in this form, and no disclosure will be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. { }
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Total revenues for the registrant for the fiscal year ended June 30, 1998 were:
$15,579,000.
At October 12, 1998, there were 4,196,154 shares of common stock outstanding.
The aggregate market value of the common stock held by non-affiliates (based
upon the closing price quoted on the NASDAQ National Market System at October
12, 1998 was approximately $2,229,207. Effective October 14, 1998 the Company's
securities are no longer listed on NASDAQ.
Transitional Small Business Disclosure Format (check one): Yes { } No {x}
DOCUMENTS INCORPORATED BY REFERENCE
Part III of this Annual Report on Form 10-KSB incorporates by reference
information (to the extent specific sections are referred to herein) from the
Company's Proxy Statement for its Annual Meeting of Shareholders to be held on
or before December 17, 1998 (the "1998 Proxy Statement").
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PART I
ITEM 1. BUSINESS
GENERAL
Digital Transmission Systems, Inc., a Delaware corporation ("DTS" or the
"Company"), designs, manufactures, and markets a broad range of products for
the telecommunications industry. The Company's primary customers are domestic
wireless service providers, including those offering cellular telephone
services and Personal Communications Services ("PCS") and domestic and
international resellers who sell to and service end users with telecom
equipment. Customers include Nextel, 360(Degree) Communications, AirTouch,
GTE Wireless, Digitel in Brazil and Skywater in China.
The Company's products, consisting of proprietary software and hardware
modules, facilitate the control, monitoring and efficient transmission of
high-speed digital information through public or private telecommunications
networks. The Company's network access products enable telecommunications
service providers to give their customers economical, high-quality access to
public and private networks and various telecommunications services. These
services include voice and high-speed data transmission, the Internet and
video and desktop conferencing. Important product requirements in these
market segments include high feature density, modularity, quality performance
and compactness. The Company's products meet these requirements and are
suitable for both wireline and wireless service environments.
DTS markets its products through a direct sales force and several reseller
channels. Domestically, wireless service providers, including cellular,
Specialized Mobile Radio ("SMR") and PCS service companies, are targeted as
prospective customers directly by the Company's sales force. DTS utilizes
telecommunications equipment resellers in the United States and other
countries to market to private network customers. The Company has agreements
with over sixty resellers resident in over forty two countries in Latin
America, Asia Pacific, Europe and the Middle East.
BACKGROUND
The telecommunications industry is undergoing rapid and fundamental changes.
Enhanced communication services such as those offering multimedia
applications, the Internet, video and desktop conferencing, facsimile
transmission, compressed voice communications and data communications between
computers necessitate the increased use of high-speed digital, rather than
analog, transmissions. The increased demand for digital transmission capacity
has led to significant network infrastructure growth and efforts to improve
the efficiency of current telecommunications systems. For all participants in
the telecommunications industry, including long distance carriers, telephone
operating companies and wireless service providers, the need for efficient
transmission of high-speed digitized signals, lower operating costs, seamless
connectivity and the assurance of quality service between networks is of
vital importance. Continued growth in traditional wireline and alternative
services will increase the need for products like those offered by the
Company which are designed to address these requirements. The Company
believes the following trends are contributing and will continue to
contribute to the growth in demand for its products:
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Growth in Wireless Services. According to industry sources, the wireless
market is currently estimated to include over 52 million cellular customers
in the United States and is expected to grow to over 60 million customers by
the year 2001. Service revenues from the cellular industry for 1996 were
$23.6 billion in the United States, and are expected to grow worldwide to
$600 billion by 2010. The growth of the cellular industry, along with the
deployment of new wireless packet data offerings such as Cellular Digital
Packet Data ("CDPD"), has created the need for highly integrated,
multi-functional, high-speed network access products to speed deployment of
cellular services, ease the maintainability of networks, lower cell site
costs and simplify the day-to-day operation of the associated network.
Deployment of PCS. The Company believes that significant infrastructure
investments will be made over the next few years as PCS licensees build new
communications networks. In March 1996, over $8.2 billion was bid for the
licenses to provide broadband PCS service (similar to currently available
cellular service) in several consumer markets around the nation. Additional
PCS licenses are scheduled to be auctioned within the next year. The
establishment of a PCS network involves the construction of a significant
infrastructure which must be reliably connected to existing wireline and
cellular services. Each of these networks will require efficient equipment to
control and monitor the flow of digital information without significant
dependency on the local telephone company for links between cell sites or
major switching centers.
Growth in Wireline Services. The Company believes the markets for traditional
wireline service will continue to grow and estimates that the market for
packet data services alone exceeded $2.1 billion in 1998. Internet access is
expanding and the Company believes the trend of increased telecommuting is
likely to continue, because of declining costs of telecommunications
equipment and services, employer cost-cutting and desires to improve employee
productivity, availability and convenience of improved technology and
environmental concerns. The increasing number of public telecommunications
services has created the need for high-speed connection devices which give
service providers the ability to economically expand their networks to
provide new service offerings without drastic changes in technology and the
associated infrastructure costs. The ability to quickly connect existing
customers to these new services without changing access technologies usually
means lower costs to end users and simplification of network construction for
the service provider.
Proliferation of Competitive Access Providers. Deregulation of the
telecommunications industry has resulted in an increase in competitive
alternatives for local access to network services. These Competitive Access
Providers ("CAPs"), such as cable TV companies, utilities and long distance
telephone service providers, have targeted major metropolitan markets in the
United States to offer local telephone and network services and are courting
large corporate customers who have traditionally been serviced by the local
Regional Bell Operating Companies ("RBOCs"). These CAPs have unique
connection requirements for access to the public network which are creating
opportunities for wireless digital transport equipment providers. Bridging
two buildings separated by 100 yards or two locations 30 miles apart with
wireless transport equipment allows companies to avoid the expense of leased
lines from the local RBOC. The market for equipment which connects the
various networks is one that the Company believes will continue to grow
through the late 1990s.
Growth of International Markets. Many countries throughout the world lag
behind the United States in telecommunications infrastructure development. As
customers in such countries begin to demand new or enhanced communications
services, service providers will seek the ability to upgrade
telecommunication networks quickly without sacrificing service quality.
Service providers in developing countries are faced with the need to promptly
connect high-speed digital lines to public networks, provide
telecommunications to rural areas and provide extensions for thin route
cellular services. This creates an opportunity for a wireless digital
transport device with
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payload speeds of 64Kbps up to several megabits/second that can create an
instant digital connection without requiring the existence of a sophisticated
telecommunications infrastructure.
All of these trends have created and will continue to create the need for
cost-effective, quality high-speed network control and network access
products, such as those offered by the Company, that permit carriers to
economically build and operate networks to address the service requirements
of their customers.
THE DTS SOLUTION
DTS has developed an integrated, systems-based, high-speed network control
and access solution for wireless and wireline networks that consists of the
family of access devices - FlexT1(R), FlexE1(TM), FlexAir(TM), microFlex(TM)
and SKYPLEX(R). In fiscal 1998 the Company introduced microFlex, a DS-1 cross
connect switch which addresses the need for high speed line concentration in
wireless carrier networks and in wireline applications. The Company believes
that its products can be combined to offer whole product solutions that
provide significant differentiation from competitive offerings in the
marketplace with respect to size, price, feature density and reliability.
The FlexT1 and FlexEl(TM) network access products provide integrated access
to public network services for both domestic ("T1") and international ("El")
markets. The FlexT1 and FlexEl are provided in a compact physical package,
are expandable and allow an end user to access many of the business services
available from the public network. These products also enable the sharing of
telecommunication facilities among the different services, such as voice,
video, the Internet and facsimile, thus reducing the number of access lines
the user must lease and potentially reducing overall telecommunications
expenses. A companion product to the FlexT1/E1 family is microFlex(TM), a
cross connect switch or "DACS" (Digital Access Cross Connect Switch). The
microFlex offers non-blocking DS0 cross connect capability for up to sixteen
T1's or E1's in a one RU (1.75 in.) high package. This product has
applications in hubbing or grooming environments involving many aggregate
lines such as those found when concentration of voice lines from several
cellsites are necessary before transport to the central switching center.
The Company's wireless network access products (SKYPLEX and FlexAir)
eliminate the dependency of wireless carriers and PCS providers upon Regional
Bell Operating Companies ("RBOCs") or Departments of Postal, Telegraph &
Telephone ("PTTs") for leased access lines to connect their cell sites by
providing a wireless digital transport alternative using spread spectrum
radio technology. Additionally, in the United States and many developing
countries, the SKYPLEX and FlexAir systems allow for rapid service deployment
since FCC or equivalent agency license approval is not required for the use
of spread spectrum frequencies. SKYPLEX and FlexAir are delivered in compact
packages which optimize the use of limited space at telecommunications sites.
COMPANY STRATEGY
The Company's goal is to become a leading worldwide supplier of network
control and access products for both public and private high-speed
telecommunications networks. In order to realize these goals the Company
plans to:
Concentrate on the Domestic and International Expanding Cellular and PCS
Markets. The Company has a sales force and support staff to further penetrate
the growing domestic and international Cellular and PCS markets. The
Company's network access products have numerous wireless applications and
offer what the Company believes is a unique integrated solution to the
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wireless carriers' need to monitor and control transmission facilities to
hundreds of remote cell sites.
Develop and Expand on Flexible and Modular Platforms. The Company continues
to expand upon its modular Flex and microFlex line of network access products
and plans to add various modules for feature enhancements, facilitating
continued utilization of Flex products as new applications are developed.
Enhance the Company's International Presence. DTS has successfully employed
the following strategies to expand internationally: acquisitions,
distributorships, agents, export control and support:
- In December 1995, the Company acquired SKYPLEX, a product line with an
existing distribution network in Latin America through which the Flex line of
products can also be sold.
- DTS products are sold into more than 42 countries via a network of over
60 resellers/dealers/distributors. Over the past two years, the Company has
expanded its international sales channels by signing sales agreements with
resellers in Latin America, Asia Pacific, Eastern Europe and the Middle East.
- Agents, or independent companies representing multiple, but non-competing
product lines were identified in four key regions. These agents were provided
with product training, technical support, collateral/marketing materials, and
products targeted at local market requirements.
- Multi-lingual sales administration and technical assistance comprise the
export control at the Norcross, Georgia facility. Any agent, reseller, dealer
or distributor can contact these personnel for support.
The Company was certified in December 1994 as an ISO 9001 supplier, thus
establishing its quality assurance credentials for the international arena.
PRODUCTS AND TECHNOLOGY
The Company's products facilitate network access, bandwidth management,
network control and delivery of high-speed digital telecommunications
services.
microFlex Product
During fiscal 1998 the Company introduced microFlex which in conjunction with
FlexT1/E1 allows more efficient use of high speed lines which a wireless
carrier utilizes to connect voice and other traffic between cellsites and its
switching center. In particular, microFlex offers cross connect functionality
between segments of one high speed line (T1 or E1) with another in a total
set of up to sixteen high speed lines.
FlexT1 and FlexE1 Product Family
The FlexTl family of products provides integrated access to public network
telecommunications services. The FlexTl consists of single and multi-slot
enclosures that are customized with various card sets to satisfy a wide range
of network access applications. The FlexE1 provides much of the same
functionality currently available in the FlexT1 for countries using the E1
(international) standard. Customer equipment needs include N x 56/64 Kbps and
full T1 interfaces for data, voice and video applications.
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FlexT1/E1 System Architecture
The FlexT1/E1 bandwidth management features are derived from an advanced
architecture with two independent Time Division Multiplexed ("TDM") busses
available to each card position within a FlexT1/E1 enclosure. This
architecture allows users to pay only for the functions and features needed
for a particular application. Bandwidth managers connect directly to the
service provider's network and user traffic is interfaced through card sets
that connect directly to voice, data and video terminals. All card sets
within the product family can be upgraded with software as new features
become available.
SKYPLEX Products
The SKYPLEX product family consist of various models of microwave radio
products used primarily for point to point digital data transmission. These
products employ spread spectrum technology whose use does not require an
engineering study nor a license from any government spectrum regulatory
agency. SKYPLEX I can provide the user the ability to transmit at digital
rates of 64Kbps, 128Kbps, 256Kbps, 384Kbps and 512Kbps. SKYPLEX II features
the capability of transmitting at the higher speeds of 1.544Mbps (T1) or
2.048Mbps (E1). Perhaps the greatest advantage that spread spectrum radios
have over traditional narrow-band microwave products is that they are faster
to deploy in the field, offer a range of up to thirty miles with directional
antennas, and often are less expensive
The Company offers its complete set of products to wireless and wireline
service providers through a direct sales force. Network access products and
the DIV modems are sold directly to utilities and railways. The family of
network access products is sold to corporate end users through a network of
domestic and international resellers. A secondary channel to
telecommunications service providers exists through selected OEM
arrangements. A OEM contract was signed with Lucent Technologies in fiscal
1998 for supplying that equipment provider with Flex modules to be integrated
in Lucent minicell base stations. Additionally, the Company has recently
expanded its list of customers to include major wireless service providers
such as Nextel, 360(degree) Communications, GTE Wireless, DigiPH, Aliant
Cellular and U.S. West Wireless. In fiscal 1998 DTS accepted an order for six
thousand Flex units from Nextel with value of $5.4 million to be deployed
nationwide in that carrier's network. In addition, in fiscal 1998 Lucent
Technologies and the Company announced an OEM contract for FlexT1 equipment
to be integrated into Lucent PCS minicells. The contract is expected to net
the Company $9M in sales over three years.
COMPETITION
The market for telecommunications products is highly competitive and subject
to rapid technological change, regulatory developments and emerging industry
standards. The Company believes that the principal competitive factors in its
markets are: support for multiple types of carrier services, conformance of
products to multiple public carrier standards, reliability and safety, the
development and rapid introduction of new product features, price,
performance, and quality of customer support.
The Company's principal competition to date has come from major
telecommunications equipment suppliers active in certain market segments. In
the network access marketplace, Kentrox Industries (a subsidiary of ADC
Telecommunications Inc.), Premisys Corporation, Digital Link Corporation,
Adtran Inc. and Newbridge Networks, Inc. are competitors. Western Multiplex,
P-COM, Inc., California Microwave Inc. all compete with DTS in the wireless
transport business.
The Company expects increased competition from existing competitors as they
develop products with functionality similar to that of the Company's
products. In addition, the Company expects to compete with other new entrants
to the telecommunications access equipment marketplace, including those
targeting bandwidth on demand services and broadband integrated access
products. To the extent that current or potential competitors can expand
their current offerings to include monitoring and maintaining network
facilities in an integrated product, the Company's business and operating
results could be materially adversely affected.
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MANUFACTURING
DTS currently outsources most subassembly kitting, board assembly and testing
to high quality suppliers which are ISO 9002 certified.
Subassemblies and finished circuit boards are brought to DTS headquarters for
final assembly, system integration, testing and product burn-in. Defective
subassemblies are returned to the contract manufacturers for root cause
analysis and process problem resolution. System test development is jointly
done by the Company's engineering and quality assurance personnel. Most DTS
product board assemblies contain surface mount technology ("SMT") components
so that only minor touch-up is possible by DTS manufacturing personnel.
High quality is demanded by all DTS' customers. The Company continues to
strive for quality in the design and the manufacturing of products in order
to attain a competitive advantage. All key procedures in the Company have
been documented and Company policy requires that employees follow these
procedures. It is the Company's belief that this policy promotes consistency
in the delivery of value to the customer. This effort led to ISO 9001
certification for the Company in December, 1994 and six successful follow-up
compliance surveillance audits. The Company believes that ISO 9001
certification has become important for international trade, since overseas
customers can feel assured that quality-based processes have been followed.
PRODUCT DEVELOPMENT
The market value of the Company's diversified network access and control
systems is based upon its core technologies in customer terminal interfaces
for voice and high-speed data applications, Tl networking and microwave radio
applications. Additionally, the Company has valuable experience in public,
private and cellular T1 networking standards and control systems. The
Company's product development efforts are currently concentrated in the Tl
network access, transport and control areas. In addition, core hardware and
software technologies have been developed by the Company's product
development staff in subTl areas such as high-speed (1.544 Mbps) digital
modem technology. In order to quickly implement the Company's network access
product plans, the Company intends to continue to develop or acquire
additional technologies in radio frequency interfaces and E1 international
access and transport.
The Company's resident core technologies resulting from the developments of
the Flex, SKYPLEX, and microFlex products include:
- T1/E1 multiplexing of voice and high speed data signals
- T1/E1 alarm reporting and trunk conditioning
- High-speed digital timing insertion
- Network performance monitoring and testing
- Network management software with graphical user interfaces
- TI ESF data link message transport
- SNMP protocol processing
- TCP/IP protocol message handling
- 10Base5 and 10BaseT Ethernet Media Access Control
- Microprocessor-based product design
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- Signal processing algorithms such as modulation, automatic equalization
and forward error correction
- Real time processing of control and data signals
- Spread spectrum signal design
- Design of programmable logic device
- Basic rate ISDN transport signal design and control
The Company's product development efforts have also resulted in the
development of a number of relevant technologies for products targeted toward
the wireless infrastructure and CAP market segments. These technologies
include hardware and software modules for high-speed digital modems, high
data rate QAM modulation algorithms, error correcting coding, automatic
equalization methods utilizing digital signal processing, VLSI devices, RF
filtering for microwave products, point-to-point and multipoint networking
protocols, X.25 interfaces, voice compression, voice telephony interfaces and
T1 digital cross connects.
The technologies listed above are being used by the Company's product
development group to design wireless products and enhancements for the
FlexT1/El platform. Additional technologies will be developed or acquired for
the Company's wireless product lines. Local, domestic and international
outsourced design suppliers have been identified for assisting in the
development of spread spectrum, RF signal and antenna modules.
INTELLECTUAL PROPERTY
The Company's proprietary technology is protected by one patent granted and
two patents pending which relate to channel bank design and ISDN signal
coding. Core technologies described in the "Product Development" section are
incorporated in the Company's products through proprietary hardware and
software modules which embed original algorithmic and device circuitry.
Although some of these original designs are protected by the patent or patent
applications mentioned above, most of the designs are secured only by a claim
of trade secret rights.
The patent positions of high technology firms, including those of the
Company, are uncertain and involve complex legal and factual questions for
which important legal principles are largely unresolved. In addition, the
coverage claimed in a patent application can be significantly reduced before
a patent is issued. Consequently, even though patent applications covering
the technology used by the Company are being processed with the United States
and certain foreign patent offices, there can be no assurance that any of
such patent applications will result in the issuance of patents or, if any
patents are issued, that they will provide significant proprietary protection
and will not be circumvented or invalidated. Since patent applications in the
United States are maintained in secrecy until patents issue or foreign
counterparts, if any, publish, and since publication of discoveries in
scientific or patent literature often lags behind actual discoveries, the
Company cannot be certain that it was the first creator of inventions covered
by pending patent applications or that it was the first to file patent
applications for such inventions. Moreover, the Company might have to
participate in one or more interference proceedings declared by the United
States Patent and Trademark Office to determine priority of invention, which
could result in substantial cost to the Company, whether or not the result of
such proceedings was favorable to the Company. There can be no assurance that
any patents which may be issued based upon the Company's patent application
would be held valid and enforceable by a court or that any given competitor's
technology or product would be found to infringe upon such patents.
Litigation, which could result in substantial cost to the Company, might be
necessary to attempt to enforce the Company's rights
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under the patents owned by the Company or to determine the scope and validity
of other parties' proprietary rights.
If the outcome of any such litigation were to be adverse, the Company's
business could be materially and adversely affected. The Company is unable to
predict how courts would resolve any future issues relating to the validity
and scope of the patents licensed by the Company, or any patents that may be
issued to the Company in the future.
A number of companies have developed technologies, filed patent applications
or received patents on various technologies that may be related to the
Company's technology. Many of these entities are larger and have
significantly greater resources than the Company. Some of the technologies,
applications or patents of these entities may conflict with the Company's
technologies, patents or patent applications. Such conflict could limit the
scope of the patents that the Company has or may be able to obtain or could
result in denial of the Company's patent applications. In addition, if
patents that cover the technologies used by the Company are issued to other
companies, there can be no assurance that the Company would be able to
license these patents at a reasonable cost or be able to develop or obtain
alternative non-infringing technology.
The Company acquired the trademark of "SKYPLEX," and currently owns the
trademarks of "FlexT1," "FlexE1," "microFlex," and "FlexAir." It has also
filed federal trademark applications for FlexSentry, FlexCell, FlexE1 and
FlexAir internationally, and these applications were published for opposition
in the Trademark Office after examination. The applications for FlexCell,
FlexE1 and FlexAir were formally opposed by Fujitsu Network Transmission
Systems, Inc. Fujitsu has alleged that the trademark registrations should be
denied because of their prior rights filed on a trademark application for
FlexR, for certain access controllers. The Company and Fujitsu have reached
an agreement whereby the DTS trademarks can be used with few restrictions.
The Company also relies upon trade secret protection for its confidential and
proprietary information. There can be no assurance that competitors or
potential competitors of the Company will not independently develop
substantially equivalent proprietary information and techniques or otherwise
gain access to the Company's trade secrets or disclose such technology, or
that the Company can meaningfully protect its trade secrets. Failure to
obtain needed patents or licenses or proprietary information held by others
could have a material adverse effect on the Company.
RESEARCH AND DEVELOPMENT COSTS
During fiscal years 1998, 1997, and 1996, the Company's expenditures in
product development were $3.0 million, $3.9 million, and $2.7 million,
respectively. The decrease in spending from 1997 to 1998 is primarily due to
the completion of the Company's Flex product line during fiscal 1998 thereby
reducing required development expenditures. During fiscal 1997, approximately
$1.4 million in costs were capitalized related to the development of the Flex
product line and the SKYPLEX spread spectrum radio product line. During
fiscal 1998, the Company capitalized approximately $584,000 primarily for the
continued development of the Company's SKYPLEX spread spectrum radio product
line. It was determined that the future recoverability of the capitalized
costs of certain features developed for the aforementioned radio was not
assured and that the value of the asset was impaired. As a result,
approximately $414,000 and $554,000 of the asset was written off during the
years ended June 30, 1998 and 1997, respectively, and appropriately charged
to Cost of Sales in the accompanying financial statement data.
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GOVERNMENT REGULATION
The FCC has regulated the design of telecommunications equipment for use
in the United States by restricting radio frequency signal emissions and by
licensing frequency usage. Compliance with electronic product safety
regulations is also required for every new product design. It is possible
that a government agency such as the FCC could issue regulations which would
require the modification of DTS equipment in order to comply with the new
regulations. A change in FCC rules may impact sales of DTS products should it
occur. International standards for electronic product design in the areas of
safety and signal emissions are different in many cases from those issued by
United States government agencies. Sales of telecommunications equipment in a
foreign country are often restricted by equipment design standards and
regulations adopted by a centralized governmental agency similar to the FCC.
The Company has to date experienced no material difficulties in complying
with the various laws and regulations affecting its business.
YEAR 2000 (Y2K) IMPACT ON COMPANY'S INFORMATION TECHNOLOGY
The Company operates an Enterprise Resource Planning ("ERP") software system
which has modules supporting order entry, planning, inventory management,
operations, and general ledger functions. The vendor of this information
system has sent the Company a letter indicating the ERP system is Y2K
complaint. The hardware platform vendor, through its web presence, also
indicates that the system is Y2K compliant.
Most of the desktop computing systems used at the Company were manufactured
after 1995. They use operating system and document preparation software from
Microsoft Corporation. These systems are generally compliant with the year
2000 requirements and any non-compliant functions are not expected to
adversely impact the Company's operations.
The Company does operate older PC's in its manufacturing and engineering
organizations, but they are not used in time or date critical operations.
Accordingly, the Company does not anticipate spending significant additional
amounts on Year 2000.
The Company's products are designed to be Year 2000 compliant as they utilize
two digit date fields as opposed to four digit fields. The Company is,
however, aware of the risk that third parties, including vendors and
customers of the Company, will not adequately address the Year 2000 problem
and the resultant potential adverse impact on the Company.
Notwithstanding the above, there can be no assurance that the Company's
internal systems or products will operate beyond 1999 or that major business
disruptions will not occur in mission critical systems and processes.
EMPLOYEES
As of June 30, 1998, the Company had approximately 64 full-time employees, of
whom approximately 18 are technical personnel engaged in developing the
Company's products, approximately 22 are marketing and sales personnel,
approximately 15 are quality assurance, customer service and operations
personnel and approximately 9 are involved in administration and finance. On
July 10, 1998 and on August 14, 1998, the Company performed a reduction in
staff due to the reduced revenue level of the fourth fiscal quarter of 1998
and the low revenue anticipated in the first quarter of fiscal 1999. After
these reductions the employee headcount was 37 of which 12 are technical
personnel, 12 are in sales and marketing, 4 in administration and finance and
9 are in operations. Substantially all of the Company's employees are
full-time. The Company's employees are not unionized and the Company believes
that its employee relations are good.
BACKGROUND OF THE COMPANY
A predecessor by merger to the Company was incorporated in Delaware in 1984.
The Company was originally incorporated in Delaware in 1992 as Netra Inc. and
changed its name to Digital Transmission Systems, Inc. in 1995 in conjunction
with the merger with its wholly-owned subsidiary Digital Transmission
Systems, Inc., a California corporation. On March 4, 1996, the Company
completed a public offering of 1,220,700 Units each consisting of one share
of Common Stock and one warrant to purchase one share of Common Stock at a
price of 120% of the unit offering price of $7.50. On February 18, 1997,
trading of the Units was split into separate trading of the underlying Common
Stock and Warrants.
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ITEM 2. PROPERTIES
The Company's operations are located in an approximately 20,000 square foot
facility in a technology park in Norcross (in the greater Atlanta, Georgia
area). In May of 1993, the Company entered into a six year lease for its
current facility with a three year extension signed in May 1998. The
extension also allows for an additional 4,000 square foot adjoining space to
be available to the Company at the same rate. The base annual triple-net rate
for this space is $7.02 per square foot, including amortization of buildout
costs of approximately $150,000, and escalates by 4% per year. The Company
believes its facilities are suitable and adequate for its purposes.
ITEM 3. LEGAL PROCEEDINGS
In August 1998, a vendor of the Company filed suit against the Company
alleging nonpayment of account. Total demands for judgment are $550,826 in
unpaid invoices, plus pre-judgment and post-judgment interest on principal
amounts outstanding and court costs. The Company is disputing the validity
and accuracy of the billed amounts, and believes that its obligation to the
plaintiff is $200,000, which has been accrued in the financial statements as
of June 30, 1998.
The Company believes that it has meritorious defenses in the plaintiff's
claims and intends to continue a vigorous defense in this matter. However, no
assurance can be given as to the ultimate outcome with respect to such
lawsuit and the amount, if any, which may be paid in excess of the accrual
recorded at June 30, 1998.
The Company is also involved in various claims and legal actions
arising in the ordinary course of business. In the opinion of management, the
ultimate disposition of these matters, including the litigation discussed in
the previous paragraph, will not have a material adverse effect on the
Company's financial position, results of operations, or liquidity. The
Company is not a party to any material legal proceedings. From time to time,
the Company is involved in various routine legal proceedings incidental to
the conduct of its business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
Page 10
<PAGE> 13
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS.
Effective October 14, 1998, the Company was delisted from NASDAQ.
On March 4, 1996, the Company completed a public offering of 1,220,700 Units
("Units"), each consisting of one share of Common Stock ("Common Stock") and
one Warrant ("Warrant") to purchase one share of Common Stock at an exercise
price per share equal to 120% of the initial public offering price of the
Units. The shares of Common Stock and Warrants were not detachable or
separately transferable, and could only have been traded as part of a Unit
until February 18, 1997 (the "Separation Date"), when each Unit was separated
into one share of Common Stock and one Warrant. The Common Stock and Warrants
have been listed on the NASDAQ SmallCap Market, the Company's principal
market, under the symbols DTSX and DTSXW, respectively, and have been listed
on the Philadelphia Stock Exchange and the Boston Stock Exchange under the
symbols DTS and DTS.W, respectively. The Units previously traded on the
NASDAQ Market and the Philadelphia and Boston exchanges. The price per Unit
reflected in the table below represents the range of low and high closing
sale prices for the Company's Units as reported by the NASDAQ Stock Market
for the quarters indicated:
<TABLE>
<CAPTION>
Quarter Ended High Price Low Price
- --------------------------------------------------------------------------------
<S> <C> <C>
Commencing March 4, 1996 and ending March 30, 1996 $ 9.375 $ 8
June 30, 1996 $14.75 $ 9
September 30, 1996 $15.50 $14
December 31, 1996 $16.25 $14.125
Commencing January 1, 1997 and ending February 14, 1997 $18 $13.875
</TABLE>
On February 18, 1997 the Common Stock and Warrants underlying the Units
began trading separately and the Units ceased to trade. Both the Common Stock
and Warrants traded on the NASDAQ Market and the Philadelphia and Boston
exchanges. Effective October 14, 1998, the Company's securities are no longer
listed on NASDAQ. The price per share of the Company's Common Stock in the
table below represents the range of low and high closing sale prices as
reported by the NASDAQ Stock Market for the quarters indicated:
<TABLE>
<CAPTION>
Quarter Ended High Price Low Price
- --------------------------------------------------------------------------------
<S> <C> <C>
Commencing February 18, 1997 and ending March 31, 1997 $13 $10.75
June 30, 1997 $12.50 $10.25
September 30, 1997 $11.25 $ 9
December 31, 1997 $ 9.438 $ 3.50
March 31, 1998 $ 6.875 $ 4
June 30, 1998 $ 6.875 $ 2.875
</TABLE>
Page 11
<PAGE> 14
The price per share of the Company's Warrants in the table below
represents the range of low and high closing sale prices as reported by the
NASDAQ Stock Market for the quarters indicated:
<TABLE>
<CAPTION>
Quarter Ended High Price Low Price
- --------------------------------------------------------------------------------
<S> <C> <C>
Commencing February 18, 1997 and ending March 31, 1997 $5 $2.875
June 30, 1997 $4.25 $2.375
September 30, 1997 $3.25 $2.50
December 31, 1997 $2 $1.50
March 31, 1998 $1 $0.50
June 30, 1998 $0.50 $0.20
</TABLE>
The closing sale price of the Company's Common Stock as reported by the
NASDAQ Stock Market on June 30, 1998 was $2.875. The closing sale price of
the Company's Warrants as reported by the NASDAQ Stock Market on June 30,
1998 was $.375.
The total number of shareholders of record of the Company's common shares
as of September 30, 1998, was approximately 42. Because many shares are held
by brokers and other institutions on behalf of shareholders, the Company is
unable to estimate the total number of shareholders represented by these
record holders.
The Company has never paid cash dividends on its Common Stock. The
Company currently intends to retain any earnings for use in the business and
does not anticipate paying any cash dividends in the foreseeable future.
Page 12
<PAGE> 15
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion of the results of operations and financial
condition should be read in conjunction with the Company's
audited financial statements and notes thereto.
OVERVIEW
In fiscal 1998 the Company completed its first full year in realizing all its
revenues from new markets and completely eliminate any dependency on MCI, the
Company's previously dominant customer. Net sales for the 1998 fiscal year
increased nearly eight percent to a historical high of $15.5 million compared
to $14.5 million for the 1997 fiscal year. However, the Company posted a loss
of $8.38 million for fiscal 1998, a substantial increase from the $4.2
million loss recorded in fiscal 1997. The operational contribution to the net
loss was due to the heavy investment the Company made during the year in its
transition to new markets by expanding its new domestic and international
sales channels and the expenses related to the development and introduction
of new products. This shift to new products and customers has negatively
impacted the gross profit margin and net earnings of the Company.
Industry trends which may also affect the Company's operating results include
the rate of demand for cellular and PCS services, the market acceptance of
high speed wireline service from telecommunications service providers, and
the level of investment in telecommunications infrastructure by developing
countries over the next few years
Net sales to MCI totaled $7.1 million (64% of total sales) in fiscal 1996,
$4.4 million (31% of total sales) in fiscal 1997 and none in fiscal 1998.
However, sales of non-MCI products which include FlexT1/E1 network access
products and the SKYPLEX spread spectrum radio products, have continued at a
high growth level, recording $15.4 million in sales in fiscal 1998 - a 55%
increase, compared to $10.1 million in fiscal 1997. The FlexT1/E1 products
are sold primarily to major USA based wireless service providers while
SKYPLEX products find many applications for unlicensed microwave network
connections in Latin American and Asia Pacific markets.
International sales increased from $3.7 million in fiscal 1996 to $5.4
million in fiscal 1998, a 46% increase. As a percentage of the Company's
sales, international accounted for 35% in fiscal 1997 compared to 24% in
fiscal 1997. The Company has now achieved sales in over 42 countries through
agreements with over 60 reseller partners. The Company is currently seeking
strategic alternatives such as potential acquisitions or divestitures with
respect to its international business unit.
Page 13
<PAGE> 16
COMPARISON OF YEARS ENDED JUNE 30, 1998 AND JUNE 30, 1997
The following table sets forth certain financial data derived from the
Company's Statements of Operations (dollars in thousands):
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
JUNE 30, 1998 JUNE 30, 1997
------------- -------------
% of % of
$ Sales $ Sales
------- ----- ------- -----
<S> <C> <C> <C> <C>
Net sales $15,579 100 $14,484 100
Gross profit 1,858 12 4,639 32
Product development 2,367 15 2,458 17
Selling, general and administrative 7,018 45 6,331 44
Net income (loss) (8,380) (54) (4,190) (29)
</TABLE>
Net Sales. Net sales increased by 8%, to $15,579,000 for the year ended June
30, 1998, from $14,484,000 for the year ended June 30, 1997. The sales mix, and
the resulting percentage of total sales, is shown in the table below (dollars in
thousands):
<TABLE>
<CAPTION>
PERCENTAGE OF
TOTAL
FISCAL YEAR FISCAL YEAR
ENDED JUNE 30, ENDED JUNE 30,
------------------ ---------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
MCI network control -- $ 4,394 -- 30
Other network control -- 940 -- 6
FlexT1 / E1 $ 9,960 4,861 64 34
SKYPLEX 5,224 3,342 34 23
DIV modem 10 556 4
Other products 385 391 2 3
------- ------- ---- ----
Totals $15,579 $14,484 100 100
======= ======= ==== ====
</TABLE>
During the year ended June 30, 1998, two customers accounted for greater than
10% each of the Company's sales. Nextel represented 35% of total sales and
Walker (a reseller/integrator of telecommunications products) accounted for
approximately 13% of the Company's sales. Revenues from the Company's
FlexT1/E1 product line increased over 100% from $4,861,000 in the year ended
June 30, 1997 to $9,960,000 in the year ended June 30, 1998 and revenues from
SKYPLEX grew by 56% from $3,342,000 in the year ended June 30, 1997 to
$5,224,000 in the year ended June 30, 1998. A new product, microFlex -
introduced in fiscal 1998, realized $214,000 in sales and is being sold into
the same markets as FlexT1/E1. Total international sales increased by
approximately 42% from $3,766,000 in the year ended June 30, 1997 to
$5,333,000 in the year ended June 30, 1998.
Net Sales for the 4th quarter of fiscal 1998 decreased to $2.9 million from
the third quarter total of $6.1 million. This decrease was due primarily to
the fulfillment of a large order for FlexT1 products from Nextel in
approximately seven months of the fiscal year, most of the shipments
occurring in the 3rd quarter. Some shipments, anticipated by the Company to
occur in the 4th quarter, were postponed by customers into fiscal 1999.
Simultaneously, international shipments also experienced a decrease,
contributing somewhat to the overall decline in sales from the 3rd quarter to
the 4th quarter. The Company does not anticipate a strong revenue upswing in
the first quarter of fiscal 1999 since, historically, the Company has
experienced low levels of telecom equipment sales in the summer months. The
Company expects sales for 1st quarter 1999 to be less than sales for the
first quarter of 1998 and the Company expects sales for fiscal 1999 to be
less than 1998. The Company will incur a loss in the first quarter of 1999
and a loss is anticipated for fiscal 1999.
Gross Profit. Gross profit decreased by 60% to $1,858,000 for the year ended
June 30, 1998 from $4,639,000 for the year ended June 30, 1997. As a
percentage of sales, gross profit decreased from
Page 14
<PAGE> 17
32% for the year ended June 30, 1997 to 12% for the year ended June 30, 1998.
This decrease is due to the increase in product and service costs of newer
products, particularly the SKYPLEX radio products, and a one-time charge of
$414,000 to write off certain capitalized product development for products that
will not be realized in future years, additional reserves to record potential
inventory obsolescence and to recognize additional warranty costs and a shift in
product mix from higher margin network control products to the newer products in
the Flex and SKYPLEX product lines. The product and service cost increase and
warranty accrual increases was caused in part by a vendor of the Company that
had difficulty meeting Company and customer specifications for certain products.
PRODUCT DEVELOPMENT. Product development expenses decreased slightly from
$2,458,000 for the year ended June 30, 1997 to $2,367,000 for the year ended
June 30, 1998. Beginning at the end of the fiscal year ended June 30, 1997 and
continuing through most of the year ended June 30, 1998, the Company was
involved in the development of a new product line, the microFlex network access
product. Approximately $583,000 of development costs related to new products
were capitalized during the fiscal 1998 year, as compared to $1,432,000 during
the year ended June 30, 1997. During the fourth quarter of the year ended June
30, 1998, management determined that, given the anticipated direction of the
Company's product line, certain product features that had been developed for
SKYPLEX and capitalized as product development costs would not be implemented in
the foreseeable future. Consequently, it was determined that the future
recoverability of the cost of those features was not assured and that the value
of the asset was impaired. Accordingly, the Company wrote off $414,000 of these
capitalized costs during the year ended June 30, 1998, as compared to write-offs
of $555,000 in capitalized product costs during the year ended June 30, 1997. As
a percentage of sales, total product development costs decreased from 17% in the
year ended June 30, 1997 to 15% in the year ended June 30, 1998.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses increased by 12%, from $6,331,000 for the year ended June 30, 1997 to
$7,018,000 for the year ended June 30, 1998. Selling expenses increased by less
than 1% from $4,820,000 in the year ended June 30, 1997 to $4,854,000 in the
year ended June 30, 1998. The increase resulted from the growth in revenue in
the U.S. as well as from increased sales activity outside the U.S. Selling
expenses as a percentage of net sales decreased from 33% for the year ended June
30, 1997 to 31% for the year ended June 30, 1998 primarily due to the increased
sales activity. General and administrative expenses increased from $1,511,000 in
the year ended June 30, 1997 to $2,164,000 in the year ended June 30, 1998 due
primarily to one increases in administrative and infrastructure costs needed to
support the operations of the business with expanded product lines and
distribution channels. As a percentage of net sales, general and administrative
expenses increased from 10% in the year ended June 30, 1997 to 14% in the year
ended June 30, 1998.
NET INCOME / (LOSS). The net loss increased from $4,190,000 for the year ended
June 30, 1997 to a loss of $8,380,000 for the year ended June 30, 1998. This
increase resulted primarily from higher general and administrative expenses,
higher product and service costs of newer products, increases in inventory
obsolescence and warranty reserves, a write off of the deferred tax asset and
the shift in product mix to lower margin products.
Page 15
<PAGE> 18
COMPARISON OF YEARS ENDED JUNE 30, 1997 AND JUNE 30, 1996
The following table sets forth certain financial data derived from the
Company's Statements of Operations (dollars in thousands):
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
JUNE 30, 1997 JUNE 30, 1996
------------------- -------------------
% of % of
$ Sales $ Sales
------- ----- ------- -----
<S> <C> <C> <C> <C>
Net sales $14,484 100 $11,228 100
Gross profit 4,639 32 4,272 38
Product development 2,458 17 2,495 22
Selling, general and administrative 6,331 44 4,206 37
Net income (loss) (4,190) (29) (2,383) (21)
</TABLE>
NET SALES. Net sales increased by 29%, to $14,484,000 for the year ended
June 30, 1997, from $11,228,000 for the year ended June 30, 1996. The sales mix,
and the resulting percentage of total sales, is shown in the table below
(dollars in thousands):
<TABLE>
<CAPTION>
PERCENTAGE OF
TOTAL
FISCAL YEAR FISCAL YEAR
ENDED JUNE 30, ENDED JUNE 30,
----------------- ---------------
1997 1996 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
MCI network control $ 4,394 $ 7,113 30 63
Other network control 940 592 6 5
FlexT1 / E1 4,861 1,905 34 17
SKYPLEX 3,342 1,111 23 10
DIV modem 556 381 4 4
Other products 391 126 3 1
------- ------- ---- ----
Totals $14,484 $11,228 100 100
======= ======= ==== ====
</TABLE>
During the year ended June 30, 1997, two customers accounted for greater than
10% each of the Company's sales. MCI represented 30% of total sales and
Walker (a reseller/integrator of telecommunications products) accounted for
approximately 15% of the Company's sales. Revenues from the Company's
FlexT1/E1 product line increased over 155% from $1,905,000 in the year ended
June 30, 1996 to $4,861,000 in the year ended June 30, 1997 and revenues from
SKYPLEX grew by 201% from $1,111,000 in the year ended June 30, 1996 to
$3,342,000 in the year ended June 30, 1997. Total international sales
increased by approximately 214% from $1,200,000 in the year ended June 30,
1996 to $3,766,000 in the year ended June 30, 1997.
Page 16
<PAGE> 19
GROSS PROFIT. Gross profit increased by 9%, to $4,639,000 for the year ended
June 30, 1997 from $4,272,000 for the year ended June 30, 1996. This increase
is due to the increase in total revenue of $3,256,000 for the year ended June
30, 1997 over the year ended June 30, 1996. As a percentage of sales, gross
profit decreased from 38% in the year ended June 30, 1996 to 32% in the year
ended June 30, 1997. Cost of goods sold for the year ended June 30, 1997
includes a charge to write off certain capitalized product development for
products that will not be realized in future years. The amount of capitalized
product development costs written off during the year ended June 30, 1997 was
$555,000. In addition, the decrease in margins also reflects a shift in
product mix from higher margin network control products to the newer products
in the Flex and SKYPLEX product lines.
PRODUCT DEVELOPMENT. Product development expenses decreased slightly from
$2,495,000 for the year ended June 30, 1996 to $2,458,000 for the year ended
June 30, 1997. Beginning at the end of the fiscal year ended June 30, 1996
and continuing through most of the year ended June 30, 1997, the Company was
involved in initial development of a new product line, the SKYPLEX spread
spectrum radio product. Certain development costs related to the SKYPLEX
product were capitalized. During the year ended June 30, 1997, the Company
capitalized $1,432,000 of these costs as compared to $207,000 during the year
ended June 30, 1996. During the fourth quarter of the year ended June 30,
1997, management determined that, given the anticipated direction of the
Company's product line, certain product features that had been developed for
SKYPLEX would not be implemented for some time. Consequently, it was
determined that the future recoverability of the cost of those features was
not assured and that the value of the asset was impaired. As a result, the
Company has written off $555,000 of costs that had been capitalized during
the year. As a percentage of sales, total product development costs decreased
from 22% in the year ended June 30, 1996 to 17% in the year ended June 30,
1997.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses increased by 51% from $4,206,000 for the year ended June 30, 1996 to
$6,331,000 for the year ended June 30, 1997. Selling expenses increased by
50% from $3,213,000 in the year ended June 30, 1996 to $4,820,000 in the year
ended June 30, 1997. The increase resulted from expanded sales activity in
the U.S. as well as from expansion of sales activity outside the U.S. Selling
expenses as a percentage of net sales increased from 29% for the year ended
June 30, 1996 to 33% for the year ended June 30, 1997 primarily due to the
higher average commission rates paid for new product lines compared to the
rates paid on MCI revenue. General and administrative expenses increased from
$993,000 in the year ended June 30, 1996 to $1,511,000 in the year ended June
30, 1997 due primarily to increases in administrative and infrastructure
costs needed to support the operations of the business with expanded product
lines and distribution channels. As a percentage of net sales, general and
administrative expenses increased from 9% in the year ended June 30, 1996 to
10% in the year ended June 30, 1997.
NET INCOME / (LOSS). The net loss increased from $2,383,000 for the year
ended June 30, 1996 to a loss of $4,190,000 for the year ended June 30, 1997.
This increase resulted primarily from the shift in product mix to lower
margin products, as well as increased spending in sales and marketing and
general and administrative expenses.
Page 17
<PAGE> 20
CREATION OF SOUTHTECH, A WHOLLY OWNED SUBSIDIARY
In July 1998 DTS incorporated a wholly owned subsidiary - SouthTech - whose
business purpose is the administration of the Company's international
business. The SKYPLEX and DIV product lines and associated intellectual
property together with certain assets and liabilities pertaining to those
product lines will be reported under the subsidiary. A separate balance sheet
and profit and loss statement will track the operational progress of that
subsidiary.
LIQUIDITY AND CAPITAL RESOURCES
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and the satisfaction of
liabilities in the normal course of business. As shown in the financial
statements during the years ended June 30, 1998 and 1997, the Company
incurred losses of $8,380,000 and $4,190,000, respectively, is in violation
of its debt covenants, and has a net capital deficit of $3,566,000 as of June
30, 1998. These factors, among others, raise substantial doubt about the
Company's ability to continue as a going concern for a reasonable period of
time.
The financial statements do not include any adjustments relating to the
recoverability and classification of assets and liabilities that might be
necessary should the Company be unable to continue as a going concern. As
described in notes 5 and 6 in the accompanying financial statements, the
Company was not in compliance with the covenants of its line of credit and
convertible debenture agreements at June 30, 1998. The Company's continuation
as a going concern is dependent upon its ability to generate sufficient cash
flow to meet its obligations on a timely basis, to comply with the terms of
its financing agreements, to obtain additional financing or refinancing as
may be required, and ultimately to attain profitability. The Company is
actively pursuing additional equity financing through discussions with
potential investors, and is also pursuing potential merger or acquisition
candidates and seeking to divest a division.
On October 14, 1998, NASDAQ delisted the Company because the Company did not
meet its listing requirements.
On April 10, 1997, the Company established a bank line of credit agreement
with Silicon Valley Bank which makes available $2,500,000 in borrowings with
availability based on the Company's accounts receivable. The agreement was
amended on March 18, 1998 to increase the maximum eligible borrowing to the
lesser of $4,000,000 or 80% eligible receivables plus 30% of eligible
inventory, as defined, through the maturity date of April 10, 2000. The loan
is secured by the Company's assets and bears interest at the rate of prime
plus 2.25% (10.75% at June 30, 1998). The weighted average interest rate for
the year ended June 30, 1998 was 9.45% compared to the weighted average
interest rate of 9.25% on the Company's borrowing facility for the year ended
June 30, 1997. The loan requires a monthly monitoring fee of $1,000 and a
commitment fee of 0.125% due monthly on the unused portion of the facility.
The agreement term is two years with an automatic renewal each year unless
written notice of termination is given by one of the parties. Further, a net
worth covenant was amended subsequent March 18, 1998 requiring the Company to
have a net worth of $1,000,000. The Company issued 60,000 two year warrants
to Silicon Valley Bank at a strike price of $5.25 each as consideration for
the amended agreement. The Agreement imposes certain covenants as defined in
the Agreement with which the Company was not in compliance as of June 30,
1998. The Company is in the process of attempting to obtain waivers of
certain financial covenants so that the Company's ability to borrow
additional funds under the Agreement is not hindered. In September 1998, the
Company agreed to a UCC filing whereby the assets of the Company became
collateral under the Agreement.
During fiscal 1998, the Company issued $4 million of 11.5% subordinated
debentures to Tandem Capital of Nashville, Tennessee. The debentures were
issued on September 25, 1997 and are due on September 25, 2002. The Debenture
Purchase Agreement (the "Debenture Agreement") contains numerous rights,
privileges, and conditions in favor of the lender, only certain of which have
been included herein. The debentures are convertible at any time by the
lender into common stock of the Company at a conversion price of $10.25 per
share, subject to adjustment in certain events. The conversion price changed
to $8.00 per share because the Company's common stock was trading for less
than that amount on September 25, 1998. The debentures are redeemable by the
Company after September 1999 provided that (a) the Company pays the lender
additional interest such that the lender would receive an effective
compounded 20% interest rate from inception of the loan or (b) the 20-day
average bid price for the Company's stock exceeds $15.00 per share.
The debentures may be required to be redeemed by the Company at the option of
the lender at any time prior to maturity if (a) there is a change in control,
as defined in the Debenture Agreement, (b) the Company's common stock is
delisted from NASDAQ, or (c) the Company's common stock ceases to be publicly
traded at the sum of the principal amount of the debentures tendered for
redemption, plus any accrued and/or unpaid interest outstanding related to
the debentures, plus 15% interest on outstanding principal and interest
amounts due, plus any expense or costs owed to the lender as set forth in the
Debenture Agreement. The Company was not in compliance with the debt
covenants nor the NASDAQ listing criteria as of June 30, 1998 and has been
delisted as of October 14, 1998 (see Note 5 to the Financial Statements).
Accordingly, the debentures have been listed as a current liability in the
accompanying financial statements.
Due to low cash reserves, the Company requested a sixty day delay in the
quarterly interest payment due to Tandem Capital on September 1, 1998. Tandem
Capital has agreed to the delay without declaration of an event of default
provided that the Company pay the overdue interest on November 1, 1998 and
from then on, pay the debenture interest on a monthly basis. In addition,
Tandem Capital has requested that the Company accede to UCC filings on its
assets junior only to Silicon Valley Bank. The Company has agreed to those
conditions.
At June 30, 1998, the Company had approximately $91,000 in cash and cash
equivalents. For the year ended June 30, 1998, the Company used $2,786,000 of
cash in operating activities reflecting a net loss of $8,380,000, an increase
in inventory balances of $29,000 and a reduction in accrued payroll and
benefits at June 30, 1998 of $343,000. Cash was provided for operations
primarily through an increase in accounts payable and accrued liabilities of
$1,565,000 and a decrease in accounts receivable of $1,940,000. Due to the
shift in the Company's revenues from MCI to resellers and certain
international customers, it is anticipated that the days sales outstanding
will increase based on the terms of condition of certain of these sales.
The Company purchased $658,000 of property and equipment during the year
ended June 30, 1998. Purchases were made primarily for equipment used to
design and test products currently under development.
During 1998, the Company capitalized $583,000 of product development
expenditures relating to products expected to be made commercially available
during the next fiscal year. These amounts were primarily for development of
the Company's SKYPLEX spread spectrum radio product.
Net Cash provided by financing activities for the year ended June 30, 1998
was $3,406,000 reflecting proceeds of $4,000,000 from the sale of convertible
debentures during the year offset by net payments under the Company's line of
credit of $629,000.
Page 18
<PAGE> 21
SEASONALITY
The Company's sales have been subject to quarterly fluctuations mainly due to
the purchasing cycle of the Company's major customers. Other fluctuations
occur due to increased buildout of the telecommunications infrastructure
during certain months of the year. The Company's business plan
Page 19
<PAGE> 22
is to continue the diversification of its product offerings, further develop its
distribution channels and further expand its customer base. The Company believes
that the implementation of this plan will decrease the seasonality of its sales.
The Company operates with a moderate level of backlog for each product line due
to advance purchase commitments and production lead times.
YEAR 2000 (Y2K) IMPACT ON COMPANY'S INFORMATION TECHNOLOGY
The Company operates an Enterprise Resource Planning ("ERP") software system
which has modules supporting order entry, planning, inventory management,
operations, and general ledger functions. The vendor of this information
system has sent the Company a letter indicating the ERP system is Y2K
complaint. The hardware platform vendor, through its web presence, also
indicates that the system is Y2K compliant.
Most of the desktop computing systems used at the Company were manufactured
after 1995. They use operating system and document preparation software from
Microsoft Corporation. These systems are generally compliant with the year
2000 requirements and any non-compliant functions are not expected to
adversely impact the Company's operations.
The Company does operate older PC's in its manufacturing and engineering
organizations, but they are not used in time or date critical operations.
Accordingly, the Company does not anticipate spending significant additional
amounts on Year 2000.
The Company's products are designed to be Year 2000 compliant as they utilize
two digit date fields as opposed to four digit fields. The Company is,
however, aware of the risk that third parties, including vendors and
customers of the Company, will not adequately address the Year 2000 problem
and the resultant potential adverse impact on the Company.
Notwithstanding the above, there can be no assurance that the Company's
internal systems or products will operate beyond 1999 or that major business
disruptions will not occur in mission critical systems and processes.
LEGAL PROCEEDINGS
In August 1998, a vendor of the Company filed suit against the Company alleging
nonpayment of account. Total demands for judgment are $550,826 in unpaid
invoices, plus pre-judgment and post-judgment interest on principal amounts
outstanding and court costs. The Company is disputing the validity and accuracy
of the billed amounts, and believes that its obligation to the plaintiff is
$200,000, which has been accrued in the financial statements as of June 30,
1998.
The Company believes that it has meritorious defenses in the plaintiff's claim
and intends to continue a vigorous defense in this matter. However, no
assurance can be given as to the ultimate outcome with respect to such lawsuit
and the amount, if any, which may be paid in excess of the accrual recorded at
June 30, 1998.
The Company is also involved in various claims and legal actions arising in the
ordinary course of business. In the opinion of management, the ultimate
disposition of these matters, including the litigation discussed in the
previous paragraph, will not have a material adverse effect on the Company's
financial position, results of operations, or liquidity.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued SFAS 130,
Reporting Comprehensive Income. SFAS requires companies to display, with the
same prominence as other financial statements, the components of other
comprehensive income. SFAS 130 requires that an enterprise classify items of
other comprehensive income by their nature in a financial statement and display
the accumulated balance of other comprehensive income separately from retained
earnings and additional paid-in capital in the equity section of the balance
sheet. SFAS 130 is effective for interim and annual periods beginning after
December 15, 1997. Reclassification of financial statements for earlier periods
provided for comparative purposes is required. The Company did not have any
other comprehensive income items during the applicable periods and, thus, the
adoption of the provisions of SFAS 130 did not have an impact on the Company's
reporting.
In June 1997, the Financial Accounting Standards Board issued SFAS 131,
Disclosures about Segments of an Enterprise and Related Information. SFAS 131
establishes standards for the way that public business enterprises report
information about operating segments in annual financial statements and requires
that those enterprises report selected financial information about operating
segments in interim financial reports. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
SFAS 131 is effective for fiscal years beginning after December 15, 1997, and
therefore the Company will adopt the new requirements in the annual report as of
June 30, 1999.
In October 1997, the Accounting Standards Executive Committee issued Statement
of Position 97-2, Software Revenue Recognition ("SOP 97-2"). SOP 97-2 is
effective for financial statements for fiscal years beginning after December
15, 1997. The Company does not expect that adoption of SOP 97-2 will
significantly affect its results of operations because the Company does not
believe that SOP 97-2 applies to most sales. However, if the Company's
products become subject to the provisions of SOP 97-2, the adoption of SOP 97-2
could significantly negatively affect its results of operations.
IMPORTANT CONSIDERATIONS RELATED TO FORWARD-LOOKING STATEMENTS
It should be noted that this discussion contains forward-looking statements
which are subject to substantial known and unknown risks and uncertainties.
There are a number of factors which could cause actual results to differ
materially from those anticipated in statements made herein. Such factors
include, but are not limited to, changes in general economic conditions, the
growth rate of the market for the Company's products and services, the effect of
competitive products and pricing, and the irregular pattern of revenues, as well
as a number of other risk factors which could affect the future performance of
the Company.
Page 20
<PAGE> 23
ITEM 7. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Please see pages F-1 through F-21.
Page 21
<PAGE> 24
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On July 11, 1996, the Company dismissed its independent public
accountants, Price Waterhouse LLP. Prior to July 11, 1996, Price Waterhouse
LLP was engaged as the principal accountant to audit the Company's financial
statements. The reports by Price Waterhouse LLP on the Company's financial
statements for the fiscal years ended June 30, 1995, June 30, 1994, and
subsequent interim periods did not contain any adverse opinion or disclaimer
of opinion, nor were they qualified or modified as to uncertainty, audit
scope or accounting principles. The dismissal of the former accountants was
recommended by the Company's Audit Committee and approved by the Company's
Board of Directors.
During the Company's fiscal years ended June 30, 1995 and June 30, 1994,
and during the subsequent interim fiscal periods through the date of
dismissal, there were no disagreements with Price Waterhouse LLP on any
matter of accounting principles or practices, financial statement disclosure,
or auditing scope or procedure, which disagreements, if not resolved to the
satisfaction of Price Waterhouse LLP, would have caused it to make reference
to the subject matter of the disagreement in their reports. Also, there were
no reportable events of the nature described in Rule 304(a)(1)(v) during the
Company's fiscal years ended June 30, 1995 and June 30, 1994, or during the
subsequent interim fiscal periods following the Company's fiscal year ended
June 30, 1995 through the date of dismissal.
On July 11, 1996, the Company announced the appointment of KPMG Peat
Marwick LLP as independent public accountants to audit the Company's
financial statements as of and for the year ended June 30, 1996.
Page 22
<PAGE> 25
PART III
ITEM 9. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this will be included in the Company's Proxy
Statement for the Annual Meeting of Shareholders expected to be filed with
the Commission on or before November 27, 1998 under the captions "Election of
Directors" and "Executive Officers" and is incorporated by reference herein.
ITEM 10. EXECUTIVE COMPENSATION.
The information required by this item will be included in the Company's
Proxy Statement for the Annual Meeting of Shareholders expected to be filed
with the Commission on or before November 27, 1998 under the caption
"Executive Compensation" and is incorporated by reference herein.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this item will be included in the Company's
Proxy Statement for the Annual Meeting of Shareholders expected to be filed
with the Commission on or before November 27, 1998 under the caption
"Security Ownership of Certain Beneficial Owners and Management" and is
incorporated by reference herein.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this item will be included in the Company's
Proxy Statement for the Annual Meeting of Shareholders expected to be filed
with the Commission on or before November 27, 1998 under the caption "Related
Transactions" and is incorporated by reference herein.
Page 23
<PAGE> 26
ITEM 13. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) Exhibits:
The Exhibits are listed in the Index to Exhibits on page E - 1.
(b) Reports on Form 8-K. The Company filed no reports on Form 8-K during the
quarter ended June 30, 1998.
Page 24
<PAGE> 27
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
DIGITAL TRANSMISSION SYSTEMS, INC.
October 16, 1998 /s/ Andres C Salazar .
---------------- -----------------------------------------
by: Andres C. Salazar,
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant in the capacities and on the dates indicated.
<TABLE>
<S> <C> <C>
/s/ Andres C. Salazar . Chief Executive Officer, October 13, 1998
- ----------------------------------------------- Director (Principal Executive Officer)
Andres C. Salazar
/s/ Clive Marsh . Controller October 13, 1998
- ----------------------------------------------- (Principal Financial and Accounting Officer)
Clive Marsh
/s/ Frank LaHaye . Director October 13, 1998
- -----------------------------------------------
Frank LaHaye
/s/ Gene Miller . Director October 13, 1998
- -----------------------------------------------
Gene Miller
/s/ Robert D. Francis . Director October 13, 1998
- -----------------------------------------------
Robert D. Francis
/s/ Edwin Kantor . Director October 13, 1998
- -----------------------------------------------
Edwin Kantor
</TABLE>
Page 25
<PAGE> 28
Index to Financial Statements
Balance Sheets as of June 30, 1998 and 1997
Statements of Operations for the years ended June 30, 1998 and 1997
Statements of Cash Flows for the years ended June 30, 1998 and 1997
Statements of Shareholders' (Deficit) Equity for the years ended June 30, 1998
and 1997
Notes to Financial Statements
Independent Auditors' Report - KPMG Peat Marwick LLP
F-1
<PAGE> 29
DIGITAL TRANSMISSION SYSTEMS, INC.
Balance Sheets
June 30, 1998 and 1997
(in thousands, except share data)
<TABLE>
<CAPTION>
ASSETS (NOTE 6) 1998 1997
-------- -------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 91 712
Trade accounts receivable, net of allowances for
returns and doubtful accounts of $733 and
$226 at June 30, 1998 and 1997, respectively 2,283 4,223
Inventories (note 3) 2,469 2,440
Prepaid expenses and other current assets 105 309
-------- -------
Total current assets 4,948 7,684
Property and equipment, net of accumulated depreciation
and amortization (note 4) 886 1,186
Deferred tax benefit (note 7) -- 285
Intangible assets (note 2) 1,045 1,137
Other assets 329 19
-------- -------
Total assets $ 7,208 10,311
======== =======
<CAPTION>
LIABILITIES AND SHAREHOLDERS' (DEFICIT) EQUITY
<S> <C> <C>
Current liabilities:
Line of credit (note 6) $ 1,329 1,958
Accounts payable and accrued liabilities 4,581 3,016
Accrued payroll and benefits 248 591
Warranty accrual 618 203
Convertible debentures (note 5) 4,000 --
-------- -------
Total current liabilities 10,776 5,768
-------- -------
Shareholders' equity (note 8):
Preferred stock - 3,000,000 shares authorized; -0- shares
issued and outstanding -- --
Common stock - $.01 par value; 15,000,000 shares
authorized; 4,191,460 and 4,121,143 shares issued
and outstanding at June 30, 1998 and 1997, respectively 42 41
Additional paid-in capital 11,462 11,232
Deferred compensation (56) (124)
Notes receivable from stock sales (63) (33)
Accumulated deficit (14,953) (6,573)
-------- -------
Total shareholders' (deficit) equity (3,568) 4,543
-------- -------
Commitments and contingencies (notes 5, 6, 8, 10 and 11)
-------- -------
Total liabilities and shareholders' (deficit) equity $ 7,208 10,311
======== =======
</TABLE>
See accompanying notes to financial statements.
F-2
<PAGE> 30
DIGITAL TRANSMISSION SYSTEMS, INC.
Statements of Operations
Years ended June 30, 1998 and 1997
(in thousands, except share data)
<TABLE>
<CAPTION>
1998 1997
-------- -------
<S> <C> <C>
Net sales (note 9) $ 15,579 14,484
Cost of sales, including $414 and $554 in write-offs of
capitalized product development costs in 1998 and 1997,
respectively 13,721 9,845
-------- -------
Gross profit 1,858 4,639
-------- -------
Selling, general, and administrative 7,018 6,331
Product development (note 10(c)) 2,367 2,458
-------- -------
Total operating expenses 9,385 8,789
-------- -------
Operating loss (7,527) (4,150)
Interest expense, net of interest income (576) (39)
Other income (expense) 8 (1)
-------- -------
Total other income (expense) (568) (40)
-------- -------
Loss before income tax expense (8,095) (4,190)
Income tax benefit (expense) - (note 7) (285) --
-------- -------
Net loss $ (8,380) (4,190)
======== =======
Basic loss per share $ (2.01) (1.05)
======== =======
Diluted loss per share $ (2.01) (1.05)
======== =======
Weighted-average common and common equivalent shares
outstanding 4,160 3,999
======== =======
</TABLE>
See accompanying notes to financial statements.
F-3
<PAGE> 31
DIGITAL TRANSMISSION SYSTEMS, INC.
Statements of Cash Flows
Years ended June 30, 1998 and 1997
(in thousands)
<TABLE>
<CAPTION>
1998 1997
------- ------
<S> <C> <C>
Cash flows from operating activities:
Net loss $(8,380) (4,190)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization 1,219 814
Write-off of capitalized product development costs 414 554
Amortization of deferred compensation expense 68 64
Deferred tax expense 285 --
Change in assets and liabilities:
Trade accounts receivable 1,940 (567)
Inventories (29) (99)
Prepaid expenses and other current assets 204 (33)
Accounts payable and accrued liabilities 1,565 1,055
Accrued payroll and benefits (343) 275
Warranty reserve 415 101
Other (144) 7
------- ------
Net cash used in operating activities (2,786) (2,019)
------- ------
Cash flows from investing activities:
Purchases of property and equipment (658) (1,446)
Additions to capitalized product development costs (583) (1,432)
------- ------
Net cash used in investing activities (1,241) (2,878)
------- ------
Cash flows from financing activities:
Net borrowings (payments) under line of
credit agreements (629) 1,958
Proceeds from maturities of held-to-maturity
investment securities -- 3,001
Proceeds from sale of convertible debentures 4,000 --
Proceeds from exercise of stock options 35 57
Proceeds from issuances of common stock -- 7
------- ------
Net cash provided by financing activities 3,406 5,023
------- ------
Net (decrease) increase in cash and cash equivalents (621) 126
Cash and cash equivalents at beginning of year 712 586
------- ------
Cash and cash equivalents at end of year $ 91 712
======= ======
Supplemental disclosure of cash paid for income taxes and interest:
Cash paid for income taxes $ -- --
======= ======
Cash paid for interest $ 517 56
======= ======
</TABLE>
See accompanying notes to financial statements.
F-4
<PAGE> 32
DIGITAL TRANSMISSION SYSTEMS, INC.
Statements of Shareholders' (Deficit) Equity
Years ended June 30, 1998 and 1997
(in thousands)
<TABLE>
<CAPTION>
COMMON STOCK
------------------ NOTES TOTAL
NUMBER ADDITIONAL RECEIVABLE SHAREHOLDERS'
OF SHARES PAID-IN DEFERRED FROM STOCK ACCUMULATED (DEFICIT)
ISSUED AMOUNT CAPITAL COMPENSATION SALES DEFICIT EQUITY
------ ------ ------- ----------- ----- ------- ------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at June 30, 1996 3,921 $39 11,137 (188) -- (2,383) 8,605
Exercise of stock options 200 2 88 -- (33) -- 57
Compensation expense -- -- -- 64 -- -- 64
Shares issued under purchase plan -- -- 7 -- -- -- 7
Net loss -- -- -- -- -- (4,190) (4,190)
----- --- ------ ---- --- ------- ------
Balance at June 30, 1997 4,121 41 11,232 (124) (33) (6,573) 4,543
Exercise of stock options 70 1 64 -- (30) -- 35
Compensation expense -- -- -- 68 -- -- 68
Issuance of warrants to purchase
common shares (note 8e) -- -- 166 -- -- -- 166
Net loss -- -- -- -- -- (8,380) (8,380)
----- --- ------ ---- --- ------- ------
Balance at June 30, 1998 4,191 $42 11,462 (56) (63) (14,953) (3,568)
===== === ====== ==== === ======= ======
</TABLE>
See accompanying notes to financial statements.
F-5
<PAGE> 33
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) DESCRIPTION OF BUSINESS
Digital Transmission Systems, Inc. (the "Company") designs,
manufactures, markets, and services a broad range of products for
the telecommunications industry. The Company's primary customers
are long distance carriers and wireless service providers. The
Company sells its products both in the U.S., as well as key
international markets, including Latin America, the Asia/Pacific
region and Eastern Europe. The Company's products, consisting of
proprietary software and hardware modules, facilitate the control,
monitoring, and efficient transmission of high-speed digital
information in telecommunications networks. The Company
subcontracts the kitting and assembly of its products to various
manufacturers.
(b) GOING CONCERN MATTERS AND BASIS OF PRESENTATION
The accompanying financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and
the satisfaction of liabilities in the normal course of business.
As shown in the financial statements during the years ended June
30, 1998 and 1997, the Company incurred losses of $8,380,000 and
$4,190,000, respectively, is in violation of its debt covenants,
and has a net capital deficit of $3,566,000 as of June 30, 1998.
These factors, among others, raise substantial doubt about the
Company's ability to continue as a going concern for a reasonable
period of time.
The financial statements do not include any adjustments relating to
the recoverability and classification of assets and liabilities
that might be necessary should the Company be unable to continue as
a going concern. As described in notes 5 and 6 in the accompanying
financial statements, the Company was not in compliance with the
covenants of its line of credit and convertible debenture
agreements at June 30, 1998. The Company's continuation as a going
concern is dependent upon its ability to generate sufficient cash
flow to meet its obligations on a timely basis, to comply with the
terms of its financing agreements, to obtain additional financing
or refinancing as may be required, and ultimately to attain
profitability. The Company is actively pursuing additional equity
financing through discussions with potential investors, and is also
pursuing potential merger or acquisition candidates and seeking to
divest a division.
(c) CASH AND CASH EQUIVALENTS
Cash and cash equivalents include cash on deposit in banks and
money market accounts. All cash and cash equivalents are carried at
cost which approximates market. For purposes of the statements of
cash flows, the Company considers all highly liquid investments
with original maturities of three months or less to be cash
equivalents.
(d) INVENTORIES
Inventories are stated at the lower of cost or market. Cost is
determined using average cost which approximates the first-in,
first-out (FIFO) method.
Management of the Company has established a valuation allowance for
inventory obsolescence based on a review of the composition,
quantity, and expected future sales levels of inventory on hand.
The amount of inventory obsolescence ultimately incurred could
differ materially in the near term from the allowance recorded in
these financial statements.
(e) PROPERTY AND EQUIPMENT
Property and equipment are stated at cost less accumulated
depreciation and amortization. Depreciation is calculated on the
straight-line method over the estimated useful lives of the assets
as follows:
<TABLE>
<S> <C>
Computer and Test Equipment 3 years
Software 1 years
Furniture and Fixtures 3 years
Leasehold Improvements 3 years
</TABLE>
(f) INTANGIBLE ASSETS AND RESEARCH AND DEVELOPMENT EXPENDITURES
Capitalized product development costs, goodwill, and other intangible
assets are being amortized on a straight-line basis over a three-year
period. The Company evaluates the recoverability of these intangible
assets at each period end using the undiscounted estimated future
cash flows expected to be derived from such assets. If such
evaluation indicates a potential impairment, the Company measures it
based on projected discounted future operating cash flows using a
discount rate reflecting the Company's average cost of funds. The
assessment of the recoverability of these intangible assets will be
impacted if estimated future operating cash flows are not achieved.
During the years ended June 30, 1998 and 1997, approximately $414,000
and $554,000, respectively, in write-offs were recognized due to
impairment of net realizable value.
F-6
<PAGE> 34
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
Research and development costs related to new product development
that has not reached product design phase are expensed as incurred.
The Company capitalizes product development costs for outside
contractors from the time that product design has been completed
for the product to the time that the product is ready for
production. The determination of completion of the product design
phase and the ongoing assessment of recoverability of capitalized
product development costs require considerable judgment by
management with respect to certain external factors, including, but
not limited to, anticipated future revenues, estimated economic
life, and changes in technologies.
(g) IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE
DISPOSED OF
Long-lived assets are accounted for under the provisions of
Statement of Financial Accounting Standards No. 121 ("SFAS"),
Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of ("SFAS 121"), which requires
that long-lived assets and certain identifiable intangibles be
reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is
measured by a comparison of the carrying amount of an asset to
future net cash flows expected to be generated by the asset. If
such assets are considered to be impaired, the impairment to be
recognized is measured by the amount by which the carrying amount
of the assets exceeds the fair value of the assets. Assets to be
disposed of are reported at the lower of the carrying amount or
fair value less costs to sell. The Company recorded no adjustments
related to SFAS 121 during the years ended June 30, 1998 or 1997.
(h) FINANCIAL INSTRUMENTS
Financial instruments which potentially subject the Company to
concentrations of credit risk are primarily cash, cash equivalents,
and accounts receivable. The Company's cash equivalents are in
money market accounts. Other than the significant customers
disclosed in Note 9, the Company believes no significant
concentration of credit risk exists with respect to these financial
instruments.
Accounts receivable arise from Company sales off its products
primarily to long-distance carriers, wireless service providers,
and resellers/integrators in the telecommunications industry, both
domestically and internationally. Generally, the Company requires
no collateral on trade receivables, but believes that any credit
risks are substantially mitigated by its credit evaluation process,
as well as letters of credit and credit insurance procured for
certain international sales. The Company maintains allowances for
potential credit losses, but historically has not experienced
significant losses related to groups of customers in any particular
geographic area.
(i) REVENUE RECOGNITION
Revenue from the sale of equipment is recognized at the time of
shipment. The Company estimates and records provisions for sales
returns, discounts, and allowances in the period the sale is
reported, based on its experience and other relevant factors.
F-7
<PAGE> 35
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
Certain of the Company's contractual arrangements allow for limited
right of return. Management of the Company has provided an
allowance for expected sales returns, discounts, and allowances
related to these customers based on the historical return rates and
expected future returns of sales to these customers. The amounts of
sales discounts, returns, and allowances ultimately incurred could
differ materially in the near term from the allowances recorded in
these financial statements.
(j) WARRANTY ACCRUAL
The Company warrants its products against defects in design,
materials, and workmanship for periods ranging from two to five
years. A provision for estimated future costs relating to warranty
expense is recorded when the products are shipped based on
historical claims and projected future experience.
Certain of the Company's product lines have been recently
introduced to market and therefore limited historical data has been
available on which to base estimates of future returns for warranty
repairs. Management of the Company has provided for warranty
expense related to these new products based on the historical
return rates and repair costs of established products lines, as
well as recent and expected return rates and repair costs of these
new products. The amount of warranty expense ultimately incurred
could differ materially in the near term from the accrual recorded
in these financial statements.
(k) INCOME TAXES
Income taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and
liabilities and their respective tax bases and operating loss and
tax credit carryforwards. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are
expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date.
F-8
<PAGE> 36
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(l) STOCK OPTION PLAN
SFAS No. 123, Accounting for Stock-Based Compensation, permits
entities to recognize as expense over the vesting period the fair
value of all stock-based awards on the date of grant.
Alternatively, SFAS No. 123 also allows entities to continue to
apply the provisions of APB Opinion No. 25, Accounting for Stock
Issued to Employees, under which compensation expense would be
recorded on the date of grant only if the current market price of
the underlying stock exceeded the exercise price, while providing
pro forma net income and pro forma earnings per share disclosures
for employee stock option grants made in fiscal 1996 and subsequent
years as if the fair-value-based method defined in SFAS No. 123 had
been applied. The Company has elected to continue to apply the
provisions of APB Opinion No. 25 and provide the pro forma
disclosure provisions of SFAS No. 123.
(m) EARNINGS (LOSS) PER SHARE
The Company has presented earnings (loss) per share in accordance
with the provisions of SFAS No. 128, Earnings Per Share ("SFAS
128"), which requires companies that have publicly held common
stock or potential common stock to present both basic and diluted
earnings (loss) per share (EPS) on the face of the income
statement. Basic EPS is calculated as income (loss) available to
common shareholders divided by the weighted-average number of
common shares outstanding during the period. Diluted EPS is
calculated as income (loss) available to common shareholders
divided by the weighted-average number of common shares outstanding
during the period plus any dilutive potential common shares, such
as convertible debt or stock options. To the extent that the
Company reports a loss, these dilutive potential common shares are
not included in the diluted EPS calculation as they would have an
anti-dilutive effect. The Company has restated its earnings (loss)
per share for all periods presented to conform to the provisions of
SFAS 128.
(n) USE OF ESTIMATES
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Actual results
could differ from those estimates.
(o) RECLASSIFICATIONS
Certain amounts in the 1997 financial statements have been
reclassified to conform to classifications adopted in 1998.
F-9
<PAGE> 37
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(2) INTANGIBLE ASSETS
Intangible assets consist of the following as of June 30, 1998 and 1997
(in thousands):
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Capitalized product development costs $1,254 1,085
Intangible asset related to the acquisition
of SKYPLEX rights 200 200
------ -----
1,454 1,285
Less accumulated amortization 409 148
------ -----
$1,045 1,137
====== =====
</TABLE>
Amortization expense recorded for the years ended June 30, 1998 and 1997
was approximately $261,000 and $109,000, respectively.
(3) INVENTORIES
Inventories consist of the following at June 30, 1998 and 1997 (in
thousands):
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Raw materials $ 2,149 1,853
Work in process 458 --
Finished goods 1,189 953
Inventory reserve (1,327) (366)
------- -----
$ 2,469 2,440
======= =====
</TABLE>
(4) PROPERTY AND EQUIPMENT
Property and equipment consist of the following at June 30, 1998 and 1997
(in thousands):
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Computer and test equipment $2,906 2,324
Software 339 286
Furniture and fixtures 159 159
Leasehold improvements 228 205
------ -----
3,632 2,974
Less accumulated depreciation and amortization 2,746 1,788
------ -----
$ 886 1,186
====== =====
</TABLE>
F-10
<PAGE> 38
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(5) CONVERTIBLE DEBENTURES
On September 25, 1997, the Company issued $4 million of 11.5%
subordinated debentures due September 25, 2002. The Debenture Purchase
Agreement (the "Debenture Agreement") contains numerous rights,
privileges, conditions, etc., in favor of the lender, only certain of
which have been included herein. Accordingly, the Debenture Agreement
should be read in conjunction with this summary note. The debentures were
convertible at any time by the lender into common stock of the Company at
a conversion price of $10.25 per share but the conversion price was
changed to $8.00 per share because the Company's common stock was trading
for less than that amount on September 25, 1998. The debentures are
redeemable by the Company after September 1999 provided that (a) the
Company pays the lender additional interest such that the lender would
receive an effective compounded 20% interest rate from inception of the
loan or (b) the 20-day average bid price for the Company's stock exceeds
$15.00 per share.
The debentures may be required to be redeemed by the Company at the
option of the lender at any time prior to maturity if (a) there is a
change in control, as defined in the Debenture Agreement, (b) the
Company's common stock is delisted from NASDAQ, or (c) the Company's
common stock ceases to be publicly traded at the sum of the principal
amount of the debentures tendered for redemption, plus any accrued, plus
unpaid interest outstanding related to the debentures, plus 15% interest
on outstanding principal and interest amounts due, plus any expenses and
costs owed to the lender as set forth in the Debenture Agreement. The
Debenture Agreement imposes certain covenants as defined in the Debenture
Agreement. The Company was not in compliance with the debt covenants as
of June 30, 1998. Effective October 14, 1998, the Company was delisted
from NASDAQ. Accordingly, the debentures have been classified as a
current liability in these financial statements.
(6) LINE OF CREDIT AGREEMENT
In April 1997, the Company executed a line of credit agreement with a
financial institution whereby it could borrow the lesser of $2,500,000 or
80% of eligible receivables, as defined in the Loan and Security
Agreement (the "Agreement"). In March 1998, the Agreement was amended to
increase the maximum eligible borrowing to the lesser of $4,000,000 or
80% of eligible receivables plus 30% of eligible inventory, as defined,
through the maturity date of April 10, 2000. In September 1998, the
Company agreed to a UCC Filing whereby all assets of the Company become
collateral under the Agreement. Amounts outstanding under the Agreement
were $1,329,352 and $1,958,172 at June 30, 1998 and 1997, respectively.
Borrowings accrue interest at the prime rate plus 2.25% (10.75% at June
30, 1998 and 1997) and are secured by accounts receivable, inventory, and
certain other assets as defined in the Agreement. A commitment fee of
.125% of the unused portion of the line of credit and a $1,000 collateral
fee are payable monthly under the terms of the Agreement.
The Agreement imposes certain covenants as defined in the Agreement with
which the Company was not in compliance as of June 30, 1998. Accordingly,
the outstanding balance under the Agreement has been classified as a
current liability in these financial statements.
F-11
<PAGE> 39
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(7) INCOME TAXES
A reconciliation of the expected income tax benefit (at the statutory
federal income tax rate of 34%) to the actual income taxes reported in
the statement of operations is as follows (in thousands):
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Computed "expected" income tax benefit
at Federal statutory rate of 34% $(2,752) (1,425)
State income taxes, net of Federal benefit (321) (165)
Increase in valuation allowance 3,435 1,638
Other, net (77) (48)
------- ------
$ 285 --
======= ======
</TABLE>
The income tax effects of the temporary differences that give rise to
significant portions of the Company's deferred tax assets at June 30,
1998 and 1997 are presented below (in thousands):
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Deferred tax assets:
Allowance for doubtful accounts $ 278 86
Inventory valuation allowance 504 139
Accrued warranty reserve 235 69
Accrued expenses not reduced
for tax purposes 14 30
Property and equipment depreciation 141 47
Net operating loss carryforwards 5,331 2,982
Product and development tax credit
carryforwards 441 441
------- -----
Gross deferred tax asset 6,944 3,794
Less valuation allowance 6,944 3,509
------- -----
Net deferred tax assets $ -- 285
======= =====
</TABLE>
F-12
<PAGE> 40
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
The valuation allowance for deferred tax assets as of June 30, 1998 and
1997 was $6,944,000 and $3,509,000, respectively. The net change in the
total valuation allowance for the years ended June 30, 1998 and 1997 was
an increase of approximately $3,435,000 and $1,638,000, respectively. In
assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the
deferred tax assets will not be realized. The ultimate realization of
deferred tax assets is dependent upon the generation of future taxable
income during the periods in which those temporary differences become
deductible. Management considers the scheduled reversal of deferred tax
liabilities, projected future taxable income, and tax planning strategies
in making this assessment. In order to fully realize the deferred tax
asset, the Company will need to generate future taxable income of
approximately $15,000,000 prior to the expiration of the net operating
loss carryforwards beginning in 2005. Taxable loss for the years ended
June 30, 1998 and 1997 was approximately $(5,956,000) and $(3,680,000),
respectively. Based upon the level of historical taxable income and
projections for future taxable income over the periods in which the
deferred tax assets are deductible, management has established a 100% net
valuation allowance.
At June 30, 1998, the Company has net operating loss carryforwards for
federal income tax purposes of approximately $14,000,000 which are
available to offset future federal taxable income, if any, through 2005.
In addition, the Company has product development tax credit carryforwards
of approximately $441,000 which are available to reduce future federal
regular income taxes, if any, and have expiration dates beginning in
2005.
The amount of net operating loss and research and experimentation credit
carryforwards may be limited due to an ownership change, as defined in
the Internal Revenue Service regulations. In the event of an ownership
change, the amount of taxable income of a loss corporation for any
postchange year which may be offset by prechange losses shall not exceed
the Internal Revenue Code Section 382 limitation for such year.
Generally, an ownership change occurs if a 5% stockholder or any equity
structure shift increases the percentage of the stock of the loss
corporation owned by more than 50 percentage points over the lowest
percentage of stock of the loss corporation owned by such stockholders at
any time during a three-year look-back testing period. The annual Section
382 limitation is equal to the value of the old loss corporation (before
the ownership change) multiplied by the Federal long-term, tax-exempt
rate.
F-13
<PAGE> 41
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(8) SHAREHOLDERS' EQUITY
(a) INITIAL PUBLIC OFFERING
On March 4, 1996, the Company completed a public stock offering
(the "Offering") of 1,220,700 units, each consisting of one share
of common stock and one warrant to purchase one share of common
stock at an exercise price per share of $9. Through this Offering,
the Company raised approximately $6,931,000 net of expenses.
The 1,220,700 shares of common stock included in the units were
shown as outstanding shares as of June 30, 1996 for the purpose of
the statement of stockholders' (deficit) equity.
(b) CONVERSION OF SERIES A, SERIES B, AND SERIES C REDEEMABLE
CONVERTIBLE PREFERRED STOCK
Concurrent with the Offering, the Company converted the 358,563,
90,850, and 1,363,876 outstanding shares of Series A, Series B, and
Series C Redeemable Convertible Preferred Stock, respectively, to
shares of $.01 par value Common Stock on a 1:1 basis. At the time
of the conversion, $523,400 was accrued in dividends on the
redeemable convertible preferred stock. The Company paid $200,000
in cash and issued 69,383 shares of common stock as payment for the
remainder. The owners of this common stock have retained certain
demand registration rights.
(c) SHAREHOLDER LOCK-UP AGREEMENTS
Certain holders of the 2,700,000 shares of common stock outstanding
prior to the Offering entered into agreements that they would not
sell any common stock owned by them without the prior written
consent of the underwriter for a period of one year from the date
of the Offering, and some of these agreements were extended beyond
one year. No lock-up agreements remain in effect as of June 30,
1998.
(d) SEPARATION OF UNITS
The shares of common stock and warrants included in the 1,220,700
units sold in the Offering were not separately detachable or
separately transferable, and could only be traded as units, until
365 days from the date of the Offering or such earlier date as the
underwriter could determine (the "Separation Date"). On February
18, 1997, the units separated so that the common stock and warrants
underlying the units began trading separately and the units ceased
to trade.
(e) WARRANTS
The 1,220,700 warrants included in the units sold in the Offering
were separated on February 18, 1997 as discussed in (d) above.
These warrants entitle the holder to purchase one share of common
stock at an exercise price of $9, and expire March 4, 2001. All
1,220,700 warrants remain outstanding and exercisable as of June
30, 1998.
F-14
<PAGE> 42
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
In connection with the March 1998 amendment to the line of credit
agreement, the Company issued five-year warrants to the financial
institution which permit them to purchase 60,000 shares of the
Company's common stock at $5.50 per share. Using the Black-Scholes
option pricing model, the Company has calculated the fair market
value of the warrants granted to be approximately $166,000 as of
the date of grant. This amount was recorded as additional paid-in
capital and debt issuance costs, which will be amortized as
interest expense over the remaining term of the Agreement. Total
amortization expense of $20,000 was recorded to interest expense
during the year ended June 30, 1998. All 60,000 warrants remain
outstanding and exercisable as of June 30, 1998.
(f) STOCK OPTIONS
Effective October 1992, the Board of Directors adopted the 1992
Stock Incentive Plan (the "1992 Plan") which provides for the grant
of stock options for up to 840,946 shares of common stock. The 1992
Plan also permits the Board of Directors to grant stock
appreciation rights, stock bonuses, and restricted stock awards in
accordance with the provisions of the Plan. The Plan remains in
effect until October 2002 unless sooner terminated by the Board of
Directors.
Effective January 1996, the Board of Directors adopted the 1996
Stock Incentive Plan (the "1996 Plan") which provides for the grant
of stock options for up to 200,000 shares of common stock. In
October 1996, the Board of Directors voted to increase the number
of shares of common stock authorized under the 1996 Plan from
200,000 shares to 440,000 shares. The 1996 Plan also permits the
Board of Directors to grant stock appreciation rights, stock
bonuses, and restricted stock awards in accordance with the
provisions of the Plan. The Plan remains in effect until January
2006 unless sooner terminated by the Board of Directors.
Options granted under the 1992 and 1996 Plans may be incentive
stock options or nonqualified stock options, as determined by the
Board of Directors at the time of grant. Incentive stock options
are granted at a price not less than the fair market value of the
stock on the grant date, and nonqualified options are granted at a
price to be determined by the Board of Directors provided that such
exercise price is not less than 85% of the fair market value of the
stock on the grant date. Option vesting terms are established by
the Board of Directors at the time of grant, and presently range
from three to five years. The expiration date of options granted
under the 1992 and 1996 Plans are determined at the time of grant
and may not exceed ten years from the date of the grant.
As of June 30, 1998, there were no options available for grant
under the 1992 Plan, and there were 47,872 options available for
grant under the 1996 Plan.
F-15
<PAGE> 43
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
On March 4, 1996, pursuant to the Underwriter's Agreement, the
Company issued options to the underwriter to purchase 107,000 units
(consisting of one share of common stock and one warrant to
purchase one share of common stock at an exercise price of $14.85).
The options have an exercise price per unit of $12.375 and expire
March 4, 2001. The options were assigned a fair value of $-0- when
issued due to the stated exercise prices which greatly exceeded the
market value at the grant date. As of June 30, 1998, 107,000
options were outstanding and exercisable.
The Company also issues options to members of the Board of
Directors as compensation for board representation and attendance.
Options are issued at the fair market value at the date of grant
and vest at the conclusion of each fiscal year. As of June 30,
1998, 51,388 of these options were outstanding of which 47,388 were
exercisable.
The per share weighted-average fair value of all stock options
granted during the years ended June 30, 1998 and 1997 was $2.48
and $4.48 on the date of grant using the Black-Scholes
option-pricing model with the following weighted-average
assumptions: 1998 -- expected dividend yield 0%, expected
volatility 50%, risk-free interest rate of 5.8%, and an expected
life of 4 years; 1997 -- expected dividend yield 0%, expected
volatility 45%, risk-free interest rate of 5.8%, and an expected
life of 4 years.
The Company applies APB Opinion No. 25 in accounting for its Plans
and, accordingly, no compensation cost has been recognized for its
stock options issued at fair value in the financial statements. Had
the Company determined compensation cost based on the fair value at
the grant date for its stock options under SFAS No. 123, the
Company's net loss would have been adjusted by the pro forma
amounts indicated below (in thousands, except share data):
<TABLE>
<CAPTION>
JUNE 30,
---------------------
1998 1997
---- ----
<S> <C> <C> <C>
Net loss attributable to common
shareholders As reported $(8,380) (4,190)
Pro forma $(8,850) (4,447)
Net loss per common share and
common share equivalent As reported $ (2.01) (1.05)
Pro forma $ (2.13) (1.11)
</TABLE>
Pro forma net loss reflects only options granted during the years
ended June 30, 1996 through 1998. Therefore, the full impact of
calculating compensation cost for stock options under SFAS 123 is not
reflected in the pro forma loss amounts presented above because
compensation cost is reflected over the options' vesting periods
ranging from one to five years, and compensation cost for options
granted prior to July 1, 1995 is not considered.
F-16
<PAGE> 44
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
The following summarizes stock option activity, excluding
underwriter options, for the years ended June 30, 1998 and 1997:
<TABLE>
<CAPTION>
NUMBER EXERCISE
OF SHARES PRICE PER SHARE
--------- ---------------
<S> <C> <C>
Outstanding at June 30, 1996 723,143 $ .0084 - 10.5000
==================
Granted 230,000 10.2500 - 12.8750
Exercised 199,661 .0085 - 4.1875
Canceled or expired 31,261 .0670 - 4.7300
------- ------------------
Outstanding at June 30, 1997 722,221 $ .0085 - 12.8750
======= ==================
Granted 288,722 4.25 - 10.50
Exercised 70,317 .067 - 4.73
Canceled or expired 242,511 .067 - 12.25
------- ------------------
Outstanding at June 30, 1998 698,115 .0085 - 11.490
======= ==================
</TABLE>
At June 30, 1998, the weighted-average remaining contractual life
of outstanding options, excluding underwriter options, was 7.8
years. At June 30, 1998 and 1997, the number of options exercisable
was 281,267 and 221,466, respectively, and the weighted-average
exercise price of those options was $3.16 and $1.22, respectively.
During fiscal 1988, the Company lowered the exercise price of
272,015 options to $4.15, from exercise prices previously ranging
from $4.25 to $12.875. These revised exercise prices were used to
calculate the weighted-average exercise price of outstanding
options at June 30, 1998. The impact of the stock option repricing
was not material to the June 30, 1998 statement of operations.
(g) NOTES RECEIVABLE FROM STOCK SALES
Notes receivable from stock sales result from the exercise of stock
options for full recourse promissory notes during the years ended
June 30, 1998 and 1997.
(h) STOCK COMPENSATION EXPENSE
Unearned compensation expense of $269,000 was recorded as a
reduction of shareholders' equity for the fiscal year ended June
30, 1996 for 62,089 options issued at an exercise price less than
fair market value. Compensation expense of approximately $68,000
and $64,000 was recorded in the Statement of Operations during the
years ended June 30, 1998 and 1997, respectively, for the options
that vested during these years.
F-17
<PAGE> 45
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(i) EMPLOYEE STOCK PURCHASE PLAN
Effective November 7, 1996, the Board of Directors adopted the 1996
Employee Stock Purchase Plan (the "Plan"), under which, the Company
is authorized to issue up to 150,000 shares of common stock to its
full-time employees. Substantially all of the Company's employees
are eligible to participate. Under the terms of the Plan, employees
can choose each year to have up to 10% of their annual base
earnings withheld to purchase the Company's common stock. The
purchase price of the stock is 85% of the lower of its
beginning-of-year or end-of-year market price. Under the plan, the
Company sold no shares to employees in 1998, and 782 shares to
employees in 1997.
(9) CONCENTRATION OF SALES AND CREDIT RISKS
For the years ended June 30, 1998 and 1997, 48% and 45%, respectively, of
the Company's revenues were derived from two customers. Additionally, the
Company's accounts receivable from these two customers represented 49%
and 44% of total accounts receivable at June 30, 1998 and 1997,
respectively.
For the years ended June 30, 1998 and 1997, international sales were
approximately 34% and 26%, respectively, of total sales of the Company.
International sales and gross profit were as follows (in thousands):
<TABLE>
<CAPTION>
1998 1997
---- ----
<S> <C> <C>
Sales $5,333 3,766
Gross profit 402 1,120
</TABLE>
(10) COMMITMENTS AND CONTINGENCIES
(a) LEASES
The Company leases a building and certain equipment under
noncancelable operating lease agreements which expire at various
times through 2001 and provide for minimum annual rentals as
follows:
<TABLE>
<CAPTION>
YEAR ENDING
JUNE 30, (IN THOUSANDS)
----------- --------------
<S> <C>
1999 $216
2000 205
2001 183
----
$604
====
</TABLE>
F-18
<PAGE> 46
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
Rental expense under all lease agreements for the years ended June
30, 1998 and 1997 was approximately $406,000 and $415,000,
respectively.
(b) 401(K) PLAN
The Company sponsors the Digital Transmission Systems, Inc. 401(k)
Savings Plan (the "Plan") for the benefit of eligible employees and
their beneficiaries. Employees may elect to contribute from 1% to
20% of their gross compensation to the Plan. The Plan was amended
during the year ended June 30, 1997 to provide for a Company match
of 25% of employee contributions up to 6% of their eligible
compensation. The Company can also make an additional annual
discretionary contribution that is allocated to employees based
upon relative levels of compensation. The Company recorded matching
expense of approximately $32,000 and $24,000 for the years ended
June 30, 1998 and 1997, respectively. The Company elected to make
no discretionary contributions to the Plan during the years ended
June 30, 1998 and 1997.
(c) PRODUCT DEVELOPMENT AGREEMENTS
During the years ended June 30, 1998 and 1997, the Company had
agreements with certain outside subcontractors for the development
of new product technology. The agreements defined milestones which,
upon completion, called for the payment of agreed-upon fees.
Portions of these payments were capitalized as product development
costs, as discussed in note 1. There were no firm commitments
remaining in effect as of June 30, 1998.
(d) LEGAL MATTERS
IN August 1998, a vendor of the Company filed suit against the
Company alleging nonpayment of account. Total demands for judgment
are $550,826 in unpaid invoices, plus pre-judgment and
post-judgment interest on principal amounts outstanding and court
costs. The Company is disputing the validity and accuracy of the
billed amounts, and believes that its obligation to the plaintiff
is $200,000, which has been accrued in the financial statements as
of June 30, 1998.
The Company believes that it has meritorious defenses in the
plaintiff's claims and intends to continue a vigorous defense in
this matter. However, no assurance can be given as to the ultimate
outcome with respect to such lawsuit and the amount, if any, which
may be paid in excess of the accrual recorded at June 30, 1998.
The Company is also involved in various claims and legal actions
arising in the ordinary course of business. In the opinion of
management, the ultimate disposition of these matters, including
the litigation discussed in the previous paragraph, will not have a
material adverse effect on the Company's financial position,
results of operations, or liquidity.
F-19
<PAGE> 47
DIGITAL TRANSMISSION SYSTEMS, INC.
Notes to Financial Statements
June 30, 1998 and 1997
(11) SUBSEQUENT EVENTS
On August 10, 1998, the Board of Directors approved a reissuance of
employee options whereby all optionholders under the 1992 and 1996 Plans
could forfeit their outstanding, options and receive instead new options
at an exercise price of $.75, the fair market value of the Company's
stock on the approval date. The reissued options vest quarterly over
three years, but none can be exercised prior to February 10, 1999.
305,894 options were approved for reissue under the terms of this
arrangement.
F-20
<PAGE> 48
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Shareholders of
Digital Transmission Systems, Inc.
We have audited the accompanying balance sheets of Digital Transmission Systems,
Inc. as of June 30, 1998 and 1997, and the related statements of operations,
shareholders' (deficit) equity, and cash flows for the years then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Digital Transmission Systems,
Inc. as of June 30, 1998 and 1997, and the results of its operations and its
cash flows for the years then ended in conformity with generally accepted
accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in notes 1(b), 5 and 6 to
the financial statements, the Company has suffered recurring losses from
operations, is in violation of its debt covenants, and has a net capital
deficiency that raises substantial doubt about its ability to continue as a
going concern. Management's plans in regard to these matters are also described
in note 11. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
Atlanta, Georgia
October 8, 1998, except as to paragraph 2 of note 5
which is as of October 14, 1998
F-21
<PAGE> 49
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
<S> <C> <C>
*3.1 - Form of Amended and Restated Certificate of Incorporation of the
Company.
*3.2 - Form of Amended and Restated Bylaws of the Company.
*4.1 - See Article 4 of the Company's Amended and Restated Certificate of
Incorporation -- located within Exhibit 3.1.
*4.2 - See Article 3 of the Company's Amended and Restated Bylaws located
within Exhibit 3.2.
*10.1 - Loan Agreement, dated October 10, 1995, by and between the Company and
SunTrust Bank.
*10.2 - Lease Agreement, dated September 14, 1994, by and between the Company and
Advanta Leasing Corp.
*10.3 - The Company's 401 (K) Savings Plan.
*10.4 - Lease Agreement, dated January 28, 1991, by and between the Company and
Colonial Pacific Leasing Corporation.
*10.5 - Lease Agreement, dated January 4, 1994, by and between the Company and
Amplicon, Inc.
*10.6 - Form of Reseller Agreement.
*10.7 (1) - Proprietary Information, Noncompetition and Inventions Agreement, dated
August 20, 1990, by and between the Company and Thomas C. Mock
*10.8 - Form of Confidentiality and Invention Assignment Agreement.
*10.9 (1) - Proprietary Information, Noncompetition and Invention Agreement, dated
August 20, 1990, by and between the Company and James W. Chamberlin
*10.10 - Acquisition Agreement, dated December 1, 1995, by and between the Company
and Technology Ventures International, Inc.
*10.11 - Lease Agreement, dated March 19, 1993, by and between New England Mutual
Life Insurance Company and the Company.
*10.12 - Manufacturing Agreement, dated May 8, 1995, by and between the Company and
Comptronix Corporation.
*10.13 (1) - FY95 Employee Profit Sharing Plan.
*10.14 (1) - FY96 Management Bonus Plan.
*10.15 (1) - 1992 Stock Incentive Plan.
*10.16 (1) - FY96 Sales Commission Plan for Bobby Boykin.
*10.17 - Equipment Lease, dated December 17, 1991, by and between the Company and
General Electric Capital Corporation.
*10.18 (1) - Form of Employment Agreement to be entered into by and between the Company and
each of Mr. Salazar, Mr. Boykin and Mr. Nelson.
*10.19 (1) - 1996 Incentive Compensation Plan.
*10.20 - Form of Consent of Series C Preferred Stockholders.
*10.21 - Agreement, dated January 7, 1994, by and between the Company and Wiltron
Company.
</TABLE>
E-1
<PAGE> 50
<TABLE>
<S> <C> <C>
**10.22 (1) - Form of Digital Transmission Systems, Inc. Employee Stock Purchase Plan
10.23 - Form of Amendment to the Company's 401 (K) Savings Plan
***10.24 - Form of Debenture Agreement between Sirrom Capital d/b/a Tandem Capital
and the Company
11.1 - Statement of computation of per share earnings (loss)
*23.1 - Consent of Price Waterhouse LLP
*23.2 - Consent of Sutherland, Asbill & Brennan (included in the opinion filed as
Exhibit No. 5.1 to the Registration Statement.)
27 - Financial Data Schedule (for SEC use only)
</TABLE>
* Incorporated by reference to the corresponding exhibit of the
Registrant's registration statement on Form SB-2 (File Number
1-14198 ).
** Incorporated by reference to the corresponding exhibit of the
Registrant's Form 10-KSB filed 9/30/96.
*** Incorporated by reference to the corresponding exhibit of the
Registrant's Form 10-KSB filed 10/14/97.
(1) Constitutes a management contract or compensatory plan or
arrangement required to be filed.
E-2
<PAGE> 1
EXHIBIT 10.23
AMENDMENT
WHEREAS, Trustees of the Digital Transmission Systems, Inc. 401(k) Savings Plan
(hereinafter referred to as the "Contractholder") entered into a Group Annuity
Contract Number GA-32257 (hereinafter referred to as the "Contract") with
Connecticut General Life Insurance Company (hereinafter referred to as the
"Insurance Company"), effective January 1, 1988; and
WHEREAS, the Insurance Company reserved the right to amend said Contract; and
WHEREAS, the Insurance Company desires to restate the Contract to provide for
its administration through a new defined contribution recordkeeping and
accounting system, and a product called CIGNA Select;
NOW THEREFORE, the Contract is hereby amended and restated in its entirety,
effective January 1, 1998 as follows:
1. The terms of the Contract as heretofore set forth shall no longer apply
with respect to Participants who have not terminated employment as of the
effective date of this amendment (including terminations on account of
retirement, death or disability) and the terms of the Contract with respect
to such Participants shall henceforth be set forth in Group Annuity
Contract GA-32257 as amended, a copy of which is attached to and forms a
part of this amendment.
2. The Contract, as amended and restated, shall represent a continuation of
the prior Contract as heretofore set forth and not a termination thereof.
3. The Insurance Company shall make any further amendments to the Contract
deemed necessary or advisable by legal counsel to receive approval from
appropriate regulatory agencies.
Executed at the Home Office on March 25, 1998.
CONNECTICUT GENERAL LIFE INSURANCE COMPANY
/s/ Byron Oliver
------------------------------------------
Senior Vice President
<PAGE> 2
CONNECTICUT GENERAL LIFE INSURANCE COMPANY
a CIGNA company
(a stock company)
GROUP ANNUITY CONTRACT NUMBER GA-32257 issued to:
TRUSTEES OF THE DIGITAL TRANSMISSION SYSTEMS, INC. 401(K) SAVINGS PLAN
EFFECTIVE DATE: January 1, 1998 DATE OF ISSUE: January 1, 1998
The Insurance Company agrees to pay the benefits provided in accordance with
the terms of this Contract. This Contract is issued in consideration of the
Application and the payment of the Contributions provided for herein.
This Contract is issued and accepted subject to all the terms set forth on this
page and on the following pages, which are hereby made a part of this Contract.
IN WITNESS WHEREOF Connecticut General Life Insurance Company has caused this
Contract to be executed at its Home Office on the Date of Issue to take effect
on the Effective Date.
/s/ Byron Oliver
---------------------
Senior Vice President
GROUP ANNUITY CONTRACT
FIXED ANNUITY
GUARANTEED COST - SEPARATE ACCOUNT
<PAGE> 3
GROUP ANNUITY CONTRACT
TABLE OF CONTENTS
<TABLE>
<CAPTION>
SECTION STARTING ON PAGE
<S> <C>
1.................DEFINITIONS....................................2
2.................INCOMING AMOUNTS...............................3
3.................OPERATIONAL AGREEMENTS.........................5
4.................DISTRIBUTIONS..................................7
5.................DISCONTINUANCE.................................9
6.................MISCELLANEOUS.................................11
</TABLE>
Contract Expense Schedule
Annuity Purchase Rate Table A
Annuity Purchase Rate Table B
Guaranteed Long Term Account
CIGNA Charter Large Company Stock Index Account
Separate Account 55A
Separate Account 55F
Separate Account 55G
Separate Account 55K
Separate Account 55S
Separate Account 55X
Separate Account 55CX
Separate Account 55EV
Separate Account 55FU
Separate Account 55GT
Separate Account 55HS
Separate Account 55JR
Separate Account 55KQ
Separate Account 55MN
Separate Account 55QJ
CIGNA Lifetime 20 Account
CIGNA Lifetime 30 Account
CIGNA Lifetime 40 Account
CIGNA Lifetime 50 Account
CIGNA Lifetime 60 Account
Application
1
<PAGE> 4
SECTION 1
DEFINITIONS
1.1 The CONTRACT is the group annuity Contract GA-32257 issued by Connecticut
General Life Insurance Company.
1.2 The CONTRACTHOLDER is Trustees of the Digital Transmission Systems, Inc.
401(k) Savings Plan.
The term CONTRACTHOLDER will also include any person designated by the
Contractholder or the Employer to carry out administrative functions.
1.3 The EMPLOYER is the corporation or firm named as employer in the Plan.
1.4 The INSURANCE COMPANY is the Connecticut General Life Insurance Company, a
legal reserve life insurance company incorporated in Connecticut.
1.5 The I.R.C. is the Internal Revenue Code of 1986, as amended from time to
time.
1.6 A PARTICIPANT is an individual having an account under the Plan.
1.7 The PLAN is Digital Transmission Systems, Inc. 401(k) Savings Plan adopted
by the Employer effective January 1, 1988, as constituted on January 1,
1998, as said Plan may be amended from time to time.
1.8 A RIDER is that section of the Contract describing the funding vehicle(s)
selected by the Contractholder. In applying for the Contract, the
Contractholder will select the Rider(s) which becomes a part of this
Contract.
2
<PAGE> 5
SECTION 2
INCOMING AMOUNTS
2.1 The Contractholder and the Insurance Company agree to the following:
(A) CONTRIBUTIONS. Contributions for investment under this Contract
will be transferred by the Contractholder and accepted by the
Insurance Company. The amount of Contributions for any contribution
period is equal to the amount to be contributed under the terms of
the Plan, after the effective date of this Contract, that are
designated for investment under this Contract. The amount of
Contributions may be reduced by subtracting, for such period, the
amount of prospective Plan distributions to Participants.
Contributions for investment under this Contract may not be less
than two hundred fifty thousand dollars ($250,000) in any one plan
year unless the Insurance Company agrees. Notwithstanding the
above, in the event that the Contractholder elects to have the
Insurance Company provide recordkeeping services, contributions
under this Contract may not be less than thirty five thousand
dollars ($35,000) in any one plan year unless the Insurance Company
agrees. Contributions to the Guaranteed Long Term Account may not
exceed the Insurance Company's current underwriting guidelines for
such contributions for this product in any one plan year unless the
Insurance Company gives its prior written consent.
(B) TRANSFERRED ASSETS. Amounts contributed under the terms of the
Plan prior to the Effective Date of this Contract, that are
designated for investment under this Contract, will be transferred
by the Contractholder and accepted by the Insurance Company. Such
amounts of Transferred Assets combined with Contributions for the
first plan year may not exceed the Insurance Company's current
underwriting guidelines for such contributions for this product
unless the Insurance Company gives its prior written consent.
(C) PAYMENT. Such amounts will become due and payable at the Insurance
Company's home office address via the designated Insurance Company
lockbox or the Pension Automated Transfer System or to any
designated agent of the Insurance Company within thirty-one (31)
days of the date specified in the Plan. A grace period of
thirty-one (31) days, or the time required by law for the
contribution to be made, if less, will be allowed for such payment
without affecting the status of this contract. The Contractholder
is responsible for ensuring that the contributions due under the
terms of the Plan are made within the time required by law.
(D) TRANSFERS. Subject to the terms of the Plan, transfers from a
terminated plan or from a plan which qualifies under I.R.C. section
401(a) that is terminating or is being merged or consolidated into
the Plan, in accordance with I.R.C. section 401(a)(12), and which
are to be allocated to one of the funding vehicles represented by
the Rider(s), will be accepted by the Insurance Company.
Subject to the terms of the Plan, transfers from a plan which
qualifies under I.R.C. section 401(a) to the Plan, and which are to
be allocated to one of the funding vehicles represented by the
Rider(s), will be accepted by the Insurance Company.
3
<PAGE> 6
(E) ROLLOVERS. Subject to the terms of the Plan, amounts contributed to the
Plan by Participants pursuant to I.R.C. sections 402(c), 403(a)(4) or
408(d)(3)(A)(ii), and which are to be allocated to one of the funding
vehicles represented by the Rider(s), will be accepted by the Insurance
Company.
(F) With respect to any Incoming Amounts which may be payable to the
Insurance Company pursuant to this Section 2, the Insurance Company
expressly reserves the right not to accept such amounts if such
acceptance would cause the Insurance Company to take action contrary to
its normal rules and practices. The Insurance Company shall notify the
Contractholder if it will not accept Incoming Amounts hereunder, but any
such action by the Insurance Company shall not affect any other existing
obligations of the Insurance Company or the Contractholder under this
Contract as it is then in effect.
4
<PAGE> 7
SECTION 3
OPERATIONAL AGREEMENTS
3.1 The Contractholder agrees to the following:
(A) QUALIFICATION. The Contractholder will apply within one year of
the Effective Date of the Plan for a determination letter from the
Internal Revenue Service that the Plan meets the requirements of
I.R.C. section 401(a). The Contractholder will apply for a new
determination letter from the Internal Revenue Service with
respect to Plan amendments within one year of the effective date
of any amendment. A copy of the determination letter will be
filed with the Insurance Company within thirty (30) days of
receipt by the Contractholder.
(B) AMENDMENT. No Plan amendment will be made which would require the
Insurance Company to take action contrary to its normal rules and
practices. A certified copy of any change in or amendment to the
Plan will be filed with the Insurance Company within thirty (30)
days of its adoption by the Employer.
(C) DISQUALIFICATION. Notification will be sent to the Insurance
Company within thirty (30) days of the date the Employer receives
initial written notification from the Internal Revenue Service
that the Plan no longer meets the requirements of I.R.C. section
401(a). When such determination becomes final, the terms of
Section 5 shall apply.
(D) COMPETING FIXED INCOME FUNDS. The Contractholder agrees not to
(i) offer an investment option, or (ii) prior to Contract
discontinuance, include this Contract as part of a plan investment
option which the Insurance Company considers a Competing Fixed
Income Fund, without the Insurance Company's express written
consent. As determined by the Insurance Company, a Competing Fixed
Income Fund is an investment option under the plan that invests in
funding instruments that protect the investor against the risk of
loss of principal, or in which changes in prevailing interest
rates can significantly affect the possible loss of principal
amounts invested in such option. A Competing Fixed Income Fund
includes, but is not limited to, a money market fund, a bond fund,
a balanced fund, or a fund invested in U.S. Treasury Securities or
other government obligations.
(E) TRANSFERS. When amounts are designated by Participants for
transfer between or among funding vehicles under this Contract,
such transfers represent the choice of Participants, free from
corporate or trustee announced or published suggestion or
persuasion.
(F) INFORMATION. All information necessary to process Incoming
Amounts, Transfers between the funding vehicles, and Distributions
will be submitted by the Contractholder to the Insurance Company
no more frequently than monthly or every fourth week. Any
information required by the Insurance Company in order to perform
any agreement or obligation under this Contract will be properly
authorized by the Contractholder and promptly forwarded in writing
to the Insurance Company. In addition, any information required by
the Insurance Company to ensure compliance with the provisions of
Sections 3.1(D) and (E) will be promptly forwarded in writing by
the Contractholder to the Insurance Company upon the request of
the Insurance Company.
5
<PAGE> 8
(G) EXPENSES. Expenses and charges described in the Administrative
Expense Schedule attached hereto will be paid either by remitting to
the Insurance Company within thirty (30) days of the mailing date of
notice of such charges or by such other method as is otherwise
described. In the event such expenses and charges are not remitted
within thirty (30) days, the Insurance Company reserves the right to
deduct the amounts due from the Contractholder's Account upon
written authorization from the Contractholder.
(H) The Contractholder will operate its Plan to comply with all
applicable laws and regulations.
3.2 The Insurance Company agrees to the following:
(A) CONTRACTHOLDER'S ACCOUNT. An account will be established and
maintained for the Contractholder. Contributions and Transferred
Assets will be invested in accordance with the instructions filed
with the Insurance Company by the Contractholder and in accordance
with the terms of the Rider(s) selected by the Contractholder.
(B) TRANSFERS. Subject to the transfer limitations set forth in the
Rider(s), amounts may be transferred from one Plan funding vehicle
to another in accordance with the terms of the Plan.
(C) ALLOCATION DATE. Incoming Amounts will be allocated as of the
valuation date coinciding with or next following the date the
Insurance Company receives such Incoming Amounts. Transfers between
funding vehicles will be allocated as of the valuation date
coinciding with or next following the later of the date the
Insurance Company receives written instructions from the
Contractholder regarding the Transfer or the effective date of such
Transfer. The determination of the valuation date will be governed
by the applicable Rider(s).
(D) REPORTS. Reports of the Contractholder's Account activity will be
sent to the Contractholder quarterly, unless the Insurance Company
agrees to report on a more frequent basis.
6
<PAGE> 9
SECTION 4
DISTRIBUTIONS
4.1 GENERAL DISTRIBUTIONS. The Insurance Company agrees to make distributions
from the Contractholder's Account, subject to the terms of the Plan, and
to the transfer limitation(s) set forth in the Rider(s), in the following
manner:
(A) TRUSTEE. The Plan's trustee will be entitled to receive all cash
payments for further distribution.
(B) AMOUNT. A distribution from the Contractholder's Account will be
in an amount up to and including the value of such account on the
valuation date. The determination of the valuation date will be
governed by the applicable Rider(s).
(C) FORM. Distributions will be in one or both of the following forms:
(1) Any type of annuity which the Insurance Company agrees in
writing to issue,
(2) A single sum cash payment, or
(3) A series of cash payments made over a period of time subject
to the election of the Participant.
Any distribution of $3,500 or less on behalf of a Participant will
be made in the form of a single sum cash payment.
(D) AMOUNT USED TO PURCHASE ANNUITY. The amount the Insurance Company
will apply to the purchase of an annuity will be reduced by any
amount necessary to pay applicable taxes and/or annuity purchase
fees.
The annuity will be purchased at the rates then in effect for all
contracts in this class of business.
4.2 DISTRIBUTIONS AT DEATH. In the event a Participant dies prior to
distribution of his interest in the Plan, the Contractholder will
determine the appropriate beneficiary(ies), the amount of the death
benefit and the form in which it will be paid in accordance with the Plan
and applicable law, and will direct the Insurance Company to make proper
payment.
In the event a Participant dies after an annuity has been purchased on his
behalf, the death benefit, if any, will be made in accordance with the
terms of the annuity certificate.
4.3 LIMITATION. The Contractor agrees that distributions under this Section 4
will be subject to the limitation contained in this Section 4.3 as well as
those contained in the Rider(s) attached to this Contract.
7
<PAGE> 10
A distribution for the benefit of a Participant from the Guaranteed Long
Term Account will not exceed a fraction of such Participant's total
shares of Plan assets. The fraction will be determined by dividing such
Participant's share of the Plan assets in the Guaranteed Long Term
Account as of the valuation date by such Participant's share of all Plan
assets as of such date. The determination of the valuation date will be
governed by the applicable Rider(s).
The determinations necessary for the limitation in this Section 4.3 will be
made according to records maintained by the Contractholder.
4.4 GUARANTEES. The rates used for the purchase of a ten year certain and life
annuity will in no event be less than those in the applicable Annuity
Purchase Rate Table. Rates applied to purchase other forms of annuity will
in no event be less than the actuarial equivalent as determined by the
Insurance Company of the rates in the applicable Annuity Purchase Rate
Table.
4.5 DEFERRED PAYMENTS. The Contractholder and the Insurance Company agree that
the payment of any distribution pursuant to this Section may be deferred
for a period not exceeding six (6) months from the date otherwise payable,
subject to the appropriate Rider(s). No payment will be delayed beyond the
time permitted by applicable laws and regulations.
4.6 With the exception of Section 4.5, the distribution provisions described in
this Section 4 do not apply to disbursements made on account of Contract
Discontinuance as described in Section 5.
8
<PAGE> 11
SECTION 5
DISCONTINUANCE
5.1 DISCONTINUANCE. This Contract will be discontinued if:
(A) The Contractholder notifies the Insurance Company in writing that
the Contract will be discontinued; or
(B) The Insurance Company notifies the Contractholder in writing that
the Contractholder has breached a provision of Sections 2,3,4, or 6
and that the Contract will be discontinued; or
(C) The Insurance Company determines that the class of business to
which this Contract belongs is no longer commercially feasible and
notifies the Contractholder in writing that the Contract will be
discontinued. This provision will not be exercised by the Insurance
Company in order to generate additional sources of income than
otherwise provided under the Contract.
5.2 DISCONTINUANCE DATE. The Discontinuance Date is the first day of the month
coinciding with or next following the date the Insurance Company receives
the notice specified in Section 5.1(A) or sends the notice specified in
Section 5.1(B). Upon discontinuance of the Contract:
(A) The Insurance Company will no longer accept contributions as of the
Discontinuance Date; and
(B) The Insurance Company will timely notify the Contractholder of
expenses and charges due.
5.3 DISCONTINUANCE DISBURSEMENT DATE: Unless otherwise agreed, discontinuance
disbursements will be made as of the valuation date coinciding with or next
following the later of:
(A) Ninety (90) days after the date the Insurance Company receives all
information necessary to make the disbursement; or
(B) Ninety (90) days after the date the Insurance Company recovers all
expenses due under this Contract.
The determination of the valuation date will be governed by the applicable
Rider(s).
9
<PAGE> 12
5.4 DISBURSEMENTS. Disbursements made at discontinuance are subject to the
Discontinuance Transfer Limitation provisions contained in the Rider(s)
and the recovery of expenses and charges which are incurred up to the date
all assets under this Contract are disbursed in accordance with this
Section 5. The Insurance Company agrees to disburse the amount of the
Contractholder's Account, as follows:
(A) If the Plan continues to meet the requirements of I.R.C. section
401(a) but a new funding agent is selected, the Contractholder may
specify that such amount be transferred to the Plan's Trustees or
new funding agent. In order to transfer such amount, the Insurance
Company must receive evidence acceptable to it that the Plan will
continue to meet the requirements of I.R.C. section 401(a).
(B) If the Internal Revenue Service determines that the Plan initially
fails to meet the requirements of I.R.C. section 401(a), such
amounts will be disbursed to the Contractholder in a single sum
cash payment.
(C) If the Plan is terminated within the meaning of Income Tax
Regulations section 1.401-6 or the Internal Revenue Service
determines that the Plan no longer meets the requirements of the
I.R.C. section 401(a), the Contractholder's Account will be
distributed in a manner, and at such time, as is mutually
agreeable to the Contractholder and the Insurance Company,
provided appropriate governmental or regulatory approval is first
obtained.
10
<PAGE> 13
SECTION 6
MISCELLANEOUS
6.1 The Insurance Company and the Contractholder agree to the following:
(A) All communications will be in writing and will be submitted by
first class mail, postage prepaid.
(1) If to the Insurance Company, to:
Defined Contributions
CIGNA Retirement & Investment Services
Connecticut General Life Insurance Company
P.O. Box 2975
Hartford, CT 06104
(2) If to the Contractholder, to its principal place of
business.
(B) All agreements under this Contract shall inure to the benefit of
and be binding upon the successors and assigns of the Insurance
Company and the Contractholder unless the Insurance Department of
the State of Connecticut determines that the Insurance Company has
ceased doing business of this class and kind.
(C) No distribution or disbursement payable to any Participant or
beneficiary is assignable except to the extent allowed by law and
all distributions or disbursements are exempt from the claims of
creditors to the maximum extent permitted by law.
(D) The Insurance Company may require proof that the recipient of
annuity payments is living as of each and every date on which any
annuity payment becomes payable. If such proof is not furnished
when requested, the Insurance Company may withhold payments until
proof has been received.
(E) The Insurance Company will issue an individual certificate to each
Participant for whom an annuity is purchased. If the state of issue
so requires, the Insurance Company will issue a certificate to each
Participant contributing to the Plan. Any certificate so issued
will in no way void or alter any of the terms of this Contract.
(F) If the age determining the annuity purchase rate, or any other fact
pertaining to the purchase of or the determination of the amount of
an annuity is found to have been misstated, or in the event of
clerical error, the following adjustments will be made:
11
<PAGE> 14
(1) The amount of annuity payable by the Insurance Company will
be that provided by the correct rate applied to purchase
such annuity, determined as of the date of purchase on the
basis of the correct information.
(2) Any overpayments by the Insurance Company resulting from
any misstatements or errors will be deducted from amounts
thereafter payable.
(3) Any underpayments by the Insurance Company resulting from
any misstatements or errors will be paid in full with the
next payment due.
(G) The Insurance Company agrees only to the provisions of this
Contract and is not a party to nor bound by any trust or plan. The
Insurance Company is not responsible for the status under any
state or federal revenue law of any contribution made pursuant to
such Plan.
(H) Payment by the Insurance Company made pursuant to the terms of
this Contract will release the Insurance Company from all further
liability to the extent of such payment.
(I) Reports, notices, requests and other information submitted to the
Insurance Company by the Contractholder, its designated
representative, a Participant or a Beneficiary may be relied on
conclusively by the Insurance Company.
(J) If the Insurance Department or other authority of any state or
other jurisdiction determines that premium taxes are due and
payable with respect to amounts contributed prior to such
determination, an amount equal to the assessed taxes and interest
may be deducted from the Contractholder's account. If such
Department or authority requires the payment of such taxes on
amounts contributed under this Contract subsequent to such
determination, the Insurance Company can deduct the applicable
amount from Incoming Amounts or in such other manner as required
by the taxing authority.
(K) In applying for the Contract, the Contractholder will select the
Riders(s) which become part of this Contract.
(L) Any change in this Contract will be subject to the following
provisions:
(1) No change will affect the amount of interest credited or
accrued prior to the effective date of such change.
(2) No change will affect the amount or terms of any annuity
purchased prior to the effective date of such change.
(3) Any change to this Contract can be made without notice to
or the consent of any Participant, beneficiary or
annuitant.
12
<PAGE> 15
(4) The Insurance Company may, at any time, make any changes,
including retroactive changes to the provisions of the
Contract to the extent that such changes are required in
order to conform the Contract to the provisions of I.R.C.
section 401(a), any applicable law or any regulation issued
by any governmental agency to which the Plan or the Insurance
Company is subject.
(5) Unless the Contractholder discontinues this Contract and
selects a new funding agent, the Insurance Company may
annually review the provisions of Sections 2,3,4,5, the
Contract Expense Schedule and the Rider(s) and may change the
Sections, Contract Expense Schedule and/or the Rider(s) after
ninety (90) days' advance written notice to the
Contractholder provided, however, that any such change will
apply to all contracts in the same class of business as this
Contract.
(M) For the purposes of this Contract, a copy of the death certificate,
a physician's written statement certifying as to the death of the
decedent, a copy of a certified decree of a court of competent
jurisdiction as to the finding of death or any other reasonable
evidence that may be required by the Insurance Company shall
constitute due proof of death.
(N) The laws of the State of Connecticut govern this Contract except
where its provisions may be more specifically governed by the laws
of its state of issuance.
(O) The singular includes the plural and the masculine pronoun includes
both the masculine and feminine gender unless the context indicates
otherwise.
(P) Two or more duplicate originals of this Contract constitute one and
the same instrument. The Application of the Contractholder together
with all Riders, Tables and Schedules, copies of which are attached
to and made a part of this Contract, constitute the entire Contract
between the Insurance Company and the Contractholder.
(Q) If the Insurance Company has reasonable cause to believe that any
payee is legally, physically or mentally incapable of personally
receiving and receipting for any payment due him, the Insurance
Company may make such payment or any part thereof to any person or
institution who, in the opinion of the Insurance Company, is then
maintaining or has custody of the payee, until claim is made by the
duly appointed guardian or other legal representative of the payee.
Such payment will constitute a full discharge of the liability of
the Insurance Company to the extent thereof.
13
<PAGE> 16
CONTRACT EXPENSE SCHEDULE
Effective January 01, 1998, your Contract Expense Schedule is as follows:
GA-0032257/002
- --------------------------------------------------------------------------------
PAYMENT METHOD KEY
- - CHARGES THAT ARE LABELED "OT" ARE BILLED DIRECTLY TO THE CONTRACTHOLDER, ON A
QUARTERLY BASIS.
- - CHARGES THAT ARE LABELED "OA" ARE PAID BY PARTICIPANTS. CATEGORY I AND II ARE
ASSET-BASED CHARGES WHICH ARE DEDUCTED FROM THE GROSS RATE OF RETURN; THE
REMAINING CATEGORIES ARE DEDUCTED QUARTERLY FROM THE PARTICIPANTS' ACCOUNT
BALANCES.
- - CHARGES THAT ARE NOT LABELED HAVE NOT BEEN SELECTED BY THE CONTRACTHOLDER.
- - CHARGES STATED BELOW ARE ANNUAL CHARGES.
- --------------------------------------------------------------------------------
SERVICES ELECTED
I. CIGNA FUNDS ASSET CHARGES
OA Guaranteed Income Fund 1.35%
OA CIGNA Stock Market Index Account 0.90%
OA CIGNA Lifetime Funds 0.90%
II. CIGNA ALLIANCE FUNDS ASSET CHARGES
OA Fidelity Advisor 0.90%
OA INVESCO 0.90%
OA Warburg Pincus 0.90%
OA Twentieth Century 0.90%
OA AIM 0.90%
OA Janus 0.90%
OA PBHG 0.90%
OA Templeton 0.90%
OA Founders 0.90%
OA Neuberger & Berman 0.90%
III. INSTALLATION CHARGE
Administrative Set-up
New Plan $500
Takeover Plan $1,000 plus $10.00 per Participant
Non-Standard plan Document Additional $400 plus IRS Processing Fees
IV. RECORDKEEPING SERVICES CHARGES
OT Basic Administration Charge
Base Fee $1,900 Plus
Up To 200 Employees $25 per Eligible Employee
Next 200 Employees $20 per Eligible Employee
Over 400 Employees $15 per Eligible Employee
($750.00 per quarter minimum excluding IRS Fees)
CG Trust $500 per year with Standard Trust document
or $1,000 per year with Company Stock,
frozen GIC or amended Trust document
OA Benefit Processing $35 per Transaction
OA Loan Processing $95 per Loan
V. DIRECT SERVICE OPTION (DSO)
Account Maintenance $25 per participant
OA Terminated Participants
OA Retired Participants
OA Disabled Participants
Withdrawal Charge $30 per transaction
OA Terminated Participants
OA Retired Participants
OA Disabled Participants
<PAGE> 17
The expenses outlined in the Contract Expense Schedule of this Contract are
annual charges which will be billed in part at the end of each Plan Quarter.
The term "Plan Quarter" in this Contract Schedule means each full three (3)
month period of the Plan Year beginning with the first day of the Plan Year and
first day of every fourth month thereafter, without regard to the actual number
of, or amounts of contributions received during that period.
This Contract Expense Schedule will cover expenses and taxes incurred by the
Insurance Company in the establishment and maintenance of this Contract. In no
event will these charges cover or be amended so as to cover any fees, expenses,
taxes, or charges relating to the management of the assets held hereunder.
1. CIGNA GUARANTEED INCOME FUND ASSET CHARGE:
The CIGNA Guaranteed Income Fund Asset Charge for the coming Plan Year is
determined annually, based on the total assets held under the Contract as
of the Valuation Date.
The Asset Charge Valuation Date is November 1st of each year provided that
the Insurance Company is open to transact normal business on such day.
Otherwise, the Asset Charge Valuation Date will be the next normal business
day on which the Insurance Company is open to transact normal business.
The Asset Charge will apply only to the CIGNA Guaranteed Income Fund.
2. CIGNA STOCK MARKET INDEX ACCOUNT ASSET CHARGE:
The CIGNA Stock Market Index Account Asset Charge for the coming Plan Year
is determined annually, based on the total assets held under the Contract
as of the Valuation Date.
The Asset Charge Valuation Date is November 1st of each year provided that
the Insurance Company is open to transact normal business on such day.
Otherwise, the Asset Charge Valuation Date will be the next normal business
day on which the Insurance Company is open to transact normal business.
The Asset Charge will apply only to the CIGNA Stock Market Index Account.
3. CIGNA LIFETIME FUNDS ASSET CHARGE:
The CIGNA Lifetime Funds Asset Charge for the coming Plan Year is
determined annually, based on the total assets held under the Contract as
of the Valuation Date.
A Valuation Date will occur on each day that the Insurance Company is open
for business and there exists an orderly financial market for investment
transactions. All transactions processed on the Valuation Day will be based
on the value of the account's investment as of the financial market's
business day.
The Asset Charge will apply only to the CIGNA Lifetime Funds.
4. CIGNA ALLIANCE FUNDS ASSET CHARGE:
The CIGNA Alliance Funds Asset Charge is an annual rate and is assessed on
the value of the Contractholder's investments in each Alliance Fund.
5. BASIC ADMINISTRATION CHARGE:
The annual Basic Administration is based on the number of Eligible
Employees.
6. BENEFIT PROCESSING CHARGE:
A Benefit Processing Charge will apply to any Plan disbursement, including
but not limited to payment of all or a portion of a Participant's vested
account balance because of termination, retirement, death, withdrawal or
disability. Annuity purchases are not subject to this charge. All
disbursements that are corrective distributions required to maintain the
qualified status of the Plan, will be paid by the Contractholder, including
but not limited to correction of excess deferrals (pre and post tax) and
excess annual additions.
7. LOAN CHARGE:
The Loan Charge will apply to each loan processed.
8. OUTSIDE FUND CHARGE:
The Outside Fund Charge will apply to each fund not offered by CIGNA.
<PAGE> 18
9. CG TRUST SERVICE CHARGE:
The annual CG Trust Service Charge will apply upon election of the CG
Trust Service.
10. DIRECT SERVICE OPTION CHARGE:
The annual Direct Service Option Account Maintenance Charge will apply
upon the election of the Direct Service Option and is based on the number
of Direct Service Option accounts.
11. DIRECT SERVICE OPTION WITHDRAWAL CHARGE:
The Direct Service Option Withdrawal Charge will apply to each withdrawal
processed from a Direct Service Option account.
12. SPECIAL SERVICE CHARGE:
In addition to the expenses for the services identified in this schedule,
if applicable, any special services requested by the Contractholder which
are not specified will be charged to the Contractholder in accordance
with the fee schedule then in effect.
13. MISCELLANEOUS
This Expense Schedule is subject to periodic review by the Insurance
Company and may be changed effectively after ninety (90) days' written
notice to the Contractholder. The expenses or charges will not be
increased within the first twelve (12) months following the Contract's
Effective Date nor will the expenses or charges be increased more
frequently than once in any twelve (12) month period except by written
agreement between the Insurance Company and the Contractholder.
In the event that an expense (other than transaction-based expense) that
would otherwise be deducted from a Participant's account is unrecoverable
due to an insufficient account balance, 25% of the account balance will
be deducted from the participant's account.
<PAGE> 19
ANNUITY PURCHASE RATE TABLE A
GUARANTEED MINIMUM FIRST MONTHLY ANNUITY PAYMENT
PURCHASED BY A PREMIUM OF $1,000
FORM OF ANNUITY: 100% FIXED TEN YEAR CERTAIN
AND LIFE ANNUITY
<TABLE>
<CAPTION>
Participant's Age* Monthly Rate
- ------------------ ------------
<S> <C>
55 4.82
56 4.91
57 5.01
58 5.11
59 5.21
60 5.32
61 5.43
62 5.55
63 5.68
64 5.81
65 5.95
66 6.10
67 6.25
68 6.41
69 6.57
70 6.74
71 6.91
72 7.08
73 7.26
74 7.44
</TABLE>
* Age nearest birthday on annuity commencement date, with respect to an
annuity commencing prior to January 1, 1990. With respect to an annuity
commencing on or after January 1, 1990, the following adjustment will be
made.
Annuity commencement date Participant's age equals
------------------------- ------------------------
On or after 1/1/90 but prior Age nearest birthday on annuity
to 1/1/2000 commencement date minus 1
Any Retirement Annuity to be provided will be based on the Insurance Company's
existing underwriting requirements, practices and rates then in effect for
contracts in the same class of business as this Contract. However, the
Insurance Company guarantees that in no event will the amount to be applied for
the purchase of a participant's Retirement Annuity after reduction for premium
taxes, if any, and policy fees be less than that amount obtained from the
application of the rates in Table A. Annuity purchase rates for other forms of
annuity or other ages will be provided by the Insurance Company on an
actuarially equivalent basis. Rates for other ages and other forms of annuity
will be furnished upon request.
This Table is subject to annual review by the Insurance Company and may be
changed after ninety (90) days' written notice to the Contractholder. This
Table will not be changed within the first twelve (12) months following the
Contract's Effective Date nor will it be changed more frequently than once in
any twelve (12) month period except by written agreement between the Insurance
Company and the Contractholder.
18
<PAGE> 20
ANNUITY PURCHASE RATE TABLE B
GUARANTEED MINIMUM FIRST MONTHLY ANNUITY PAYMENT PURCHASED BY A PREMIUM OF
$1,000
FROM OF ANNUITY: 100% VARIABLE TEN YEAR CERTAIN AND LIFE ANNUITY
ASSUMED INVESTMENT RETURN: 4.5%
<TABLE>
<CAPTION>
Participant's Age* Monthly Rate
------------------ ------------
<S> <C>
55 5.12
56 5.21
57 5.30
58 5.39
59 5.50
60 5.60
61 5.72
62 5.84
63 5.96
64 6.09
65 6.23
66 6.38
67 6.53
68 6.68
69 6.84
70 7.01
71 7.17
72 7.35
73 7.52
74 7.70
</TABLE>
* Age nearest birthday on annuity commencement date, with respect to an
annuity commencing prior to January 1, 1990. With respect to an
annuity commencing on or after January 1, 1990, the following
adjustment will be made.
Annuity commencement date Participant's age equals
On or after 1/1/90 but prior Age nearest birthday on annuity
to 1/1/2000 commencement date minus 1
Any Retirement Annuity to be provided will be based on the Insurance Company's
existing underwriting requirements, practices and rates then in effect for
contracts in the same class of business as this Contract. However, the
Insurance Company guarantees that in no event will the amount be applied for
the purchase of a participant's Retirement Annuity after reduction for premium
taxes, if any, and policy fees be less than that amount obtained from the
application of the rates in Table B. Annuity purchase rates for other forms of
annuity or other ages will be provided by the Insurance Company on an
actuarially equivalent basis. Rates for other ages and other forms of annuity
will be furnished upon request.
This Table is subject to annual review by the Insurance Company and may be
changed after ninety (90) days' written notice to the Contractholder. This
Table will not be changed within the first twelve (12) months following the
Contract's Effective Date nor will it be changed more frequently than once in
any twelve (12) month period except by written agreement between the Insurance
Company and the Contractholder.
19
<PAGE> 21
GUARANTEED LONG TERM ACCOUNT RIDER
R1.1 GUARANTEED LONG TERM ACCOUNT. The term Guaranteed Long Term Account
refers to that portion of the Contractholder's Account invested in the
Insurance Company's general portfolio.
R1.2 CREDITED INTEREST. Interest will be credited to the Contractholder's
Guaranteed Long Term Account daily. Interest will be credited to each
dollar in the Guaranteed Long Term Account, from the Valuation Date on
which it is allocated to the Guaranteed Long Term Account until the
Valuation Date, pursuant to the Contract Section 3.2(C) as of which it
is transferred, distributed or disbursed from the Guaranteed Long Term
Account.
(A) On the Effective Date of this Contract and prior to January 1 and
July 1 of each year thereafter, the Insurance Company will notify
the Contractholder in writing of the annual rate of Credited
Interest which will be applied to the amounts held in the
Guaranteed Long Term Account during each six-month period
beginning thereafter. The rate so declared will be guaranteed
against change during each six-month period.
(B) The rate of Credited Interest will never be less than zero
percent (0%) per annum for any six-month period. The rate of
Credited Interest will not be reduced by more than 2.10% during
any calendar year.
R1.3 ASSET CHARGE. The annual Asset Charge, determined according to the
Contract Expense Schedule, is reduced to a daily equivalent and is
reduced from the Credited Interest being credited to the
Contractholder's Guaranteed Long Term Account in accordance with
Section R1.2.
In lieu of reducing the daily equivalent of the Asset Charge from the
Credited Interest being credited to the Contractholder's Guaranteed
Long Term Account, the Contractholder may agree to pay the Asset
Charge quarterly as provided for in Contract Section 3.1(G).
<PAGE> 22
R1.4 VALUATION. The value of the Contractholder's Guaranteed Long Term
Account is an amount equal to:
(A) The sum of:
(1) Amounts contributed or transferred to the Insurance Company
and invested in the Contractholder's Guaranteed Long Term
Account, plus
(2) Amounts transferred to the Contractholder's Guaranteed Long
Term Account from any other funding vehicle represented by a
Rider attached to this Contract, plus
(3) Credited Interest on such account;
(B) Less:
(1) Expenses and charges, if any, plus
(2) Amounts transferred, distributed or disbursed from the
Contractholder's Guaranteed Long Term Account in accordance
with the terms of the Contract.
R1.5 VALUATION DATE. For purposes of valuing the Contractholder's
Guaranteed Long Term Account, the term Valuation Date refers to each
day the Insurance Company is open to transact normal business.
R1.6 ANNUITY PAYMENTS. To determine the amount of each fixed annuity
payment, the amount available to purchase an annuity pursuant to
Contract Section 4.1(D) is multiplied by the annuity purchase rate
then in effect for all contracts in this class of business.
R1.7 DEFERRALS. Transfers, distributions or disbursements from the
Guaranteed Long Term Account may be deferred pursuant to Contract
Section 4.5 if a determination of the value of such transfer,
distribution or disbursement is not possible because the Securities
and Exchange Commission has suspended or otherwise restricted trading
of securities or another emergency situation outside the control of
the Insurance Company exists. During such deferral period amounts
payable from the Guaranteed Long Term Account will continue to receive
Credited Interest.
<PAGE> 23
R1.8 POOL TRANSFER LIMITATION. Whenever an amount to be transferred,
distributed or disbursed from a Contractholder's Guaranteed Long Term
Account together with all amounts previously or simultaneously
transferred, distributed or disbursed for any reason in the calendar
year of computation from the pool of Guaranteed Long Term Account
assets to which this Contract belongs would exceed ten percent (10%)
of the total assets in such pool on January 1 of the year of
computation, the transfer, distribution or disbursement may be
deferred by the Insurance Company.
This Contract belongs to the Guaranteed Long Term Account pool
established for all contracts containing this or a similar limitation
under which the initial contribution to be held in the
Contractholder's Account is received in the same calendar year.
Such transfer, distribution or disbursement will be subject to the
following:
(A) No deferral will result in less than ten percent (10%) of the
Guaranteed Long Term Account portion of the Contractholder's
Account being transferred, distributed or disbursed in any one
calendar year.
(B) During a Guaranteed Long Term Account Limitation deferral, any
amount deferred pursuant to the subsection will continue to
receive Credited Interest.
(C) Retirement, termination, death or disability distributions,
hardship withdrawals to the extent permitted by the Plan, and
distributions required by I.R.C. section 401(a)(9) payable from
the Guaranteed Long Term Account will be paid and not deferred.
Disbursements occuring as a result of the Plan's termination or
failure to meet the requirements of I.R.C. section 401(a) are
also unaffected by this provision.
(D) Participant-directed transfers, as described in Contract Section
3.1(E), will not be deferred so long as this Contract has not
discontinued pursuant to Section 5. Upon such discontinuance,
the provisions of the Discontinuance Transfer Limitation section
shall govern such transfers.
(E) This section shall not apply if the Contract discontinues
pursuant to Contract Section 5.
R1.9 DISCONTINUANCE TRANSFER LIMITATION. In the event this Contract
discontinues pursuant to Section 5, the provisions of the Appendix
attached hereto will apply.
<PAGE> 24
APPENDIX
DISCONTINUANCE TRANSFER LIMITATION
If the amount to be disbursed from the Contractholder's Guaranteed Long Term
Account together with all amounts previously disbursed or transferred for any
reason in the calendar year of dicontinuance from the pool of Guaranteed Long
Term Account assets to which this Contract belongs does not exceed ten percent
(10%) of the total assets in such pool on January 1 of the year of computation,
all amounts credited to the Contractholder's Guaranteed Long Term Account will
be disbursed as of the Discontinuance Disbursement Date, as defined in Contract
Section 5.3. If the amounts to be disbursed exceed said 10%, the following
limitations apply:
(A) An amount equal to the difference between said 10% and the amounts
previously disbursed or transferred from the pool of Guaranteed Long
Term Account assets to which this Contract belongs, or, if greater,
one-sixth (1/6) of the value of the Contractholder's Guaranteed Long
Term Account will be disbursed as of the Discontinuance Disbursement
Date, as defined in Contract Section 5.3.
(B) Amounts remaining credited to the Contractholder's Guaranteed Long Term
Account will be disbursed in five (5) installments as follows:
(1) The first installment being one-fifth (1/5) of the remaining value
of said Fund;
(2) The second installment being one-fourth (1/4) of the remaining
value of said Fund;
(3) The third installment being one-third (1/3) of the remaining value
of said Fund;
(4) The fourth installment being one-half (1/2) of the remaining value
of said Fund; and
(5) The fifth installment being the remainder of the value of said
Fund.
The first installment will be made as of the January 1 following the
Discontinuance Disbursement Date, as defined in Contract Section 5.3,
and each succeeding installment as of each January 1 thereafter.
(C) The Insurance Company will issue a written guarantee of the interest
rate to be credited to the unpaid balance of the Contractholder's
Guaranteed Long Term Account. That interest rate will be an annual rate
equal to the Credited Interest rate at date of discontinuance
applicable to the Guaranteed Long Term Account pool of which this
Contract is a member (hereinafter "Pool Rate") minus fifty percent
(50%) of the difference between the Credited Interest rate at date of
discontinuance for the Guaranteed Long Term Account pool established
for the calendar year of Discontinuance and the Pool Rate. In no event
will the interest rate credited be less than zero percent (0%) per
annum or greater than the Pool Rate.
(D) Retirement, termination, death or disability distributions, hardship
withdrawals to the extent permitted by the Plan, and distributions
required by I.R.C. section 401(a)(9) payable from the Guaranteed Long
Term Account will be paid in accordance with the terms of Contract
Section 4 and not deferred under this Section. Disbursements occurring
as a result of plan termination or the failure of the plan to meet the
requirements of I.R.C. section 401(a) also will be paid in accordance
with the terms of Contract Sections 5.4(B) and (C) and not deferred
under this Section.
(E) Notwithstanding the foregoing, the Insurance Company reserves the right
to disburse at any time in a single lump sum the remaining balance of
the Contractholder's Guaranteed Long Term Account and any remaining
balance in any separate account to which Participant-directed transfers
have been made pursuant to Section R1.9(G)(2).
1
<PAGE> 25
(F) This Contract belongs to the Guaranteed Long Term Account pool
established for all contracts containing this or a similar limitation
under which the initial contribution to be allocated to the
Contractholder's Account is received in the same calendar year.
(G) Notwithstanding the foregoing, if elected in writing by the
Contractholder, Participant-directed transfers as described in Contract
Section 3.1(E), which has been deferred pursuant to this Section R1.9,
may be made among the funding vehicles represented by a Rider(s)
attached to this Contract. Participants shall be allowed to make
Participant-directed transfers, as described in Contract Section 3.1(E),
subject to any restrictions in the Contractholder's plan, among these
funding vehicles. Subject to the further provisions of this Section
R1.9, these amounts shall be disbursed based on each Participant's pro
rata investment of the funds in these funding vehicles.
2
<PAGE> 26
SEPARATE ACCOUNT L1 RIDER
R19.1 SEPARATE ACCOUNT L1 is a pooled separate account maintained by the
Insurance Company for a portion of its assets. The only amounts which
may be allocated to Separate Account L1 are amounts contributed in
accordance with the terms of pension or profit sharing plans qualified
under section 401 of the Internal Revenue Code, as amended, governmental
plans as defined in section 414(d) of the Internal Revenue Code, as
amended, or eligible deferred compensation plans as defined in section
457 of the Internal Revenue Code, as amended. The assets of Separate
Account L1 are segregated from other assets of the Insurance Company and
are subject only to the claims of contracts participating in this
separate account.
Separate Account L1 is maintained and operated by the Insurance Company
in accordance with the following:
(A) INVESTMENTS. The assets of Separate Account L1 will be invested
primarily in units of other separate accounts maintained by the
Insurance Company or interests in other commingled investment
funds that invest primarily either in common stocks or other types
of equity investments or in debt types of investments. Generally,
80% of the assets of this Separate Account will be invested in
separate accounts or commingled investment funds that invest in
common stocks or other types of equity investments and 20% of the
Account's assets will be invested in separate accounts or
commingled investment funds that invest in debt types of
investments but such percentages may be changed in the Insurance
Company's sole judgment. Such assets may, however, be invested in
any investment which the Insurance Company deems to be permissible
under applicable law. The investment and reinvestment of such
assets shall be determined by the Insurance Company at its sole
discretion. Any income, gains or losses, realized or unrealized,
from the assets in Separate Account L1 shall be credited to or
charged against said account without regard to the other income,
gains or losses of the Insurance Company.
(B) EXPENSES CHARGED TO SEPARATE ACCOUNT L1. An investment management
charge determined by the Insurance Company will be charged daily
based upon the value of each Contract's share of Separate Account
L1. The maximum aggregate annual rate of investment management
charge is one percent (1%).
-1-
<PAGE> 27
(C) SEPARATE ACCOUNT L1 UNIT. Separate Account L1 is divided into
units of participation with each unit being referred to as a
Separate Account L1 Unit. When an amount is allocated or
transferred to Separate Account L1, the number of Separate Account
L1 Units is increased and when an amount is withdrawn from
Separate Account L1, the number of Separate Account L1 Units is
decreased. Such increase or decrease in the number of Separate
Account L1 Units is determined by dividing the amount allocated to
or withdrawn from Separate Account L1 by the then current Separate
Account L1 Unit Value.
(D) SEPARATE ACCOUNT L1 UNIT VALUE. A Separate Account L1 Unit Value
is determined by the Insurance Company on each Valuation Date and
is equal to the Market Value of Separate Account L1 divided by the
total number of Separate Account L1 Units on such date. The
Separate Account L1 Unit Value on any date is equal to the amount
so determined on the Valuation Date coinciding with or last
preceding such date.
(E) MARKET VALUE OF SEPARATE ACCOUNT L1. The Insurance Company will
determine the Market Value of Separate Account L1 for each
Valuation Date. The Market Value on any Valuation Date is based
upon the market value of the assets in Separate Account L1 at the
close of the Insurance Company's business on such Valuation Date,
as determined in accordance with generally recognized accounting
procedures.
R19.2 VALUATION. The value of the portion of a Participant's Account invested
in Separate Account L1 is an amount equal to the product of the number of
Accumulation L1 Units credited to such Account and the Accumulation L1
Unit Value for the Valuation Date.
(A) ACCUMULATION L1 UNITS. When an amount is allocated to the portion
of a Contractholder's Account invested in Separate Account L1, the
Contractholder's Account is credited with the number of
Accumulation L1 Units equal to the amount allocated divided by the
Accumulation L1 Unit Value as of the Valuation Date when such
amount is allocated to Separate Account L1.
When an amount is transferred, distributed or disbursed from the
portion of a Contractholder's Account invested in Separate Account
L1, the Contractholder's Account is debited by the number of
Accumulation L1 Units equal to the amount transferred, distributed
or disbursed divided by the Accumulation L1 Unit Value as of the
Valuation Date when such amount is transferred, distributed or
disbursed.
-2-
<PAGE> 28
(B) ACCUMULATION L1 UNIT VALUE. The Accumulation L1 Unit Value is
the Separate Account L1 Unit Value adjusted to reflect the
Contract's Asset Charge.
(C) VALUATION DATE. A Valuation Date will occur on each day that
the Insurance Company is open for business and there exists an
orderly financial market for investment transactions. All
transactions processed on a Valuation Date will be based on the
value of the Account's investment as of the close of the
financial market's business day.
R19.3 LIMITATIONS.
(A) Any transfer, distribution or disbursement from Separate Account
L1 may be delayed for a period of up to thirty (30) days if
there is a negative cash flow into Separate Account L1
considering all contracts with funds in Separate Account L1 on
the Valuation Date for such transfer, distribution or
disbursement.
(B) Transfers, distributions or disbursements from Separate Account
L1 may be deferred pursuant to Contract Section 4.5 if a
determination of the value of such transfer, distribution or
disbursement is not possible because the Securities and
Exchange Commission has suspended or otherwise restricted
trading of securities or another emergency situation outside
the control of the Insurance Company exists.
-3-
<PAGE> 29
R20.1 SEPARATE ACCOUNT L2 is a pooled separate account maintained by the
Insurance Company for a portion of its assets. The only amounts which
may be allocated to Separate Account L2 are amounts contributed in
accordance with the terms of pension or profit sharing plans qualified
under section 401 of the Internal Revenue Code, as amended, governmental
plans as defined in section 414(d) of the Internal Revenue COde, as
amended, or eligible deferred compensation plans as defined in section
457 of the Internal Revenue Code, as amended. The assets of Separate
Account L2 are segregated from other assets of the Insurance Company and
are subject only to the claims of contracts participating in this
separate account.
Separate Account L2 is maintained and operated by the Insurance Company
in accordance with the following:
(A) INVESTMENTS. The assets of Separate Account L2 will be
invested primarily in units of other separate accounts
maintained by the Insurance Company or interests in other
commingled investment funds that invest primarily either in
common stocks or other types of equity investments or in debt
types of investments. Generally, 70% of the assets of this
Separate Account will be invested in separate accounts or
commingled investment funds that invest in common stocks or
other types of equity investments and 30% of the Account's
assets will be invested in separate accounts or commingled
investment funds that invest in debt types of investments but
such percentages may be changed in the Insurance Company's sole
judgment. Such assets may, however, be invested in any
investment which the Insurance Company deems to be permissible
under applicable law. The investment and reinvestment of such
assets shall be determined by the Insurance Company at its sole
discretion. Any income, gains or losses, realized or
unrealized, from the assets in Separate Account L2 shall be
credited to or charged against said account without regard to
the other income, gains or losses of the Insurance Company.
(B) EXPENSES CHARGED TO SEPARATE ACCOUNT L2. An investment
management charge determined by the Insurance Company will be
charged daily based upon the value of each Contract's share of
Separate Account L2. The maximum aggregate annual rate of
investment management charge is one percent (1%).
-1-
<PAGE> 30
(C) SEPARATE ACCOUNT L2 UNIT. Separate Account L2 is divided into units
of participation with each unit being referred to as a Separate
Account L2 Unit. When an amount is allocated or transferred to
Separate Account L2, the number of Separate Account L2 Units is
increased and when an amount is withdrawn from Separate Account L2,
the number of Separate Account L2 Units is decreased. Such increase
or decrease in the number of Separate Account L2 Units is determined
by dividing the amount allocated to or withdrawn from Separate
Account L2 by the then current Separate Account L2 Unit Value.
(D) SEPARATE ACCOUNT L2 UNIT VALUE. A Separate Account L2 Unit Value is
determined by the Insurance Company on each Valuation Date and is
equal to the Market Value of Separate Account L2 divided by the
total number of Separate Account L2 Units on such date. The Separate
Account L2 Unit Value on any date is equal to the amount so
determined on the Valuation Date coinciding with or last preceding
such date.
(E) MARKET VALUE OF SEPARATE ACCOUNT L2. The Insurance Company will
determine the Market Value of Separate Account L2 for each Valuation
Date. The Market Value or any Valuation Date is based upon the
market value of the assets in Separate Account L2 at the close of
the Insurance Company's business on such Valuation Date, as
determined in accordance with generally recognized accounting
procedures.
R20.2 VALUATION. The value of the portion of a Participant's Account invested
in Separate Account L2 is an amount equal to the product of the number of
Accumulation L2 Units credited to such Account and the Accumulation L2
Unit Value for the Valuation Date.
(A) ACCUMULATION L2 UNITS. When an amount is allocated to the portion of
a Contractholder's Account invested in Separate Account L2, the
Contractholder's Account is credited with the number of Accumulation
L2 Units equal to the amount allocated divided by the Accumulation
L2 Unit Value as of the Valuation Date when such amount is allocated
to Separate Account L2.
When an amount is transferred, distributed or disbursed from the
portion of a Contractholder's Account invested in Separate Account
L2, the Contractholder's Account is debited by the number of
Accumulation L2 Units equal to the amount transferred, distributed
or disbursed divided by the Accumulation L2 Unit Value as of the
Valuation Date when such amount is transferred, distributed or
disbursed.
-2-
<PAGE> 31
(B) ACCUMULATION L2 UNIT VALUE. The Accumulation L2 Unit Value is
the Separate Account L2 Unit Value adjusted to reflect the
Contract's Asset Charge.
(C) VALUATION DATE. A Valuation Date will occur on each day that
the Insurance Company is open for business and there exists an
orderly financial market for investment transactions. All
transactions processed on a Valuation Date will be based on
the value of the Account's investments as of the close of the
financial market's business day.
R20.3 LIMITATIONS.
(A) Any transfer, distribution or disbursement from Separate
Account L2 may be delayed for a period of up to thirty (30)
days if there is a negative cash flow into Separate Account L2
considering all contracts with funds in Separate Account L2 on
the Valuation Date for such transfer, distribution or
disbursement.
(B) Transfers, distributions or disbursements from Separate Account
L2 may be deferred pursuant to Contract Section 4.5 if a
determination of the value of such transfer, distribution or
disbursement is not possible because the Securities and
Exchange Commission has suspended or otherwise restricted
trading of securities or another emergency situation outside
the control of the Insurance Company exists.
3
<PAGE> 32
SEPARATE ACCOUNT L3 RIDER
R21.1 SEPARATE ACCOUNT L3 is a pooled separate account maintained by the
Insurance Company for a portion of its assets. The only amounts which
may be allocated to Separate Account L3 are amounts contributed in
accordance with the terms of pension or profit sharing plans qualified
under section 401 of the Internal Revenue Code, as amended, governmental
plans as defined in section 414(d) of the Internal Revenue Code, as
amended, or eligible deferred compensation plans as defined in section
457 of the Internal Revenue Code, as amended. The assets of Separate
Account L3 are segregated from other assets of the Insurance Company and
are subject only to the claims of contracts participating in this
separate account.
Separate Account L3 is maintained and operated by the Insurance Company
in accordance with the following:
(A) INVESTMENTS. The assets of Separate Account L3 will be invested
primarily in units of other separate accounts maintained by the
Insurance Company or interests in other commingled investment
funds that invest primarily either in common stocks or other
types of equity investments or in debt types of investments.
Generally, 65% of the assets of this Separate Account will be
invested in separate accounts or commingled investment funds
that invest in common stocks or other types of equity
investments and 35% of the Account's assets will be invested in
separate accounts or commingled investment funds that invest in
debt types of investments but such percentages may be changed in
the Insurance Company's sole judgment. Such assets may, however,
be invested in any investment which the Insurance Company deems
to be permissible under applicable law. The investment and
reinvestment of such assets shall be determined by the Insurance
Company at its sole discretion. Any income, gains or losses,
realized or unrealized, from the assets in Separate Account L3
shall be credited to or charged against said account without
regard to the other income, gains or losses of the Insurance
Company.
(B) EXPENSES CHARGED TO SEPARATE ACCOUNT L3. An investment
management charge determined by the Insurance Company will be
charged daily based upon the value of each Contract's share of
Separate Account L3. The maximum aggregate annual rate of
investment management charge is one percent (1%).
-1-
<PAGE> 33
(C) SEPARATE ACCOUNT L3 UNIT. Separate Account L3 is divided into
units of participation with each unit being referred to as a
Separate Account L3 Unit. When an amount is allocated or
transferred to Separate Account L3, the number of Separate
Account L3 Units is increased and when an amount is withdrawn
from Separate Account L3, the number of Separate Account L3 Units
is decreased. Such increase or decrease in the number of Separate
Account L3 Units is determined by dividing the amount allocated
to or withdrawn from Separate Account L3 by the then current
Separate Account L3 Unit Value.
(D) SEPARATE ACCOUNT L3 UNIT VALUE. A Separate Account L3 Unit Value
is determine by the Insurance Company on each Valuation Date and
is equal to the Market Value of Separate Account L3 divided by
the total number of Separate Account L3 Units on such date. The
Separate Account L3 Unit Value on any date is equal to the amount
so determined on the Valuation date coinciding with or last
preceding such date.
(E) MARKET VALUE OR SEPARATE ACCOUNT L3. The Insurance Company will
determine the Market Value of Separate Account L3 for each
Valuation Date. The Market Value on any Valuation Date is based
upon the market value of the assets in Separate Account L3 at the
close of the Insurance Company's business on such Valuation Date,
as determined in accordance with generally recognized accounting
procedures.
R21.2 VALUATION. The value of the portion of a Participant's Account invested
in Separate Account L3 is an amount equal to the product of the
number of Accumulation L3 Units credited to such Account and the
Accumulation L3 Unit Value for the Valuation Date.
(A) ACCUMULATION L3 UNITS. When an amount is allocated to the portion
of a Contractholder's Account invested in Separate Account L3,
the Contractholder's Account is credited with the number of
Accumulation L3 Units equal to the amount allocated divided by
the Accumulation L3 Unit Value as of the Valuation Date when such
amount is allocated to Separate Account L3.
When an amount is transferred, distributed or disbursed from the
portion of a Contractholder's Account invested in Separate Account
L3, the Contractholder's Account is debited by the number of
Accumulation L3 Units equal to the amount transferred, distributed
or disbursed divided by the Accumulation L3 Unit Value as of the
Valuation date when such amount is transferred, distributed or
disbursed.
-2-
<PAGE> 34
(B) ACCUMULATION L3 UNIT VALUE. The Accumulation L3 Unit Value is the
Separate Account L3 Unit adjusted to reflect the Contract's Asset
Charge.
(C) VALUATION DATE. A Valuation Date will occur on each day that the
Insurance Company is open for business and there exists an orderly
financial market for investment transactions. All transactions processed
on a Valuation Date will be based on the value of the Account's
investments as of the close of the financial market's business day.
R21.3 LIMITATIONS.
(A) Any transfer, distribution or disbursement from Separate Account L3 may
be delayed for a period of up to thirty (30) days if there is a negative
cash flow into Separate Account L3 considering all contracts with funds
in Separate Account L3 on the Valuation Date for such transfer,
distribution or disbursement.
(B) Transfers, distributions or disbursements from Separate Account L3 may
be deferred pursuant to Contract Section 4.5 if a determination of the
value of such transfer, distribution or disbursement is not possible
because the Securities and Exchange Commission has suspended or
otherwise restricted trading of securities or another emergency
situation outside the control of the Insurance Company exists.
-3-
<PAGE> 35
SEPARATE ACCOUNT L4 RIDER
R22.1 SEPARATE ACCOUNT L4 is a pooled separate account maintained by the
Insurance Company for a portion of its assets. The only amounts which
may be allocated to Separate Account L4 are amounts contributed in
accordance with the terms of pension or profit sharing plans qualified
under section 401 of the Internal Revenue Code, as amended, governmental
plans as defined in section 414(d) of the Internal Revenue Code, as
amended, or eligible deferred compensation plans as defined in section
457 of the Internal Revenue Code, as amended. The assets of Separate
Account L4 are segregated from other assets of the Insurance Company and
are subject only to the claims of contracts participating in this
separate account.
Separate Account L4 is maintained and operated by the Insurance Company
in accordance with the following:
(A) INVESTMENTS. The assets of Separate Account L4 will be invested
primarily in units of other separate accounts maintained by the
Insurance Company or interests in other commingled investment
funds that invest primarily either in common stocks or other
types of equity investments or in debt types of investments.
Generally, 55% of the assets of this Separate Account will be
invested in separate accounts or commingled investment funds
that invest in common stocks or other types of equity
investments and 45% of the Account's assets will be invested in
separate accounts or commingled investment funds that invest in
debt types of investments but such percentages may be changed in
the Insurance Company's sole judgment. Such assets may, however,
be invested in any investment which the Insurance Company deems
to be permissible under applicable law. The investment and
reinvestment of such assets shall be determined by the Insurance
Company at its sole discretion. Any income, gains or losses,
realized or unrealized, from the assets in Separate Account L4
shall be credited to or charged against said account without
regard to the other income, gains or losses of the Insurance
Company.
(B) EXPENSES CHARGED TO SEPARATE ACCOUNT L4. An investment
management charge determined by the Insurance Company will be
charged daily based upon the value of each Contract's share of
Separate Account L4. The maximum aggregate annual rate of
investment management charge is one percent (1%).
-1-
<PAGE> 36
(C) SEPARATE ACCOUNT L4 UNIT. Separate Account L4 is divided into
units of participation with each unit being referred to as a
Separate Account L4 Unit. When an amount is allocated or
transferred to Separate Account L4, the number of Separate
Account L4 Units is increased and when an amount is withdrawn
from Separate Account L4, the number of Separate Account L4 Units
is decreased. Such increase or decrease in the number of Separate
Account L4 Units is determined by dividing the amount allocated
to or withdrawn from Separate Account L4 by the then current
Separate Account L4 Unit Value.
(D) SEPARATE ACCOUNT L4 UNIT VALUE. A Separate Account L4 Unit Value
is determined by the Insurance Company on each Valuation Date and
is equal to the Market Value of Separate Account L4 divided by
the total number of Separate Account L4 Units on such date. The
Separate Account L4 Unit Value on any date is equal to the amount
so determined on the Valuation date coinciding with or last
preceding such date.
(E) MARKET VALUE OR SEPARATE ACCOUNT L4. The Insurance Company will
determine the Market Value of Separate Account L4 for each
Valuation Date. The Market Value on any Valuation Date is based
upon the market value of the assets in Separate Account L4 at the
close of the Insurance Company's business on such Valuation Date,
as determined in accordance with generally recognized accounting
procedures.
R22.2 VALUATION. The value of the portion of a Participant's Account invested
in Separate Account L4 is an amount equal to the product of the
number of Accumulation L4 Units credited to such Account and the
Accumulation L4 Unit Value for the Valuation Date.
(A) ACCUMULATION L4 UNITS. When an amount is allocated to the portion
of a Contractholder's Account invested in Separate Account L4,
the Contractholder's Account is credited with the number of
Accumulation L4 Units equal to the amount allocated divided by
the Accumulation L4 Unit Value as of the Valuation Date when such
amount is allocated to Separate Account L4.
When an amount is transferred, distributed or disbursed from the
portion of a Contractholder's Account invested in Separate Account
L4, the Contractholder's Account is debited by the number of
Accumulation L4 Units equal to the amount transferred, distributed
or disbursed divided by the Accumulation L4 Unit Value as of the
Valuation date when such amount is transferred, distributed or
disbursed.
-2-
<PAGE> 37
(B) ACCUMULATION L4 UNIT VALUE. The Accumulation L4 Unit Value is the
Separate Account L4 Unit Value adjusted to reflect the Contract's Asset
Charge.
(C) VALUATION DATE. A Valuation Date will occur on each day that the
Insurance Company is open for business and there exists an orderly
financial market for investment transactions. All transactions processed
on a Valuation Date will be based on the value of the Account's
investments as of the close of the financial market's business day.
R22.3 LIMITATIONS
(A) Any transfer, distribution or disbursement from Separate Account L4 may
be delayed for a period of up to thirty (30) days if there is a negative
cash flow into Separate Account L4 considering all contracts with funds
in Separate Account L4 on the Valuation Date for such transfer,
distribution or disbursement.
(B) Transfers, distributions or disbursements from Separate Account L4 may
be deferred pursuant to Contract Section 4.5 if a determination of the
value of such transfer, distribution or disbursement is not possible
because the Securities and Exchange Commission has suspended or
otherwise restricted trading of securities or another emergency
situation outside the control of the Insurance Company exists.
-3-
<PAGE> 38
SEPARATE ACCOUNT L5 RIDER
R23.1 SEPARATE ACCOUNT L5 is a pooled separate account maintained by the
Insurance Company for a portion of its assets. The only amounts which
may be allocated to Separate Account L5 are amounts contributed in
accordance with the terms of pension or profit sharing plans qualified
under section 401 of the Internal Revenue Code, as amended, governmental
plans as defined in section 414(d) of the Internal Revenue Code, as
amended, or eligible deferred compensation plans as defined in section
457 of the Internal Revenue Code, as amended. The assets of Separate
Account L5 are segregated from other assets of the Insurance Company and
are subject only to the claims of contracts participating in this
separate account.
Separate Account L5 is maintained and operated by the Insurance Company
in accordance with the following:
(A) INVESTMENTS. The assets of Separate Account L5 will be
invested primarily in units of other separate accounts
maintained by the Insurance Company or interests in other
commingled investment funds that invest primarily either in
common stocks or other types of equity investments or in debt
types of investments. Generally, 35% of the assets of this
Separate Account will be invested in separate accounts or
commingled investment funds that invest in common stocks or
other types of equity investments and 65% of the Account's
assets will be invested in separate accounts or commingled
investment funds that invest in debt types of investments but
such percentages may be changed in the Insurance Company's sole
judgment. Such assets may, however, be invested in any
investment which the Insurance Company deems to be permissible
under applicable law. The investment and reinvestment of such
assets shall be determined by the Insurance Company at its sole
discretion. Any income, gains or losses, realized or
unrealized, from the assets in Separate Account L5 shall be
credited to or charged against said account without regard to
the other income, gains or losses of the Insurance Company.
(B) EXPENSES CHARGED TO SEPARATE ACCOUNT L5. An investment
management charge determined by the Insurance Company will be
charged daily based upon the value of each Contract's share of
Separate Account L5. The maximum aggregate annual rate of
investment management charge is one percent (1%).
-1-
<PAGE> 39
(C) SEPARATE ACCOUNT L5 UNIT. Separate Account L5 is divided into
units of participation with each unit being referred to as a
Separate Account L5 Unit. When an amount is allocated or
transferred to Separate Account L5, the number of Separate
Account L5 Units is increased and when an amount is withdrawn
from Separate Account L5, the number of Separate Account L5
Units is decreased. Such increase or decrease in the number of
Separate Account L5 Units is determined by dividing the amount
allocated to or withdrawn from Separate Account L5 by the then
current Separate Account L5 Unit Value.
(D) SEPARATE ACCOUNT L5 UNIT VALUE. A Separate Account L5 Unit
Value is determined by the Insurance Company on each Valuation
Date and is equal to the Market Value of Separate Account L5
divided by the total number of Separate Account L5 Units on such
date. The Separate Account L5 Unit Value on any date is equal to
the amount so determined on the Valuation Date coinciding with
or last preceding such date.
(E) MARKET VALUE OF SEPARATE ACCOUNT L5. The Insurance Company will
determine the Market Value of Separate Account L5 for each
Valuation Date. The Market Value on any Valuation Date is based
upon the market value of the assets in Separate Account L5 at
the close of the Insurance Company's business on such Valuation
Date, as determined in accordance with generally recognized
accounting procedures.
R23.2 VALUATION. The value of the portion of a Participant's Account invested
in Separate Account L5 is an amount equal to the product of the number
of Accumulation L5 Units credited to such Account and the Accumulation
L5 Unit Value for the Valuation Date.
(A) ACCUMULATION L5 UNITS. When an amount is allocated to the
portion of a Contractholder's Account invested in Separate
Account L5, the Contractholder's Account is credited with the
number of Accumulation L5 Units equal to the amount allocated
divided by the Accumulation L5 Unit Value as of the Valuation
Date when such amount is allocated to Separate Account L5.
When an amount is transferred, distributed or disbursed from
the portion of a Contractholder's Account invested in Separate
Account L5, the Contractholder's Account is debited by the
number of Accumulation L5 Units equal to the amount
transferred, distributed or disbursed divided by the
Accumulation L5 Unit Value as of the Valuation Date when such
amount is transferred, distributed or disbursed.
-2-
<PAGE> 40
(B) ACCUMULATION L5 UNIT VALUE. The Accumulation L5 Unit Value is
the Separate Account L5 Unit Value adjusted to reflect the
Contract's Asset Charge.
(C) VALUATION DATE. A Valuation Date will occur on each day that
the Insurance Company is open for business and there exists an
orderly financial market for investment transactions. All
transactions processed on a Valuation Date will be based on the
value of the Account's investments as of the close of the
financial market's business day.
R23.3 LIMITATIONS.
(A) Any transfer, distribution or disbursement from Separate Account
L5 may be delayed for a period of up to thirty (30) days if
there is a negative cash flow into Separate Account L5
considering all contracts with funds in Separate Account L5 on
the Valuation Date for such transfer, distribution or
disbursement.
(B) Transfers, distributions or disbursements from Separate Account
L5 may be deferred pursuant to Contract Section 4.5 if a
determination of the value of such transfer, distribution or
disbursement is not possible because the Securities and
Exchange Commission has suspended or otherwise restricted
trading of securities or another emergency situation outside
the control of the Insurance Company exists.
(C) The Insurance Company, in its sole discretion, may decline to
accept amounts for allocation to Separate Account L5.
-3-
<PAGE> 41
SEPARATE ACCOUNT 55 RIDER
R7.1 SEPARATE ACCOUNT 55 (the CIGNA Separate Account)--is a pooled separate
account maintained by the insurance Company for a portion of its assets.
The only amounts which may be allocated to Separate Account 55 are
amounts contributed in accordance with the terms of pension or profit
sharing plans qualified under section 401 of the Internal Revenue Code,
as amended, governmental plans as defined in section 414(d) of the
Internal Revenue Code, as amended, or eligible deferred compensation
plans as defined in section 457 of the Internal Revenue Code, as
amended. The assets of Separate Account 55 are segregated from other
assets of the Insurance Company and are subject only to the claims of
contracts participating in this separate account.
Separate Account 55 is maintained and operated by the Insurance Company
in accordance with the following:
(A) INVESTMENTS. The assets of Separate Account 55 will be invested
in shares of underlying mutual funds sponsored and advised by
investment companies not related to the Insurance Company. In
addition, from time to time, the Insurance Company may invest
such assets in short-term money market instruments, cash or
cash equivalents. Any income, gains or losses, realized or
unrealized, from the assets in Separate Account 55 shall be
credited to or charged against said account without regard to
the other income, gains or losses of the Insurance Company.
(B) EXPENSES CHARGED TO SEPARATE ACCOUNT 55. Separate Account 55
may be charged with (1) an investment management charge which
shall not exceed a maximum aggregate annual rate of one percent
(1%), (2) brokerage commissions, transfer taxes and other
direct charges arising from the purchase or sale of investments
or futures instruments thereunder, (3) other taxes, charges or
expenses directly attributable to the operations of, or the
assets held in, Separate Account 55, and (4) any expenses
(including reasonable fees and expenses for the time spent by
officers or employees of the Insurance Company) which are
incurred in the course of litigation, representation on any
creditors' committees, or any other action which the Insurance
Company determines is reasonably necessary or required to
preserve or enhance the value of the assets of Separate Account
55. The investment management charge determined by the
Insurance Company will be charged daily based upon the value of
each Contract's share of Separate Account 55.
<PAGE> 42
(C) SEPARATE ACCOUNT 55 UNIT. Separate Account 55 is divided into
units of participation with each unit being referred to as a
Separate Account 55 Unit. When an amount is allocated or
transferred to Separate Account 55, the number of Separate
Account 55 Units is increased and when an amount is withdrawn
from Separate Account 55, the number of Separate Account 55 Units
is decreased. Such increase or decrease in the number of Separate
Account 55 Units is determined by dividing the amount allocated
to or withdrawn from Separate Account 55 by the then current
Separate Account 55 Unit Value.
(D) SEPARATE ACCOUNT 55 UNIT VALUE. A Separate Account 55 Unit Value
is determine by the Insurance Company on each Valuation Date and
is equal to the Market Value of Separate Account 55 divided by
the total number of Separate Account 55 Units on such date. The
Separate Account 55 Unit Value on any date is equal to the amount
so determined on the Valuation date coinciding with or last
preceding such date.
(E) MARKET VALUE OR SEPARATE ACCOUNT 55. The Insurance Company will
determined the Market Value of Separate Account 55 for each
Valuation Date. The Market Value on any Valuation Date is based
upon the market value of the assets in Separate Account 55 at the
close of the Insurance Company's business on such Valuation Date,
as determined in accordance with generally recognized accounting
procedures.
R7.2 VALUATION. The value of the portion of a Participant's Account invested
in Separate Account 55 is an amount equal to the product of the
number of Accumulation 55 Units credited to such Account and the
Accumulation 55 Unit Value for the Valuation Date.
(A) ACCUMULATION 55 UNITS. When an amount is allocated to the portion
of a Contractholder's Account invested in Separate Account 55,
the Contractholder's Account is credited with the number of
Accumulation 55 Units equal to the amount allocated divided by
the Accumulation 55 Unit Value as of the Valuation Date when such
amount is allocated to Separate Account 55.
When an amount is transferred, distributed or disbursed from the
portion of a Contractholder's Account invested in Separate Account
55, the Contractholder's Account is debited by the number of
Accumulation 55 Units equal to the amount transferred, distributed
or disbursed divided by the Accumulation 55 Unit Value as of the
Valuation date when such amount is transferred, distributed or
disbursed.
<PAGE> 43
(B) ACCUMULATION 55 UNIT VALUE. The Accumulation 55 Unit Value is
the Separate Account 55 Unit Value adjusted to reflect the
contract's asset charge, if applicable.
(C) VALUATION DATE. A Valuation Date will occur on each day that the
Insurance Company is open for business and there exists an
orderly financial market for investment transactions. All
transactions processed on a Valuation Date will be based on the
value of the Account's investments as of the close of the
financial market's business day.
R7.3 LIMITATIONS.
(A) Any transfer, distribution or disbursement from Separate Account
55 may be delayed for a period of up to thirty (30) days if there
is a negative cash flow into Separate Account 55 considering all
contracts with funds in Separate Account 55 on the Valuation Date
for such distribution or disbursement.
(B) Transfers, distributions or disbursements from Separate Account
55 may be deferred pursuant to Contract Section 4.5 if a
determination of the value of such distribution or disbursement
is not possible because the Securities and Exchange Commission
has suspended or otherwise restricted trading of securities or
another emergency situation outside the control of the Insurance
Company exists.
R7.4 DISCONTINUANCE OF SEPARATE ACCOUNT 55. Separate Account 55 may be
discontinued if the underlying mutual fund is no longer offered by the
investment company, if the investment company becomes insolvent or files
for voluntary or involuntary bankruptcy, or if the Insurance Company
determines that Separate Account 55 is no longer commercially feasible
and notifies the Contractholder in writing that the Separate Account will
be discontinued.
As of the date Separate Account 55 is discontinued:
(A) No further contributions to Separate Account 55 will be accepted
by the Insurance Company and not further withdrawals or
transfers will be honored except as provided in (B) and (C)
below;
(B) The Insurance Company will determine an amount equal to the
expenses which are unpaid or due hereunder and withdraw such
amount from Separate Account 55;
(C) The remaining value of this Contract's share of Separate
Account 55 will be distributed in accordance with the
Contractholder's written instructions to be effective as of the
date of discontinuance.
<PAGE> 44
APPENDIX
CONNECTICUT GENERAL LIFE INSURANCE COMPANY
The mutual fund(s) made available by Connecticut General Life Insurance Company
under the Universal Separate Account 55 Rider are as follows:
<TABLE>
<CAPTION>
SEPARATE
ACCOUNT MUTUAL FUND MANAGEMENT COMPANY
<S> <C> <C>
SA-55A Fidelity Advisor Growth Opportunities Fund Fidelity Investments
SA-55F Warburg Pincus International Equity Fund Counsellors Securities, Inc.
SA-55G Warburg Pincus Emerging Growth Fund Counsellors Securities, Inc.
SA-55K INVESCO Total Return Fund INVESCO Funds Group, Inc.
SA-55S Warburg Pincus Growth & Income Fund Warburg Pincus Funds
SA-55X American Century - Twentieth Century Ultra Fund American Century
SA-55CX AIM Constellation Fund AIM Management Group, Inc.
SA-55EV Janus Worldwide Fund Janus
SA-55FU PBHG Growth Fund PBHG Funds, Inc.
SA-55GT Templeton Growth Fund, Inc. Templeton Funds, Inc.
SA-55HS Templeton Foreign Fund Templeton Funds, Inc.
SA-55JR Founders Growth Fund Founders Asset Management, Inc.
SA-55KQ Founders Balanced Fund Founders Asset Management, Inc.
SA-55MN Neuberger & Berman Guardian Trust Neuberger & Berman Management, Inc.
SA-55QJ INVESCO Dynamics Fund, Inc. INVESCO Funds Group, Inc.
</TABLE>
Additional information regarding these fund(s) is available upon request.
<PAGE> 45
SEPARATE ACCOUNT B RIDER
R4.1 SEPARATE ACCOUNT B (the Stock Market Index Separate Account) is a
pooled separate account maintained by the Insurance Company for a
portion of its assets. The only amounts which may be allocated to
Separate Account B are amounts contributed in accordance with the terms
of pension or profit sharing plans qualified under section 401 of the
Internal Revenue Code, as amended or governmental plans as defined in
section 414(d) of the Internal Revenue Code, as amended. The assets of
Separate Account B are segregated from other assets of the Insurance
Company, and are subject only to the claims of contracts participating
in this separate account.
Separate Account B is maintained and operated by the Insurance Company
in accordance with the following:
(A) INVESTMENTS. The assets of Separate Account B are invested
primarily in common stocks representing the Standard and Poor's
Composite Stock Index (S&P500 Index) and S&P500 Index futures
instruments. The investment or reinvestment of such assets will
be made by the Insurance Company in its discretion to conform
the composition of Separate Account B to that of the S&P500
Index. The assets of Separate Account B will not be invested in
any security of CIGNA Corporation, its affiliates and
subsidiaries. In addition, from time to time, the Insurance
Company may invest such assets in short term money market
instruments, cash or cash equivalents. The Insurance Company
makes no guarantee that Separate Account B's total return will
match the S&P500 Index total return as to any time period,
participating retirement fund or individual participant. Total
return means the sum of the S&P500 Index's appreciation or
depreciation, plus cash dividends, before deduction of
expenses.
(B) EXPENSES CHARGED TO SEPARATE ACCOUNT B. Separate Account B may
be charged with (1) brokerage commissions, transfer taxes and
other direct charges arising from the purchase or sale of
investments or futures instruments thereunder, (2) other taxes
or charges directly attributable to the operation of, or the
assets held in, Separate Account B, and (3) any expenses
(including reasonable fees and expenses for the time spent by
officers or employees of the Insurance Company) which are
incurred in the course of litigation, representation on any
creditors' committees, or any other action which the Insurance
Company determines is reasonably necessary or required to
preserve or enhance the value of the assets of Separate Account
B. In addition, an investment management charge determined by
the Insurance Company will be charged monthly based upon the
value of each Contract's share of Separate Account B.
The maximum aggregate annual rate of investment management
charges is one percent (1%).
<PAGE> 46
(C) SEPARATE ACCOUNT B UNIT. Separate Account B is divided into
units of participation with each unit being referred to as a
Separate Account B Unit. When an amount is allocated or
transferred to Separate Account B, the number of Separate
Account B Units is increased and when an amount is withdrawn
from Separate Account B, the number of Separate Account B
Units is decreased. Such increase or decrease in the number of
Separate Account B Units is determined by dividing the amount
allocated to or withdrawn from Separate Account B by the then
current Separate Account B Unit Value.
(D) SEPARATE ACCOUNT B UNIT VALUE. A Separate Account B Unit
Value is determined by the Insurance Company on each Valuation
Date and is equal to the Market Value of Separate Account B
divided by the total number of Separate Account B Units on
such date. The Separate Account B Unit Value on any date is
equal to the amount so determined on the Valuation Date
coinciding with or last preceding such date.
(E) MARKET VALUE OF SEPARATE ACCOUNT B. The Insurance Company
will determine the Market Value of Separate Account B for each
Valuation Date. The Market Value on any Valuation Date is
based upon the market value of the assets in Separate Account
B at the close of the Insurance Company's business on the
preceding day, as determined in accordance with generally
recognized accounting procedures.
R4.2 VALUATION. The value of the portion of a Contractholder's Account
invested in Separate Account B is an amount equal to the product of the
number of Accumulation B Units credited to such Account and the
Accumulation B Unit Value for the Valuation Date.
(A) ACCUMULATION B UNITS. When an amount is allocated to the
portion of a Contractholder's Account invested in Separate
Account B, the Contractholder's Account is credited with the
number of Accumulation B Units equal to the amount allocated
divided by the Accumulation B Unit Value as of the Allocation
Date determined pursuant to Contract Section 3.2(C).
When an amount is transferred, distributed or disbursed from
the portion of a Contractholder's Account invested in Separate
Account B, the Contractholder's Account is debited by the
number of Accumulation B Units equal to the amount transferred,
distributed or disbursed divided by the Accumulation B Unit
Value as of the later of the date the Insurance Company
receives written instructions from the Contractholder regarding
the amounts to be transferred or distributed or the effective
date of such transfer or distribution; or in the case of a
disbursement, as of the Discontinuance Disbursement Date
determined pursuant to Contract Section 5.3.
<PAGE> 47
(B) ACCUMULATION B UNIT VALUE. The Accumulation B Unit Value is the
Separate Account B Unit Value adjusted to reflect the investment
management charge.
(C) VALUATION DATE. A Valuation Date will occur on each day that the
New York Stock Exchange is open for unrestricted trading and the
Insurance Company is open to transact its normal business.
R4.3 LIMITATIONS.
(A) Any transfer, distribution or disbursement from Separate
Account B may be delayed for a period of up to thirty (30) days
if there is a negative cash flow into Separate Account B
considering all contracts with funds in Separate Account B on
the Valuation Date for such transfer, distribution or
disbursement.
(B) Transfers, distributions or disbursements from Separate Account
B may be deferred pursuant to Contract Section 4.5 if a
determination of the value of such transfer, distribution or
disbursement is not possible because the Securities and Exchange
Commission has suspended or otherwise restricted trading of
securities or another emergency situation outside the control of
the Insurance Company exists.
<PAGE> 48
To Group Annuity Contractholders with Participants Residing in the State of
California:
A California law, Section 1067, requires all group annuity contracts delivered
in California to include a notice concerning the California Health Insurance
Guaranty Association. The purpose of this Association is to assure that a plan
funded through a group annuity contract will be protected, within limits, if an
insurer becomes financially unable to meet its obligations. However, the
Association may not provide coverage for your group annuity contract. The
enclosed California Guaranty Notice describes the Association and the coverage
it will provide. Please read the notice and place it with your group annuity
contract.
<PAGE> 49
CALIFORNIA HEALTH INSURANCE
GUARANTY ASSOCIATION ACT
NOTICE CONCERNING GENERAL PURPOSES
AND COVERAGE LIMITATIONS
Residents of California who purchase life, health insurance and annuities
should know that the insurance companies licensed in this state to write these
types of insurance are members of the California Life and Health Insurance
Guaranty Association ("CLHIGA"). The purpose of this Association is to assure
that policyholders will be protected, within limits, in the unlikely event that
a member insurer becomes financially unable to meet its obligations. If this
should happen, the Guaranty Association will assess its other member insurance
companies for the money to pay claims of insured persons who live in this state
and, in some cases, to keep coverage in force. The valuable extra protection
provided by these insurers through the Guaranty Association is not unlimited,
however, as noted in the box below.
The California Life and Health Insurance Guaranty Association may or may not
provide coverage for this policy. If coverage is provided, it may be subject to
substantial limitations or exclusions and require continued residency in
California. You should not rely on coverage by the California Health Insurance
Guaranty Association in selecting an insurance company or in selecting an
insurance policy.
Coverage is NOT provided for your policy or any portion of it that is not
guaranteed by the insurer or for which you have assumed the risk, such as a
variable contract sold by prospectus.
Insurance companies or their agents are required by law to give or send
you this notice. However, insurance companies and their agents are prohibited
by law from using the existence of the Guaranty Association to induce you to
purchase any kind of insurance policy.
Policyholders with additional questions should first contact their insurer
or agent or may then contact:
The California Life and Health Insurance Guaranty Association
Post Office Box 17319
Beverly Hills, CA 90209-3319
Consumer Service Division
California Dept. of Insurance
300 South Spring Street
Los Angeles, CA 90013
<PAGE> 50
The state law that provides for this safety-net coverage is called the
California Health Insurance Guaranty Association Act. Below is a brief summary
of this law's coverages, exclusions and limits. This summary does not cover all
provisions of the law; nor does it in any way change anyone's rights or
obligations under the Act or the rights or obligations of the Association.
COVERAGE
Generally, individuals will be protected by the California Life and Health
Insurance Guaranty Association if they live in this state and are insured under
a health insurance contract or an annuity, or if they are insured under a group
insurance contract, issued by a member insurer. The beneficiaries, payees or
assignees of the insured persons are protected as well, even if they live in
another state.
EXCLUSIONS FROM COVERAGE
However, persons holding such contracts are not protected by this Association
if:
- - they are eligible for protection under the laws of another state (this may
occur when the insolvent insurer was incorporated in another state whose
guaranty association protects insureds who live outside that state);
- - the insurer was not authorized to do business in this state when it issued
the policy or contract;
- - their policy was issued by a health care service plan (HMO), Blue Cross,
Blue Shield, a charitable organization, a fraternal benefit society, a
mandatory state pooling plan, a mutual assessment company, an insurance
exchange, or a grants and annuities society.
The association also does NOT provide coverage for:
- - any policy or portion of a policy which is not guaranteed by the insurer or
for which the individual has assumed the risk, such as a variable contract
sold by prospectus;
- - any policy of reinsurance (unless an assumption certificate was issued);
- - interest rate yields that exceed the average rate specified in the law;
- - any portion of a contract that provides dividends or experience rating
credits;
- - synthetic guaranteed interest contracts;
- - unallocated annuity contracts; that is, contracts which are not issued to
and owned by an individual and which guarantee rights to group
contractholders, not individuals;
- - employer and association plans, to the extent they are self-funded or
uninsured.
LIMITS ON AMOUNT OF COVERAGE
The Act also limits the amount the Association is obligated to pay as follows:
- - 80% of what the life insurance company would owe under a life policy or
annuity contract up to $100,000 in cash surrender values;
- - $100,000 in present value of annuities;
- - $250,000 in life insurance death benefits;
- - a maximum of $250,000 for any one insured life no matter how many policies
and contracts there were with the same company, even if the policies
provided different types of coverages.
PREMIUM SURCHARGE
Member insurers are required to recoup assessments paid to the Association by
way of a surcharge on premiums charged for health insurance policies to which
the Act applies.
<PAGE> 1
EXHIBIT 11.1
STATEMENT OF COMPUTATION OF PER SHARE EARNINGS (LOSS)
For the years ended June 30, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
---------- -----------
<S> <C> <C>
Net loss (8,380,000) $(4,190,000)
========== ===========
Weighted average outstanding common shares 4,160,000 3,999,005
Increase due to assumed issuance of shares
related to outstanding stock options issued
within one year of initial public offering 0 0
Increase due to assumed conversion to common
stock of redeemable convertible preferred
shares outstanding 0 0
---------- ------------
Adjusted weighted average outstanding common
shares and common share equivalents 4,160,000 3,999,005
========== ============
Net loss per common share and common
share equivalent (2.01) $ (1.05)
========== ============
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF DIGITAL TRANSMISSION FOR THE TWELVE MONTHS ENDED JUNE
30, 1998, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1998
<PERIOD-START> JUL-01-1997
<PERIOD-END> JUN-30-1998
<CASH> 91
<SECURITIES> 0
<RECEIVABLES> 3,016
<ALLOWANCES> 733
<INVENTORY> 2,469
<CURRENT-ASSETS> 4,948
<PP&E> 3,632
<DEPRECIATION> 2,746
<TOTAL-ASSETS> 7,208
<CURRENT-LIABILITIES> 10,776
<BONDS> 0
0
0
<COMMON> 42
<OTHER-SE> (3,610)
<TOTAL-LIABILITY-AND-EQUITY> 7,208
<SALES> 15,579
<TOTAL-REVENUES> 15,579
<CGS> 13,721
<TOTAL-COSTS> 13,721
<OTHER-EXPENSES> 9,385
<LOSS-PROVISION> 733
<INTEREST-EXPENSE> 576
<INCOME-PRETAX> (8,095)
<INCOME-TAX> 285
<INCOME-CONTINUING> (8,380)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (8,380)
<EPS-PRIMARY> (2.01)
<EPS-DILUTED> (2.01)
</TABLE>
