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AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 7, 1998.
REGISTRATION NO. 333-63141
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
AMENDMENT NO. 5
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
ABOVENET COMMUNICATIONS INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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DELAWARE 4813 77-0424796
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
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50 W. SAN FERNANDO STREET, SUITE #1010
SAN JOSE, CALIFORNIA 95113
(408) 367-6666
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
SHERMAN TUAN
CHIEF EXECUTIVE OFFICER
50 W. SAN FERNANDO STREET, SUITE #1010
SAN JOSE, CALIFORNIA 95113
(408) 367-6666
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF AGENT FOR SERVICE)
COPIES TO:
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CARLA S. NEWELL, ESQ. JORGE A. DEL CALVO, ESQ.
BENNETT L. YEE, ESQ. BLAIR W. WHITE, ESQ.
ALLISON W. TAKAHASHI, ESQ. GABRIELLA A. LOMBARDI, ESQ.
GUNDERSON DETTMER STOUGH PILLSBURY MADISON & SUTRO LLP
VILLENEUVE FRANKLIN & HACHIGIAN, LLP 2550 HANOVER STREET
155 CONSTITUTION DRIVE PALO ALTO, CA 94035
MENLO PARK, CA 94025 (650) 233-4500
(650) 321-2400
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APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
As soon as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, as amended, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ] _________
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ] _________
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT THAT SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION,
ACTING PURSUANT TO SUCH SECTION 8(a), MAY DETERMINE.
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<PAGE> 2
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.
SUBJECT TO COMPLETION, DATED DECEMBER 7, 1998
4,000,000 SHARES
[LOGO]
COMMON STOCK
------------------------
All of the shares of Common Stock offered hereby are being sold by AboveNet
Communications Inc. ("AboveNet" or the "Company"). Prior to this offering, there
has been no public market for the Common Stock of the Company. It is currently
estimated that the initial public offering price will be between $9.00 and
$11.00 per share. See "Underwriting" for a discussion of the factors to be
considered in determining the initial public offering price. The Company has
applied for quotation of the Common Stock on the Nasdaq National Market under
the symbol "ABOV."
THE COMMON STOCK OFFERED HEREBY INVOLVES A HIGH DEGREE OF RISK.
SEE "RISK FACTORS" BEGINNING ON PAGE 6.
------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
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==================================================================================================================
PRICE TO UNDERWRITING PROCEEDS TO
PUBLIC DISCOUNT(1) COMPANY(2)
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Per Share.............................. $ $ $
Total(3)............................... $ $ $
==================================================================================================================
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(1) See "Underwriting" for information concerning indemnification of the
Underwriters and other information.
(2) Before deducting expenses payable by the Company, estimated at $1,200,000.
(3) The Company has granted to the Underwriters an option, exercisable within 30
days of the date hereof, to purchase up to 600,000 additional shares of
Common Stock at the Price to Public per share, less the Underwriting
Discount, for the purpose of covering over-allotments, if any. If the
Underwriters exercise such option in full, the total Price to Public,
Underwriting Discount and Proceeds to Company will be $ ,
$ and $ , respectively. See "Underwriting."
------------------------
The shares of Common Stock are offered severally by the Underwriters when,
as and if delivered to and accepted by them, subject to their right to withdraw,
cancel or reject orders in whole or in part and subject to certain other
conditions. It is expected that delivery of certificates representing the shares
will be made against payment on or about , 1998 at the offices of
CIBC Oppenheimer Corp., CIBC Oppenheimer Tower, World Financial Center, New
York, New York 10281.
------------------------
CIBC OPPENHEIMER VOLPE BROWN WHELAN & COMPANY
The date of this Prospectus is , 1998
<PAGE> 3
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK,
INCLUDING BY ENTERING STABILIZING BIDS, EFFECTING SYNDICATE COVERING
TRANSACTIONS OR IMPOSING PENALTY BIDS. FOR A DESCRIPTION OF THESE ACTIVITIES,
SEE "UNDERWRITING."
<PAGE> 4
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information, including "Risk Factors" and the Financial Statements and Notes
thereto, appearing elsewhere in this Prospectus. Except as otherwise indicated
herein, all information in this Prospectus (i) assumes the Underwriters'
over-allotment option is not exercised, (ii) gives effect to the 1-for-1.6
reverse stock split of the Common Stock and Preferred Stock effected in December
1998, (iii) assumes the exercise prior to the closing of this offering of
warrants to purchase 123,736 shares of Series B Preferred Stock and (iv) assumes
the conversion of all outstanding shares of Preferred Stock into Common Stock
immediately prior to the closing of this offering.
THE COMPANY
AboveNet is a leading provider of high performance, managed co-location and
Internet connectivity solutions for electronic commerce and other
mission-critical Internet operations. AboveNet has developed a network
architecture based upon two strategically located, fault-tolerant facilities
that combine content co-location services with direct ISP access to create
Internet Service Exchanges ("ISXs"). As of September 30, 1998, the Company had
171 public and private data exchange connections, known as peering arrangements,
including relationships with top-tier network providers. The Company's network
architecture and extensive peering relationships are designed to reduce the
number of network connections or "hops" for data travelling across the Internet.
Furthermore, the convergence of content providers and ISPs at AboveNet's ISXs
enables these ISPs to provide their users with "one hop" connectivity, through
AboveNet's local area network, to the co-located content site. As of September
30, 1998, the Company had 316 customers including a wide range of Internet
content providers, Web hosting companies and ISPs.
The Internet has experienced tremendous growth and is emerging as a global
medium for communications and commerce. Internet-based businesses and other
enterprises need non-stop, non-congested, fault-tolerant and scalable Internet
operations to allow them to perform mission-critical digital communication and
electronic commerce transactions globally over the Internet. However, many
businesses that are seeking to establish these sophisticated Internet operations
lack the resources and expertise to cost-effectively develop, maintain and
enhance the necessary facilities and network systems. As a result, many
enterprises are seeking outsourcing arrangements to enhance Web site reliability
and performance, provide continuous operation of their Internet solutions and
reduce related operating expenses. Forrester Research, Inc.(1) estimates that by
2002, approximately 40% of complex Web sites will be outsourced and that
Internet hosting revenues for complex sites will increase from approximately
$200 million in 1997 to approximately $8.0 billion by 2002.
AboveNet's solutions are designed to be highly scalable and flexible to
meet the needs of its customers as their Internet operations expand. AboveNet
charges its customers based on space and bandwidth utilization, providing
customers a flexible, cost-effective method to increase their Internet
operations. The Company's services are designed to enhance performance through
redundant and high speed network design and 24x7 monitoring, notification and
diagnosis. AboveNet's proprietary ASAP software monitors all of the Company's
direct and indirect network connections for latency and packet loss, allowing
its network engineers to enhance performance by dynamically rerouting traffic to
avoid congested points. The Company also provides its customers with
sophisticated monitoring, reporting and management tools that can be remotely
accessed by the customer to control its Internet operations. By providing a
means to reduce the number of "hops" in the transmission of data, the Company
believes that its network design can provide significant benefits to ISPs as
they seek to gain fast, reliable access to content.
The Company's objective is to become the leading global Internet Service
Exchange for business enterprises and ISPs that require high-bandwidth,
mission-critical Internet operations. To achieve this objective, the Company
intends to: (i) increase awareness of the AboveNet name on a global basis;
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(1) Forrester Research, Inc. estimates are based upon interviews with more
than 41,000 households as part of its "Technographics '98" survey. In addition,
the report stated that 81 ISPs were asked to provide detailed unit sales, prices
and projections for 1996 through 1998. The ISP data was extrapolated to provide
a total current market size and direction. Finally, 22 vendors of hosting
services and related organizations were contacted. There can be no assurances
that actual results will not differ materially from those estimated.
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(ii) expand its customer base through increased sales and marketing efforts;
(iii) expand its global ISX network by connecting centralized facilities in key
domestic and international locations; (iv) leverage its ISX model to increase
its customer base and generate recurring revenues; and (v) address the emerging
requirements of Internet technologies such as audio and video streaming and
voice over IP.
The Company's customers include CNET Download.com, Dacom America,
Electronic Arts Inc., Got.Net, Imagine Radio, IntelliChoice, Inc., iXL, Inc.,
Netscape Communications Corporation, RealNetworks, Inc. and The Web Zone, Inc.
The Company intends to expand its customer base by substantially expanding its
sales organization, as well as establishing and expanding relationships with
potential channel partners including hardware vendors, value added resellers,
system integrators and Web hosting companies, to leverage their sales
organizations. The Company also plans to invest in building the AboveNet brand
through an integrated marketing plan, including traditional and online
advertising in business and trade publications, trade show participation, direct
mail and public relations campaigns.
The Company was incorporated in California in March 1996 and reincorporated
in Delaware in November 1998. The Company's principal executive offices are
located at 50 W. San Fernando Street, Suite #1010, San Jose, California 95113,
and its telephone number is (408) 367-6666.
EtherValve is a registered trademark of the Company. Cabriolet and MRTG are
trademarks of the Company. The Company has applied for federal trademark
registration for the following names: AboveNet APS, ASAP, As-Ur-Here, Internet
Service Exchange and ISX. All other trademarks, servicemarks or tradenames
referred to in this Prospectus are the property of their respective owners.
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THE OFFERING
Common Stock offered by the Company....... 4,000,000 shares
Common Stock to be outstanding after the
Offering(1)............................... 11,817,680 shares
Use of Proceeds........................... For increased sales and marketing,
capital expenditures, potential
strategic investments and working
capital and general corporate
purposes. See "Use of Proceeds."
Proposed Nasdaq National Market symbol.... ABOV
SUMMARY FINANCIAL AND OPERATING DATA
(IN THOUSANDS, EXCEPT PER SHARE AND CUSTOMER DATA)
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PERIOD FROM THREE MONTHS ENDED
MARCH 8, 1996 YEAR ENDED JUNE 30, SEPTEMBER 30,
(INCEPTION) TO -------------------- ------------------
JUNE 30, 1996 1997 1998 1997 1998
---------------- -------- -------- ------- -------
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STATEMENT OF OPERATIONS DATA:
Revenues..................................... $ 79 $ 552 $ 3,436 $ 431 $ 1,793
Loss from operations......................... (78) (1,804) (5,327) (605) (3,324)
Net loss..................................... $ (78) $(1,803) $(5,425) $ (662) $(3,351)
====== ======= ======= ======= =======
Basic and diluted loss per share(2).......... $(0.62) $ (9.17) $(20.68) $ (3.14) $ (7.35)
====== ======= ======= ======= =======
Shares used in basic and diluted loss per
share(2)................................... 125 197 262 211 456
OTHER OPERATING DATA:
Capital expenditures(3)...................... $ 101 $ 850 $ 4,145 $ 171 $ 7,339
Number of customers at period end............ 10 110 278 146 316
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SEPTEMBER 30, 1998
------------------------------------------
PRO FORMA
ACTUAL PRO FORMA(4) AS ADJUSTED(5)
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BALANCE SHEET DATA:
Cash and equivalents........................................ $10,626 $10,873 $46,873
Working capital............................................. 7,114 7,361 43,361
Total assets................................................ 24,986 25,234 61,234
Long-term obligations, net of current portion............... 6,513 6,513 6,513
Total stockholders' equity.................................. 12,685 12,932 48,932
</TABLE>
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(1) Based on shares outstanding as of September 30, 1998. Excludes, as of
September 30, 1998, (i) 1,555,756 shares of Common Stock issuable upon
exercise of options outstanding under the Company's 1996 and 1997 Stock
Option Plans and non-plan options at a weighted average exercise price of
$3.33 per share and 316,858 shares of Common Stock reserved for issuance
prior to this offering under the 1997 Stock Option Plan, (ii) 57,343 shares
of Common Stock issuable upon exercise of outstanding warrants at a weighted
average exercise price of $5.65 per share, (iii) 12,500 shares of Common
Stock issuable upon exercise of outstanding warrants at an exercise price of
80% of the initial public offering price and (iv) an aggregate of 1,718,750
shares of Common Stock reserved for issuance after this offering under the
Company's 1998 Stock Incentive Plan and 1998 Employee Stock Purchase Plan.
From October 1, 1998 through December 4, 1998, the Company issued options to
purchase 287,740 shares of Common Stock and warrants to purchase 106,565
shares of Common Stock. See "Management -- Stock Incentive Plan" and
"-- Employee Stock Purchase Plan" and Note 6 of Notes to Financial
Statements.
(2) See Notes 1 and 7 of Notes to Financial Statements for the determination of
shares used in computing basic and diluted loss per share.
(3) Capital expenditures represent purchases of property and equipment,
including non-cash transactions such as the acquisition of equipment under
capital lease.
(4) Pro forma balances reflect (i) the exercise of warrants to acquire 123,736
shares of Series B Preferred Stock and (ii) the conversion of all
outstanding shares of Preferred Stock into Common Stock.
(5) Adjusted to reflect the sale of 4,000,000 shares of Common Stock by the
Company at the assumed initial public offering price of $10.00 per share
(after deducting underwriting discounts and commissions and estimated
offering expenses payable by the Company).
5
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RISK FACTORS
An investment in the shares of Common Stock offered hereby is speculative
in nature and involves a high degree of risk. In addition to the other
information contained in this Prospectus, the following factors should be
considered carefully in evaluating the Company and its business before
purchasing the shares of Common Stock offered hereby. This Prospectus contains
certain forward-looking statements based on current expectations that involve
risks and uncertainties. Any statements contained herein that are not statements
of historical fact may be deemed to be forward-looking statements. For example,
the words "believes," "anticipates," "plans," "expects," "intends" and similar
expressions are intended to identify forward-looking statements. The Company's
actual results and the timing of certain events may differ significantly from
the results discussed in the forward-looking statements. Factors that might
cause such a discrepancy include, but are not limited to, those discussed below
and elsewhere in this Prospectus.
Limited Operating History; History of Losses; Expected Continued
Losses. The Company was incorporated in March 1996 and has experienced operating
losses in each quarterly and annual period since inception. The Company
experienced net losses of $1.8 million, $5.4 million and $3.4 million in fiscal
years 1997 and 1998, and for the three months ended September 30, 1998,
respectively, and, as of September 30, 1998, had an accumulated deficit of
approximately $10.7 million. The Company began offering its co-location and
Internet connectivity services to content providers in July 1996, and introduced
its co-location and Internet connectivity services to ISPs in August 1997. The
Company began operating its second ISX facility in Vienna, Virginia in July
1998. The revenue and income potential of the Company's business and market is
unproven, and the Company's limited operating history makes an evaluation of the
Company and its prospects difficult. The Company and its prospects must be
considered in light of the risks, expenses and difficulties encountered by
companies in the new and rapidly evolving market for co-location and Internet
connectivity services. The Company expects to continue making significant
investments to (i) substantially increase its sales and marketing activities and
(ii) establish a second ISX facility in San Jose, California of approximately
110,000 square feet, including approximately 50,000 square feet of co-location
space. The Company believes that it will continue to experience net losses on a
quarterly and annual basis for the foreseeable future, and such losses are
expected to increase significantly from current levels. To achieve or sustain
profitability, among other things, the Company must substantially grow its
customer base, including maintaining existing customer relationships, expand
domestically and internationally, provide scalable, reliable and cost-effective
services, continue to grow its infrastructure to accommodate expanded and new
facilities, additional customers and increased bandwidth use of its network,
expand its channels of distribution, effectively establish its brand name,
retain and motivate qualified personnel and continue to respond to competitive
developments. Failure of the Company's services to achieve widespread market
acceptance would have a material adverse effect on the Company's business,
results of operations and financial condition. Although the Company has
experienced significant growth in revenues in recent periods, the Company does
not believe that this growth rate is necessarily indicative of future operating
results, and there can be no assurance that the Company will ever achieve
profitability on a quarterly or an annual basis or, if achieved, will sustain
profitability. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
Need to Grow and Retain Customer Base; Lengthy Sales Cycle. The Company's
success is substantially dependent on the continued growth of its customer base
and the retention of its customers. The Company's ability to attract new
customers will depend on a variety of factors, including the willingness of
businesses to outsource their mission-critical Internet operations, the
reliability and cost-effectiveness of the Company's services and the Company's
ability to effectively market such services. A majority of the Company's
customer contracts are cancelable on 30 days' notice. In the past, the Company
has lost customers to other service providers for various reasons, including as
a result of lower prices and other incentives offered by competitors and not
matched by the Company. Accordingly, there can be no assurance that the
Company's customers will maintain or renew their commitments to use the
Company's services. The Company intends to develop alternative distribution and
lead generation relationships with potential channel partners including hardware
providers, system integrators, value added resellers and Web hosting companies.
Any failure by the Company to develop these relationships could materially and
adversely impact the ability of the Company to generate increased revenues,
which would have a material adverse effect on the Company's business, results of
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operations and financial condition. In addition, the Company typically
experiences a lengthy sales cycle for its services, resulting, in part, from the
importance to customers of securing Internet connectivity for mission-critical
operations and the need to educate certain customers regarding the benefits of
co-location and Internet connectivity services. Changes in the rate of growth in
the Company's customer base, customer renewal rates and the sales cycle for the
Company's services, have caused, and are expected in the future to cause,
significant fluctuations in the Company's results of operations on a quarterly
and an annual basis. In addition, the Company intends to significantly increase
its sales and marketing expenditures. Due to the typically lengthy sales cycle
for the Company's services, such expenses will occur prior to customer
commitments for the Company's services. There can be no assurance that the
increase in the Company's sales and marketing efforts will result in increased
sales of the Company's services. See "-- Potential Fluctuations in Results of
Operations" and "Business -- Customers."
Potential Fluctuations in Results of Operations. The Company has
experienced significant fluctuations in its results of operations on a quarterly
and annual basis. The Company expects to continue to experience significant
fluctuations in its future quarterly and annual results of operations due to a
variety of factors, many of which are outside the Company's control, including:
demand for and market acceptance of the Company's services; capacity utilization
of its ISX facilities; fluctuations in data communications and
telecommunications costs; reliable continuity of service and network
availability; customer retention; the timing and success of marketing efforts by
the Company; the timing and magnitude of capital expenditures, including costs
relating to the expansion of operations; the timely expansion of existing
facilities and completion of new facilities; the ability to increase bandwidth
as necessary; fluctuations in bandwidth used by customers; the timing and
magnitude of expenditures for sales and marketing; introductions of new services
or enhancements by the Company and its competitors; the timing of customer
installations and related payments; the ability to maintain or increase peering
relationships; provisions for customer discounts and credits; the introduction
by third parties of new Internet services; increased competition in the
Company's markets; growth of Internet use and establishment of Internet
operations by mainstream enterprises; changes in the pricing policies of the
Company and its competitors; changes in regulatory laws and policies; economic
conditions specific to the Internet industry; and general economic factors. In
addition, a relatively large portion of the Company's expenses are fixed in the
short-term, particularly with respect to data communications and
telecommunications costs, depreciation, real estate, interest and personnel, and
therefore the Company's future results of operations will be particularly
sensitive to fluctuations in revenues. In addition, the Company expects to incur
compensation costs related to certain option grants and warrants, including a
significant charge in the quarter that this offering is consummated.
Furthermore, although the Company has not encountered significant difficulties
in collecting its accounts receivable in the past, many of the Company's
customers are in an emerging stage, and there can be no assurance that the
Company will be able to collect receivables on a timely basis. The Company also
expects that its sales may be affected by seasonality trends with decreased
revenues during the summer months. Due to all of the foregoing factors, the
Company believes that period-to-period comparisons of its results of operations
are not necessarily meaningful and should not be relied upon as indications of
future performance. Furthermore, as a result of the foregoing and other factors,
the Company's results of operations in future periods may fall below the
expectations of securities analysts and investors. In such event, the trading
price of the Company's Common Stock will likely be materially and adversely
affected. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Risks Associated with Recent and Planned Business Expansion. The Company
recently opened its second ISX facility in Vienna, Virginia. The Company is also
planning to develop a second ISX facility in San Jose, California of
approximately 110,000 square feet, including approximately 50,000 square feet of
co-location space. The new facility is targeted to open by the fall of 1999. The
Company intends to initially complete the build-out of approximately 13,000
square feet of co-location space and to complete the build-out of additional
co-location space incrementally over time based on customer demand and the
availability of additional financing. The Company intends to use a significant
portion of the net proceeds of this offering to construct the new San Jose ISX
facility. In addition, the Company expects that the build-out of incremental
co-location space at the new facility will require the Company to obtain
additional debt or equity financing. The Company will need to accomplish a
number of objectives in order to successfully complete the development of the
planned ISX facility, on a timely basis or at all, including obtaining necessary
permits and
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approvals, passing required inspections, and hiring necessary contractors,
builders, electricians, architects and designers. In addition, the development
of this new facility could place a significant strain on the Company's
management resources and could result in the diversion of management attention
from the day-to-day operation of the Company's business. The successful
development of the facility will require careful management of various risks
associated with significant construction projects, including construction delay,
cost estimation errors or overruns, equipment and material delays or shortages,
inability to obtain necessary permits on a timely basis and other factors, many
of which are beyond the Company's control. There can be no assurance with
respect to the cost, timing or extent of any expansion or that the Company will
be successful in expanding its operations, or developing the ISX facility
planned for San Jose, California, as well as any new ISX facilities that the
Company may want to establish in the future, on a timely basis, or at all. The
Company's inability to establish its planned facility or to effectively manage
its expansion would have a material adverse effect upon the Company's business,
results of operations and financial condition. Furthermore, the Vienna, Virginia
ISX facility and, if completed, the new San Jose ISX facility, will result in
substantial new fixed and operating expenses, including expenses associated with
hiring, training and managing new employees, purchasing new equipment,
implementing power and redundancy systems, implementing multiple data
communication and telecommunication connections, leasing additional real estate
and depreciation. In addition, the Company will need to continue to implement
and improve its operational and financial systems. If revenue levels do not
increase sufficiently to offset these new expenses, the Company's operating
results will be materially adversely impacted in future periods. There can be no
assurance that the Company will accurately anticipate the customer demand for
new facilities or that the Company will attract a sufficient number of
customers. See " -- Uncertain Need and Availability of Additional Funding" and
"Business -- Facilities."
The Company also intends to make strategic minority investments in joint
ventures and foreign companies that develop ISX facilities in Europe and Asia
and to license its trademarks and technology to such entities. If the Company
makes such investments, the Company will be dependent on these joint ventures
and foreign companies to establish and operate ISX facilities. The ability of
these joint ventures and foreign companies to successfully establish and operate
ISX facilities is subject to a number of risks over which the Company will have
little or no control, as a result of its anticipated minority ownership in such
entities. There can be no assurance that these entities will be able to obtain
the necessary data communications and telecommunications infrastructure in a
cost-effective manner or compete effectively in international markets. In
addition, there can be no assurance that any of these investments, if made, will
result in the establishment of ISX facilities, or that such investment
relationships will not be disrupted. Furthermore, to the extent that such
entities use the AboveNet brand name and do not provide the same level of
performance and service as the Company, their operations could have a material
adverse effect on the Company's reputation and brand equity. Furthermore,
certain foreign governments have enforced laws and regulations related to
content distributed over the Internet that are more restrictive than those
currently in place in the United States. There can be no assurance that one or
more of these factors will not have a material adverse effect on the Company's
global ISX strategy, business, results of operations and financial condition.
Intense Competition. The market served by the Company is intensely
competitive. There are few substantial barriers to entering the co-location
service business, and the Company expects that it will face additional
competition from existing competitors and new market entrants in the future. The
Company believes that participants in this market must grow rapidly and achieve
a significant presence in the market in order to compete effectively. There can
be no assurance that the Company will have the resources or expertise to compete
successfully in the future. In addition, many of the Company's current and
potential competitors have substantially greater financial, technical and
marketing resources, larger customer bases, longer operating histories, greater
name recognition and more established relationships in the industry than the
Company. As a result, certain of these competitors may be able to develop and
expand their network infrastructures and service offerings more quickly, adapt
to new or emerging technologies and changes in customer requirements more
quickly, take advantage of acquisitions and other opportunities more readily,
devote greater resources to the marketing and sale of their services and adopt
more aggressive pricing and incentive policies than can the Company. In an
effort to gain market share, certain of the Company's competitors have offered
co-location services similar to those of the Company at lower prices than those
of the Company or with incentives not
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matched by the Company, including free start-up and domain name registration,
periods of free service and low-priced Internet access. As a result of these
policies, the Company may encounter increasing pricing pressure which could
result in loss of customers and have a material adverse effect on its business,
results of operations and financial condition.
In addition, certain of the Company's competitors have entered and will
likely continue to enter into joint ventures, consortiums or consolidations to
provide additional services competitive with those provided by the Company. As a
result, such competitors may be able to provide customers with additional
benefits in connection with their co-location and network management solutions,
including reduced communications costs, which could reduce the overall costs of
their services relative to the Company's services. There can be no assurance
that the Company will be able to offset the effects of any such price
reductions. The Company believes that companies seeking co-location and Internet
connectivity providers for their mission-critical Internet operations may use
more than one company to provide this service. As a result, these customers
would be able to more easily shift the amount of service and bandwidth usage
from one provider to another. The Company may also face competition from its
suppliers. See "Business -- Competition."
Management of Growth; Dependence on Key Personnel. The Company has recently
experienced a period of rapid growth with respect to the expansion of its ISX
facilities and its customer base. The Company's ability to manage effectively
its recent growth and any future growth will require it to continue to expand
its operating and financial procedures and controls, to replace or upgrade its
operational, financial and management information systems and to attract, train,
motivate, manage and retain key employees. The Company is currently upgrading
its financial and management information systems. There can be no assurance that
the Company will be able to implement such new systems successfully or on a
timely basis. The Company also is dependent upon its ability to increase
substantially the size of its sales and marketing organization. The market for
highly qualified sales and marketing personnel is very competitive. There can be
no assurance that the Company will be successful in meeting its hiring goals or
that any new employees will be successful in expanding the Company's customer
base. The Company's growth has placed, and if it continues, will place, a
significant strain on the Company's financial, management, operational and other
resources. If the Company's management is unable to effectively manage any
further growth that may occur, the Company's business, results of operations and
financial condition would be materially adversely affected. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
The Company has recently hired many key employees and officers, including
its President and Chief Operating Officer, its Senior Vice President of Sales
and Marketing, its Vice President of International-Europe, its Vice President of
Sales, its Vice President of Construction and Real Estate and most recently, its
Chief Financial Officer. As a result, the Company's management team has worked
together for only a brief time. The Company's ability to effectively execute its
strategies will depend in part upon its ability to integrate these and future
managers into its operations. The Company also has plans to hire additional
executive management personnel, including a Vice President of Marketing. If the
Company's executives are unable to manage growth effectively, the Company's
business, results of operations and financial condition could be materially
adversely affected. The Company's success also depends in significant part upon
the continued services of its senior management and key technical and sales
personnel, including the Company's Chief Executive Officer, Sherman Tuan,
President and Chief Operating Officer, Warren J. Kaplan, Chief Technical
Officer, David Rand, and Senior Vice President of Sales and Marketing, David
Dembitz. The Company maintains a key man insurance policy in the amount of
approximately $1.1 million on the life of Mr. Tuan, but does not maintain such
insurance with respect to any other executive officers. Any officer or employee
of the Company can terminate his or her relationship with the Company at any
time. In addition, all options to purchase Common Stock held by Mr. Kaplan will
vest on the consummation of this offering. The loss of the services of one or
more of the Company's key employees or the Company's failure to attract
additional qualified personnel could have a material adverse effect on the
Company's business, results of operations and financial condition. See
"Business -- Employees" and "Management -- Employment Agreements."
Risk of System Failure. The Company's operations are dependent upon its
ability to prevent system interruption and protect its network infrastructure
and customers' equipment against damage from human error, fire, earthquakes,
floods, power loss, telecommunications failures, sabotage, intentional acts of
vandalism
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and similar events. The Company's existing and planned ISX facility in San Jose,
California is in an area that is subject to earthquakes and, as a result, is
subject to greater risk of system interruption. Despite precautions taken, and
planned to be taken, by the Company the occurrence of a natural disaster or
other unanticipated problems such as human interference or mistake, unannounced
or unexpected changes in transmission protocols or other technology, could
result in interruptions in the services provided by the Company or significant
damage to customer equipment. In addition, failure of any of the Company's data
communication and telecommunication providers, such as MCI WorldCom, Sprint,
Pacific Bell, Teleport Communications Group, a subsidiary of AT&T, and WinStar
Communications, Inc., to provide the data communication and/or telecommunication
capacity required by the Company, as a result of human error, a natural disaster
or other operational disruption, could result in interruptions in the Company's
services. Any damage to or failure of the systems of the Company or its service
providers could result in reductions in, or terminations of, services supplied
to the Company's customers, which could have a material adverse effect on the
Company's business, results of operations and financial condition. In addition,
the Company's reputation could be materially adversely affected. The Company may
be subject to legal claims by its customers for disruption of service or damage
to customer equipment. While the Company's customer contracts generally purport
to eliminate the Company's liability for consequential or punitive damages or
for damage to customer equipment not caused by the Company's gross negligence or
willful acts, there can be no assurance that the Company would not be held
liable for such damages. See "-- Year 2000 Risks" and "Business -- Network
Architecture."
Risks Associated with Emerging Market for Network Management Services;
Uncertainty of Acceptance of Services. The market for co-location and Internet
connectivity services has only recently begun to develop, is evolving rapidly
and likely will be characterized by an increasing number of market entrants.
There is significant uncertainty regarding whether this market ultimately will
prove to be viable or, if it becomes viable, that it will grow. The Company's
future growth, if any, will be dependent on the growth of the Internet as a
global communication and commerce medium, the growth of mission-critical
Internet operations, the willingness of enterprises to co-locate and outsource
Internet connectivity for their mission-critical Internet operations and the
Company's ability to successfully and cost-effectively market its services to a
sufficiently large number of customers. There can be no assurance that the
market for the Company's services will develop, that the Company's services will
be adopted or that businesses, organizations or consumers will significantly
increase use of the Internet for commerce and communication. If this market
fails to develop, or develops more slowly than expected, or if the Company's
services do not achieve widespread market acceptance, the Company's business,
results of operations and financial condition would be materially and adversely
affected. In addition, in order to be successful in this emerging market, the
Company must be able to differentiate itself from its competition through its
service offerings and brand name recognition. There can be no assurance that the
Company will be successful in differentiating itself or achieving widespread
market acceptance of its services, or that it will not experience difficulties
that could delay or prevent the successful development, introduction or
marketing of these services. In addition, there can be no assurance that the
Company's business model of establishing centralized ISX facilities will be
widely adopted over the model established by other outsource providers who have
developed and are continuing to develop numerous geographically disbursed
facilities. In addition, if the Company incurs increased costs or is unable, for
technical or other reasons, to develop and introduce new services or
enhancements of existing services in a timely manner, or if these or other new
services do not achieve widespread market acceptance, the Company's business,
results of operations and financial condition would be materially adversely
affected.
Risks Associated with Network Scalability. The Company must continue to
expand and adapt its network infrastructure as the number of users and the
amount of information they wish to transport increase and to meet changing
customer requirements. Due to the limited deployment of the Company's services
to date, the ability of the Company's network to connect and manage a
substantially larger number of customers at high transmission speeds is as yet
unknown, and the Company faces risks related to the network's ability to be
scaled up to significantly greater customer levels while maintaining a high
level of performance. To the extent customers' usage of bandwidth increases, the
Company will need to make additional investments in its infrastructure to
maintain adequate downstream data transmission speeds, the availability of which
may be limited or the cost of which may be significant. There can be no
assurance that additional network capacity will be available from third-party
suppliers when it is needed by the Company. As a result, there can be no
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assurance that the Company's network will be able to achieve or maintain a
sufficiently high data transmission capacity. The Company's failure to achieve
or maintain high data transmission capacity could significantly reduce consumer
demand for its services and have a material adverse effect on its business,
results of operations and financial condition. In addition, as the Company
upgrades its telecommunications infrastructure to increase bandwidth available
to its customers, it may encounter equipment or software incompatibility which
may cause delays in implementation. There can be no assurance that the Company
will be able to expand or adapt its telecommunications infrastructure to meet
additional demand or its customers' changing requirements, on a timely basis and
at a commercially reasonable cost, or at all. See "Business -- Network
Architecture"
Need to Maintain and Increase Peering Relationships. The Internet is
comprised of several network providers who operate their own networks and
interconnect their networks at various public and private peering points,
through "peering arrangements" with one another. The Company's establishment and
maintenance of peering relationships is necessary in order to effectively
exchange traffic with ISPs without having to pay the higher costs of transit
services and in order to maintain high network performance levels. These
arrangements are not subject to regulation and are subject to revision in terms,
conditions or costs over time. There is no assurance that ISPs will maintain
peering relationships with the Company. In addition, increasing requirements or
costs may be imposed on the Company in order to maintain peering relationships
with ISPs, particularly national ISPs. Failure to maintain peering relationships
would adversely affect the level of connectivity available to the Company's
customers or cause the Company to incur additional operating expenditures by
paying for transit, either of which could have a material adverse effect on the
Company's business, results of operations and financial condition. In addition,
if these network providers were to increase the pricing associated with
utilizing their networks, the Company may be required to identify alternative
methods through which it can distribute its customers' content. If the Company
were unable to access on a cost-effective basis alternative networks to
distribute its customers' content or pass through any additional costs of
utilizing these networks to its customers, the Company's business, results of
operations and financial condition would be materially adversely affected.
Dependence upon Third Party Suppliers. The Company's success will depend
upon third party network infrastructure providers, including the capacity leased
from its telecommunications network suppliers. In particular, the Company is
dependent on Sprint, MCI WorldCom and certain other data communication and
telecommunication providers for its backbone capacity and is therefore dependent
on such companies to maintain the operational integrity of its backbone. In
addition, any significant increase in data communication or telecommunication
costs could have a material adverse effect on the Company's business, results of
operations and financial condition. MCI WorldCom is a current competitor and the
Company's other data communications providers are potential competitors of the
Company. Furthermore, the Company relies on a number of public and private
peering interconnections to deliver its services. If the carriers that operate
the Internet exchange points were to discontinue their support of the peering
points and no alternative providers emerged, or such alternative providers
increased the cost of utilizing the Internet exchange points, the distribution
of content through the Internet exchange points, including content distributed
by the Company, would be significantly constrained. Furthermore, as traffic
through the Internet exchange points increases, if commensurate increases in
bandwidth are not added, the Company's ability to distribute content rapidly and
reliably through these networks will be materially adversely affected.
The Company relies on other companies to supply certain key components of
its network infrastructure, including networking equipment which, in the
quantities and quality demanded by the Company, are available only from limited
sources. Currently, the Company orders all of its routers from Cisco Systems,
Inc. Although the Company believes that it could procure alternative sources to
supply routers in the event routers from Cisco Systems, Inc. were unavailable,
the Company would need to train its personnel in the use of alternative routers,
which could cause delay or interruption in its services. See
"Business -- Network Architecture."
Risks Associated with Potential Future Acquisitions. The Company may in the
future pursue acquisitions of technologies or businesses. Future acquisitions by
the Company may result in the use of significant amounts of cash, potentially
dilutive issuances of equity securities, incurrence of debt, or amortization
expenses related to goodwill and other intangible assets, any of which could
materially adversely affect the
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Company's business, results of operations or financial condition. In addition,
acquisitions involve numerous risks, including difficulties in the assimilation
of the operations, technologies, products and personnel of the acquired company,
the diversion of management's attention from other business concerns, risks of
entering markets in which the Company has no or limited direct prior experience,
and the potential loss of key employees of the acquired company. In the event
that any such acquisitions occur, there can be no assurance that the Company's
business, results of operations and financial condition would not be materially
adversely affected.
Dependence on Growth of Internet Use and Internet Infrastructure
Development. The increased use of the Internet for retrieving, sharing and
transferring information among businesses, consumers, suppliers and partners has
only recently begun to develop, and the Company's success will depend in large
part on continued growth in the use of the Internet, which in turn will depend
on a variety of factors including security, reliability, cost, ease of access,
quality of service and necessary increases in bandwidth availability. The
adoption of the Internet for information retrieval and exchange, commerce and
communications, particularly by those enterprises that have historically relied
upon alternative means of commerce and communications, generally will require
the acceptance of a new medium of conducting business and exchanging
information. Demand for and market acceptance of the Internet are subject to a
high level of uncertainty and are dependent on a number of factors, including
growth in consumer access to and acceptance of new interactive technologies, the
development of technologies that facilitate interactive communication between
organizations and targeted audiences and increases in user bandwidth. If the
Internet as a commercial or business medium fails to develop or develops more
slowly than expected, the Company's business, results of operations and
financial condition could be materially adversely affected. The recent growth in
the use of the Internet has caused frequent periods of performance degradation,
requiring the upgrade of routers and switches, telecommunications links and
other components forming the infrastructure of the Internet by ISPs and other
organizations with links to the Internet. Any perceived degradation in the
performance of the Internet as a whole could undermine the benefits of the
Company's services. Potentially increased performance provided by the services
of the Company and others is ultimately limited by and reliant upon the speed
and reliability of the networks operated by third parties. Consequently, the
emergence and growth of the market for the Company's services is dependent on
improvements being made to the entire Internet infrastructure to alleviate
overloading and congestion.
Rapid Technological Change; Evolving Industry Standards. The Company's
future success will depend, in part, on its ability to offer services that
address the increasingly sophisticated and varied needs of its current and
prospective customers and to respond to technological advances and emerging
industry standards and practices on a timely and cost-effective basis.
Mission-critical Internet operations are complex and are characterized by
rapidly changing and unproven technology, evolving industry standards, changes
in customer needs, emerging competition and frequent new service introductions.
There can be no assurance that future advances in technology will be beneficial
to, or compatible with, the Company's business, that the Company will be able to
incorporate such advances on a cost-effective or timely basis into its business
or that such advances will not make the Company's services unnecessary or less
cost-effective than using the new technology. Moreover, technological advances
may have the effect of encouraging certain of the Company's current or future
customers to rely on in-house personnel and equipment to furnish the services
currently provided by the Company. In addition, keeping pace with technological
advances in the Company's industry may require substantial expenditures and lead
time. Although the Company currently intends to support emerging standards,
there can be no assurance that industry standards will be established or, that
if they become established, the Company will be able to conform to these new
standards in a timely fashion and maintain a competitive position in the market.
The failure of the Company to conform to prevailing standards, or the failure of
a common standard to emerge, could have a material adverse effect on the
Company's business, results of operations and financial condition. In addition,
there can be no assurance that products, services or technologies developed by
others will not render the Company's services uncompetitive, unnecessary or
obsolete.
Security Risks. Customer operations at the Company's facilities have in the
past experienced, and may in the future experience, delays or interruptions in
service as a result of the accidental or intentional actions of
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Internet users, current and former employees or others. Furthermore, such
inappropriate access to the network by third parties could also potentially
jeopardize the security of confidential information, such as credit card and
bank account numbers, stored in the computer systems of the Company and its
customers, which could result in liability to the Company and the loss of
existing customers or the deterrence of potential customers. Although the
Company implements security procedures and systems, such procedures and systems
have been circumvented in the past, and there can be no assurance that
unauthorized access, accidental or intentional actions and other disruptions
will not occur in the future. The Company was recently sued by a customer
alleging that the Company negligently allowed the customer's consultant access
to the customer's servers located at the Company's San Jose facility. The costs
required to minimize security problems could be prohibitively expensive and the
efforts to address such problems could result in interruptions, delays or
cessation of service to the Company's customers, which could have a material
adverse effect on the Company's business, results of operations and financial
condition. Concerns over the security of Internet transactions and the privacy
of users may also inhibit the growth of the Internet, especially as a means of
conducting commercial transactions. See "Business -- Network Architecture
and -- Legal Proceedings."
Government Regulations and Legal Uncertainties. There is currently only a
small body of laws and regulations directly applicable to access to or commerce
on the Internet. However, due to the increasing popularity and use of the
Internet, it is possible that a number of laws and regulations may be adopted at
the international, federal, state and local levels with respect to the Internet.
A number of laws and regulations have already been proposed or are currently
being considered by federal, state and foreign legislatures. The nature of any
new laws and regulations and the manner in which existing and new laws and
regulations may be interpreted and enforced cannot be fully determined. The
adoption of any future laws or regulations might decrease the growth of the
Internet, decrease demand for the services of the Company, impose taxes or other
costly technical requirements or otherwise increase the cost of doing business
or in some other manner have a material adverse effect on the Company or its
customers, each of which could have a material adverse effect on the Company's
business, results of operations and financial condition. In addition,
applicability to the Internet of existing laws governing issues such as property
ownership, copyrights and other intellectual property issues, taxation, libel,
obscenity and personal privacy is uncertain. In addition, as the Company's
services are available over the Internet in multiple states and foreign
countries, and as the Company facilitates sales by its customers to end users
located in such states and foreign countries, such jurisdictions may claim that
the Company is required to qualify to do business as a foreign corporation in
each such state or foreign country. Any such new legislation or regulation, or
the application of laws or regulations from jurisdictions whose laws may not
currently apply to the Company's business, could have a material adverse effect
on the Company's business, results of operations and financial condition.
Risks Associated with Information Disseminated through the Company's
Network. The law relating to the liability of online services companies and
Internet access providers for information carried on or disseminated through
their networks is currently unsettled. It is possible that claims could be made
against online services companies, co-location companies and Internet access
providers under both United States and foreign law for defamation, negligence,
copyright or trademark infringement, or other theories based on the nature and
content of the materials disseminated through their networks. The Company has in
the past received, and may in the future receive, letters from recipients of
information transmitted by the Company's customers objecting to the nature and
content of the materials disseminated through the Company's networks. Several
private lawsuits seeking to impose such liability upon online services companies
and Internet access providers are currently pending. In addition, legislation
has been proposed that imposes liability for or prohibits the transmission over
the Internet of certain types of information. The imposition upon the Company
and other Internet network providers of potential liability for information
carried on or disseminated through their systems could require the Company to
implement measures to reduce its exposure to such liability, which may require
the expenditure of substantial resources, or to discontinue certain service
offerings. The increased attention focused upon liability issues as a result of
these lawsuits and legislative proposals could impact the growth of Internet
use. While the Company carries general liability insurance, it may not be
adequate to compensate or may not cover the Company in the event the Company
becomes liable for information carried on or disseminated through its networks.
Any costs not covered by insurance incurred as a result of such liability or
asserted liability could have a material adverse effect on the Company's
business,
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results of operations and financial condition. In addition, there can be no
assurance that content distributed by certain of the Company's current or future
customers will not be regulated or banned, which could reduce the Company's
customer base. Certain businesses, organizations and individuals have in the
past sent unsolicited commercial e-mails from servers hosted at the Company's
facilities to massive numbers of people, typically to advertise products or
services. This practice, known as "spamming," can lead to complaints against
service providers that enable such activities, particularly where recipients
view the materials received as offensive. There can be no assurance certain ISPs
and other online services companies would not deny network access to the Company
if undesired content or spamming were to be transmitted from servers hosted by
the Company, which could have a material adverse effect on the Company's
business, results of operations and financial condition.
Limited Protection of Proprietary Technology; Risk of Infringement. The
Company relies on a combination of copyright, trademark, service mark and trade
secret laws and contractual restrictions to establish and protect certain
proprietary rights in its services. The Company has no patented technology that
would preclude or inhibit competitors from entering the Company's market. There
can be no assurance that the steps taken by the Company to protect its
intellectual property will prove sufficient to prevent misappropriation of the
Company's technology or to deter independent third-party development of similar
technologies. The laws of certain foreign countries may not protect the
Company's services or intellectual property rights to the same extent as do the
laws of the U.S. To date, the Company has not been notified that the Company
infringes the proprietary rights of third parties, but there can be no assurance
that third parties will not claim infringement by the Company with respect to
current or future products. Any such claim, whether meritorious or not, could be
time-consuming, result in costly litigation, cause service delays or require the
Company to enter into royalty or licensing agreements. Such royalty or licensing
agreements might not be available on terms acceptable to the Company or at all.
As a result, any such claim could have a material adverse effect upon the
Company's business, results of operations and financial condition.
Uncertain Need and Availability of Additional Funding. The Company expects
to incur significant expenditures as part of its planned expansion, including
increases in sales and marketing expenses and expenditures for new and expanded
co-location facilities. Although the Company believes that, following this
offering, its cash reserves and available borrowings will be adequate to fund
the Company's operations for at least the next 12 months, there can be no
assurance that such sources will be adequate or that additional funds will not
be required either during or after such 12 month period. In addition, any
incremental development of additional co-location space at the planned ISX
facility in San Jose, California will require additional debt or equity
financing. No assurance can be given that additional financing will be available
or that, if available, it will be available on terms favorable to the Company or
its stockholders. If additional funds are raised through the issuance of equity
securities, the percentage ownership of the then current stockholders of the
Company could be significantly diluted and such equity securities may have
rights, preferences or privileges senior to those of the holders of the
Company's Common Stock. If adequate funds are not available to satisfy either
short or long-term capital requirements, the Company may be required to limit
its operations and expansion plans significantly, sell assets, or seek to
refinance outstanding obligations, any of which could have a material adverse
effect on the Company's business, results of operations and financial condition.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
Year 2000 Risks. Many currently installed computer systems and software
products are coded to accept only two digit entries in the date code field.
These date code fields will need to distinguish 21st century dates from 20th
century dates. This could result in system failures or miscalculations causing
disruptions of operations including, among other things, a temporary inability
to process transactions, send invoices, or engage in similar normal business
activities. As a result, many companies' software and computer systems may need
to be upgraded or replaced in order to comply with such "Year 2000"
requirements. The Company is in the process of establishing procedures for
evaluating and managing the risks and costs associated with this problem and
believes that its computer systems on a stand-alone basis are currently Year
2000 compliant. There can be no assurance, however, that the Company's computer
systems are Year 2000 compliant. In addition, many of the Company's customers'
and suppliers' Internet operations may be impacted by Year 2000
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complications. The failure of the Company's customers or suppliers to ensure
that their systems are Year 2000 compliant could have a material adverse effect
on the Company's customers and suppliers resulting in decreased Internet usage
or the delay or inability to obtain necessary data communication and
telecommunication capacity, which in turn could have a material adverse effect
on the Company's business, results of operations and financial condition. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Substantial Influence by Principal Stockholders, Executive Officers and
Directors. Upon completion of this offering, the Company's executive officers,
directors and greater than 5% stockholders (and their affiliates) will, in the
aggregate, own approximately 44% of the Company's outstanding Common Stock. As a
result, such persons, acting together, will have the ability to substantially
influence all matters submitted to stockholders of the Company for approval
(including the election and removal of directors and any merger, consolidation
or sale of all or substantially all of the Company's assets) and to control the
management and affairs of the Company. Accordingly, such concentration of
ownership may have the effect of delaying, deferring or preventing a change in
control of the Company, impeding a merger, consolidation, takeover or other
business combination involving the Company or discouraging a potential acquirer
from making a tender offer or otherwise attempting to obtain control of the
Company, which in turn could have an adverse effect on the value of the Company.
The Company may reserve up to 7.5% of the shares offered hereby under a directed
share program for certain stockholders, suppliers, customers and others who have
a business relationship with the Company pursuant to which such persons would be
able to purchase shares from the Underwriters at the initial public offering
price. See "Principal Stockholders."
No Prior Trading Market for the Common Stock; Potential Volatility of Stock
Price. Prior to this offering, there has been no public market for the Common
Stock and there can be no assurance that an active trading market will develop
or be sustained after this offering. The initial public offering price will be
determined by negotiation among the Company and the representatives of the
Underwriters and may not be indicative of the price that will prevail in the
open market. See "Underwriting" for a discussion of the factors to be considered
in determining the initial public offering price.
The market price of the shares of Common Stock is likely to be highly
volatile and could be subject to wide fluctuations in response to factors such
as actual or anticipated variations in the Company's results of operations,
announcements of technological innovations, new services introduced by the
Company or its competitors, changes in financial estimates by security analysts,
conditions and trends in the Internet, general market conditions and other
factors. Furthermore, the stock markets, and in particular the Nasdaq National
Market, have experienced extreme price and volume fluctuations that have
particularly affected the market prices of equity securities of many technology
companies and that often have been unrelated or disproportionate to the
operating performance of such companies. The trading prices of many technology
companies' stocks are at or near historical highs and reflect price to earnings
ratios substantially above historical levels. There can be no assurance that
these trading prices and price to earnings ratios will be sustained. These broad
market factors may adversely affect the market price of the Company's Common
Stock. These market fluctuations, as well as general economic, political and
market conditions such as recessions, interest rate changes or international
currency fluctuations, may adversely affect the market price of the Common
Stock. In the past, following periods of volatility in the market price of a
company's securities, class action litigation has often been instituted against
such companies. Such litigation, if instituted, could result in substantial
costs and a diversion of management's attention and resources, which would have
a material adverse effect on the Company's business, results of operations and
financial condition.
Benefits of the Offering to Current Stockholders. This offering is expected
to create a public market for the Company's Common Stock which may result in a
substantial increase in the market value of the initial investments of certain
of the Company's management and existing stockholders. The existing stockholders
of the Company hold 7,817,680 shares of the Company's Common Stock. Based on an
assumed initial public offering price of $10.00 per share, the value of the
shares held by the existing stockholders following this offering will be
approximately $78.2 million, representing an aggregate increase of approximately
$56.7 million over the amount of consideration paid for such shares by the
existing stockholders. The Company's officers, directors and persons or entities
known by the Company to beneficially own 5% or more of the Company's outstanding
Common Stock will collectively beneficially own approximately 5,465,900 shares
of the Company's Common Stock upon consummation of the offering. Based upon an
assumed initial public offering price of $10.00 per share, the value of the
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beneficially owned shares held by these stockholders will be approximately $54.7
million. See "-- Immediate and Substantial Dilution" and "Principal
Stockholders."
Antitakeover Effects of Certain Charter Provisions, Bylaws and Delaware
Law. Certain provisions of the Company's Certificate of Incorporation and Bylaws
may have the effect of making it more difficult for a third party to acquire, or
of discouraging a third party from attempting to acquire, control of the
Company. Pursuant to the terms of the Company's Certificate of Incorporation
which will be effective upon the consummation of this offering, the Board of
Directors has the authority to issue up to 5,000,000 shares of Preferred Stock
and to determine the price, rights, preferences, privileges and restrictions,
including voting rights, of those shares without any further vote or action by
the Company's stockholders. The rights of the holders of Common Stock will be
subject to, and may be adversely affected by, the rights of the holders of any
Preferred Stock that may be issued in the future (including, but not limited to,
preferences of the Preferred Stock with respect to the payment of dividends and
upon liquidation, dissolution or winding up). The issuance of Preferred Stock,
while providing desirable flexibility in connection with possible acquisitions
and other corporate purposes, could have the effect of making it more difficult
for a third party to acquire a majority of the outstanding voting stock of the
Company. The Company has no present plans to issue shares of Preferred Stock. In
addition, certain provisions of the Company's Certificate of Incorporation
eliminate the right of stockholders to act by written consent without a meeting.
Furthermore, upon the closing of the offering, the Company will institute a
classified Board of Directors such that approximately only one-third of the
members of the Board of Directors are elected at each annual meeting of
stockholders. Classified Boards may have the effect of delaying, deferring or
discouraging changes in control of the Company. Further, certain provisions of
Delaware law could delay or make difficult a merger, tender offer or proxy
contest involving the Company. Section 203 of the General Corporation Law of the
State of Delaware, which is applicable to the Company, prohibits certain
business combinations with certain stockholders for a period of three years
after they acquire 15% or more of the outstanding voting stock of a corporation.
See "Description of Capital Stock -- Preferred Stock" and "-- Antitakeover
Effects of Provisions of Certain Charter Provisions, Bylaws and Delaware Law."
Shares Eligible for Future Sale. Sales of substantial amounts of the
Company's Common Stock (including shares issued upon the exercise of outstanding
options and warrants) in the public market after this offering could adversely
affect the market price of the Common Stock. Such sales also might make it more
difficult for the Company to sell equity-related securities in the future at a
time and price that the Company deems appropriate. In addition to the 4,000,000
shares of Common Stock offered hereby (assuming no exercise of the Underwriters'
over-allotment option), as of the date of this Prospectus, there will be
7,817,680 shares of Common Stock outstanding, all of which are restricted shares
("Restricted Shares") under the Securities Act of 1933, as amended (the
"Securities Act"). As of such date, approximately 62,500 Restricted Shares will
be eligible for sale in the public market and 43,682 Restricted Shares will be
eligible for sale 90 days after such date. Following the expiration of 180-day
lock-up agreements with the representatives of the Underwriters or the Company,
5,187,345 Restricted Shares will be available for sale in the public market and
the remaining Restricted Shares will be eligible for sale from time to time
thereafter upon expiration of applicable holding periods under Rule 144 under
the Securities Act. In addition, as of September 30, 1998, there were
outstanding 1,555,756 options and 69,843 warrants to purchase Common Stock. The
Company has agreed with the Underwriters that the Company will not release any
shares subject to lock-up agreements with the Company without the consent of
CIBC Oppenheimer Corp. CIBC Oppenheimer Corp. may, in its sole discretion and at
any time without notice, release all or any portion of the securities subject to
lock-up agreements. In addition, the holders of approximately 7,359,131
Restricted Shares are entitled to certain rights with respect to registration of
such shares for sale in the public market. If such holders sell in the public
market, such sales could have a material adverse effect on the market price of
the Company's Common Stock. See "Shares Eligible for Future Sale."
Immediate and Substantial Dilution. The initial public offering price is
substantially higher than the book value per share of the outstanding Common
Stock. As a result, investors purchasing Common Stock in this offering will
incur immediate and substantial dilution of $5.86 per share. In addition, the
Company has issued options and warrants to acquire Common Stock at prices
significantly below the initial public offering price. To the extent such
outstanding options and warrants are exercised, there will be further dilution.
See "Dilution" and "Shares Eligible for Future Sale."
16
<PAGE> 18
USE OF PROCEEDS
The net proceeds to the Company from the sale of the 4,000,000 shares of
Common Stock offered hereby will be approximately $36,000,000 (approximately
$41,580,000 if the Underwriter's over-allotment option is exercised in full)
assuming an initial public offering price of $10.00 per share and after
deducting underwriting discounts and commissions and estimated offering expenses
payable by the Company.
The Company currently expects to use approximately $10 to $15 million of
the net proceeds of this offering for increased sales and marketing activities
and approximately $15 to $20 million of such net proceeds for capital
expenditures associated with the development of the Company's planned second
Northern California ISX facility. The Company may use a portion of the net
proceeds of this offering for acquisitions of, or strategic investments in,
complementary businesses and technologies, including potential strategic
investments in companies developing ISX facilities in Europe and Asia. The
Company currently has no commitments or binding agreements with respect to any
such acquisitions or investments. The balance of the net proceeds of this
offering will be used for working capital and general corporate purposes.
Pending use of the net proceeds for the above purposes, the Company plans to
invest such funds in short-term, investment grade, interest-bearing securities.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
DIVIDEND POLICY
The Company has never declared or paid cash dividends on its capital stock.
The Company currently expects to retain future earnings, if any, for use in the
operation and expansion of its business and does not anticipate paying any cash
dividends in the foreseeable future. The Company's debt facilities contain
restrictive covenants that limit the Company's ability to pay cash dividends
without the prior written consent of the lender.
17
<PAGE> 19
CAPITALIZATION
The following table sets forth the capitalization of the Company as of
September 30, 1998: (i) on an actual basis; (ii) on a pro forma basis to reflect
(a) the filing of an amendment to the Company's Restated Certificate of
Incorporation to provide for authorized capital stock of 60,000,000 shares of
Common Stock and 5,000,000 shares of undesignated Preferred Stock, (b) the
issuance of 123,736 shares of Series B Preferred Stock upon the exercise of
outstanding warrants, (c) the expensing of approximately $467,000 of deferred
stock compensation upon the closing of this offering, and (d) the conversion of
all outstanding shares of Preferred Stock into shares of Common Stock
immediately prior to the closing of this offering; and (iii) on a pro forma
basis as adjusted to reflect the sale by the Company of 4,000,000 shares of
Common Stock offered hereby at an assumed initial public offering price of
$10.00 per share after deducting underwriting discounts and commissions and
estimated offering expenses payable by the Company. The capitalization
information set forth in the table below is qualified by and should be read in
conjunction with the more detailed Financial Statements and Notes thereto
included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
SEPTEMBER 30, 1998
-----------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
-------- -------------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Long term obligations, less current portion............ $ 6,513 $ 6,513 $ 6,513
-------- -------- -------
Stockholders' equity(1):
Preferred stock, $0.001 par value; 8,750,000 shares
authorized; 7,184,049 shares issued and
outstanding, actual; 5,000,000 shares authorized,
no shares issued and outstanding, pro forma and
pro forma as adjusted............................. 21,224 -- --
Common stock, $0.001 par value; 12,500,000 shares
authorized, 509,895 shares issued and outstanding,
actual; 12,500,000 shares authorized, 7,817,680
shares issued and outstanding, pro forma;
60,000,000 shares authorized, 11,817,680 shares
issued and outstanding, pro forma as adjusted..... 69 21,540 57,540
Common stock options................................. 2,614 2,614 2,614
Deferred stock compensation.......................... (566) (99) (99)
Accumulated deficit.................................. (10,656) (11,123) (11,123)
-------- -------- -------
Total stockholders' equity........................ 12,685 12,932 48,932
-------- -------- -------
Total capitalization................................... $ 19,198 $ 19,445 $55,445
======== ======== =======
</TABLE>
- ---------------
(1) Excludes as of September 30, 1998: (i) 1,555,756 shares of Common Stock
issuable upon exercise of options outstanding under the Company's 1996 and
1997 Stock Option Plans and non-plan options at a weighted average exercise
price of $3.33 per share and 316,858 shares of Common Stock reserved for
future issuance thereunder and (ii) 57,343 shares of Common Stock issuable
upon exercise of outstanding warrants at a weighted average exercise price
of $5.65 per share and (iii) 12,500 shares of Common Stock issuable upon
exercise of outstanding warrants at an exercise price of 80% of the initial
public offering price. Does not include an aggregate of 1,718,750 shares of
Common Stock reserved for future issuance after this offering under the
Company's 1998 Stock Incentive Plan and 1998 Employee Stock Purchase Plan.
From October 1, 1998 through December 4, 1998, the Company issued options to
purchase 287,740 shares of Common Stock and warrants to purchase 106,565
shares of Common Stock. See "Management -- Stock Incentive Plan" and
"-- Employee Stock Purchase Plan" and Note 6 of Notes to Financial
Statements.
18
<PAGE> 20
DILUTION
The pro forma net tangible book value of the Company's Common Stock as of
September 30, 1998, giving effect to (i) the issuance of 123,736 shares of
Series B Preferred Stock upon the exercise of outstanding warrants and (ii) the
conversion of all outstanding shares of Preferred Stock into Common Stock
immediately prior to the closing of this offering, was $12,932,200, or
approximately $1.65 per share. "Pro forma net tangible book value" per share
represents the amount of total tangible assets of the Company less total
liabilities, divided by the number of shares of Common Stock outstanding on an
as-converted basis. The pro forma net tangible book value of the Company as of
September 30, 1998 would have been approximately $48,932,200, or $4.14 per share
after giving effect to the sale of 4,000,000 shares of Common Stock offered by
the Company in this offering at an assumed initial public offering price of
$10.00 per share and the application of the estimated net proceeds therefrom.
This represents an immediate increase in pro forma net tangible book value of
$2.49 per share to existing stockholders and an immediate dilution of $5.86 per
share to investors purchasing shares of Common Stock in this offering. The
following table illustrates this per share dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share............. $10.00
Pro forma net tangible book value per share as of
September 30, 1998..................................... $1.65
Increase per share attributable to new investors.......... 2.49
-----
Adjusted pro forma net tangible book value per share after
offering.................................................. 4.14
------
Net tangible book value dilution per share to new
investors................................................. $ 5.86
======
</TABLE>
The following table summarizes, on a pro forma basis as of September 30,
1998, the difference between the number of shares of Common Stock purchased from
the Company, the total consideration paid to the Company and the average price
per share paid by existing stockholders and by new investors purchasing shares
in this offering before deducting the estimated underwriting discounts and
commissions and estimated offering expenses payable by the Company at the
assumed initial offering price of $10.00 per share.
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION
---------------------- ---------------------- AVERAGE PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
----------- ------- ----------- ------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockholders(1).......... 7,817,680 66.2% $21,540,600 35.0% $2.76
New investors..................... 4,000,000 33.8 40,000,000 65.0
----------- ----- ----------- -----
Total................... 11,817,680 100.0% $61,540,600 100.0%
=========== ===== =========== =====
</TABLE>
- ---------------
(1) Excludes as of September 30, 1998: (i) 1,555,756 shares of Common Stock
issuable upon exercise of options outstanding under the Company's 1996 and
1997 Stock Option Plans and under non-plan options at a weighted average
exercise price of $3.33 per share and 316,858 shares of Common Stock
reserved for future issuance thereunder and (ii) 57,343 shares of Common
Stock issuable upon exercise of outstanding warrants at a weighted average
exercise price of $5.65 per share and (iii) 12,500 shares of Common Stock
issuable upon exercise of outstanding warrants at an exercise price of 80%
of the initial public offering price. Does not include an aggregate of
1,718,750 shares of Common Stock reserved for future issuance after this
offering under the Company's 1998 Stock Incentive Plan and 1998 Employee
Stock Purchase Plan. From October 1, 1998 through December 4, 1998, the
Company issued options to purchase 287,740 shares of Common Stock and
warrants to purchase 106,565 shares of Common Stock. See
"Management -- Stock Incentive Plan" and "-- Employee Stock Purchase Plan"
and Note 6 of Notes to Financial Statements.
19
<PAGE> 21
SELECTED FINANCIAL AND OPERATING DATA
The following selected financial data as of June 30, 1997 and 1998 and for
the period from March 8, 1996 to June 30, 1996 and for each of the two years in
the period ended June 30, 1998 are derived from the Financial Statements of the
Company which have been audited by Deloitte & Touche LLP, independent auditors,
and are included elsewhere in this Prospectus. The selected balance sheet data
as of June 30, 1996 are derived from the Company's unaudited financial
statements not included herein. The statement of operations data for the three
month periods ended September 30, 1997 and 1998 and the balance sheet at
September 30, 1998 are derived from unaudited interim financial statements
included elsewhere in this prospectus. The unaudited financial statements have
been prepared by the Company on a basis consistent with the Company's audited
financial statements and include, in the opinion of the Company, all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
presentation of the Company's results of operations for those periods and
financial position as of those dates. The financial data are qualified by
reference to and should be read in conjunction with the Company's Financial
Statements, related Notes thereto and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" included elsewhere in this
Prospectus.
<TABLE>
<CAPTION>
THREE MONTHS
PERIOD FROM ENDED
MARCH 8, 1996 YEAR ENDED JUNE 30, SEPTEMBER 30,
(INCEPTION) TO -------------------- -----------------
JUNE 30, 1996 1997 1998 1997 1998
-------------- -------- -------- ------ -------
(IN THOUSANDS, EXCEPT PER SHARE AND CUSTOMER DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues........................................ $ 79 $ 552 $ 3,436 $ 431 $ 1,793
------ ------- ------- ------ -------
Costs and expenses:
Data communications and telecommunications.... -- 559 2,200 256 1,080
Network operations............................ 20 417 1,572 222 773
Sales and marketing........................... 19 382 1,618 259 1,356
General and administrative.................... 66 434 1,621 199 812
Depreciation and amortization................. 52 133 476 86 660
Stock-based compensation expense.............. -- -- 1,276 14 436
Joint venture termination fee................. -- 431 -- -- --
------ ------- ------- ------ -------
Total costs and expenses............... 157 2,356 8,763 1,036 5,117
------ ------- ------- ------ -------
Loss from operations............................ (78) (1,804) (5,327) (605) (3,324)
Interest expense................................ -- (7) (161) (59) (148)
Interest income................................. -- 8 63 2 121
------ ------- ------- ------ -------
Net loss........................................ $ (78) $(1,803) $(5,425) $ (662) $(3,351)
====== ======= ======= ====== =======
Basic and diluted loss per share(1)............. $(0.62) $ (9.17) $(20.68) $(3.14) $ (7.35)
====== ======= ======= ====== =======
Shares used in basic and diluted loss per
share(1)...................................... 125 197 262 211 456
OTHER OPERATING DATA:
Capital expenditures(2)......................... $ 101 $ 850 $ 4,145 $ 171 $ 7,339
Number of customers at period end............... 10 110 278 146 316
</TABLE>
<TABLE>
<CAPTION>
JUNE 30,
------------------------------ SEPTEMBER 30,
1996 1997 1998 1998
----- ------ ------- -------------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and equivalents.................................... $ 89 $ 331 $ 8,141 $10,626
Working capital (deficit)............................... 88 (946) 5,061 7,114
Total assets............................................ 151 1,171 13,693 24,986
Long-term obligations, net of current portion........... 210 116 9,325 6,513
Total stockholders' equity (deficiency)................. (73) (262) 661 12,685
</TABLE>
- ---------------
(1) See Notes 1 and 7 of Notes to Financial Statements for the determination of
shares used in computing basic and diluted loss per share.
(2) Capital expenditures represent purchases of property and equipment,
including non-cash transactions such as the acquisition of equipment under
capital lease.
20
<PAGE> 22
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following description of the Company's financial condition and results
of operations should be read in conjunction with the Financial Statements and
the Notes thereto included elsewhere in this Prospectus. This discussion
contains forward-looking statements based upon current expectations that involve
risks and uncertainties. Any statements contained herein that are not statements
of historical fact may be deemed to be forward-looking statements. For example,
the words "believes," "anticipates," "plans," "expects," "intends" and similar
expressions are intended to identify forward-looking statements. The Company's
actual results and the timing of certain events may differ significantly from
the results discussed in the forward-looking statements. Factors that might
cause such a discrepancy include, but are not limited to, those discussed in
"Risk Factors," "Business" and elsewhere in this Prospectus. The Company's
fiscal year ends on June 30. The fiscal year ended June 30, 1997 is referred to
as fiscal 1997 and the fiscal year ended June 30, 1998 is referred to as fiscal
1998.
OVERVIEW
AboveNet is a leading provider of high performance, managed co-location and
Internet connectivity solutions for electronic commerce and other
mission-critical Internet operations. The Company was founded in March 1996 and,
in July 1996, it began providing co-location and Internet connectivity services
to content providers at its San Jose, California facility. In August 1997, the
Company expanded its service offerings to provide co-location and Internet
connectivity services to ISPs, enabling the development of the Company's ISX
model. In July 1998, the Company opened its second ISX facility in Vienna,
Virginia and completed the expansion of its San Jose ISX facility with the
addition of approximately 7,000 square feet.
The Company derives most of its revenues from bandwidth charges, with
additional revenues generated from charges related to space requirements and
one-time installation fees. Bandwidth and space requirement charges are billed
on a monthly basis. Space requirement charges include access to the Company's
network, proprietary tools and management services. The Company charges its
customers for a set amount of bandwidth availability and charges incremental
fees if the customer uses additional bandwidth. The Company's contracts range
from month to month to multiple year commitments, a majority of which are
cancelable on 30 days' notice. Revenues relating to bandwidth usage and space
requirement charges are generally recognized in the period in which the services
are performed. Installation fees are recognized in the period of installation.
See "Risk Factors -- Need to Grow and Retain Customer Base; Lengthy Sales
Cycle."
A significant component of the Company's expenses relates to data
communications and telecommunications. Data communications costs consist
primarily of payments to network providers, such as MCI WorldCom and Sprint.
Telecommunications charges consist of one time fees for circuit installation and
variable recurring circuit charges. Monthly circuit charges vary based upon
circuit type, the distance the circuit spans and/or the circuit usage, as well
as the term of the contract.
The Company intends to develop a second ISX facility of approximately
110,000 square feet, including approximately 50,000 square feet of co-location
space, in San Jose, California. The Company recently entered into a lease for
such facility. The new facility is targeted to open by the fall of 1999. The
Company intends to initially complete the build-out of approximately 13,000
square feet of co-location space and to complete the build-out of additional
co-location space incrementally over time based on customer demand and the
availability of additional financing. The development and equipping of this
facility will significantly increase the Company's fixed and operating expenses,
including expenses associated with hiring, training and managing new employees,
purchasing new equipment, implementing power and redundancy systems,
implementing multiple data communication and telecommunication connections,
leasing additional real estate and depreciation. The Company's ability to
complete this expansion, on a timely basis and within the cost anticipated, is
dependent on a number of factors. In addition there can be no assurance that the
Company has accurately anticipated the customer demand for such new facilities
or that the Company will be able to attract a sufficient number of customers to
offset the additional expenses. Also, the Company expects that any build-out of
incremental co-location space at the planned ISX facility in San Jose,
California will require additional debt
21
<PAGE> 23
or equity financing. No assurance can be given that additional financing will be
available or that, if available, such financing will be on terms favorable to
the Company. See "Risk Factors -- Risks Associated with Recent and Planned
Business Expansion," "-- Uncertain Need and Availability of Additional
Financing" and "Business -- Facilities."
A key aspect of the Company's strategy is to significantly increase its
sales and marketing activities through the expansion of its sales force,
increased focus on developing reseller channels and increased marketing efforts
to build the AboveNet brand. In April 1998, the Company hired its Senior Vice
President of Sales and Marketing and engaged an outside public relations firm.
Prior to that time, the Company had undertaken no significant marketing
activities. As a result, the Company expects sales and marketing expenses to
increase substantially in future periods. See "Risk Factors -- Need to Grow and
Retain Customer Base; Lengthy Sales Cycle."
The Company has recently hired many of its key employees and officers. The
Company's President and Chief Operating Officer joined the Company in November
1997. The Company's Senior Vice President of Sales and Marketing joined the
Company in April 1998. The Company's Vice President of Sales, Vice President of
Construction and Real Estate and Vice President of International -- Europe all
joined the Company in August 1998. Most recently, the Company hired a Chief
Financial Officer in November 1998. See "Risk Factors -- Management of Growth;
Dependence on Key Personnel."
During late fiscal 1997 and 1998, the Company granted stock options and
warrants to strategic business partners and non-employees. Additionally, during
fiscal 1998 and the first quarter of fiscal 1999, the Company granted a key
executive stock options at an exercise price below market. As a result, the
Company recognized stock-based compensation expense of approximately $1.3
million and $436,000 in fiscal 1998 and the first quarter of fiscal 1999,
respectively. In addition, as a result of the acceleration of the vesting of
certain options upon the closing of the offering, the Company expects to
recognize additional stock-based compensation expense (approximately $467,000 as
of September 30, 1998) in the quarter in which the offering closes.
Since its inception in March 1996, the Company has experienced operating
losses and negative cash flows from operations in each quarterly and annual
period. As of September 30, 1998, the Company had an accumulated deficit of
approximately $10.7 million. The revenue and income potential of the Company's
business and market is unproven, and the Company's limited operating history
makes an evaluation of the Company and its prospects difficult. In addition,
although the Company has experienced significant growth in revenues in recent
periods, the Company does not believe that this growth rate is necessarily
indicative of future operating results. There can be no assurance that the
Company will ever achieve profitability on a quarterly or an annual basis or, if
achieved, will sustain profitability. See "Risk Factors -- Limited Operating
History; History of Losses; Expected Continued Losses."
22
<PAGE> 24
RESULTS OF OPERATIONS
The following table sets forth certain statements of operations data as a
percentage of revenues for the period from March 8, 1996 (Inception) to June 30,
1996, for the years ended June 30, 1997 and 1998 and for the three months ended
September 30, 1997 and 1998. This information should be read in conjunction with
the Financial Statements and Notes thereto included elsewhere in this
Prospectus.
<TABLE>
<CAPTION>
PERIOD FROM YEAR ENDED THREE MONTHS ENDED
MARCH 8, 1996 JUNE 30, SEPTEMBER 30,
(INCEPTION) ---------------- ------------------
TO JUNE 30, 1996 1997 1998 1997 1998
---------------- ------ ------ ------- -------
<S> <C> <C> <C> <C> <C>
Revenues........................ 100.0% 100.0% 100.0% 100.0% 100.0%
----- ------ ------ ------ ------
Costs and expenses:
Data communications and
telecommunications......... -- 101.3 64.0 59.4 60.2
Network operations............ 24.7 75.5 45.7 51.5 43.1
Sales and marketing........... 24.3 69.4 47.1 60.0 75.6
General and administrative.... 84.1 78.6 47.2 46.2 45.3
Depreciation and
amortization............... 65.6 24.1 13.8 20.0 36.8
Stock-based compensation
expense.................... -- -- 37.2 3.3 24.4
Joint venture termination
fee........................ -- 78.1 -- -- --
----- ------ ------ ------ ------
Total costs and
expenses............ 198.7 427.0 255.0 240.4 285.4
----- ------ ------ ------ ------
Loss from operations............ (98.7) (327.0) (155.0) (140.4) (185.4)
Interest income (expense),
net........................... -- 0.2 (2.9) (13.2) (1.5)
----- ------ ------ ------ ------
Net loss........................ (98.7)% (326.8)% (157.9)% (153.6)% (186.9)%
===== ====== ====== ====== ======
</TABLE>
COMPARISON OF THE QUARTERS ENDED SEPTEMBER 30, 1997 AND 1998
Revenues. The Company derives most of its revenues from monthly bandwidth
charges, with additional revenues from space requirement charges and one-time
installation fees. The Company's revenues increased 316% from $431,000 in the
quarter ended September 30, 1997, to $1.8 million in the quarter ended September
30, 1998. This growth in revenues resulted primarily from an increase in the
number of customers, from 146 customers at September 30, 1997 to 316 customers
at September 30, 1998. One customer, Supernews, Inc., accounted for 10% of
revenues in the quarter ended September 30, 1997 and 11% of revenues in the
quarter ended September 30, 1998. The Company's agreement with SuperNews has a
term of one year which expires July 1999 and does not contain any minimum
bandwidth usage requirements.
Data Communications and Telecommunications. Data communications costs
consist primarily of payments to network providers, such as WinStar
Communications, Inc., MCI WorldCom and Sprint. Telecommunications charges
consist of one-time fees for circuit installation and variable recurring circuit
charges. The Company's data communications and telecommunications expenses
increased 322% from $256,000 in the quarter ended September 30, 1997, to $1.1
million in the quarter ended September 30, 1998. The increase is due to the
growth in the Company's customer base and usage of additional bandwidth. The
Company expects that data communications and telecommunications costs will
continue to increase in absolute dollars as the Company continues to expand its
network infrastructure.
Network Operations. Network operations expenses are comprised primarily of
salaries, benefits and related expenses for the Company's operations and
engineering personnel, as well as facility rent and expenses associated with
maintaining the Company's co-location facilities. The Company's network
operations expenses increased 248% from $222,000 in the quarter ended September
30, 1997, to $773,000 in the quarter ended September 30, 1998. The increase is
primarily due to the hiring of additional operations and engineering personnel
and the costs associated therewith. The Company expects that network operations
expenses will continue to increase in absolute dollars as the Company hires
additional personnel to expand its operations.
23
<PAGE> 25
Sales and Marketing. The Company's sales and marketing expenses are
primarily comprised of salaries, commissions and benefits related to the
Company's sales and marketing personnel, the cost of the Company's marketing and
promotional efforts, including advertising, printing and trade show costs, as
well as related consultants' fees and travel and entertainment expenses. Sales
and marketing expenses increased 424% from $259,000 in the quarter ended
September 30, 1997, to $1.4 million in the quarter ended September 30, 1998. Of
this increase, approximately $0.4 million was due to increased compensation and
related expenses resulting from the hiring of additional sales and marketing
personnel. The increase was also attributable to increases in trade show,
advertising and marketing program expenses. The Company expects that sales and
marketing expenses will increase substantially in future periods as the Company
continues to expand its sales force and its brand-building activities. The
Company expects to use approximately $10 to $15 million of the net proceeds of
the offering for sales and marketing expenses.
General and Administrative. The Company's general and administrative
expenses are comprised primarily of salaries and benefits for the Company's
management and administrative personnel, as well as fees paid for professional
services and corporate overhead. General and administrative expenses increased
309% from $199,000 in the quarter ended September 30, 1997, to $813,000 in the
quarter ended September 30, 1998. Of this increase, approximately $0.2 million
was due to increased compensation and related benefits associated with
additional personnel in management, finance and administration. In addition,
general and administrative expenses increased as a result of increases in
professional services fees, an increase in the Company's accounts receivable
reserve and the costs associated with supporting the Company's expansion. The
Company expects that general and administrative expenses will continue to
increase in absolute dollars as the Company expands its operations and incurs
the higher costs associated with being a publicly-traded company.
Depreciation and Amortization. Depreciation and amortization expenses
relate primarily to the Company's facility improvement and construction efforts
as well as telecommunications equipment. The Company's depreciation and
amortization expenses increased 664% from $86,000 in the quarter ended September
30, 1997 to $660,000 in the quarter ended September 30, 1998. The increase is
due to additional capital expenditures incurred during fiscal 1998 and 1999,
primarily for facility improvement and construction costs and telecommunications
equipment. The Company expects to incur increased depreciation and amortization
expenses related to its planned new ISX facility in San Jose, California.
Furthermore, the Company recognized a loss on disposal of assets of $186,000 in
the quarter ended September 30, 1998. The loss is attributed to the retirement
of certain assets and the demolition of previously capitalized facility
improvement costs in connection with the Company's recent expansion.
Stock-based Compensation. During fiscal 1998 and 1999, the Company granted
to a key executive stock options at an exercise price below market.
Additionally, during late fiscal 1997 and fiscal 1998 and 1999, the Company
granted stock options and warrants to strategic business partners and
non-employees. Stock-based compensation expense related to these issuances was
$14,000 and $436,000 for the quarters ended September 30, 1997 and 1998,
respectively. As of September 30, 1998, the Company had $566,000 in deferred
stock compensation, which will continue to be amortized through fiscal 2000;
however, as the vesting of certain of these options accelerates upon the closing
of this offering, any unamortized deferred compensation relating to these
options (approximately $467,000 at September 30, 1998) will be recognized in the
quarter this offering closes.
Interest Income (Expense), Net. Interest income (expense), net was
$(57,000) in the quarter ended September 30, 1997 compared to $(27,000) in the
quarter ended September 30, 1998. During the first quarter of fiscal 1998, the
Company recognized interest expense of $56,000 relating to the issuance of
warrants associated with the Company's Series B Preferred Stock offering.
Interest expense for the quarter ended September 30, 1998 primarily relates to
increased borrowings to finance equipment purchases and improvements to the
Company's San Jose, California ISX facility and construction of its Vienna,
Virginia ISX facility. The Company expects that interest expense will continue
to increase in absolute dollars as the Company enters into additional equipment
leases and borrowing facilities to finance expansion, including the development
of its planned second ISX facility in San Jose, California.
24
<PAGE> 26
COMPARISON OF FISCAL YEARS ENDED JUNE 30, 1997 AND 1998
Revenues. The Company's revenues increased 523% from $552,000 in fiscal
1997 to $3.4 million in fiscal 1998. This growth in revenues resulted primarily
from an increase in the number of customers, from 110 customers at June 30, 1997
to 278 customers at June 30, 1998. One customer, Supernews, Inc., accounted for
12% of revenues in fiscal 1997 and 14% of revenues in fiscal 1998.
Data Communications and Telecommunications. The Company's data
communications and telecommunications expenses increased 294% from $559,000 in
fiscal 1997 to $2.2 million in fiscal 1998. This increase is primarily due to
the growth in the Company's customer base and usage of additional bandwidth.
Network Operations. The Company's network operations expenses increased
277% from $417,000 in fiscal 1997 to $1.6 million in fiscal 1998. The increase
is primarily due to the hiring of additional operations and engineering
personnel and the costs associated therewith.
Sales and Marketing. Sales and marketing expenses increased 323% from
$383,000 in fiscal 1997 to $1.6 million in fiscal 1998. Sales and marketing
expenses as a percentage of total revenues decreased from 69% in fiscal 1997 to
47% in fiscal 1998. Of this increase, approximately $0.7 million was due to
increased compensation and related expenses as the result of the hiring of
additional sales and marketing personnel. The increase was also attributable to
increased marketing program, trade show and advertising expenses. The decrease
as a percentage of revenue in fiscal 1998 was primarily due to increased
revenues associated with higher bandwidth utilization among the existing
customer base, which had lower associated sales and marketing expenses.
General and Administrative. General and administrative expenses increased
274% from $434,000 in fiscal 1997 to $1.6 million in fiscal 1998. General and
administrative expenses as a percentage of revenues decreased from 79% in fiscal
1997 to 47% in fiscal 1998 due to the increase in revenues. Of this increase,
approximately $0.5 million was due to increased compensation and related
benefits associated with additional personnel in management, finance and
administration, while the remaining increase was primarily attributable to the
costs associated with supporting the Company's expansion.
Depreciation and Amortization. The Company's depreciation and amortization
expenses increased 258% from $133,000 in fiscal 1997 to $476,000 in fiscal 1998.
The increase is due to additional capital expenditures incurred during fiscal
1998, primarily for telecommunications equipment.
Stock-Based Compensation. Stock-based compensation expense during fiscal
1997 and fiscal 1998 was zero and $1.3 million, respectively. Stock-based
compensation in fiscal 1998 related to services rendered during fiscal 1998 and
the acceleration of the vesting during the fourth quarter of 1998 of certain
non-employee stock option and warrant grants.
Joint Venture Termination Fee. In fiscal 1996, the Company entered into a
joint venture agreement (the "DSK Agreement") with DSK, Inc. ("DSK") to
cooperatively market and develop the Company's services. The Company paid
$33,700 to DSK during the year ended June 30, 1997 related to the DSK Agreement.
In the fourth quarter of fiscal 1997, the Company terminated the DSK Agreement
and hired the majority shareholders of DSK as employees or consultants by
issuing 500,000 fully vested shares of Series B Preferred Stock with a fair
value of $1.20 per share, or $600,000, for the outstanding shares of common
stock of DSK. The Company recorded the transaction by allocating the value of
the shares issued to property and equipment (at DSK's net book value of
$169,000, which approximated fair market value), with the balance of $431,000
reflected as a joint venture termination fee.
Interest Income (Expense), Net. Interest income (expense), net decreased
from $1,000 in fiscal 1997 to $(98,000) in fiscal 1998. The decrease was
primarily the result of higher interest expense related to the issuance of stock
purchase warrants in conjunction with the issuance of the Company's convertible
debt during the first half of fiscal 1998 as well as increased borrowings to
finance equipment purchases and improvements to its San Jose, California ISX
facility and construction of its Vienna, Virginia ISX facility. The Company
expects that interest expense will continue to increase in absolute dollars as
the Company enters into additional equipment leases and borrowing facilities to
finance expansion, including the development of its planned second ISX facility
in San Jose, California.
25
<PAGE> 27
INCEPTION THROUGH JUNE 30, 1996
The Company generated $79,000 in revenues in the period from inception to
June 30, 1996, primarily as a result of consulting services provided as the
Company was developing its tools and preparing to commence its current
co-location and Internet connectivity operations. The Company's costs and
expenses during this period consisted primarily of salaries, depreciation and
amortization expenses and consulting services. Given the stage of the Company's
business and the shortness of the period, the Company does not believe that the
results of operations for this period are comparable to fiscal 1997.
QUARTERLY RESULTS OF OPERATIONS
The following tables set forth certain unaudited statement of operations
data for the nine quarters ended September 30, 1998, as well as the percentage
of the Company's revenues represented by each item. This data has been derived
from unaudited interim financial statements prepared on the same basis as the
audited Financial Statements contained herein and, in the opinion of management,
include all adjustments consisting only of normal recurring adjustments, that
the Company considers necessary for a fair presentation of such information when
read in conjunction with the Financial Statements and Notes thereto appearing
elsewhere in this Prospectus. The operating results for any quarter should not
be considered indicative of results of any future period.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------------------------------------------------------
SEP. 30, DEC. 31, MAR. 31, JUNE 30, SEP. 30, DEC. 31, MAR. 31, JUNE 30, SEP. 30,
1996 1996 1997 1997 1997 1997 1998 1998 1998
-------- -------- -------- --------- -------- -------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues................... $ 22.4 $ 100.2 $ 183.7 $ 245.3 $ 430.9 $ 674.6 $ 963.3 $ 1,367.6 $ 1,793.1
------- ------- ------- --------- -------- -------- --------- --------- ---------
Costs and expenses:
Data communications and
telecommunications..... 20.7 93.9 170.1 273.9 256.0 372.8 639.1 931.9 1,079.9
Network operations....... 5.6 32.8 185.4 192.9 221.8 222.8 411.8 715.4 772.8
Sales and marketing...... 41.3 78.5 103.9 158.9 258.6 216.4 433.4 710.3 1,355.8
General and
administrative......... 51.4 54.9 132.5 194.9 198.9 276.9 483.8 661.9 812.7
Depreciation and
amortization........... 15.7 22.7 44.9 49.4 86.4 95.4 117.6 176.1 659.8
Stock-based compensation
expense................ -- -- -- -- 14.3 35.1 459.6 767.4 436.2
Joint venture termination
fee.................... -- -- -- 431.1 -- -- -- -- --
------- ------- ------- --------- -------- -------- --------- --------- ---------
Total costs and
expenses......... 134.7 282.8 636.8 1,301.1 1,036.0 1,219.4 2,545.3 3,963.0 5,117.2
------- ------- ------- --------- -------- -------- --------- --------- ---------
Loss from operations....... (112.3) (182.6) (453.1) (1,055.8) (605.1) (544.8) (1,582.0) (2,595.4) (3,324.1)
Interest expense........... -- -- -- (7.4) (58.8) (67.0) (2.6) (32.4) (147.6)
Interest income............ 4.2 0.8 1.7 1.7 1.9 7.4 22.0 31.8 120.8
------- ------- ------- --------- -------- -------- --------- --------- ---------
Net loss................... $(108.1) $(181.8) $(451.4) $(1,061.5) $ (662.0) $ (604.4) $(1,562.6) $(2,596.0) $(3,350.9)
======= ======= ======= ========= ======== ======== ========= ========= =========
</TABLE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------------------------------------------------------
SEP. 30, DEC. 31, MAR. 31, JUNE 30, SEP. 30, DEC. 31, MAR. 31, JUNE 30, SEP. 30,
1996 1996 1997 1997 1997 1997 1998 1998 1998
-------- -------- -------- --------- -------- -------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues................... 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
------- ------- ------- --------- -------- -------- --------- --------- ---------
Costs and expenses:
Data communications and
telecommunications..... 92.4 93.7 92.6 111.7 59.4 55.3 66.3 68.2 60.2
Network operations....... 25.0 32.7 100.9 78.6 51.5 33.0 42.8 52.3 43.1
Sales and marketing...... 184.4 78.3 56.6 64.8 60.0 32.1 45.0 51.9 75.6
General and
administrative......... 229.5 54.8 72.1 79.5 46.2 41.1 50.2 48.4 45.3
Depreciation and
amortization........... 70.0 22.7 24.4 20.1 20.0 14.1 12.2 12.9 36.8
Stock-based compensation
expense................ -- -- -- -- 3.3 5.2 47.7 56.1 24.4
Joint venture termination
fee.................... -- -- -- 175.7 -- -- -- -- --
------- ------- ------- --------- -------- -------- --------- --------- ---------
Total costs and
expenses......... 601.3 282.2 346.6 530.4 240.4 180.8 264.2 289.8 285.4
------- ------- ------- --------- -------- -------- --------- --------- ---------
Loss from operations....... (501.3) (182.2) (246.6) (430.4) (140.4) (80.8) (164.2) (189.8) (185.4)
Interest expense........... -- -- -- (3.0) (13.6) (9.9) (0.3) (2.3) (8.2)
Interest income............ 18.7 0.8 0.9 0.7 0.4 1.1 2.3 2.3 6.7
------- ------- ------- --------- -------- -------- --------- --------- ---------
Net loss................... (482.6)% (181.4)% (245.7)% (432.7)% (153.6)% (89.6)% (162.2)% (189.8)% (186.9)%
======= ======= ======= ========= ======== ======== ========= ========= =========
</TABLE>
26
<PAGE> 28
FACTORS AFFECTING OPERATING RESULTS
The Company has experienced significant fluctuations in its results of
operations on a quarterly and annual basis. The Company expects to continue to
experience significant fluctuations in its future quarterly and annual results
of operations due to a variety of factors, many of which are outside the
Company's control, including: demand for and market acceptance of the Company's
services; capacity utilization of its ISX facilities; fluctuations in data
communications and telecommunications costs; reliable continuity of service and
network availability; customer retention; the timing and success of marketing
efforts by the Company; the timing and magnitude of capital expenditures,
including costs relating to the expansion of operations; the timely expansion of
existing facilities and completion of new facilities; the ability to increase
bandwidth as necessary; fluctuations in bandwidth used by customers; the timing
and magnitude of expenditures for sales and marketing; introductions of new
services or enhancements by the Company and its competitors; the timing of
customer installations and related payments; the ability to maintain or increase
peering relationships; provisions for customer discounts and credits; the
introduction by third parties of new Internet services; increased competition in
the Company's markets; growth of Internet use and establishment of Internet
operations by mainstream enterprises; changes in the pricing policies of the
Company and its competitors; changes in regulatory laws and policies; economic
conditions specific to the Internet industry; and general economic factors. In
addition, a relatively large portion of the Company's expenses are fixed in the
short-term, particularly with respect to data communications and
telecommunications costs, depreciation, real estate, interest expenses and
personnel, and therefore the Company's future results of operations will be
particularly sensitive to fluctuations in revenues. In addition, the Company
expects to incur compensation costs related to certain option grants and
warrants. Furthermore, although the Company has not encountered significant
difficulties in collecting its accounts receivable in the past, many of the
Company's customers are in an emerging stage, and there can be no assurance that
the Company will be able to collect receivables on a timely basis. The Company
also expects that its sales may be affected by seasonality trends with decreased
revenues during the summer months. Due to all of the foregoing factors, the
Company believes that period-to-period comparisons of its results of operations
are not necessarily meaningful and should not be relied upon as indications of
future performance. See "Risk Factors -- Need to Grow and Retain Customer Base;
Lengthy Sales Cycle," "-- Potential Fluctuations in Results of Operations,"
"-- Risks Associated with Recent and Planned Business Expansion," "-- Intense
Competition," and "-- Management of Growth; Dependence on Key Personnel."
YEAR 2000 COMPLIANCE
Many currently installed computer systems and software products are coded
to accept only two digit entries in the date code field. These date code fields
will need to distinguish 21st century dates from 20th century dates. This could
result in system failures or miscalculations causing disruptions of operations
including, among other things, a temporary inability to process transactions,
send invoices, or engage in similar normal business activities. As a result,
many companies' software and computer systems may need to be upgraded or
replaced in order to comply with such "Year 2000" requirements.
The Company has begun the first phase of its Year 2000 readiness review.
The review will include assessment, implementation, testing and contingency
planning. To date, the Company has evaluated its internally developed software
and believes that such software is Year 2000 compliant. However, the Company
utilizes software and hardware developed by third parties both for its network
and internal information systems. The Company has not done any testing of such
third party software to determine if such software is Year 2000 compliant. The
Company has sought assurances from certain of its vendors, and intends to
continue to seek assurances from others, that such vendors products are or will
be Year 2000 compliant.
The Company expects to continue assessing and testing its internal
information technology ("IT") and non-IT systems into 1999. The Company is not
currently aware of any material operations issues or costs associated with
preparing its internal IT and non-IT systems for the Year 2000. However, the
Company may experience material unanticipated problems and costs caused by
undetected errors or defects in the technology used in its internal IT and
non-IT systems.
27
<PAGE> 29
Based upon the public filings and press releases of the Company's primary
equipment, telecommunications and data communications providers, the Company is
aware that all such providers are in the process of reviewing and implementing
their own Year 2000 compliance programs. Since the Company does not believe that
it will be afforded the opportunity to test the systems of these providers, it
will seek assurances from them that they are Year 2000 compliant. If the
Company's primary vendors experience business interruptions as a result of the
failure to achieve Year 2000 compliance, the Company's ability to provide
Internet connectivity could be impaired, which could have a material adverse
effect on the Company's business, results of operations and financial condition.
The Company does not currently have any information regarding the Year 2000
status of its customers, most of whom are private companies. However, the
Company is in the process of developing a plan to survey all of its customers
regarding their Year 2000 compliance. As is the case with similarly situated
companies, if the Company's customers experience Year 2000 problems, which
result in business interruptions or otherwise impact their operations, the
Company could experience a decrease in the demand for its services, which could
have a material adverse impact on its business, results of operations and
financial condition.
The Company has not incurred any significant expenses to date associated
with its Year 2000 plan and is not aware of any material costs associated with
its anticipated Year 2000 efforts. The Company believes that a material loss of
revenues that could materially adversely affect the Company's business, results
of operations and financial condition would arise only if the Company's major
customers or providers fail to achieve Year 2000 readiness. The Company has not
yet developed a comprehensive contingency plan to address the issues which could
result from such failure.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations principally from the private sale
of equity securities and, to a lesser extent, lease financing. The Company had
cash and cash equivalents of approximately $10.6 million as of September 30,
1998.
Net cash used in operating activities was $331,000 and $2.3 million for the
quarters ended September 30, 1997 and 1998, respectively, and $777,000 and $1.8
million for fiscal years 1997 and 1998, respectively. Net cash used in operating
activities is primarily attributable to the Company's net losses, partially
offset by depreciation and amortization, stock-based compensation expense and
increases in accounts payable and accrued liabilities.
Net cash used by investing activities was $171,000 and $8.3 million for the
quarters ended September 30, 1997 and 1998, respectively, and $475,000 and $3.7
million in fiscal years 1997 and 1998, respectively. Net cash used by investing
activities consists primarily of purchases of property and equipment, including
costs associated with the establishment of the Company's ISX facility in Vienna,
Virginia and the expansion of the Company's ISX facility in San Jose,
California. In addition, for the quarter ended September 30, 1998, the Company
purchased $1.0 million of short term investments.
Net cash provided by financing activities was $242,000 and $13.1 million
for the quarters ended September 30, 1997 and 1998, respectively, and $1.5
million and $13.3 million in fiscal years 1997 and 1998, respectively. Net cash
provided by financing activities for the quarter ended September 30, 1997 and in
fiscal 1998 resulted primarily from the sale of notes and advances, partially
offset by debt and capital lease repayments. Net cash provided by financing
activities for the quarter ended September 30, 1998 resulted primarily from the
issuance of convertible preferred stock and utilization of the Company's
equipment financing facility, partially offset by debt and capital lease
repayments.
The Company had working capital of $7.1 million as of September 30, 1998.
In addition, the Company has a $15.0 million equipment financing facility, $6.0
million of which is expected to be used for the development of the planned
second ISX facility in San Jose, California, and is not available until the
completion of this offering. As of September 30, 1998, there was $8.4 million of
borrowings under this facility. Borrowings outstanding under these facilities
are payable in 42 monthly installments and bear interest at 14.7%. The Company
also has a $2.5 million equipment lease facility, $550,000 of which was used at
28
<PAGE> 30
September 30, 1998. Finally, the Company has a $750,000 line of credit facility
with a bank, none of which was outstanding at September 30, 1998. Borrowings
under the line of credit facility bear interest at the bank's prime rate plus 1%
(9.5% at September 30, 1998) and the line of credit facility expires in May
1999. The line of credit agreement requires, among other things, that the
Company satisfy certain financial covenants. As of June 30, 1998 and September
30, 1998, the Company was not in compliance with the profitability covenant of
its revolving line of credit agreement. The Company obtained waivers with
respect to its covenant from the bank as of June 30, 1998 and September 30,
1998, and, on October 26, 1998, entered into an agreement with the bank
modifying the covenant terms to increase the permissible quarterly loss. Any
failure to satisfy the terms of the agreement could prevent the Company from
being able to draw down amounts under the revolving line of credit agreement or
cause the bank to accelerate the Company's repayment with respect to any
outstanding amounts under the revolving line of credit. As of September 30,
1998, the Company had not drawn down any amounts under the revolving line of
credit.
The Company currently expects to utilize approximately $15 to $20 million
of the net proceeds of this offering for capital expenditures in connection with
the development of the Company's planned second ISX facility in San Jose,
California, which is expected to open by the fall of 1999. The Company intends
to initially complete the build-out of approximately 13,000 square feet of
co-location space and to complete the build-out of additional co-location space
incrementally over time based on customer demand and the availability of
additional financing. In addition, the Company expects that any build-out of
incremental co-location space at the new facility will require additional debt
or equity financing. No assurance can be given that additional financing will be
available or that, if available, such financing will be obtainable on terms
favorable to the Company and its stockholders. In addition, there can be no
assurance that such facility can be developed within the expected budget. The
Company recently signed a lease agreement for the new facility which requires
monthly rental payments commencing on the earlier of such time when any portion
of the facility can be occupied or one year following the earlier of the date on
which construction on the planned facility commences or should have commenced.
The lease agreement is for a minimum of 20 years with annual rent payments
increasing from approximately $3 million to $5 million over the lease term. See
"Risk Factors -- Risks Associated with Recent and Planned Business Expansion"
and "-- Uncertain Need and Availability of Additional Financing."
The Company believes that the net proceeds from this offering, together
with existing cash balances and financing arrangements, will provide the Company
with sufficient funds to finance its operations through at least the next twelve
months. Thereafter, the Company may require additional funds to support its
working capital requirements or for other uses and may seek to raise additional
funds through public or private equity or debt financings or other sources. No
assurance can be given that additional financing will be available or that, if
available, such financing will be obtainable on terms favorable to the Company
and its stockholders. See "Risk Factors -- Uncertain Need and Availability of
Additional Funding" and "Use of Proceeds."
29
<PAGE> 31
BUSINESS
The following description of the Company's business should be read in
conjunction with the information included elsewhere in this Prospectus. This
description contains certain forward-looking statements based upon current
expectations that involve risks and uncertainties. Any statements contained
herein that are not statements of historical fact may be deemed to be
forward-looking statements. For example, the words "believes," "anticipates,"
"plans," "expects," "intends" and similar expressions are intended to identify
forward-looking statements. The Company's actual results and the timing of
certain events may differ significantly from the results discussed in the
forward-looking statements. Factors that might cause such a discrepancy include,
but are limited to, those discussed in "Risk Factors" and elsewhere in this
Prospectus.
GENERAL
AboveNet is a leading provider of high performance, managed co-location and
Internet connectivity solutions for electronic commerce and other
mission-critical Internet operations. AboveNet has developed a network
architecture based upon two strategically located, fault-tolerant facilities
that combine content co-location services with direct ISP access to create
Internet Service Exchanges ("ISXs"). As of September 30, 1998, the Company had
171 direct public and private data exchange connections, known as peering
arrangements, including relationships with all top-tier network providers. The
Company's network architecture and extensive peering relationships are designed
to reduce the number of network connections or "hops" for data travelling across
the Internet. Furthermore, the convergence of content providers and ISPs at
AboveNet's ISXs enables AboveNet's ISP customers to provide their users with
"one hop" connectivity, through AboveNet's local area network, to the co-located
content provider's site. As of September 30, 1998, the Company had 316
customers, including a wide range of Internet content providers, Web hosting
companies and ISPs.
INDUSTRY BACKGROUND
The Growth of the Internet
The Internet has experienced tremendous growth and is emerging as a global
medium for communications and commerce. According to International Data
Corporation ("IDC")(1), the number of Internet users worldwide will grow from 69
million at the end of 1997 to 320 million by 2002 and, according to Forrester
Research, Inc. ("Forrester")(2), the number of Internet sites worldwide is
expected to grow from less than 500,000 in 1997 to approximately 4 million in
2002. The growth of the Internet is being driven by a number of factors,
including the large and growing installed base of personal computers,
improvements in network architectures, increasing numbers of network-enabled
applications, the emergence of compelling content and commerce-enabling
technologies, and easier, faster and cheaper Internet access. The future growth
in Internet usage is also projected to be fueled by increased use of high speed
access devices such as cable modems and ADSL lines and satellite Internet
connectivity as such devices become more widely available and affordable.
Forrester projects that the penetration of broadband Internet access through
cable, ADSL and other high-speed access devices will grow from approximately
200,000 households in 1997 to approximately 5.5 million households in 2000 and
approximately 17.6 million households in 2002. The increase in the availability
of
- ---------------
(1) International Data Corporation estimates are based upon its Internet
Commerce Market Model. This model utilizes both supply- and demand-side research
involving input from 40,000 interviews per year. Other data components include
web usage figures, penetration rates, quarterly trend research, lead user
research and device base information. The estimates are qualified by the
following assumptions: no catastrophic failure of the Internet will occur;
regional economies will continue their current expansion without untoward
upheaval; and security on the Internet, as well as consumer confidence, will
continue to improve slowly. There can be no assurances that any of the projected
amounts in the report will be achieved.
(2) Forrester estimates are based upon interviews with more than 41,000
households as part of Forrester's "Technographics '98" survey. In addition, the
report stated that 81 ISPs were asked to provide detailed unit sales, prices and
projections for 1996 through 1998. The ISP data was extrapolated to provide a
total current market size and direction. Finally, 22 vendors of hosting services
and related organizations were contacted. There can be no assurances that actual
results will not differ materially from those estimated.
30
<PAGE> 32
high-speed access devices is also expected to increase the demand for emerging
high bandwidth technologies such as audio and video streaming and voice over IP
applications.
The Expansion of Electronic Commerce
The functionality and accessibility of the Internet and commercial online
services have created an increasingly attractive commercial medium by providing
features that historically have been unavailable through traditional channels.
In the last several years, many enterprises that focus solely on delivering
services over the Internet have emerged and many businesses have implemented Web
sites and electronic commerce applications. Internet-based businesses have
developed Internet products and services in areas such as finance, banking,
entertainment, education and advertising, while other businesses are using the
Internet for an expanding variety of applications, ranging from corporate
publicity and advertising to sales, customer service, employee training and
communication with business partners. The ability to offer these kinds of
products and services requires high bandwidth Internet sites and operations. In
addition, due to advances in on-line security and payment mechanisms, the number
of businesses establishing commerce-enabled Web sites is expected to increase
dramatically. IDC estimates that the number of consumers buying goods and
services on the Internet will grow from 17.6 million in 1997 to 128.4 million in
2002, and that the total value of goods and services purchased over the Internet
will increase from approximately $12 billion in 1997 to approximately $425
billion by 2002.
The Internet Infrastructure
The Internet is a worldwide network of private and public computer networks
that link businesses, individuals, government agencies, universities and other
users having disparate computer systems and networks. A multi-tiered system of
local, regional and national ISPs has evolved to provide connectivity among
Internet users. Data travelling across the Internet is broken down into multiple
packets. ISPs exchange these packets of IP data generated by their users through
either direct or indirect connections with other ISPs. Large ISPs often have
multiple direct data exchange connections with other ISPs, known as peering
relationships, either through private line connections between their routers or
through a public peering arrangement where multiple ISPs can be connected
through a single interface. However, significant peering relationships are
generally unavailable to many small and mid-sized ISPs and, even if available,
the associated telecommunication costs could be prohibitive. As a result, these
ISPs typically need to purchase indirect connection services, known as
"transit," from a third party ISP.
To address the needs of ISPs to exchange data at centralized points, a
series of Internet exchanges were established by Internet backbone providers.
Although there are numerous exchanges, the Company believes the two principal
exchanges in the United States, based upon traffic volume, are MAE West in San
Jose, California and MAE East in Vienna, Virginia. Despite the relatively
centralized nature of these exchange points, data travelling across the
dispersed Internet architecture often must make multiple connections or "hops"
through a variety of local, regional and national ISPs as it moves from the
originating site to the Internet backbone and back to its destination site.
The Trend Toward Outsourcing of Internet Operations
Internet operations are increasingly becoming mission-critical to an
enterprise's commercial and communication operations. Internet-based businesses
and other enterprises need non-stop, non-congested, fault-tolerant and scalable
Internet operations to allow them to perform sophisticated digital
communications and commerce transactions globally over the Internet. However,
many businesses that are seeking to establish these sophisticated Internet
operations lack the resources and expertise to cost-effectively develop,
maintain and continually enhance the necessary facilities and network systems.
In addition, individuals with the expertise to establish and maintain a
sophisticated Internet service are scarce and their services are costly.
Furthermore, businesses often find it difficult to keep up with new technology
introductions and to integrate new technologies into their own IT
infrastructure. Finally, many businesses are currently being forced to deploy
their limited IT resources to address the impending Year 2000 issues. As a
result of these and other factors, many enterprises are seeking outsourcing
arrangements to enhance Web site reliability and perform-
31
<PAGE> 33
ance, provide continuous operation of their Internet solutions and reduce
related operating expenses. By outsourcing these services, businesses,
particularly non Internet-centric enterprises, can focus on their core
competencies rather than utilizing their resources to support their Internet
operations. Forrester estimates that by 2002, approximately 40% of Internet Web
sites will be outsourced and that Internet hosting revenues for complex sites
will increase from approximately $200 million in 1997 to almost $8 billion by
2002.
The Emergence of Co-Location Services
A variety of companies including Web hosting companies and ISPs have begun
to focus on providing Internet co-location services. These co-location companies
typically build networks of numerous geographically dispersed data centers in
order to be physically close to their customers. As a result of this dispersed
geographic network, data moving from one customer to another is subject to
increased risks of latency and data loss, as data travels across multiple
network connections or "hops." These problems are compounded by the lack of
available tools to monitor all of the various connection points on the Internet
in order to identify and avoid the congested links which can cause latency and
data loss. While these problems existed to some extent with early, less data
intensive applications, such as e-mail, they are becoming increasingly acute
with the growth of bandwidth intensive applications such as audio and video
streaming. In addition, many co-location providers do not have the flexibility
or capacity to quickly scale their services to meet the sharp growth and high
bandwidth requirements of mission-critical Internet operations.
Internet co-location companies also typically fail to address the
increasing need of local and regional ISPs to provide enhanced connectivity to
compelling content for their customers. Without the ability to maintain
extensive peering relationships with large ISPs, the cost of providing
redundant, reliable and scalable connectivity is often prohibitive for these
local and regional ISPs. As a result, they face increasing congestion as
emerging applications consume more bandwidth. International ISPs are also
seeking a means to obtain fast, reliable access to the large concentration of
U.S.-based content. While many of these problems could be addressed if these
ISPs co-located their facilities with content providers, many of the Web hosting
and co-location companies also compete with ISPs for sales of Internet access
and, therefore, ISPs are often reluctant to co-locate in their facilities.
THE ABOVENET SOLUTION
AboveNet provides high performance, managed co-location and Internet
connectivity services to a wide range of Internet content providers, Web hosting
companies and ISPs. The Company's Internet Service Exchange facilities ("ISXs")
provide high performance, reliable and scalable solutions for electronic
commerce and other mission-critical applications. AboveNet operates two ISXs,
located near MAE West and MAE East, utilizing the Company's suite of
sophisticated network management and remote monitoring tools. The Company
believes that its centralized network architecture provides enhanced
connectivity while eliminating the need to build numerous geographically
dispersed data centers. The Company's ISX model offers customers the benefits of
combining content co-location services with direct ISP access. The convergence
of content providers and ISPs at AboveNet's ISXs enables these ISPs to provide
their users with "one hop" connectivity, through AboveNet's local area network,
to the co-located content site. This direct connectivity minimizes the risk of
delays and data loss often encountered in the transmission of data over the
disperse Internet infrastructure.
The AboveNet solution provides the following key advantages to its
customers:
Scalability and Flexibility. The Company's services are designed to be
highly scalable and flexible in order to meet the needs of its customers as
their Internet operations expand. The Company's network is designed to enable it
to quickly scale bandwidth to meet its customer's needs. In addition, since the
Company charges its customers based on the amount of space and bandwidth it
provides, customers are afforded a flexible, cost-effective path to increasing
their Internet operations. The Company also provides flexibility for its
customers by supporting most leading Internet hardware and software systems
vendor platforms.
High Performance and Enhanced Connectivity. The Company's services are
designed to enhance Internet performance through redundant and high speed
network design and 24x7 monitoring, notification and diagnosis. The Company is
able to address the high bandwidth needs and rapid growth of its customers'
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mission-critical operations by maintaining an extensive number of direct public
and private network peering interconnections, including peering relationships
with top-tier network providers. In order to provide its customers with
available and uncongested bandwidth during network traffic spikes, the Company
is committed to maintaining excess network capacity. The amount of excess
bandwidth at any given time depends upon many factors including the timing of
the addition of new circuits, the timing of customer additions and increases in
usage by existing customers.
Enhanced Access for ISPs. By connecting within the Company's ISX, ISPs have
"one hop" connectivity to content providers co-located in the same facility. The
Company believes that by providing a means to reduce the number of "hops" in the
transmission of data, its network design offers significant benefits to
international ISPs as they seek to gain fast, reliable access to U.S.-based
content. In addition, ISPs that participate in the ISX are able to take
advantage of peering relationships generally available only to top-tier network
providers.
Sophisticated Network Management Services and Tools. By leveraging the
knowledge gained from supporting many leading-edge Internet operations, the
Company provides sophisticated network management and monitoring services on a
24x7 basis. The Company's proprietary ASAP software monitors all of the
Company's direct and indirect network connections for latency and packet loss,
allowing the Company's network engineers to dynamically reroute traffic to avoid
congested points. By utilizing ASAP, the Company is able to identify and resolve
many potential problems before they impact an Internet site's availability or
performance.
Remote Management Capabilities. The Company provides its customers with
sophisticated monitoring, reporting and management tools that can be accessed by
the customer to control its Internet hardware, software and application
environments. The Company's monitoring system probes each customer's equipment
every five minutes and provides the customer with notice of potential problems.
The Company believes that these tools, combined with its trained 24x7 support
staff, provide customers with a highly effective means of monitoring, responding
to and resolving problems, significantly reducing customers' needs for on-site
access to their equipment.
Fault Tolerant Facilities. The Company has built fault tolerant facilities
designed to enable the uninterrupted operations necessary for mission-critical
Internet operations. Each of the Company's facilities is equipped with an
uninterruptible DC or AC power supply and back-up generators for power
redundancy, multi-tiered fire suppression systems, seismically braced racks,
separate and redundant cooling zones and security systems.
STRATEGY
The Company's objective is to become the leading global Internet Service
Exchange for business enterprises and ISPs that require high-bandwidth,
mission-critical Internet operations. To achieve this objective, the Company's
strategy includes the following key elements:
Build Brand Name. The Company intends to increase awareness of the AboveNet
brand name among Internet content providers, Web hosting companies and ISPs on a
global basis. The Company believes that associating the AboveNet brand with the
highest quality and most technologically advanced network and services for
outsourcing mission-critical Internet operations is key to the expansion of its
customer base. Through June 1998, the Company focused on building its
infrastructure and developing its tools and, as a result, has engaged in minimal
marketing efforts. Going forward, the Company plans to aggressively invest in
building the AboveNet brand through an integrated marketing plan, including
traditional and online advertising in business and trade publications, trade
show participation, direct mail and public relations campaigns. The Company also
intends to conduct a series of seminar programs to increase awareness of the
Company's services among potential customers.
Expand Customer Base. The Company intends to expand its base of
approximately 300 customers by significantly increasing its sales and marketing
efforts. The Company's direct sales force consisted of 24 persons as of
September 30, 1998 who are organized into groups to target leading Internet
content
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<PAGE> 35
providers, Web hosting companies and ISPs. In addition, the Company has
personnel responsible for addressing the development of customers in the Asian
and European markets. The Company's sales force is supported in their sales
efforts by a sales engineer and, in many instances, by the Company's senior
management. The Company intends to significantly expand its direct sales force
and sales engineers, as well as hire experienced channel managers. The Company
seeks to establish and expand relationships with potential channel partners
including hardware vendors, value added resellers, system integrators and Web
hosting companies in order to leverage their sales organizations. The Company
also plans to develop seminar programs and other cooperative sales programs to
further develop these relationships.
Extend ISX Network. AboveNet seeks to create a global ISX network by
connecting centralized facilities in key domestic and international locations.
The Company currently has ISXs in San Jose, California (near MAE West) and
Vienna, Virginia (near MAE East) and plans to develop a second ISX facility in
San Jose, California. The Company also intends to expand its network
internationally, primarily through strategic investments in joint ventures and
foreign companies that can develop ISX facilities in Europe and Asia.
Leverage ISX Model. The Company intends to leverage its ISX model to
increase its customer base and generate recurring revenue. The Company believes
that as its customer base expands the benefits to both content providers and
ISPs of its "one hop" solution will increase, creating greater incentives for
new customers to use the Company's services. Since the Company charges these
customers monthly based upon space and bandwidth usage, the Company is generally
able to increase revenue as its customers' Internet usage grows. In addition,
since the Company's service fees are based upon bandwidth usage, the Company
believes that it is well positioned to capitalize on the requirements of high
bandwidth applications.
Address Emerging Internet Technology Markets. The Company believes that its
centralized ISX network will enable it to address the needs of emerging Internet
technologies such as audio and video streaming and voice over IP. Since these
applications require a solution that provides low latency and packet loss, the
Company believes that its high bandwidth, centralized network and enhanced
connectivity capabilities will enable it to offer significant advantages to
customers utilizing these emerging technologies.
THE ABOVENET INTERNET SERVICE EXCHANGE
The Company's ISX provides co-location services, Internet connectivity
services and network management services and tools. The Company's co-location
services are designed to provide enterprises with the high performance,
scalability, connectivity, security, reliability and expertise they need to
enhance their mission-critical Internet applications. The Company creates
solutions for its customers based on their specific business and technical
requirements, modifying the services as customers' needs evolve. The services
are delivered from centralized, state-of-the-art facilities located near MAE
West and MAE East. The Company's management services and tools enable the
Company and its customers to continuously manage customers' Internet operations
jointly, proactively and remotely.
Co-Location Services
The Company provides co-location services designed to meet the demands of
sophisticated, multi-vendor mission-critical Internet operations. The Company
supports most leading Internet hardware and software system vendor platforms,
including those from Ascend Communications, Inc., Bay Networks, Cisco Systems,
Inc., Compaq Computer Corporation, Dell Computer Corporation, EMC Corporation,
Hewlett-Packard Company, International Business Machines Corporation, Lucent
Technologies Inc., Microsoft Corporation, Apple Computer, Inc., Network
Appliance, Inc., Silicon Graphics Inc., Sun Microsystems Inc. and 3COM. This
multi-vendor capability enables the customer to retain control over its choice
of technical solution and enables the customer to integrate its Internet
operations into its existing IT architecture. Because mission-critical Internet
operations are dynamic and often require timely hardware and software upgrades
to maintain targeted service levels, customers have 24x7 physical and remote
access to the ISX facilities. Additional space and electrical power can be added
as needed in order to provide the customer access to additional server
co-location services. Customers install and manage their own hardware and
software at the Company's facilities and the Company does not provide any Web
hosting services.
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The Company's co-location facilities include dedicated electrical power
circuits to ensure that each customer's electrical power requirements are met.
Each ISX facility is constructed to address the requirements of mission-critical
network operations with an uninterruptible DC or AC power supply and back-up
generators, FM-200 Fire Suppression with pre-action backup, HVAC, separate
cooling zones, seismically braced racks, 24x7 operations, and high levels of
physical security. Any damage to or failure of the systems of the Company or its
service providers could result in reductions in, or terminations of, services
supplied to the Company's customers, which could have a material adverse effect
on the Company's business, results of operations and financial condition. See
"Risk Factors -- Risk of System Failure."
Customers can select from shared rack facilities, secure cabinets, or
enclosed cage facilities, based upon their business and technical requirements.
These facilities have the following features:
<TABLE>
<S> <C> <C>
- ---------------------------------------------------------------------------------------------------
TYPE OF SPACE SIZE FEATURES
- ---------------------------------------------------------------------------------------------------
Open Rack Single shelf, 1/4, 1/2, or Entry-level service providing a
full 9' or 6' racks cost-effective solution for customers that
do not need dedicated environments. Secured
environment that is shared by multiple
customers.
- ---------------------------------------------------------------------------------------------------
Cabriolet 9' or 6' stainless steel Dedicated, locked cabinet. Provides a single
enclosed, secure cabinet, rack with the security of a dedicated
1/4, 1/2, or full rack environment.
- ---------------------------------------------------------------------------------------------------
Cage 8' x 6', 8' x 8' or customized Dedicated, locked cage. Provides flexibility
to order in designing and configuring Internet
servers, including space for multiple racks
and other equipment.
- ---------------------------------------------------------------------------------------------------
</TABLE>
Internet Connectivity
The Company's Internet connectivity services are designed to meet the
requirements of high bandwidth, mission-critical Internet operations by
providing highly reliable, scaleable, non-stop and uncongested operations. On
September 30, 1998, the Company had public and private peering relationships
with 129 and 42 network providers, respectively. Any failure by the Company to
maintain and increase peering relationships would have a material adverse effect
on the Company's business, results of operations and financial condition. See
"Risk Factors -- Need to Maintain and Increase Peering Relationships."
The Company's network is designed to minimize the likelihood of failure.
Each ISX has multiple physical fiber paths into the facility. The Company
maintains multiple network links from multiple vendors and regularly checks that
its fiber backbone traverses physically separated paths. This network
architecture enhances the availability of a customer's site, even in the event
of a link failure. In addition, since enterprises' Internet operations often
experience network traffic spikes due to promotions or events, the Company has a
policy of maintaining significant excess capacity. There can be no assurance
that the Company will be able to expand or adapt its telecommunications
infrastructure to meet additional demand or its customers' changing
requirements, on a timely basis and at a commercially reasonable cost, or at
all. See "Risk Factors -- Risks Associated with Network Scalability."
The Company's Internet connectivity services are also designed to reduce
latency and to enhance network performance. The Company's engineering personnel
continuously monitor traffic patterns and congestion points throughout the
Internet and dynamically reroute traffic flows to improve end-user response
times. The Company also enhances network performance by maintaining what it
believes is among the largest number of direct public and private network
peering interconnections in the industry. For customers seeking a direct
communications link to the site of another customer that is located at the same
ISX, the Company offers highly secure, fast, and efficient cross-connections.
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<PAGE> 37
The Company's connectivity services utilize its proprietary ASAP technology
to enhance Internet connectivity by monitoring all of the Company's direct and
indirect network connections for congestion.
<TABLE>
<S> <C> <C>
- ---------------------------------------------------------------------------------------------------
TOOL DESCRIPTION BENEFITS
- ---------------------------------------------------------------------------------------------------
ASAP -- Asymmetric ASAP automatically monitors If packet loss and congestion is detected on
Allocation of all of the Company's major any of the links that directly affect
Packets providers' and peers' direct customers' performance, the Company's
and indirect connections on a network engineers are able to dynamically
real-time 24-hour basis to reroute traffic temporarily away from the
identify congestion. problem link. The functionality is
particularly important for emerging
applications such as audio and video
streaming and voice over IP.
- ---------------------------------------------------------------------------------------------------
</TABLE>
Management Services and Tools
The Company's management services and tools support mission-critical
Internet operations by providing the customer with detailed monitoring,
reporting, and management tools to control their hardware, network, software and
application environments. Through the Company's network management services and
tools, customers are able to remotely manage their mission-critical Internet
operations housed at the Company's ISX facilities. The Company believes that
this provides an important advantage to enterprises that seek to outsource a
portion of their Internet operations and to link the management of the
outsourced operations with in-house operations. The Company's proactive
management services and tools enable the Company to identify and resolve
hardware, software, network, and application problems, often before the customer
is aware that a problem exists.
Customers may access their co-located equipment by visiting the ISX
facility or by using the Company's software tools and services for remote
access. Using the Company's remote access tools, customers can perform emergency
tasks, control power functions and monitor their own system usage. These remote
access tools alleviate the need for the Company to build numerous geographically
dispersed ISX facilities. In the event of a system problem, the Company notifies
the customer who can then attempt to resolve the issue remotely. The Company
intends to continue to enhance its software tools in order to meet the needs of
mission-critical Internet operations. The Company's space requirement charges
include access to all of the Company's management services and tools. See "Risk
Factors -- Rapid Technological Change; Evolving Industry Standards."
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<PAGE> 38
The Company offers the tools/services summarized below:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------
TOOLS/SERVICES DESCRIPTION BENEFITS
<S> <C> <C>
- ----------------------------------------------------------------------------------------------
MRTG MRTG is a widely used tool MRTG shows customers the amount of
licensed by the Company that bandwidth being used and,
provides real-time monitoring and therefore, the actual cost of that
management of bandwidth. Currently business expense. Through a
used by most major backbone graphical interface, users can
providers, MRTG generates HTML view, in real-time, the actual
pages containing GIF images which amount of bandwidth flowing
provide a real-time visual through their servers and/or
representation of this traffic. networking equipment. MRTG also
MRTG can also be used to display allows the Company and its
historical statistical data in customers to view the Company's
graphic form. connections and bandwidth usage
with each of its backbone
providers.
- ----------------------------------------------------------------------------------------------
EtherValve EtherValve is a tool licensed by EtherValve allows AboveNet to
the Company that regulates the provide each customer a clear
actual flow of bandwidth from a channel of the bandwidth
customer's server through a 10 purchased. This assures customers
Mbps or 100 Mbps Ethernet segment. that they will have the bandwidth
they have purchased available to
them at any given time. EtherValve
also allows the customer's
bandwidth to be scaled up
immediately, in increments as
small as 8 bps (0.008 Kbps).
- ----------------------------------------------------------------------------------------------
APS -- Automatic APS is a suite of proprietary APS provides real-time information
Pro-Active tools developed to continually about a customer's remote
Services monitor the performance of equipment. APS automatically
customer equipment. Three levels notifies the customer and the
of predetermined escalation Company's technical personnel of
procedures include automatic system malfunctions. Predetermined
notification by e-mail, escalation procedures customized
notification by pager and for each AboveNet customer are
automatic power cycle. then carried out by the Company's
personnel. Automatic rebooting and
other predetermined procedures
often serve to correct problems
before the customer is aware of
the problem.
- ----------------------------------------------------------------------------------------------
As-Ur-Here Service As-Ur-Here provides various As-Ur-Here allows customers to
service aspects including maintain access and control over
automatic remote power cycle and their equipment and perform
remote services terminal server effective equipment maintenance
access. and problem solving while they
outsource their servers and/or
networking equipment.
- ----------------------------------------------------------------------------------------------
</TABLE>
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CUSTOMERS
The Company has established a diversified base of customers including
Internet content providers, Web hosting companies and ISPs. As of September 30,
1998, the Company had approximately 316 customers. One customer, Supernews,
Inc., accounted for 12% and 14% of the Company's revenues in fiscal 1997 and
1998, respectively. No other customer accounted for more than 10% of revenues in
either fiscal 1997 or 1998. The Company's success is substantially dependent on
the continued growth of its customer base and the retention of its customers.
The Company's customer base increased from 221 at March 31, 1998 to 278 at June
30, 1998 and 316 at September 30, 1998. The Company had a monthly customer
retention rate of 97% or greater in each of the six months ended September 30,
1998. See "Risk Factors -- Need to Grow and Retain Customer Base; Lengthy Sales
Cycle."
The following is a representative list of customers as of October 31, 1998:
<TABLE>
<S> <C> <C>
- -------------------------------------------------------------------------------------------------------
INTERNET CONTENT PROVIDERS WEB HOSTING COMPANIES ISPS
- -------------------------------------------------------------------------------------------------------
Electronic Arts Inc. CNET Download.com Action Systems, Inc.
e-Media, LLC Galaxy-NET Telecom BigBiz Internet Services
Imagine Radio, Inc. iXL, Inc. Dacom America
IntelliChoice, Inc. ProHosting Direct Network Access, Ltd.
Netscape Communications Corporation PulseWeb Ventures Got.Net Corporation
RealNetworks, Inc. The Web Zone, Inc. Hurricane Electric
Supernews, Inc. Trakprops, Inc. Innetix
Visual Dynamics LLC VirtuaLynx Internet, LLC Internet Gateway Corp.
Web MD, Inc. WebPresence, Inc. LinkAGE Online Limited
Westech ExpoCorp. WebAsyst Corporation PH Communications
- -------------------------------------------------------------------------------------------------------
</TABLE>
The following examples illustrate how the Company's customers use its
services:
INTERNET CONTENT PROVIDERS
RealNetworks, Inc.
RealNetworks is a leading developer of software products and services
designed to enable users of personal computers and other consumer electronic
devices to send and receive audio, video and other multimedia services using the
World Wide Web. RealNetworks uses the Company's facilities to host its Web site
for users to download its client and server software. RealNetworks selected
AboveNet because of the speed and high performance of the Company's network
(enabling fast, reliable downloading of its products), the Company's ability to
rapidly scale the amount of bandwidth and the Company's extensive peering
relationships. Since becoming a customer in February 1998, RealNetworks has
co-located an increasing portion of its downloading operations with the Company.
Electronic Arts Inc.
Electronic Arts is an interactive entertainment software company that
develops, publishes and distributes products for personal computers and other
entertainment systems. Electronic Arts' IT department decided to outsource its
Web site because of the network congestion it encountered with its internal
solution and chose AboveNet because of its reliability, redundancy and
connectivity. Electronic Arts' usage has expanded significantly since 1996 and
it currently uses AboveNet to host the Web sites of multiple divisions.
Electronic Arts, one of the Company's first customers, has expanded its
co-location space over time from a 1/4 rack to a full cage.
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<PAGE> 40
WEB HOSTING COMPANIES
iXL, Inc.
iXL is an interactive media company that provides complete Web design and
hosting solutions. iXL offers the Company's co-location and connectivity
services to its customers as part of its bundled solution. iXL has relied upon
the scalability of AboveNet's solution as it has grown through a series of
acquisitions. iXL currently occupies two cages in the Company's San Jose
facility and a rack in its Vienna, Virginia facility. iXL uses AboveNet to
provide its customers with high performance and highly reliable Internet
connectivity.
CNET Download.com
CNET is an Internet media company that operates a network of sites on the
Web. Download.com, a division of CNET, is a leading site for downloading
software titles. CNET Download.com recently selected AboveNet to provide
co-location and connectivity services for its ftp servers due to the high
performance of AboveNet's network and peering relationships with major ISPs and
other large companies, including America Online, Inc. AboveNet's scalable
bandwidth also allows CNET Download.com the flexibility necessary to accommodate
traffic surges accompanying new software releases.
ISPS
Internet Gateway Corp.
Internet Gateway is a Canadian ISP that provides its customers access,
hosting, e-mail, and support services. Internet Gateway recently chose AboveNet
to provide co-location and Internet connectivity services. Internet Gateway uses
AboveNet's management tools, including APS and MRTG, to enable it to remotely
manage the status of its equipment and bandwidth utilization on a 24x7 basis.
Dacom America
Dacom America is a subsidiary of Dacom Corporation, a large Korean ISP.
Dacom America recently chose AboveNet to be one of its primary providers of
Internet connectivity in the United States. Dacom America purchases transit
services from AboveNet, which provides Dacom America with high performance
connectivity to U.S.-based content sites. Through this connection, Dacom America
is able to use AboveNet as its U.S. gateway, providing Dacom America with high
performance Internet connectivity. Dacom also benefits from access to AboveNet's
extensive peering relationships, reducing the need to negotiate separate peering
arrangements with other ISPs.
SALES AND MARKETING
The Company's sales and marketing objective is to achieve broad market
penetration and increase brand name recognition among Internet content
providers, Web hosting companies and ISPs on a global basis through investments
in the expansion of its sales organization and extensive marketing activities.
As of September 30, 1998, the Company employed 29 persons in sales and
marketing. The Company has developed a two-tiered sales strategy to target
leading Internet content providers, Web hosting companies and ISPs through
direct sales and channel relationships. See "Risk Factors -- Management of
Growth; Dependence on Key Personnel."
Direct Sales Force
The Company maintains a direct sales force of highly trained individuals in
San Jose, California and Vienna, Virginia. As of September 30, 1998, the Company
had 24 persons in direct sales targeting Internet content providers, Web hosting
companies and ISPs. The Company also has personnel responsible for addressing
the development of customers in Asia and Europe. The Company is actively seeking
to expand its direct sales force and sales engineers. Substantially all of the
Company's sales are currently generated by the Company's direct sales force. The
Company's sales force is supported in their sales efforts by its sales engineer
and, in many instances, by the Company's senior management. The Company believes
that the integration of
39
<PAGE> 41
its sales engineer with its sales account managers assists in both the
establishment of customer relationships as well as the migration of customers to
increased use of the Company's services. The Company has developed programs to
attract and retain high quality, motivated sales representatives that have the
necessary technical skills, consultative sales experience and knowledge of their
local markets. These programs include technical and sales process training and
instruction in consultative selling techniques. The Company has also developed
sales compensation plans which provide for significant incentives for exceeding
performance targets.
Develop Channel Relationships
The Company is seeking to develop relationships with potential channel
partners including hardware vendors, value-added resellers, system integrators
and Web hosting companies in order to leverage their sales organizations. The
Company believes that by leveraging the sales forces of these companies, it can
attract customers for its services in a cost-effective manner, as well as
provide co-branded Internet service offerings for its channel partners. For
example, two of the Company's Web hosting customers market the Company's service
as part of their overall bundled offering and the Company has been involved in
joint marketing and sales efforts with such customers. The Company is actively
seeking to hire experienced channel managers to focus exclusively on developing
these relationships. The Company also plans to develop seminar programs and
other cooperative sales programs to further develop these relationships.
Marketing
The Company's strategy is to significantly expand its marketing efforts to
stimulate increased demand for the Company's services and build the AboveNet
brand. The Company plans to aggressively invest in building the AboveNet brand
through an integrated marketing plan including traditional and online
advertising in business and trade publications, trade show participation, direct
mail and public relations campaigns to increase customer awareness. The Company
is also developing customer focus groups to encourage business relationships
among its customers.
NETWORK ARCHITECTURE
The Company's high performance network is designed to provide enhanced
connectivity to its customers. The Company's two ISX facilities are connected to
one another with high speed SONET circuits, and connected to the Internet
through public and private peering arrangements.
The Company's ISX facilities are located near MAE West and MAE East and are
connected to local Internet exchange points by multiple high-speed backbone
connections, provided by MCI WorldCom Teleport Communications Group, a division
of AT&T and Sprint. These links to the local exchange points, combined with
private exchanges with ISPs, connect the customers' traffic to the Internet. The
Company has engineered its peering with a geographically diverse fiber path to
provide high reliability, even in the event of a link failure. The Company has
developed dynamic rerouting and load balancing technologies to enhance Internet
operations.
The Company has determined that as voice, video, and other services are
carried across the Internet, the need for ATM in network infrastructures is
reduced. The Company has built their network using DS-3 and OC-3 clear channel
circuits. By using clear channel circuits, the Company is able to make highly
efficient use of these connections, lowering infrastructure costs, and providing
high performance connectivity. Inside of each ISX facility, the Company has
multiple LANs, each connected to the outside network through redundant routers
and network connections. These routers are configured such that in case of
failure of a single connection, or piece of equipment, alternative equipment or
network paths are automatically utilized, without human intervention, or
performance degradation. See "Risk Factors -- Dependence on Third Party
Suppliers."
The Company utilizes a combination of public and private peering in order
to provide a high level of network performance. On September 30, 1998, the
Company had private peering relationships with 42 network providers and 129
public peering relationships, including peering relationships with all of the
largest providers, and is connected to all of the major U.S. Internet exchange
points. The combination of public and
40
<PAGE> 42
private peering sessions allows the Company to provide high levels of
performance and reliability to their customers. To ensure that this connectivity
is not degraded, the Company has a policy of providing significant excess
capacity on all LAN, WAN and Internet exchange point connections in its network.
The Company's failure to maintain and increase peering relationships would have
a material adverse effect on the Company's business, results of operations and
financial condition. See "Risk Factors -- Need to Maintain and Increase Peering
Relationships."
The Company's operations are dependent upon its ability to protect its
network infrastructure and customers' equipment against damage from human error,
fire, earthquakes, floods, power loss, telecommunications failures, sabotage,
intentional acts of vandalism, and similar events. Despite precautions taken by,
and planned to be taken by the Company, the occurrence of a natural disaster or
other unanticipated problem at one or more of the Company's ISX facilities could
result in interruptions to the services provided by the Company. Such an event
could significantly impact the ability of suppliers to provide the data
communications capacity required by the Company and could result in
interruptions in the Company's services. See "Risk Factors -- Risk of System
Failure" and "-- Dependence Upon Third Party Suppliers" and "-- Security Risks."
CUSTOMER SERVICE AND QUALITY ASSURANCE
The Company offers a high level of customer service and quality assurance
by understanding the technical requirements and business objectives of its
customers and addressing their needs proactively on an individual basis. By
working closely with its customers, the Company is able to enhance the
performance of its customers' Internet operations, avoid downtime, resolve
quickly any problems that may arise and make appropriate adjustments in services
as customer needs change over time. As the Company works with its customers over
time to ensure that it is offering the appropriate types and quality of service.
The Company uses advanced software tools to aid in its customer monitoring and
service efforts. The Company received its ISO 9002 certification in April 1998.
As of September 30, 1998, the Company had 27 employees dedicated to customer
service and quality assurance.
Customer service begins before a sale, when the Company provides technical
support for complex orders. During the installation phase, the Company assigns a
transition team and a project manager, who also retains responsibility for the
account after installation, to assist the new customer with the installation
process. After installation, the customer's equipment is overviewed by the
Company's Network Operation Center in San Jose, California, which is operated
24x7 by engineers who answer customer calls, monitor site and network operations
and activate teams to solve problems that arise. The Company's customer service
personnel are also available to assist customers whose operations require
specialized procedures.
The Company believes that its quality assurance programs are key to
building its brand name. The objectives of AboveNet's quality assurance system
are to comply with International Standard ISO 9002:1994 Quality Systems; to
achieve and maintain a level of quality that enhances the Company's reputation
with its customers; to ensure compliance with relevant safety and environmental
requirements; and to endeavor to deliver high quality services to customers in
an environment centered on adherence to high legal and ethical standards.
COMPETITION
The market served by the Company is intensely competitive. There are few
substantial barriers to entering the co-location service business, and the
Company expects that it will face additional competition from existing
competitors and new market entrants in the future. The Company believes that
participants in this market must grow rapidly and achieve a significant presence
in the market in order to compete effectively. The Company believes that the
principal competitive factors in its market are uncongested connectivity,
quality of facilities, level of customer service, price, the financial stability
and credibility of the provider, brand name and the availability of network
management tools. There can be no assurance that the Company will have the
resources or expertise to compete successfully in the future. The Company's
current and potential competitors in the market include: (i) providers of
co-location services, such as Exodus Communications, Inc., GlobalCenter, Inc.,
which was recently acquired by Frontier Corporation, and Hiway Technologies,
Inc. which recently entered into an agreement
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to be acquired by Verio Inc.; (ii) national and regional ISPs, such as
Concentric Network Corporation, PSINet, Inc., MCI WorldCom and certain
subsidiaries of GTE Corporation; (iii) global, regional and local
telecommunications companies, such as Sprint, MCI WorldCom and regional bell
operating companies, some of whom supply capacity to the Company; and (iv) large
IT outsourcing firms, such as International Business Machines Corporation and
Electronic Data Systems. Certain of these companies operate in one or more of
these markets. In addition, many of the Company's current and potential
competitors have substantially greater financial, technical and marketing
resources, larger customer bases, longer operating histories, greater name
recognition and more established relationships in the industry than the Company.
As a result, certain of these competitors may be able to develop and expand
their network infrastructures and service offerings more quickly, adapt to new
or emerging technologies and changes in customer requirements more quickly, take
advantage of acquisitions and other opportunities more readily, devote greater
resources to the marketing and sale of their services and adopt more aggressive
pricing policies than can the Company. In an effort to gain market share,
certain of the Company's competitors have offered co-location services similar
to those of the Company at lower prices than those of the Company or with
incentives not matched by the Company, including free start-up and domain name
registration, periods of free service and low-priced Internet access. As a
result of these policies, the Company may encounter increasing pricing pressure
which could have a material adverse effect on its business, results of
operations and financial condition.
In addition, these competitors have entered and will likely continue to
enter into joint ventures, consortiums or consolidations to provide additional
services competitive with those provided by the Company. As a result, such
competitors may be able to provide customers with additional benefits in
connection with their co-location and network management solutions, including
reduced communications costs, which could reduce the overall costs of their
services relative to the Company's services. There can be no assurance that the
Company will be able to offset the effects of any such price reductions. In
addition, the Company expects competition to intensify as the Company's current
and potential competitors incorporate a broader range of bandwidth,
connectivity, and Internet networking services and tools into their service
offerings. The Company believes that companies seeking co-location and Internet
connectivity providers for their mission-critical Internet operations may use
more than one company to provide this service. As a result, these customers
would be able to shift the amount of service and bandwidth usage from one
provider to another. The Company may also face competition from its suppliers.
The Company's agreements with its suppliers and other partners do not limit or
restrict those parties from offering similar services to the Company's
customers, thereby enabling such parties to compete against the Company.
INTELLECTUAL PROPERTY RIGHTS
The Company relies on a combination of copyright, trademark, service mark
and trade secret laws and contractual restrictions to establish and protect
certain proprietary rights in its services. The Company has no patented
technology that would preclude or inhibit competitors from entering the
Company's market. The Company has generally entered into confidentiality and
invention assignment agreements with its employees in order to limit access to
and disclosure of certain of its proprietary information. There can be no
assurance that these contractual arrangements or the other steps taken by the
Company to protect its intellectual property will prove sufficient to prevent
misappropriation of the Company's technology or to deter independent third-
party development of similar technologies. The laws of certain foreign countries
may not protect the Company's services or intellectual property rights to the
same extent as do the laws of the U.S. The Company also relies on certain
technologies that it licenses from third parties. Two key technologies offered
by the Company, MRTG and EtherValve, are licensed from David Rand, the Company's
Chief Technical Officer. The Company has perpetual, irrevocable, royalty-free
worldwide licenses to both technologies. The license to MRTG is non-exclusive
and the license to EtherValve is exclusive subject to one previously granted
license. The Company does not license any other technology which is not
generally available. To date, the Company has not been notified that the Company
infringes the proprietary rights of third parties, but there can be no assurance
that third parties will not claim infringement by the Company. The Company
expects that participants in its markets will be increasingly subject to
infringement claims as the number of technologies and competitors in the
Company's industry segment grows. Any such claim, whether meritorious or not,
could be time-consuming, result in costly litigation, cause service delays or
require the Company to enter into royalty
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or licensing agreements. Such royalty or licensing agreements might not be
available on terms acceptable to the Company or at all. As a result, any such
claim could have a material adverse effect upon the Company's business, results
of operations and financial condition.
GOVERNMENT REGULATION
There is currently only a small body of laws and regulations directly
applicable to access to or commerce on the Internet. However, due to the
increasing popularity and use of the Internet, it is possible that a number of
laws and regulations may be adopted at the international, federal, state and
local levels with respect to the Internet, covering issues such as user privacy,
freedom of expression, pricing, characteristics and quality of products and
services, taxation, advertising, intellectual property rights, information
security and the convergence of traditional telecommunications services with
Internet communications. Moreover, a number of laws and regulations have been
proposed and are currently being considered by federal, state and foreign
legislatures with respect to such issues. The nature of any new laws and
regulations and the manner in which existing and new laws and regulations may be
interpreted and enforced cannot be fully determined. For example, although
sections of the Communications Decency Act of 1996 (the "CDA") that, among other
things, proposed to impose criminal penalties on anyone distributing "indecent"
material to minors over the Internet, were held to be unconstitutional by the
U.S. Supreme Court, there can be no assurance that similar laws will not be
proposed and adopted. Legislation similar to the CDA could subject the Company
and/or its customers to potential liability, which in turn could have an adverse
effect on the Company's business, results of operations and financial condition.
The adoption of any future laws or regulations might decrease the growth of the
Internet, decrease demand for the services of the Company, impose taxes or other
costly technical requirements or otherwise increase the cost of doing business
or in some other manner have a material adverse effect on the Company or its
customers, each of which could have a material adverse effect on the Company's
business, results of operations and financial condition. In addition,
applicability to the Internet of existing laws governing issues such as property
ownership, copyrights and other intellectual property issues, taxation, libel,
obscenity and personal privacy is uncertain. The vast majority of such laws were
adopted prior to the advent of the Internet and related technologies and, as a
result, do not contemplate or address the unique issues of the Internet and
related technologies. Changes to such laws intended to address these issues,
including some recently proposed changes, could create uncertainty in the
marketplace which could reduce demand for the services of the Company or
increase the cost of doing business as a result of costs of litigation or
increased service delivery costs, or could in some other manner have a material
adverse effect on the Company's business, results of operations and financial
condition. In addition, as the Company's services are available over the
Internet in multiple states and foreign countries, and as the Company
facilitates sales by its customers to end users located in such states and
foreign countries, such jurisdictions may claim that the Company is required to
qualify to do business as a foreign corporation in each such state or foreign
country. Any such new legislation or regulation, or the application of laws or
regulations from jurisdictions whose laws may not currently apply to the
Company's business, could have a material adverse effect on the Company's
business, results of operations and financial condition.
EMPLOYEES
As of September 30, 1998, the Company had 78 employees, including 29 people
in sales and marketing, 36 people in Customer Service, Network and Backbone
Engineering and Product Development; and 13 people in Finance and
Administration. The Company believes that its future success will depend in part
on its continued ability to attract, hire and retain qualified personnel. The
competition for such personnel is intense, and there can be no assurance that
the Company will be successful in attracting such personnel. See "Risk
Factors -- Risks Associated with Recent and Planned Business Expansion,"
"-- Management of Growth; Dependence on Key Personnel."
FACILITIES
The principal executive and administrative offices of the Company are
located in San Jose, California and consist of approximately 15,000 square feet
that are leased until 2008, with an option by the Company to expand to 20,000
square feet and to extend to 2018. The Company leases its ISX facilities in San
Jose,
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California and Vienna, Virginia (in the Washington, D.C. area). The San Jose,
California facility consists of approximately 10,000 square feet and is leased
until 2008 with an option for the Company to extend to 2018, and the Vienna,
Virginia, facility which consists of approximately 17,000 square feet and is
leased until 2007, with an option for the Company to extend to 2012.
The Company is planning to develop a second ISX facility of approximately
110,000 square feet, including approximately 50,000 square feet of co-location
space, near its San Jose, California facility. The new facility is targeted to
open by the fall of 1999. The Company intends to initially complete the
build-out of approximately 13,000 square feet of co-location space and to
complete the build-out of additional co-location space incrementally over time
based on customer demand and the availability of additional financing. The lease
for this planned facility is a twenty year lease commencing on the earlier of
such time when any portion of the facility can be occupied or one year following
the earlier of the date on which construction on the planned facility commences
or should have commenced. There can be no assurance that such facility will be
completed in a timely manner, or at all. See "Risk Factors -- Risks Associated
with Recent and Planned Business Expansion."
LEGAL PROCEEDINGS
The Company has a pending dispute with one of its customers, Pathway
Communications, Inc. ("Pathway"), involving one of Pathway's consultants. The
consultant misrepresented his identity to the Company to gain access to
Pathway's servers in order to delete files. On September 3, 1998, Pathway filed
a complaint against the Company for negligence, breach of contract, conversion,
and intentional and negligent interference with prospective economic advantage
in the Superior Court of the State of California, County of Santa Clara. The
lawsuit seeks general, special and punitive damages upon proof, as well as costs
and reasonable attorneys' fees. The Company intends to vigorously defend against
such action. However, there can be no assurance that the Company will prevail or
that such litigation will not have a material adverse effect on the Company's
business, results of operations and financial condition. See "Risk
Factors -- Security Risks."
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MANAGEMENT
EXECUTIVE OFFICERS, DIRECTORS AND KEY EMPLOYEES
The executive officers, directors and key employees of the Company, and
their ages as of November 30, 1998 are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Sherman Tuan................. 45 Chairman of the Board and Chief Executive Officer
Peter C. Chen, Ph.D.(1)...... 59 Vice Chairman of the Board
Warren J. Kaplan............. 56 President, Chief Operating Officer and Director
David Rand................... 35 Chief Technology Officer
Stephen P. Belomy............ 40 Executive Vice President and Secretary
David Dembitz................ 45 Senior Vice President of Sales and Marketing
David F. Larson.............. 51 Senior Vice President and Chief Financial Officer
Lori Barth................... 45 Vice President of Sales
Jerry Chen................... 34 Vice President of International -- Asia
Kevin Hourigan............... 34 Vice President of Finance and Controller
Jeffrey Monroe............... 31 Vice President of Construction and Real Estate
Wayne Sanders................ 55 Vice President of Corporate Development
Paul Steiner, Ph.D........... 42 Vice President of International -- Europe
Robert A. Burgelman, Ph.D.... 53 Director
Frank R. Kline(1)............ 48 Director
James Sha(2)................. 48 Director
Tom Shao, Ph.D.(2)........... 64 Director
Kimball W. Small(1)(2)....... 63 Director
Fred A. Vierra............... 67 Director
</TABLE>
- ---------------
(1) Member of Compensation Committee
(2) Member of Audit Committee
Mr. Tuan, founder of AboveNet, has served as Chief Executive Officer and a
Director since 1996, and President until January 1998. Mr. Tuan has served as
Chairman of the Board since August 1998. Mr. Tuan was President of InterNex
Information Services, Inc., an Internet infrastructure provider, from November
1994 to October 1995 and from February 1994 to November 1995 was President of
Tiara Computer, Inc., a network equipment manufacturer, which merged with
InterNex Information Services, Inc. in November 1994. From January 1992 to June
1993, Mr. Tuan was Vice President of Worldwide Sales and Marketing of Primus
Technologies, Inc., a provider of problem resolution and knowledge management
software, and President of Celerite Graphics, Inc., its wholly owned subsidiary
that manufactured video chips. Mr. Tuan received an Electrical Engineering
degree from Feng-Chia University in Taiwan.
Dr. Chen has served as Vice Chairman of AboveNet's Board of Directors since
August 1998. Dr. Chen served as Chairman of the Board of Directors from December
1996 to August 1998, and has been a Director of the Company since March 1996.
Dr. Chen is the Founder and Chairman of Crosslink Technology Partners, an
investment firm specializing in funding and developing early stage
semiconductor, healthcare and Internet related technology ventures, where he has
been employed since August 1992. From September 1983 to May 1992, Dr. Chen was
Founder, General Manager and Chief Executive Officer of Mosel Corporation, a
semiconductor manufacturer in Taiwan. Dr. Chen received a B.S. in Engineering
from National Taiwan University and a Ph.D. in Engineering from Cornell
University.
Mr. Kaplan has served as AboveNet's President, Chief Operating Officer and
a Director since January 1998, and as Acting President and Chief Operating
Officer from November 1997 to January 1998. From March 1996 to November 1997,
Mr. Kaplan was an investor and consultant to various Internet software start-up
companies. Mr. Kaplan served as Chief Executive Officer and a director of Simply
Interactive, Inc., a software
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<PAGE> 47
company, from June 1996 to December 1996 and was President from April 1996 to
June 1996. Until February 1996, Mr. Kaplan served (i) as a Managing
Director -- International at NETCOM On-Line Communication Services, Inc.
("NETCOM"), an ISP and Web hosting company, from August 1995, (ii) as its
Executive Vice President from February 1994, (iii) as its Secretary from October
1994; and (iv) as a Director since April 1994. Mr. Kaplan also served as
NETCOM's Chief Financial Officer from February 1994 through September 1995. From
September 1989 to December 1993, Mr. Kaplan was Vice President of Operations of
Gefinor (USA) Inc., a merchant banking business, and also served as Senior Vice
President and Chief Financial Officer and Interim Chief Executive Officer of its
majority-owned subsidiary, Sheaffer Pen Company, from September 1989 to August
1991 and September 1989 to August 1990, respectively. Mr. Kaplan received a B.S.
in Accounting from New York University and an M.B.A. in Taxation from Long
Island University.
Mr. Rand has served as AboveNet's Chief Technology Officer since March
1996, initially as a consultant, and since May 1998 as an employee. Mr. Rand has
served as a member of the Internet Engineering Task Force for the past seven
years. Mr. Rand authored rfc 1962 and rfc 1663, developed the EtherValve
technology and developed ASAP and APS, as well as co-developed MRTG. From
September 1995 to May 1998, Mr. Rand was an engineer at Cisco Systems, Inc., a
router manufacturer. From February 1994 to August 1995, Mr. Rand was an engineer
at Innovative Systems and Technologies, a video compression company. From
October 1993 to February 1994, Mr. Rand was a software engineer at Novell, Inc.,
a network server company.
Mr. Belomy has served as Executive Vice President since January 1998. Mr.
Belomy also served as AboveNet's Chief Financial Officer from January 1998 to
November 1998, and as AboveNet's Director of Operations from January 1997 to
January 1998. From August 1985 to December 1996, Mr. Belomy served as Vice
President of Kimball Small Properties, a commercial real estate developer in San
Jose, California. Mr. Belomy has a B.S. in Engineering from the University of
California at Los Angeles.
Mr. Dembitz has served as AboveNet's Senior Vice President of Sales and
Marketing since April 1998. From February 1996 to April 1997, Mr. Dembitz was
Vice President of Sales and Marketing of ISDNet, a start-up company that
provided remote access solutions, which was acquired in 1997. From June 1993 to
December 1995, Mr. Dembitz was an independent consultant providing networking
consulting services. From January 1990 to June 1993, Mr. Dembitz held various
sales positions, including Senior Manager of Major Account Programs and Channel
Programs, as well as the Senior Manager of Sales Operations for SynOptics
Communications, which was acquired by Bay Networks, a provider of routers,
switches and hubs. Mr. Dembitz received a B.S. in Management and a B.S. in
Economics, as well as an M.B.A. with a minor in Marketing, from the University
of Utah.
Mr. Larson joined AboveNet as its Senior Vice President and Chief Financial
Officer in November 1998. From December 1997 to November 1998, Mr. Larson served
as Vice President and Treasurer of Silicon Valley Group, Inc. ("SVG"), which
designs, manufactures and markets semiconductor processing equipment. From
August 1993 to December 1997, Mr. Larson served as SVG's Director of Planning
and from July 1991 to August 1993, Mr. Larson served as SVG's Corporate
Controller. Mr. Larson received a B.S. with honors (with a concentration in
Accounting) from California Polytechnic State University, San Luis Obispo. Mr.
Larson is a Certified Public Accountant.
Ms. Barth has served as AboveNet's Vice President of Sales since August
1998. From June 1997 to August 1998, Ms. Barth was a principal at Corporate
Performance Concepts, a skills development company, and from June 1992 to June
1997, Ms. Barth was a Vice President at Holden Corporation, a sales and
marketing consulting firm. Ms. Barth received her B.S. in Business
Administration and Computer Science from Central Michigan University.
Mr. Chen has served as AboveNet's Vice President of International-Asia
since October 1998. Previously, Mr. Chen served as Sales and Marketing Manager
from January to December 1996, as Senior Customer Service Manager from January
to December 1997, as San Jose Operations Director from January 1998 to June 1998
and as a Director of Asia Pacific from July 1998 to October 1998. Prior to
joining AboveNet, Mr. Chen was a Director of Postable Systems for Everex
Systems, Inc., a computer manufacturer, from January 1995 to January 1996 and
the Co-founder and Vice President of Intelligent Notebook Systems, a
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<PAGE> 48
computer reseller, from May 1994 to January 1996. From July 1991 to May 1994 Mr.
Chen was a sales manager for Santron Inc., a computer reseller. Mr. Chen
received a B.S. in Electrical Engineering from Feng-Chia University in Taiwan,
and an M.B.A. from the University of Hartford.
Mr. Hourigan was promoted to AboveNet's Vice President of Finance in August
1998, and has served as Controller since February 1998. Mr. Hourigan served as a
consulting associate with Deloitte & Touche LLP from October 1997 to February
1998. From August 1993 to April 1997, Mr. Hourigan served in the following
capacities at NETCOM: Controller (1993-1995) and Director of Internal Audit,
Budgeting and Analysis (1995-1997). From August 1991 to August 1993, Mr.
Hourigan served as Financial Analyst for Hewlett-Packard Company, a computer
manufacturer. Mr. Hourigan received a B.A. in Business Economics and a B.A. in
Law & Society from University of California Santa Barbara and an M.B.A. from
Santa Clara University.
Mr. Monroe has served as AboveNet's Vice President of Construction and Real
Estate since August 1998. Mr. Monroe was a Project Manager for Cupertino
Electric, an electrical contractor, from February 1998 to August 1998. Prior to
that, Mr. Monroe was a Project Manager from April 1992 to January 1998, an
Assistant Manager from 1990 to 1992 and an Estimator from 1989 to 1990 for
Truland Systems Corporation, an electrical engineering and contracting company.
Mr. Monroe completed a four year IBEN Electrical apprenticeship program and is a
licensed electrician in the State of Virginia and Washington, D.C.
Mr. Sanders has served as AboveNet's Vice President of Corporate
Development since August 1998. Mr. Sanders served as AboveNet's Director of
Sales from May 1996 to August 1998. From April 1994 to April 1996 Mr. Sanders
was the Director of Sales for InterNex Communications, Inc., an Internet
infrastructure provider. Prior thereto, Mr. Sanders was the Founder of
InterSell, a computer peripheral manufacturer and distribution company, which
subsequently was split into three companies, from July 1976 to January 1993. The
three companies were: Integrated Marketing, a manufacturing representative firm
where he held the position of Chief Executive Officer and President; Paragon
Sales, a distributor of computer peripherals where he held the position of Chief
Executive Officer; and Intek Manufacturing, a manufacturer of intelligent
printers and smart switch boxes where he held the position of Chief Executive
Officer. Mr. Sanders attended Olympic College in Bremerton, Washington.
Dr. Steiner has served as AboveNet's Vice President of
International -- Europe since August 1998. From August 1995 until August 1998,
Dr. Steiner was the Managing Director of Europe, Africa, Middle East and India,
and from February 1995 until August 1995, Dr. Steiner was a consultant for
NETCOM. From January 1994 to January 1995, Dr. Steiner was an independent
consultant in Palo Alto, California. From April 1986 to December 1993, Dr.
Steiner served as a Managing Director and Partner for HOT Engineering Ltd., a
petroleum engineering software and consulting company in Leoben, Austria. Dr.
Steiner received a B.S. and M.S. in Petroleum Engineering, and a Ph.D. in
Reservoir Engineering from Leoben Mining University in Leoben, Austria, and an
M.B.A. from the University of Michigan.
Dr. Burgelman has served as a Director of the Company since November 1998.
Dr. Burgelman is currently the Edmond W. Littlefield Professor of Management and
Director of the Stanford Executive Program (SEP) at Stanford Business School and
has been a professor at Stanford Business School since August 1981. From 1991 to
1992, Dr. Burgelman also served as Chair of the Division of Business Policy and
Strategy of the Academy of Management and was a Marvin Bower Fellow at Harvard
Business School. From 1996 to 1997 and 1988 to 1989 Dr. Burgelman was a GSB
Trust Faculty Fellow and a BP America Faculty Fellow at Stanford Business
School. Dr. Burgelman earned a Licenciate degree in Applied Economics from
Antwerp University in Belgium, an M.A. in Sociology and a Ph.D. in Management of
Organizations from Columbia University.
Mr. Kline has served as a Director of the Company since August 1998. Mr.
Kline has served as a Managing Partner of Kline Hawkes California, L.P./Kline
Hawkes California SBIC, L.P., a private equity firm, since 1994. From June 1984
to June 1994, Mr. Kline served as a private equity manager of Lambda Fund
Management, Inc., a venture capital firm. Mr. Kline currently serves as a
director of four companies, including: CampusLink Communications Systems, Inc.,
EOS Corporation, SuperShuttle International, Inc. and TranSoft Networks, Inc.
Mr. Kline also serves on the Board of Governors of the National Association of
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Small Business Investment Companies. Mr. Kline received a B.S. in Commerce from
Rider College and an M.S. from the University of Massachusetts at Amherst.
Mr. Sha has served as a Director since August 1998. Since January 1998, Mr.
Sha has served as Senior Vice President, Commerce Solutions at Netscape
Communications ("Netscape"), a provider of software and Internet services for
businesses. From April 1996 to December 1997, Mr. Sha was the President and
Chief Executive Officer of Actra Business Systems ("Actra"), a developer of
high-end Internet commerce applications. Actra, a joint venture between Netscape
and GE Information Services, was acquired by Netscape in December 1997. Mr. Sha
served as Vice President and General Manager of integrated application at
Netscape from August 1994 to April 1996. From June 1990 to August 1994, Mr. Sha
was the Vice President of the Unix Product Division at Oracle Corporation, a
software company. Mr. Sha received an M.S. Electrical Engineering from the
University of California at Berkley, an M.B.A. from Santa Clara University and a
B.S. in Electrical Engineering from Taiwan University.
Dr. Shao has served as a member of AboveNet's Board of Directors since
January 1998. Since September 1997, Dr. Shao has served as Managing Director of
Technology Associates Management Co., Ltd., a venture fund manager. Dr. Shao
served as a senior consultant for Technology Associates Corporation of Taiwan, a
venture investment firm, from September 1995 to September 1997. From September
1985 to September 1995, Dr. Shao served as Senior Vice President of DynaTech
Development Corporation, a management consulting and venture investment firm.
Since August 1992, Dr. Shao has served as President of TSS Enterprises, a
privately held high technology management consulting, investing and trading
company. Dr. Shao received a Ph.D. in Applied Mathematics/Computer Science, a
M.S. in Engineering from the University of Illinois, and a B.S. in Engineering
from National Taiwan University.
Mr. Small has served as a member of AboveNet's Board of Directors since
March 1997. Mr. Small is the Founder and President of Kimball Small Properties,
a San Jose, California commercial real estate development company incorporated
in 1978. Mr. Small received a B.S. from the University of California at Los
Angeles.
Mr. Vierra has served as a member of AboveNet's Board of Directors since
October 1998. Mr. Vierra is the Vice Chairman of the Board of Directors and a
consultant to Tele-Communications International, Inc. (TINTA), a cable
television and telecommunications company. Prior to his current position with
TINTA, Mr. Vierra served as the Chief Executive Officer from June 1995 to
January 1998 and as Executive Vice President from December 1991 to June 1995.
Prior to joining TINTA, Mr. Vierra was President and Chief Operating Officer of
the United Artists Entertainment Company, a cable television and motion picture
theatre company, from 1989 to 1991. Mr. Vierra received a B.S. in Business
Administration from the University of Tulsa.
Classified Board
The Company's Certificate of Incorporation provides for a classified Board
of Directors consisting of three classes of directors, each serving staggered
three-year terms. As a result, a portion of the Company's Board of Directors
will be elected each year. To implement the classified structure, prior to the
consummation of the offering, two of the nominees to the Board will be elected
to one-year terms, two will be elected to two-year terms, and three will be
elected to three-year terms. Thereafter, directors will be elected for
three-year terms. Robert A. Burgelman, Frank R. Kline and Tom Shao have been
designated Class I directors whose term expires at the 1999 annual meeting of
stockholders. Peter C. Chen, Warren J. Kaplan and Fred A. Vierra have been
designated Class II directors whose term expires at the 2000 annual meeting of
stockholders. James Sha, Kimball W. Small and Sherman Tuan have been designated
Class III directors whose term expires at the 2001 annual meeting of
stockholders. See "Description of Capital Stock -- Antitakeover Effects of
Provisions of Certain Charter Provisions, Bylaws and Delaware Law."
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BOARD COMMITTEES
The Board of Directors has a Compensation Committee and an Audit Committee.
Compensation Committee
The Compensation Committee of the Board of Directors reviews and makes
recommendations to the Board regarding all forms of compensation provided to the
executive officers and directors of the Company and its subsidiaries including
stock compensation and loans. In addition, the Compensation Committee reviews
and makes recommendations on bonus and stock compensation arrangements for all
employees of the Company. As part of the foregoing, the Compensation Committee
also administers the Company's 1996 and 1997 Stock Option Plans, 1998 Stock
Incentive Plan and 1998 Employee Stock Purchase Plan. The current members of the
Compensation Committee are Messrs. Chen, Kline and Small.
Audit Committee
The Audit Committee of the Board of Directors reviews and monitors the
corporate financial reporting and the internal and external audits of the
Company, including, among other things, the Company's internal audit and control
functions, the results and scope of the annual audit and other services provided
by the Company's independent auditors and the Company's compliance with legal
matters that have a significant impact on the Company's financial reports. The
Audit Committee also consults with the Company's management and the Company's
independent auditors prior to the presentation of financial statements to
stockholders and, as appropriate, initiates inquiries into aspects of the
Company's financial affairs. In addition, the Audit Committee has the
responsibility to consider and recommend the appointment of, and to review fee
arrangements with, the Company's independent auditors. The current members of
the Audit Committee are Messrs. Sha, Shao and Small.
DIRECTOR COMPENSATION AND OTHER ARRANGEMENTS
Directors of the Company who are not employees receive cash payments of
$2,000 per Board meeting and Committee meeting. From time to time, certain
directors who are not employees of the Company have received grants of options
to purchase shares of the Company's Common Stock. Following this offering,
directors will receive automatic option grants under the Company's 1998 Stock
Incentive Plan. See "-- Stock Incentive Plan."
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Compensation Committee of the Board of Directors currently consists of
Messrs. Chen, Kline and Small. No interlocking relationship exists between any
member of the Company's Board of Directors or the Company's Compensation
Committee and any member of the board of directors or compensation committee of
any other company, and no such interlocking relationship has existed in the
past.
ADVISORY BOARD
The Company has an Advisory Board whose members advise management of the
Company with respect to strategic issues and other business matters. The
Company's Advisory Board currently consists of the following persons:
Robert Berger is an Internet bandwidth development consultant. Mr. Berger
founded InterNex Information Services, Inc. ("InterNex") in 1993 and held
various executive management positions with InterNex until March 1997.
Gregg Carse has worked with CWA International since 1980, during which time
he founded CWA Communications Products, a designer and manufacturer of
telecommunications equipment.
Michael Conley is General Manager of Perspecta, Inc. Prior to that, he
served as a Managing Director of Spyglass Incorporated. Mr. Conley has had
various positions with NetFrame Systems Incorporated from 1989 to 1996 with the
most recent being Vice President and General Manager, Asia Pacific.
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Daniel Gatti has been President and Chief Executive Officer of Mayan
Networks, a multiservice carrier class access switch company, since June 1998.
Prior to joining Mayan Networks, Mr. Gatti served as Vice President and General
Manager of 3COM's Network Service Provider Division.
Glenn Kohner is President of ISO-Online Inc. Prior to 1996, Mr. Kohner was
a consultant and business owner.
James Lee is Director of Strategy at the Singapore National IT Research
Institute, Kent Ridge Digital Labs.
Frank McGrath has been Vice President of WorldCom, Inc. since 1988. From
1980 to 1988, Mr. McGrath was Vice President of ITT World Communications.
Greg Moyer is Chief Executive Officer and Creative Director of Flying
Beyond, Inc. Mr. Moyer, from 1989 to 1993, was Creative Director and Lead
Producer of National Meeting Company.
Richard Steranka has held several positions at Cisco Systems, Inc. since
1992. Mr. Steranka is presently Director, Small-Medium Business Channel
Marketing.
Bruce Weber has been President of QMS Quality Management System, Inc. since
1995 and a Senior Executive of Boca Corporate Resources, a successor of Martin,
Randolph and Barnes since 1992, a firm specializing in corporate acquisitions,
restructuring and leveraged buyouts.
EXECUTIVE COMPENSATION
The following table sets forth the compensation earned during the fiscal
year ended June 30, 1998, by the Company's Chief Executive Officer and the
Company's three other most highly compensated executive officers (collectively,
the "Named Executive Officers"), for services rendered in all capacities to the
Company for that fiscal year.
SUMMARY COMPENSATION TABLE FOR LAST FISCAL YEAR
<TABLE>
<CAPTION>
LONG TERM
COMPENSATION AWARDS
ANNUAL COMPENSATION ---------------------
----------------------- SECURITIES
NAME AND PRINCIPAL POSITION SALARY($) BONUS($) UNDERLYING OPTIONS(#)
--------------------------- --------- -------- ---------------------
<S> <C> <C> <C>
Sherman Tuan
Chief Executive Officer......................... 132,500(1) --(2) 67,500(3)
Warren J. Kaplan
President, Chief Operating Officer.............. 71,635(4) --(5) 202,500(6)
Stephen P. Belomy
Executive Vice President........................ 112,500 -- 42,500
David Rand
Chief Technology Officer........................ 103,333(7)(8) -- 30,000(9)
</TABLE>
- ---------------
(1) Upon the closing of this offering, Mr. Tuan's annual base salary will
increase to $225,000 with a minimum annual increase of 10% each year
thereafter. See "-- Employment Agreements."
(2) Upon the closing of the offering, Mr. Tuan will receive a minimum annual
bonus of $50,000 per year (such bonus not to exceed the amount of Mr. Tuan's
then current salary), with a minimum bonus increase of 10% each year
thereafter. See "-- Employment Agreements."
(3) On August 18, 1998, Mr. Tuan received an option to purchase 131,500 shares
of Common Stock at an exercise price of $12.00 per share which will vest in
equal installments over 48 months. On December 1, 1998, the Board approved
an amendment to reduce the exercise price of the option to $10.00 per share.
See "Certain Transactions."
(4) Upon the closing of the offering, Mr. Kaplan's annual base salary will
increase to $225,000 with a minimum annual increase of 10% each year
thereafter. See "-- Employment Agreements."
(5) Upon the closing of the offering, Mr. Kaplan will receive a minimum annual
bonus of $50,000 per year (such bonus not to exceed the amount of Mr.
Kaplan's then current salary), with a minimum annual bonus increase of 10%
each year thereafter. See "-- Employment Agreements."
(6) Includes an option to purchase 27,500 shares granted for services rendered
as a consultant, of which the option to purchase 9,166 shares has been
cancelled. Mr. Kaplan's option for 175,000 shares contains an anti-dilution
clause which provides that, prior to any underwritten initial public
offering of the Company's securities, Mr. Kaplan is entitled to receive
additional option grants such that his number of option shares will always
be equal to 5% of the Company's outstanding common stock minus 18,333 shares
(the "Anti-Dilution Clause"). Under the terms of the Anti-Dilution Clause,
Mr. Kaplan received a grant of an additional 264,862 option
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<PAGE> 52
shares with an exercise price of $0.40 per share on July 31, 1998, an
additional grant of 30,110 option shares with an exercise price of $0.40 per
share on September 4, 1998 and an additional grant of 20,990 option shares
with an exercise price of $0.40 per share on December 1, 1998. Mr. Kaplan's
rights to additional option grants pursuant to the Anti-Dilution Clause will
continue until the consummation of this offering. See "-- Employment
Agreements."
(7) Mr. Rand's employment started on May 1, 1998 at an annual salary of
$140,000.
(8) Includes $80,000 earned as a consultant.
(9) On August 18, 1998, Mr. Rand received an option to purchase 101,250 shares
of Common Stock at an exercise price of $12.00 per share. On December 1,
1998, the Board approved an amendment to reduce the exercise price of the
option to $10.00 per share. See "Certain Transactions."
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth each grant of stock options during the
fiscal year ended June 30, 1998 to each of the Named Executive Officers. No
stock appreciation rights were granted during such fiscal year.
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
INDIVIDUAL GRANTS VALUE AT
------------------------------------------------------------ ASSUMED ANNUAL
NUMBER OF RATES OF STOCK PRICE
SECURITIES PERCENT OF TOTAL APPRECIATION FOR
UNDERLYING OPTIONS GRANTED EXERCISE OR OPTION TERM($)(9)
OPTIONS TO EMPLOYEES IN BASE PRICE EXPIRATION ---------------------
NAME GRANTED(#) FISCAL YEAR(6) ($/SHARE)(7) DATE(8) 5% 10%
---- ---------- ---------------- ------------ ---------- -------- ---------
<S> <C> <C> <C> <C> <C> <C>
Sherman Tuan.......... 62,500(1) 11.18 0.40 12/09/07 15,722 39,844
5,000(2) * 1.20 1/26/08 3,773 9,562
Warren J. Kaplan...... 27,500(3) 4.92 0.20 11/09/07 3,459 8,766
175,000(4) 31.30 0.40 11/09/07 44,023 111,562
Stephen P. Belomy..... 37,500(5) 6.71 0.40 12/09/07 9,433 23,906
5,000(2) * 1.20 1/26/08 3,773 9,562
David Rand............ 25,000(5) 4.47 0.40 12/09/07 6,289 15,937
5,000(2) * 1.20 1/26/08 3,773 9,562
</TABLE>
- ---------------
* Less than one percent.
(1) 6.25% of the shares vest 3 months after the vesting commencement date with a
further 6.25% vesting every 3 months thereafter until the first anniversary
of the vesting commencement date and 1/36 of the remaining shares vesting
each month thereafter. Under the terms of Mr. Tuan's employment agreement,
all of the shares subject to this option will accelerate and become fully
vested in the event that either Mr. Tuan's employment with the Company is
terminated without cause or there is a material breach by the Company of his
employment agreement. See "-- Employment Agreements."
(2) Each of the options granted to Messrs. Tuan, Belomy and Rand on January 27,
1998 were fully vested at the time of grant.
(3) 1/3 of the shares vested on December 10, 1997, 1/3 of the shares vested on
January 10, 1998 and 1/3 of the shares vested on February 9, 1998. The
option was cancelled with respect to 9,166 shares when Mr. Kaplan joined the
Company as President and Chief Operating Officer.
(4) With respect to Mr. Kaplan's option granted on November 10, 1997 at $0.40
per share, 1/5 of the shares were immediately exercisable and 1/36 of the
remaining shares become exercisable each month thereafter. This option
contains an anti-dilution clause which provides that, prior to any
underwritten initial public offering of the Company's securities, Mr. Kaplan
is entitled to receive additional option grants such that his number of
option shares will always be equal to 5% of the Company's outstanding Common
Stock less 18,333 shares (the "Anti-Dilution Clause"). Under the terms of
the Anti-Dilution Clause, Mr. Kaplan received a grant of an additional
264,862 option shares with an exercise price of $0.40 per share on July 31,
1998, an additional grant of 30,110 option shares with an exercise price of
$0.40 per share on September 4, 1998 and an additional grant of 20,990
option shares with an exercise price of $0.40 per share on December 1, 1998.
Mr. Kaplan's rights to additional option grants pursuant to the
Anti-Dilution Clause will continue until the consummation of this offering.
All of the shares subject to this option will accelerate and become fully
vested upon the closing of the offering. See "-- Employment Agreements."
(5) 6.25% of the shares vest 3 months after the vesting commencement date with a
further 6.25% vesting every 3 months thereafter until the first anniversary
of the vesting commencement date and 1/36 of the remaining shares vesting
each month thereafter.
(6) Based on an aggregate of 559,125 options granted to employees of the Company
under the 1997 Stock Option Plan and the option granted to Mr. Kaplan on
November 10, 1997 with an exercise price of $0.40 per share. See
"-- Employment Agreements."
(7) The exercise price is equal to the deemed fair market value of the Company's
Common Stock as estimated by the Board of Directors on the date of grant
with the exception of the November 10, 1997 option granted to Mr. Kaplan to
purchase 175,000 shares of Common Stock at an exercise price of $0.40 per
share, which was deemed to be above the fair market value on the date of
grant. The fair market value of the Company's Common Stock was estimated by
the Board of Directors on the basis of the purchase price paid by investors
for shares of the Company's Preferred Stock (taking into account the
liquidation preferences and other rights, privileges and preferences
associated with such Preferred Stock) and an evaluation by the Board of
Directors of the Company's revenues, operating history and prospects.
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<PAGE> 53
(8) Each of the options has a ten-year term, subject to earlier termination in
the event of the optionee's earlier cessation of service with the Company.
(9) The assumed 5% and 10% rates of stock price appreciation are provided in
accordance with rules of the Securities and Exchange Commission and do not
represent the Company's estimate or projection of the future Common Stock
price. Actual gains, if any, on stock option exercises are dependent on the
future performance of the Common Stock, overall market conditions and the
option holders' continued employment through the vesting period. Unless the
market price of the Common Stock appreciates over the option term, no value
will be realized from the option grants made to the Named Executive
Officers. The potential realizable values shown in the table are calculated
by assuming that the estimated fair market value of the Company's Common
Stock on the date of grant increases by 5% and 10%, respectively, during
each year of the option term. See footnote 7 for information on how such
fair market value was estimated. The initial public offering price is
significantly higher than the estimated fair market value on the date of
grant, and the potential realizable value of the option grants would be
significantly higher than the numbers shown in the table if future stock
prices were projected to the end of the option term by applying the same
annual rates of stock price appreciation to the initial public offering
price.
AGGREGATE OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
The following table sets forth information concerning the options exercised
by the Named Executive Officers in fiscal year 1998 and the year-end number and
value of unexercised options with respect to each of the Named Executive
Officers. No stock appreciation rights were exercised by the Named Executive
Officers in fiscal year 1998 or were outstanding at the end of that year.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
OPTIONS AT FISCAL IN-THE-MONEY OPTIONS
SHARES YEAR-END(#) AT FISCAL YEAR-END($)(3)
ACQUIRED ON VALUE ------------------------------ ---------------------------
NAME EXERCISE(#) REALIZED($)(1) EXERCISABLE(2) UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ------------ --------------- -------------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Sherman Tuan......... -- -- 155,000 87,500 771,500 451,500
Warren J. Kaplan..... 65,833 64,833 14,721 112,777 70,661 541,330
Stephen P. Belomy.... 7,551 37,708 55,781 -- 268,124 --
David Rand........... -- -- 86,250 62,500 427,250 317,500
</TABLE>
- ---------------
(1) Based on the fair market value of the Company's Common Stock on the date of
exercise, less the exercise price payable for such shares.
(2) Certain of the options are immediately exercisable for all the option shares
as of the date of grant but any shares purchased thereunder are subject to
repurchase by the Company at the original exercise price paid per share upon
the optionee's cessation of service to the Company prior to vesting in such
shares.
(3) Based on the fair market value of the Company's Common Stock at fiscal year
end of $5.20 per share less the exercise price payable for such shares. The
fair market value of the Company's Common Stock at the end of fiscal year
1998 was estimated by the Board of Directors on the basis of the purchase
price paid by investors for shares of the Company's Preferred Stock (taking
into account the liquidation preferences and other rights, privileges and
preferences associated with such Preferred Stock) and an evaluation by the
Board of Directors of the Company's revenues, operating history and
prospects. The initial public offering price is significantly higher than
the estimated fair market value at fiscal year-end, and the value of
unexercised options would be higher than the numbers shown in the table if
such value were calculated by subtracting the exercise price from the
initial public offering price.
STOCK INCENTIVE PLAN
In August 1998, the Company's Board of Directors adopted the Company's 1998
Stock Incentive Plan (the "Stock Incentive Plan"). It replaces the Company's
1996 Stock Option Plan and its 1997 Stock Plan (the "Prior Plans"). The Prior
Plans will be terminated effective upon the adoption of the Stock Incentive
Plan. No further grants will be made under the Prior Plans following this
offering, although they will continue to govern all outstanding awards made
thereunder. All awards after this offering will be made under the Stock
Incentive Plan.
The number of shares of Common Stock that are reserved for issuance under
the Stock Incentive Plan pursuant to the direct award or sale of shares or the
exercise of options is equal to 1,562,500. If any options granted under the
Stock Incentive Plan are forfeited or terminate for any other reason without
having been exercised in full, then the unpurchased shares subject to those
options will become available for additional grants of stock options or shares
under the Stock Incentive Plan. If shares granted or purchased under the Stock
Incentive Plan are forfeited, then those shares will also become available for
additional grants under the Stock Incentive Plan. The number of shares reserved
for issuance under the Stock Incentive Plan will be
52
<PAGE> 54
increased automatically on July 1 of each year by a number equal to the lesser
of (i) 312,500 shares or (ii) 4% of the shares of Common Stock outstanding at
that time. Options granted to any optionee in a single fiscal year shall not
cover more than 312,500 shares except that options granted to a new employee in
the fiscal year in which his or her service as an employee first commences shall
not cover more than 625,000 shares.
Under the Stock Incentive Plan, directors of the Company and employees of
and consultants and advisors to the Company, or a subsidiary or affiliate of the
Company, are eligible to purchase shares of Common Stock and to receive awards
of shares or grants of nonstatutory options (collectively, the "Awards").
Employees are also eligible to receive grants of incentive stock options
("ISOs") intended to qualify under Section 422 of the Internal Revenue Code of
1986, as amended (the "Code"). The Stock Incentive Plan is administered by the
Compensation Committee of the Board of Directors, which selects the persons to
whom shares will be sold or awarded or options will be granted, determines the
type, number, vesting requirements and other features and conditions of each
sale, award or grant, interprets the Plan and makes all other decisions relating
to the operation of the Plan.
The exercise price under any nonstatutory stock options ("NSOs") generally
must be at least 85% of the fair market value of the Common Stock on the date of
grant, and the exercise price may vary in accordance with a predetermined
formula while the NSO is outstanding. The exercise price under ISOs cannot be
lower than 100% of the fair market value of the Common Stock on the date of
grant and, in the case of ISOs granted to holders of more than 10% of the voting
power of the Company, not less than 110% of such fair market value. The term of
an ISO cannot exceed 10 years, and the term of an ISO granted to a holder of
more than 10% of the voting power of the Company cannot exceed five years.
The exercise price of Common Stock issued upon exercise of options is
payable in cash equivalents at the time when such shares of Common Stock are
purchased, except that the Stock Option Agreement for an ISO, and with respect
to an NSO, the Committee at any time, may specify that payment may be made in
any of the following forms: (i) by surrendering, or attesting to the ownership
of, shares of Common Stock that are already owned by the optionee; (ii) by
delivering (on a form prescribed by the Company) an irrevocable direction to a
securities broker approved by the Company to sell all or part of the shares
being purchased under the Stock Incentive Plan and to deliver all or part of the
sales proceeds to the Company; (iii) by delivering (on a form prescribed by the
Company) an irrevocable direction to pledge all or part of the shares being
purchased under the Stock Incentive Plan to a securities broker or lender
approved by the Company, as security for a loan, and to deliver all or part of
the loan proceeds to the Company; (iv) by delivering (on a form prescribed by
the Company) a full-recourse promissory note (however, the par value of the
shares being purchased under the Stock Incentive Plan, if newly issued, shall be
paid in cash or cash equivalents); or (v) any other form that is consistent with
applicable laws, regulations and rules.
Beginning after this offering, each new non-employee director who is
elected to the Company's Board of Directors will automatically be granted as of
the date of election an NSO to purchase 9,375 shares of Common Stock at an
exercise price equal to the fair market value of the Common Stock on the date of
grant. The shares subject to these options will vest in 36 equal installments at
monthly intervals over the three-year period commencing on the date of grant. In
addition, each non-employee director who will continue to serve following any
annual meeting of stockholders will automatically be granted an option as of the
date of such meeting to purchase 3,125 shares of Common Stock at an exercise
price equal to the fair market value of the Common Stock on the date of grant.
These options will vest on the first anniversary of grant. These options will
expire on the earliest of (i) the 10th anniversary of grant, (ii) 3 months after
termination of service for any reason other than death or total and permanent
disability or (iii) 12 months after termination of service due to death or
disability. No director will receive the 9,375-share grant and a 3,125-share
grant in the same fiscal year.
The Compensation Committee (in its sole discretion) may permit or require
an optionee to have shares that otherwise would be delivered to such optionee as
a result of the exercise of an option converted into amounts credited to a
deferred compensation account established for such optionee as an entry on the
Company's books. In addition to options, shares may be sold or awarded under the
Plan for such consideration as the Compensation Committee may determine,
including (without limitation) cash, cash equivalents, full-
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<PAGE> 55
recourse promissory notes, past services and future services. To the extent that
an award consists of newly issued shares, the recipient must furnish
consideration with a value not less than the par value of such Shares in the
form of cash, cash equivalents or past services rendered to the Company (or a
parent or subsidiary), as the Committee may determine. The holders of shares
awarded under the Plan shall have the same voting, dividend and other rights as
the Company's other stockholders except that the award agreement may require
that the holders of shares invest any cash dividends received in additional
shares. Such additional shares are subject to the same conditions and
restrictions as the award with respect to which the dividends were paid.
Immediately prior to the effective date of a Change in Control, an Award
will become fully exercisable as to all shares subject to such Award, except
that (i) in the case of an ISO, the acceleration of exercisability shall not
occur without the Optionee's written consent; and (ii) if the Company and the
other party to the transaction constituting a Change in Control agree that such
transactions is to be treated as a "pooling of interest" for financial reporting
purposes, and if such transaction in fact is so treated, then the acceleration
of exercisability shall not occur to the extent that the Company's independent
accountants and such other party's independent accountants separately determine
in good faith that such acceleration would preclude the use of "pooling of
interest" accounting. In addition, all options granted to non-employee directors
will become fully exercisable in the event of the termination of the director's
service because of death, total and permanent disability or retirement at or
after age 70.
The Board may amend or terminate the Plan at any time. The Plan shall
remain in effect until it is terminated except that no ISOs shall be granted on
or after the 10th anniversary of the later of (i) the date when the Board
adopted the Plan or (ii) the date when the Board adopted the most recent
increase in the number of Common Shares available under the Plan which was
approved by the Company's stockholders. Amendments may be subject to stockholder
approval to the extent required by applicable laws.
EMPLOYEE STOCK PURCHASE PLAN
In August 1998, the Board of Directors adopted the Company's Employee Stock
Purchase Plan (the "ESPP") to provide employees of the Company with an
opportunity to purchase Common Stock through payroll deductions. Under the ESPP,
156,250 shares of Common Stock have been reserved for issuance. As of July 1 of
each year, the number of shares reserved for issuance under the ESPP will be
increased automatically by the number of shares necessary to cause the number of
shares then available for purchase to be restored to 156,250. The ESPP is
expected to become effective at the time of this Offering. All employees whose
customary employment is for more than five months per calendar year and for more
than 20 hours per week will be eligible to participate in the ESPP commencing
with the effective date of this offering.
Eligible employees may contribute up to 15% of their total cash
compensation to the ESPP. Amounts withheld are applied at the end of every
six-month accumulation period to purchase shares of Common Stock, but not more
than 3,125 shares per accumulation period. The value of the Common Stock
(determined as of the beginning of the offering period) that may be purchased by
any participant in a calendar year is limited to $25,000. Participants may
withdraw their contributions at any time before stock is purchased.
The purchase price is equal to 85% of the lower of (i) the market price of
Common Stock immediately before the beginning of the applicable offering period
or (ii) the market price of Common Stock at the time of the purchase. In
general, each offering period is 24 months long, but a new offering period
begins every six months. Thus up to four overlapping offering periods may be in
effect at the same time. An offering period continues to apply to a participant
for the full 24 months, unless the market price of Common Stock is lower when a
subsequent offering period begins. In that event, the subsequent offering period
automatically becomes the applicable period for purposes of determining the
purchase price. The first accumulation and offering periods are expected to
commence on the effective date of this offering and will end on April 30, 1999,
and October 31, 2000, respectively.
EMPLOYMENT AGREEMENTS
The Company has entered into an Employment Agreement (the "Tuan Agreement")
with Sherman Tuan dated as of February 1, 1998. Under the Tuan Agreement, Mr.
Tuan receives certain compensation and
54
<PAGE> 56
benefits including, but not limited to, an annual base salary of $150,000,
bonus, and stock options. Under the Tuan Agreement, Mr. Tuan's base salary
increases upon consummation of this offering to a minimum of $225,000 and his
bonus to a minimum of $50,000. The bonus cannot exceed the amount of Mr. Tuan's
then current salary. In addition, following this offering, Mr. Tuan is
guaranteed a minimum annual salary and bonus increase of 10% each year
thereafter. In addition, the Tuan Agreement provides for Mr. Tuan to receive his
base salary for twelve months and for the immediate, full acceleration of
vesting of Mr. Tuan's option shares following either a termination without Cause
or a Material Breach of the Tuan Agreement by the Company prior to December 31,
1999. For the purposes of the Tuan Agreement, "Cause" means (i) Mr. Tuan's
conviction of, guilty or "no contest" plea to or confession of guilt of a
felony, (ii) a willful act by Mr. Tuan which constitutes gross misconduct and
which is materially injurious to the Company or (iii) violation by Mr. Tuan of
the Company's Proprietary Information and Inventions Agreement without the prior
written consent of the Company. For the purposes of the Tuan Agreement,
"Material Breach" means (a) the failure of the Company to pay base salary or
additional compensation in accordance with the Tuan Agreement, (b) the
assignment to Mr. Tuan without Mr. Tuan's consent of duties substantially
inconsistent with his duties as set forth in the Tuan Agreement, (c) the
relocation of the Company's principal offices to a geographic location other
than Northern California, or (d) a failure to reelect Mr. Tuan as a member of
the Board.
The Company has entered into an Employment Agreement (the "Kaplan
Agreement") with Warren J. Kaplan dated as of November 10, 1997. Under the
Kaplan Agreement, Mr. Kaplan receives certain compensation and benefits
including, but not limited to an annual base salary of $150,000, bonus (not to
exceed his then current salary), and stock options. The Kaplan Agreement
provides that the Company shall continue to pay Mr. Kaplan his base salary for
twelve months following a termination without cause during the term of the
Kaplan Agreement. Under the Kaplan Agreement, Mr. Kaplan's base salary increases
upon consummation of this offering to a minimum of $225,000 and his bonus to a
minimum of $50,000. The bonus cannot exceed the amount of Mr. Kaplan's then
current salary. In addition, following this offering, Mr. Kaplan is guaranteed a
minimum annual salary and bonus increase of 10% each year thereafter.
Under the terms of the Kaplan Agreement, Mr. Kaplan received an option to
purchase shares of the Company's common stock (the "Option"). The initial Option
was for 175,000 shares. However, the Option contains an anti-dilution clause
which guarantees that, prior to any underwritten initial public offering of the
Company's securities, the number of option shares granted to Mr. Kaplan will
always be equal to 5% of the Company's outstanding Common Stock less 18,333
option shares (the "Anti-Dilution Clause"). Under the terms of the Anti-Dilution
Clause, Mr. Kaplan received an additional 264,862 option shares on July 31,
1998, an additional 30,110 option shares on September 4, 1998 and an additional
20,990 option shares on December 1, 1998. Mr. Kaplan's rights to additional
grants of option shares under the Anti-Dilution Clause will continue until the
consummation of this offering. The Option is immediately exercisable with
respect to 20% of the option shares and the balance becomes exercisable in equal
monthly installments over the next 36 months of employment with the Company
measured from November 10, 1997, the date of the Kaplan Agreement. The exercise
price is $0.40 per share which was above the fair market value of the Company's
Common Stock on November 10, 1997. All outstanding options will accelerate and
all shares that remain subject to the Company's right of repurchase will become
fully vested and no longer subject to the Company's right of repurchase in the
event of: (i) a Corporate Transaction; (ii) Mr. Kaplan's employment with the
Company being terminated without cause; or (iii) a material breach by the
Company of the terms of the Kaplan Agreement.
For the purposes of the Kaplan Agreement, "Corporate Transaction" means one
of the following events: (a) Sherman Tuan ceases to be the Company's Chief
Executive Officer and is succeeded in such position by any person other than Mr.
Kaplan; (b) an underwritten initial public offering of the Company's securities;
(c) the consummation of a merger or consolidation of the Company with or into
another entity or any other corporate reorganization, if more than 50% of the
combined voting power of the continuing or surviving entity's securities
outstanding immediately after such merger, consolidation or other reorganization
is owned by persons who were not shareholders of the Company immediately prior
to such merger, consolidation or other reorganization; (d) the sale, transfer or
other disposition of all or substantially all of the Company's assets; (e) the
liquidation or dissolution of the Company; or (f) any transaction as a result of
which any person
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<PAGE> 57
becomes the beneficial owner of securities of the Company representing at least
50% of the total voting power represented by the Company's then outstanding
voting securities, provided that person is not either a shareholder of the
Company on November 10, 1997 or a trustee or other fiduciary holding securities
under an employee benefit plan of the Company or of a parent or subsidiary of
the Company. A transaction shall not constitute a Corporate Transaction if its
sole purpose is to change the state of the Company's incorporation or to create
a holding company that will be owned in substantially the same proportions by
the persons who held the Company's securities immediately before such
transaction. As a result, at the closing of this offering, Mr. Kaplan will be
fully vested in the Option.
The Company has entered into an Employment Agreement (the "Rand Agreement")
with David Rand effective as of May 1, 1998. Under the Rand Agreement, Mr. Rand
is appointed to the position of Chief Technology Officer of the Company and will
receive an annual base salary of $140,000. The Rand Agreement provides for six
months' severance in the event of termination without cause.
See "Risk Factors -- Management of Growth; Dependence on Key Personnel."
LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS
The Company's Restated Certificate of Incorporation limits the liability of
directors to the maximum extent not prohibited by Delaware law. Delaware law
provides that a corporation's certificate of incorporation may contain a
provision eliminating or limiting the personal liability of a director for
monetary damages for breach of their fiduciary duties as directors, except for
liability (i) for any breach of their duty of loyalty to the corporation or its
stockholders, (ii) for acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of law, (iii) for unlawful
payments of dividends or unlawful stock repurchases or redemptions as provided
in Section 174 of the Delaware General Corporation Law or (iv) for any
transaction from which the director derived an improper personal benefit.
The Company's Bylaws provide that the Company shall indemnify its
directors, officers and employee benefit plan fiduciaries, and may indemnify its
employees and agents to the fullest extent permitted by law. The Company
believes that indemnification under its Bylaws covers at least negligence and
gross negligence on the part of indemnified parties. The Company's Bylaws also
permit the Company to advance expenses incurred by an indemnified director or
officer in connection with the defense of any action or proceeding arising out
of such director's or officer's status or service as a director or officer of
the Company upon any undertaking by such director or officer to repay such
advances if it is ultimately determined that such director or officer is not
entitled to such indemnification.
The Company has entered into agreements to indemnify its directors and
officers, in addition to the indemnification provided for in the Company's
Bylaws. These agreements, among other things, indemnify the Company's directors
and officers for certain expenses (including attorneys' fees and associated
legal expenses), judgments, fines and amounts paid in settlement amounts if such
settlement is approved in advance by the Company, which approval shall not be
unreasonably withheld, actually and reasonably incurred by any such person in
any action, suit, proceeding or alternative dispute resolution mechanism arising
out of such person's services as a director or officer of the Company, any
subsidiary of the Company or any other company or enterprise to which the person
provides services at the request of the Company. The Company believes that those
provisions and agreements are necessary to attract and retain qualified
directors and officers.
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<PAGE> 58
CERTAIN TRANSACTIONS
Since the Company's inception in March 1996, there has not been any
transaction or series of similar transactions to which the Company was or is a
party in which the amount involved exceeded or exceeds $60,000 and in which any
director, executive officer, holder of more than 5% of any class of the
Company's voting securities or any member of the immediate family of any of the
foregoing persons had or will have a direct or indirect material interest, other
than the transactions described below.
EQUITY FINANCINGS
Since its inception, the Company has financed its growth primarily through
the sale of Preferred Stock, resulting in the issuance of an aggregate of
1,025,000 shares of Series A Preferred Stock at purchase price of $0.40 per
share; 1,631,896 shares of Series B Preferred Stock at a weighted-average
purchase price of $1.35 per share; 2,003,000 shares of Series C Preferred Stock
at a weighted-average purchase price of $1.93 per share; and 2,115,378 shares of
Series D Preferred Stock at a purchase price of $5.20 per share; and 408,775
shares of Series E Preferred Stock at a purchase price of $10.00 per share. The
purchasers of the Series A Preferred Stock, Series B Preferred Stock, Series C
Preferred Stock, Series D Preferred Stock and Series E Preferred Stock of the
Company include the following directors, executive officers and 5% or greater
stockholders of the Company:
<TABLE>
<CAPTION>
NUMBER OF SHARES OF PREFERRED STOCK
-----------------------------------------------------------
NAME SERIES A SERIES B SERIES C SERIES D SERIES E
---- -------- -------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Hui-Tzu Hu(1)................ -- 150,013 500,000 192,307 --
Kline Hawkes California SBIC,
L.P.(1)(2)................. -- -- -- 769,230 40,000
Techgains Corp. and
Technology Associates
Management Co.,
Ltd.(1)(3)................. -- -- 552,500 192,307 --
Primus Technology Fund(1).... -- -- -- 384,615 112,000
Peter C. Chen(1)(4).......... 275,000 171,078 -- -- --
Warren J. Kaplan(5).......... -- -- 12,500 -- 2,500
Kimball Small(6)............. -- 325,000 -- -- --
Spring Creek
Investments(7)............. -- -- -- 96,153 --
Jerry Chen(8)................ -- 33,750 -- -- --
</TABLE>
- ---------------
(1) Holds 5% or more of the Company's outstanding capital stock. Includes all
shares held by affiliated entities.
(2) Frank R. Kline, a director of the Company, is a private equity manager of
Kline Hawkes California SBIC, L.P.
(3) Tom Shao, a director of the Company, is a Managing Director of Technology
Associates Management Co., Ltd.
(4) Peter C. Chen is a director of the Company.
(5) Includes shares held by Mr. Kaplan and his wife. Warren J. Kaplan is the
President, Chief Operating Officer and a director of the Company.
(6) Kimball Small is a director of the Company.
(7) James Sha, a director of the Company, is a principal of Spring Creek
Investments.
(8) Jerry Chen is an executive officer of the Company.
CONSULTING WARRANTS
The Company issued a warrant to Primus Technology Fund, a holder of more
than 5% of the Company's capital stock, to purchase 8,750 shares of the
Company's Common Stock at a per share exercise price of $5.20 in connection with
services provided by Primus in assisting the Company in establishing operations
in Asia.
In December 1996, the Company granted options to purchase an aggregate of
104,166 shares of Common Stock of the Company at an exercise price of $0.12 per
share to Stephen Belomy, the Company's Executive Vice President and Secretary,
and Kimball Small, a member of the Company's Board of Directors (the "Real
Estate Consulting Options"), in consideration of their providing real estate
consulting services to the
57
<PAGE> 59
Company. In June 1998, the Board of Directors of the Company fully accelerated
the vesting of the outstanding Real Estate Consulting Options.
REAL PROPERTY AGREEMENTS
Kimball Small Properties co-manages the building in which the Company's San
Jose, California office and ISX facility is located, and has an ownership
interest in the building. Kimball Small, President of Kimball Small Properties,
is a holder of more than 5% of the Company's capital stock and is a director of
the Company.
The Company recently entered into a lease for an approximately 110,000
square foot ISX facility in San Jose, California. Kimball Small Properties
co-manages the building in which the new facility is being developed and has an
ownership interest in the building. See "Risk Factors -- Risks Associates with
Recent and Planned Business Expansion."
WARRANTS
In connection with the exchange of outstanding notes and warrants for the
Company's Series B Preferred Stock, the Company issued a warrant to the Peter
and Pat Chen Living Trust, owned as community property by Peter C. Chen, a
holder of more than 5% of the Company's capital stock and Vice Chairman of the
Board of Directors, to purchase 26,972 shares of the Company's Common Stock at a
per share exercise price of $2.00.
In connection with the exchange of outstanding notes and warrants for the
Company's Series B Preferred Stock, the Company issued a warrant to Hui-Tzu Hu,
a holder of more than 5% of the Company's capital stock, to purchase 29,375
shares of the Company's Common Stock at a per share exercise price of $2.00.
TECHNOLOGY AGREEMENT
David Rand, the Company's Chief Technology Officer, has granted to the
Company perpetual, non-royalty bearing worldwide licenses to the EtherValve and
MRTG technologies and assigned the APS and ASAP technology to the Company
pursuant to a Technology Agreement dated August 18, 1998. In consideration for
entering into the agreement, Mr. Rand received options to purchase 101,250
shares of Common Stock of the Company at an exercise price of $12.00 per share.
On December 1, 1998, the Board approved an amendment to reduce the exercise
price of the option to $10.00 per share. See "-- Option Repricing." The options
vest over four years.
EMPLOYMENT AGREEMENTS
The Company has entered into employment agreements with each of Warren J.
Kaplan, the Company's President and Chief Operating Officer and a member of the
Company's Board of Directors, Sherman Tuan, the Company's Chief Executive
Officer and Chairman of the Company's Board of Directors, and David Rand, the
Company's Chief Technology Officer. See "Risk Factors -- Management of Growth;
Dependence on Key Personnel" and "Management -- Employment Agreements."
OPTION REPRICING
On December 1, 1998, the Board approved the amendment of all outstanding
stock options under the Company's 1997 Stock Plan with an exercise price in
excess of $10.00 per share. As a result, all options granted in August 1998,
September 1998 and October 1998 were repriced at $10.00 per share, including the
options granted to Sherman Tuan, the Company's Chief Executive Officer and
Chairman of the Company's Board of Directors, on August 18, 1998 for 131,500
shares, the option granted to David Rand, the Company's Chief Technology
Officer, on August 18, 1998 for 101,250 shares and options granted to each of
Fred A. Vierra and Robert A. Burgelman, both of whom are Directors of the
Company, on October 14, 1998 and October 28, 1998, respectively, for 9,375
shares.
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<PAGE> 60
INDEMNIFICATION PROVISIONS
The Company's Certificate of Incorporation limits the liability of its
directors for monetary damages arising from a breach of their fiduciary duty as
directors, except to the extent otherwise required by the Delaware General
Corporation Law. Such limitation of liability does not affect the availability
of equitable remedies such as injunctive relief or rescission.
The Company's Bylaws provide that the Company shall indemnify its directors
and officers to the fullest extent permitted by Delaware law, including in
circumstances in which indemnification is otherwise discretionary under Delaware
law. The Company has also entered into indemnification agreements with its
officers and directors containing provisions that may require the Company, among
other things, to indemnify such officers and directors against certain
liabilities that may arise by reason of their status or service as directors or
officers (other than liabilities arising form willful misconduct of a culpable
nature), to advance their expenses incurred as a result of any proceeding
against them as to which they could be indemnified, and to obtain directors' and
officers' insurance if available on reasonable terms. See
"Management -- Limitation of Liability and Indemnification Matters."
The Company believes that all of the transactions set forth above were made
on terms no less favorable to the Company than could have been obtained from
unaffiliated third parties. All future transactions, including loans between the
Company and its officers, directors, principal stockholders and their
affiliates, will be approved by a majority of the Board of Directors, including
a majority of the independent and disinterested outside directors on the Board
of Directors, and will continue to be on terms no less favorable to the Company
than could be obtained from unaffiliated third parties.
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<PAGE> 61
PRINCIPAL STOCKHOLDERS
The following table sets forth certain information known to the Company
regarding the beneficial ownership of its Common Stock (assuming conversion of
all outstanding Preferred Stock) as of December 1, 1998, and as adjusted to
reflect the sale by the Company of 4,000,000 shares of Common Stock by (i) each
person or entity who is known by the Company to own beneficially more than 5% of
the Company's Common Stock, (ii) each director of the Company, (iii) each of the
Named Executive Officers and (iv) all executive officers and directors of the
Company as a group.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY SHARES BENEFICIALLY
OWNED PRIOR TO OWNED AFTER
OFFERING(1)(2) OFFERING(1)(2)
------------------- -------------------
DIRECTORS AND EXECUTIVE OFFICERS NUMBER PERCENT NUMBER PERCENT
-------------------------------- --------- ------- --------- -------
<S> <C> <C> <C> <C>
Robert A. Burgelman(3)................................. 9,375 * 9,375 *
Peter C. Chen(4)....................................... 473,050 6.0 473,050 3.9
Warren J. Kaplan(5).................................... 276,017 3.5 516,044 4.4
Frank R. Kline(6)...................................... 809,230 10.3 809,230 6.8
James Sha(7)........................................... 96,153 1.2 96,153 *
Tom Shao(8)............................................ 744,807 9.5 744,807 6.3
Kimball Small(9)....................................... 408,333 5.2 408,333 3.4
Sherman Tuan(10)....................................... 424,625 5.4 424,625 3.6
Fred A. Vierra(11)..................................... 9,375 * 9,375 *
Stephen P. Belomy(12).................................. 130,832 1.7 130,832 1.1
David Rand(13)......................................... 200,000 2.5 200,000 1.7
All directors and officers as a group (19 3,921,640
persons)(14)......................................... 43.7 4,161,667 31.3
5% STOCKHOLDERS
- --------------
Hui-Tzu Hu(15)......................................... 871,695 11.1 871,695 7.4
c/o D-Link Corporation
2F No. 233-2 Pro-Chino Road
Tsin-Tren
Taipei, Taiwan R.O.C.
Kline Hawkes California SBIC, L.P.(16)................. 809,230 10.3 809,230 6.8
11726 San Vicente Blvd.
Suite 300
Los Angeles, California 90049
Techgains Corp. and Technology Associates.............. 744,807 9.5 744,807 7.1
Management Co., Ltd.(17)
2378 W. 239th Street
Torrance, California 90501
Primus Technology Fund(18)............................. 505,365 6.4 505,365 4.3
16th Floor, 35 Sec. 3
Min Chuan E. Road
Taipei, Taiwan R.O.C.
</TABLE>
- ---------------
* Less than 1 percent.
(1) Applicable percentage ownership is based on 7,833,305 shares of Common
Stock and Preferred Stock (on an as converted to Common Stock basis)
outstanding as of December 1, 1998 and 11,833,305 shares immediately
following the completion of this offering (assuming no exercise of the
Underwriters' over-allotment option). Beneficial ownership is determined in
accordance with the rules of the Securities and Exchange Commission and
generally includes voting or investment power with respect to securities,
subject to community property laws, where applicable. Shares of Common
Stock subject to options currently exercisable or exercisable within 60
days of December 1, 1998 are deemed to be beneficially owned by the person
holding such options or warrants
60
<PAGE> 62
for the purpose of computing the percentage ownership of such person but
are not treated as outstanding for purposes of computing the percentage
ownership of any other person.
(2) Assumes no exercise of the Underwriters' over-allotment option.
(3) Includes 9,375 shares of Common Stock issuable pursuant to options
exercisable within 60 days of December 1, 1998. Mr. Burgelman is a director
of the Company.
(4) Includes 26,972 shares issuable pursuant to a warrant to purchase Series B
Preferred Stock. Includes all shares owned as community property with Pat
Chen and all shares owned by the Peter Cheng-Yu and Pat Te-Hui Living
Trust. Mr. Chen is a director of the Company.
(5) Includes 178,435 shares of Common Stock issuable pursuant to options
exercisable within 60 days of December 1, 1998. Includes 12,500 shares of
Common Stock and 2,500 shares of Series E Preferred Stock owned by Judith
A. Kaplan, Mr. Kaplan's wife. Excludes shares of Common Stock owned by Mr.
Kaplan's adult children. Note also, however, that 240,027 shares of Common
Stock issuable pursuant to options currently subject to vesting after 60
days from December 1, 1998 shall become immediately exercisable and fully
vested upon the closing of this offering which will result in Mr. Kaplan
beneficially owning 516,044 shares, representing 4.4% of the Company's
outstanding Common Stock. Pursuant to the terms of the Kaplan Agreement,
Mr. Kaplan has rights to receive additional option grants until the
consummation of this offering. See "Management -- Employment Agreements."
Mr. Kaplan is a director and an officer of the Company.
(6) Includes 809,230 shares held by Kline Hawkes California SBIC, L.P. and its
affiliates. Mr. Kline, a director of the Company and a private equity
manager of Kline Hawkes California L.P./Kline Hawkes California SBIC, L.P.,
disclaims beneficial ownership of such shares except to the extent of his
pecuniary interest.
(7) Includes 96,153 shares held by Spring Creek Investments. Mr. Sha, a
director of the Company, is a principal of Spring Creek Investments.
(8) Includes 744,807 shares held by Techgains Corp. and Technology Associates
Management Co., Ltd. (collectively, "TAMC"). Mr. Shao is a Managing
Director of TAMC. Mr. Shao, a director of the Company, disclaims beneficial
ownership of such shares except to the extent of his pecuniary interest
therein.
(9) Includes 83,333 shares of Common Stock issuable pursuant to options
exercisable within 60 days of December 1, 1998. Includes all shares held in
community property with Martha Small. Mr. Small is a director of the
Company.
(10) Includes 242,750 shares of Common Stock issuable pursuant to options
exercisable within 60 days of December 1, 1998. Mr. Tuan is a director and
an officer of the Company.
(11) Includes 9,375 shares of Common Stock issuable pursuant to options
exercisable within 60 days of December 1, 1998. Mr. Vierra is a director of
the Company.
(12) Includes 55,781 shares of Common Stock issuable pursuant to options
exercisable within 60 days of December 1, 1998. Mr. Belomy is an officer of
the Company.
(13) Includes 200,000 shares of Common Stock issuable pursuant to options
exercisable within 60 days of December 1, 1998. Mr. Rand is an officer of
the Company.
(14) For shares beneficially owned prior to this offering, the number includes
1,001,705 shares of Common Stock issuable pursuant to options exercisable
within 60 days of December 1, 1998. For shares beneficially owned after
this offering, the number includes 1,241,732 shares of Common Stock
issuable pursuant to options exercisable within 60 days of December 1,
1998. See also footnotes 4, 6 and 8.
(15) Includes 29,375 shares issuable pursuant to a warrant to purchase Series B
Preferred Stock which will expire on the closing of this offering.
(16) The General Partner of Kline Hawkes California SBIC, a California limited
partnership, is Kline Hawkes California SBIC GP, a limited partnership. The
General Partner of Kline Hawkes California SBIC GPLP is Kline Hawkes
Management SBIC, Inc. The controlling shareholder of Kline Hawkes
Management SBIC, Inc. is Frank R. Kline, Jr.
(17) Includes all shares held by TAMC. Mr. Shao is a Managing Director of TAMC.
Mr. Shao, a director of the Company, disclaims beneficial ownership of such
shares except to the extent of his pecuniary interest therein.
(18) Includes 8,750 shares issuable pursuant to a warrant to purchase Common
Stock of the Company. In addition, includes all shares owned by Primus
Holdings (BVI) Inc., an affiliated fund. The members of the Board of
Directors of Primus Technology Fund are Kuo Yang Construction Co. Inc.,
Thomas Chen, The Fubon Group and Tung Ho Steel Enterprise Corp.
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<PAGE> 63
DESCRIPTION OF CAPITAL STOCK
GENERAL
Upon the completion of this offering, the Company will be authorized to
issue 60,000,000 shares of Common Stock, $0.001 par value, and 5,000,000 shares
of undesignated Preferred Stock, $0.001 par value. The following description of
the Company's capital stock and certain provisions of the Company's Certificate
of Incorporation and Bylaws does not purport to be complete and is subject to
and qualified in its entirety by the Company's Certificate of Incorporation and
Bylaws, which are included as exhibits to the Registration Statement of which
this Prospectus forms a part, and by applicable provisions of Delaware law.
COMMON STOCK
As of September 30, 1998, there were 7,817,680 shares of Common Stock
outstanding that were held of record by 91 stockholders. There will be
11,817,680 shares of Common Stock outstanding (assuming no exercise of the
Underwriters' over-allotment option and no exercise of options and warrants
outstanding as of September 30, 1998 or granted thereafter) after giving effect
to the sale of Common Stock offered to the public hereby. The holders of Common
Stock are entitled to one vote per share held of record in all matters submitted
to a vote of stockholders. Holders of Common Stock do not have cumulative voting
rights, and, therefore, holders of a majority of the shares voting for the
election of directors can elect all of the directors. In such event, the holders
of the remaining shares will not be able to elect any directors.
Holders of the Common Stock are entitled to receive such dividends as may
be declared from time to time by the Board of Directors out of funds legally
available therefor, subject to the terms of any existing or future agreements
between the Company and its debtholders. The Company has never declared or paid
cash dividends on its capital stock, expects to retain future earnings, if any,
for use in the operation and expansion of its business, and does not anticipate
paying cash dividends in the foreseeable future. In the event of the
liquidation, dissolution or winding up of the Company, the holders of Common
Stock are entitled to share ratably in all assets legally available for
distribution after payment of all debts and other liabilities and subject to the
prior rights of holders of Preferred Stock then outstanding, if any.
PREFERRED STOCK
Effective upon the closing of this offering, the Company will be authorized
to issue 5,000,000 shares of undesignated Preferred Stock. The Board of
Directors has the authority to issue the Preferred Stock in one or more series
and to fix the price, rights, preferences, privileges and restrictions thereof,
including dividend rights, dividend rates, conversion rights, voting rights,
terms of redemption, redemption prices, liquidation preferences and the number
of shares constituting a series or the designation of such series, without any
further vote or action by the Company's stockholders. The issuance of Preferred
Stock, while providing desirable flexibility in connection with possible
acquisitions and other corporate purposes, could have the effect of delaying,
deferring or preventing a change in control of the Company without further
action by the stockholders and may adversely affect the market price of, and the
voting and other rights of, the holders of Common Stock. The issuance of
Preferred Stock with voting and conversion rights may adversely affect the
voting power of the holders of Common Stock, including the loss of voting
control to others. The Company has no current plans to issue any shares of
Preferred Stock.
ANTITAKEOVER EFFECTS OF PROVISIONS OF CERTIFICATE OF INCORPORATION, BYLAWS AND
DELAWARE LAW
The Company's Certificate of Incorporation provides that all stockholder
actions must be effected at a duly called annual or special meeting and may not
be effected by written consent. In addition, the Company has a classified Board
of Directors such that approximately one-third of the members of the Board of
Directors are elected at each annual meeting of the stockholders. The Company's
Bylaws provide that, except as otherwise required by law, special meetings of
the stockholders can only be called pursuant to a resolution adopted by a
majority of the Board of Directors, or by the president of the Company, or by
the Chairman of the Board or at the request of stockholders holding at least a
majority of the Company's outstanding stock. In
62
<PAGE> 64
addition, the Bylaws establish an advance notice procedure for stockholder
proposals to be brought before an annual meeting of stockholders, including
proposed nominations of persons for election to the Board. Stockholders at an
annual meeting may only consider proposals or nominations specified in the
notice of meeting or brought before the meeting by or at the direction of the
Board of Directors or by a stockholder who was a stockholder of record on the
record date for the meeting, who is entitled to vote at the meeting and who has
delivered timely written notice in proper form to the Company's Secretary of the
stockholder's intention to bring such business before the meeting. The
Certificate of Incorporation provides that the affirmative vote of holders of at
least a majority of the total votes eligible to be cast in the election of
directors (the "Voting Stock") is required to amend, alter, change or appeal
certain of its provisions. The Bylaws provide that the affirmative vote of the
holders of at least 80 percent of the Voting Stock is required to amend, alter
or repeal any of its provisions.
The foregoing provisions of the Company's Certificate of Incorporation and
Bylaws are intended to enhance the likelihood of continuity and stability in the
composition of the Board of Directors and in the policies formulated by the
Board of Directors and to discourage certain types of transactions which may
involve an actual or threatened change of control of the Company. Such
provisions are designed to reduce the vulnerability of the Company to an
unsolicited acquisition proposal and, accordingly, could discourage potential
acquisition proposals and could delay or prevent a change in control of the
Company. Such provisions are also intended to discourage certain tactics that
may be used in proxy fights but could, however, have the effect of discouraging
others from making tender offers for the Company's shares and, consequently, may
also inhibit fluctuations in the market price of the Company's shares that could
result from actual or rumored takeover attempts. These provisions may also have
the effect of preventing changes in the management of the Company. See "Risk
Factors -- Antitakeover Effects of Certain Charter Provisions, Bylaws and
Delaware Law."
EFFECT OF DELAWARE ANTITAKEOVER STATUTE
The Company is subject to Section 203 of the Delaware General Corporation
Law ("Section 203") which, subject to certain exceptions, prohibits a Delaware
corporation from engaging in any business combination with any interested
stockholder for a period of three years following the date that such stockholder
became an interested stockholder, unless: (i) prior to such date, the board of
directors of the corporation approved either the business combination or the
transaction which resulted in the stockholder becoming an interested
stockholder; (ii) upon consummation of the transaction which resulted in the
stockholder becoming an interested stockholder, the interested stockholder owned
at least 85% of the voting stock of the corporation outstanding at the time the
transaction commenced, excluding for purposes of determining the number of
shares outstanding those shares owned (a) by persons who are directors and also
officers and (b) by the employee stock plans in which employee participants do
not have the right to determine confidentially whether shares held subject to
the plan will be tendered in a tender or exchange offer; or (iii) on or
subsequent to such date, the business combination is approved by the board of
directors and authorized at an annual or special meeting of stockholders, and
not by written consent, by the affirmative vote of at least 66 2/3% of the
outstanding voting stock which is not owned by the interested stockholder.
Section 203 defines a business combination to include: (i) any merger or
consolidation involving the corporation and an interested stockholder; (ii) any
sale, lease, exchange, mortgage, transfer, pledge or other disposition of 10% or
more of the assets or stock of the corporation involving an interested
stockholder; (iii) subject to certain exceptions, any transaction which results
in the issuance or transfer by the corporation of any stock of the corporation
to an interested stockholder; (iv) any transaction involving the corporation
which has the effect of increasing the proportionate share of the stock of any
class or series, or convertible into the stock of any class or series, of the
corporation which is owned by an interested stockholder; or (v) the receipt by
an interested stockholder of the benefit of any loans, advances, guarantees,
pledges or other financial benefits provided by or through the corporation. In
general, Section 203 defines an interested stockholder as any entity or person
beneficially owning 15% or more of the outstanding voting stock of the
corporation or any entity or person affiliated with or controlling or controlled
by such entity or person. See "Risk Factors -- Antitakeover Effects of Certain
Charter Provisions, Bylaws and Delaware Law."
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<PAGE> 65
REGISTRATION RIGHTS OF CERTAIN HOLDERS
After this offering, the holders of approximately 7,359,131 shares of
Common Stock will be entitled upon expiration of the lock-up agreements with the
Underwriters to certain rights with respect to the registration of such shares
under the Securities Act. Under the terms of the agreement between the Company
and the holders of such registrable securities, if the Company proposes to
register any of its securities under the Securities Act, either for its own
account or for the account of other securities holders exercising registration
rights, such holders are entitled to notice of such registration and are
entitled to include shares of such Common Stock therein. Holders of registration
rights may also require the Company to file a registration statement under the
Securities Act at the Company's expense with respect to their shares of Common
Stock, and the Company is required to use its best efforts to effect such
registration. Further, holders may require the Company to file registration
statements on Form S-3 at the Company's expense when such form becomes available
for use by the Company. All such registration rights are subject to certain
conditions and limitations, including the right of the underwriters of an
offering to limit the number of shares to be included in such registration. In
addition, Warren J. Kaplan, the Company's President and Chief Operating Officer,
has the right to require the Company to register any shares issued or issuable
pursuant to options granted to him on Form S-8.
WARRANTS
As of December 4, 1998, warrants to purchase 163,909 shares of Common Stock
of the Company at a weighted average exercise price of $8.48 were outstanding.
In addition, a warrant to purchase 12,500 shares of Common Stock at an exercise
price of 80% of the initial public offering price will also be outstanding.
TRANSFER AGENT
The Transfer Agent and Registrar for the Common Stock is Boston EquiServe
L.P. Its address is 150 Royall Street, Canton, Massachusetts, and its telephone
number at this location is (781) 575-3010.
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<PAGE> 66
SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of this offering, the Company will have 11,817,680 shares
of Common Stock outstanding. Of this amount, the 4,000,000 shares offered hereby
plus an additional 62,500 shares will be available for immediate sale in the
public market as of the date of this Prospectus. Approximately 7,711,498
additional shares will be available for sale in the public market following the
expiration of 180-day lockup agreements with the Representatives of the
Underwriters or the Company, subject in some cases to compliance with the volume
and other limitations of Rule 144.
<TABLE>
<CAPTION>
DAYS AFTER DATE OF APPROXIMATE SHARES
THIS PROSPECTUS ELIGIBLE FOR FUTURE SALE COMMENT
------------------ ------------------------ -------
<S> <C> <C>
Upon Effectiveness....... 4,062,500 Freely tradable shares sold in offering and shares
salable under Rule 144(k) that are not subject to
180-day lockup
90 days.................. 43,682 Shares salable under Rule 701
180 days................. 5,187,345 Lockup released; shares salable under Rule 144,
144(k) or 701
Thereafter............... 2,524,153 Restricted securities held for one year or less
</TABLE>
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated) who has beneficially owned shares for at least one
year is entitled to sell within any three-month period commencing 90 days after
the date of this Prospectus a number of shares that does not exceed the greater
of (i) 1% of the then outstanding shares of Common Stock (approximately 118,177
shares immediately after this offering) or (ii) the average weekly trading
volume during the four calendar weeks preceding such sale, subject to the filing
of a Form 144 with respect to such sale. A person (or persons whose shares are
aggregated) who is not deemed to have been an affiliate of the Company at any
time during the 90 days immediately preceding the sale who has beneficially
owned his or her shares for at least two years is entitled to sell such shares
pursuant to Rule 144(k) without regard to the limitations described above.
Persons deemed to be affiliates must always sell pursuant to Rule 144, even
after the applicable holding periods have been satisfied.
The Company, its directors, executive officers, stockholders with
registration rights and certain other stockholders have agreed pursuant to the
Underwriting Agreement and other agreements that they will not sell any Common
Stock without the prior consent of CIBC Oppenheimer Corp. or the Company for a
period of 180 days from the date of this Prospectus (the "180-day Lockup
Period"), except that the Company may, without such consent, grant options and
sell shares pursuant to the Company's stock plans. The Company has agreed with
the Underwriters that the Company will not release any shares subject to lock-up
agreements with the Company without the prior consent of CIBC Oppenheimer Corp.
Any employee or consultant to the Company who purchased his or her shares
under the 1992 plan or pursuant to a written compensatory plan or contract is
entitled to rely on the resale provisions of Rule 701, which permits
nonaffiliates to sell their Rule 701 shares without having to comply with the
public information, holding period, volume limitation or notice provisions of
Rule 144 and permits affiliates to sell their Rule 701 shares without having to
comply with the Rule 144 holding period restrictions, in each case commencing 90
days after the date of this Prospectus. As of September 30, 1998, options to
purchase 1,555,756 shares of Common Stock were outstanding, all of which would
be bound by 180-day market stand-off obligations provided by their terms or
pursuant to the terms of the plans governing such options.
The Company intends to file a registration statement on Form S-8 under the
Securities Act to register shares of Common Stock issued or reserved for
issuance under the Company's 1997 Stock Option Plan, the Company's 1998 Stock
Incentive Plan and the Company's Employee Stock Purchase Plan and shares of
Common Stock issued or issuable under the Option held by Mr. Kaplan, thus
permitting the resale of such shares by nonaffiliates in the public market
without restriction under the Securities Act. The Company intends to register
these shares on Form S-8, along with options that have not been issued under the
Company's stock plans as of the date of this Prospectus.
In addition, after this offering, the holders of approximately 7,359,131
shares of Common Stock will be entitled to certain rights with respect to
registration of such shares under the Securities Act. Registration of such
shares under the Securities Act would result in such shares becoming freely
tradable without restriction under the Securities Act (except for shares
purchased by affiliates of the Company) immediately upon the effectiveness of
such registration. See "Description of Capital Stock -- Registration Rights."
65
<PAGE> 67
UNDERWRITING
Subject to the terms and conditions contained in the Underwriting Agreement
(the "Underwriting Agreement"), the Company has agreed to sell to each of the
underwriters named below (the "Underwriters"), and each of the Underwriters, for
whom CIBC Oppenheimer Corp. and Volpe Brown Whelan & Company, LLC, are acting as
the representatives (the "Representatives"), has severally agreed to purchase
from the Company, the respective number of shares of Common Stock set forth
opposite the name of each such Underwriter below:
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITERS SHARES
------------ ---------
<S> <C>
CIBC Oppenheimer Corp. .....................................
Volpe Brown Whelan & Company, LLC...........................
---------
Total............................................. 4,000,000
=========
</TABLE>
The Underwriters propose to offer the shares of Common Stock directly to
the public initially at the public offering price set forth on the cover page of
this Prospectus and at such price less a concession of not in excess of $
per share to certain securities dealers, of which a concession not in excess of
$ per share may be reallowed to certain other securities dealers. After this
offering, the public offering price, allowances, concessions and other selling
terms may be changed by the Representatives.
The Underwriting Agreement provides that the obligations of the
Underwriters to purchase Common Stock are subject to certain conditions,
including that if any of the Common Stock is purchased by the Underwriters
pursuant to the Underwriting Agreement, all such shares must be so purchased
(other than those covered by the over-allotment option described below).
The Company has granted to the Underwriters an option, exercisable for up
to 30 days after the date of this Prospectus, to purchase up to an aggregate of
600,000 additional shares of Common Stock to cover over-allotments, if any. If
the Underwriters exercise such option, the Underwriters have severally agreed,
subject to certain conditions, to purchase approximately the same percentage
thereof that the number of shares to be purchased by each of them bears to the
4,000,000 shares of Common Stock offered hereby. The Company will be obligated,
pursuant to the over-allotment option granted to the Underwriters, to sell
Common Stock to the Underwriters to the extent that such over-allotment option
is exercised.
At the request of the Company, the Underwriters have reserved an aggregate
of 300,000 shares of Common Stock for sale at the public offering price to
certain stockholders, suppliers, customers and others who have a business
relationship with the Company. The number of shares available for sale to the
general public will be reduced to the extent such persons purchase such shares.
Any reserved shares not so purchased will be offered by the Underwriters to the
general public on the same basis as the other shares offered by this Prospectus.
Each officer and director who holds shares of the Company and, as of
September 30, 1998, holders of approximately 7,622,262 shares of Common Stock
(including such officers and directors) and all warrantholders of the Company
and optionholders of the Company holding options exercisable within the 180-day
Lockup Period have agreed, for the 180 day Lockup Period, subject to certain
exceptions, not to offer to sell, contract to sell, or otherwise sell (including
without limitation in a short sale), dispose of, loan, pledge or grant
66
<PAGE> 68
any rights with respect to any shares of Common Stock, any options or warrants
to purchase any shares of Common Stock, or any securities convertible into,
exercisable for or exchangeable for shares of Common Stock owned as of the date
of this Prospectus directly by such holders or with respect to which they have
the power of disposition, without the prior written consent of CIBC Oppenheimer
Corp. or the Company. The Company has agreed with the Underwriters that the
Company will not release any shares subject to lock-up agreements with the
Company without the prior consent of CIBC Oppenheimer Corp. CIBC Oppenheimer
Corp. may, in its sole discretion and at any time or from time to time without
notice, release all or any portion of the securities subject to lock-up
agreements. There are no agreements between the Representatives and any of the
Company's stockholders providing consent by the Representatives to the sale of
shares prior to the expiration of the 180-day Lockup Period.
In addition, the Company has agreed that during the 180-day Lockup Period,
the Company will not, without the prior written consent of CIBC Oppenheimer
Corp., subject to certain exceptions, issue, offer to sell, sell, contract to
sell (including without limitation in a short sale), dispose of, loan, pledge or
grant any rights with respect to any shares of Common Stock, any options or
warrants to purchase any shares of Common Stock or any securities convertible
into, exercisable for or exchangeable for shares of Common Stock other than the
Company's sale of shares in this offering, the issuance of Common Stock upon the
exercise of outstanding options, and the Company's issuance of options and
shares under existing employee stock option and stock purchase plans. See
"Shares Eligible for Future Sale."
The Company has agreed to indemnify the Representatives and the several
Underwriters against certain liabilities, including, without limitation,
liabilities under the Securities Act, and to contribute, under certain
circumstances, to certain payments that the Underwriters may be required to make
in respect thereof.
The Representatives have informed the Company that the Underwriters do not
intend to confirm sales of shares of Common Stock offered hereby to accounts
over which they exercise discretionary authority.
Prior to this offering, there has been no public market for the Common
Stock. The initial public offering price will be negotiated among the Company
and the Representatives. Among the factors considered in determining the initial
public offering price, in addition to prevailing market conditions, will be the
history of and the prospects for the industry in which the Company competes, the
historical results of operations of the Company, the Company's capital
structure, estimates of the business potential and earnings prospects of the
Company, an overall assessment of the Company, an assessment of the Company's
management and the consideration of the above factors in relation to market
valuation of companies in related businesses. There can be no assurance that an
active trading market will develop for the Common Stock or as to the price at
which the Common Stock may trade in the public market from time to time
subsequent to this offering made hereby.
The Representatives, on behalf of the Underwriters, may engage in
over-allotment, stabilizing transactions, syndicate covering transactions and
penalty bids in accordance with Regulation M under the Securities Exchange Act
of 1934, as amended, (the "Exchange Act"). Over-allotment involves syndicate
sales in excess of the offering size, which creates a syndicate short position.
Stabilizing transactions permit bids to purchase the underlying security so long
as the stabilizing bids do not exceed a specified maximum. Syndicate covering
transactions involve purchases of the Common Stock in the open market after the
distribution has been completed in order to cover syndicate short positions.
Penalty bids permit the Representatives to reclaim a selling concession from a
syndicate member when the Common Stock originally sold by such syndicate member
is purchased in a syndicate covering transaction to cover syndicate short
positions. Such stabilizing transactions, syndicate covering transactions and
penalty bids may cause the price of the Common Stock to be higher than it would
otherwise be in the absence of such transactions. These transactions may be
effected on the Nasdaq National Market or otherwise and, if commenced, may be
discontinued at any time.
LEGAL MATTERS
The validity of the Common Stock offered hereby will be passed upon for the
Company by Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP, Menlo
Park, California. An investment partnership
67
<PAGE> 69
comprised of members of that firm beneficially owns a warrant to purchase 2,500
shares of the Company's Common Stock at an exercise price of $5.20 per share.
Certain legal matters in connection with this offering will be passed upon for
the Underwriters by Pillsbury Madison & Sutro LLP, Palo Alto, California.
Pillsbury Madison & Sutro LLP has acted and continues to act as counsel to the
Company in connection with certain legal matters.
EXPERTS
The financial statements of the Company as of June 30, 1997 and 1998 and
for the period from March 8, 1996 (inception) to June 30, 1996 and each of the
years in the two-year period ended June 30, 1998 included in this Prospectus and
the related financial statement schedule included elsewhere in the Registration
Statement have been audited by Deloitte & Touche LLP, independent auditors, as
stated in their reports appearing herein and elsewhere in the Registration
Statement, and have been so included in reliance upon the reports of such firm
given upon their authority as experts in accounting and auditing.
CHANGE IN ACCOUNTANTS
In April 1998, the Company appointed Deloitte & Touche LLP to replace the
former accountants as its principal accountants. There were no disagreements
with the former accountants during the period from inception to April 30, 1998
or during any subsequent interim period preceding their replacement on any
matter of accounting principles or practices, financial statement disclosure, or
auditing scope or procedures, which disagreements, if not resolved to the former
accountants' satisfaction, would have caused them to make reference to the
subject matter of the disagreement in connection with their reports. The former
accountants issued an unqualified opinion on the financial statements as of and
for the year ended June 30, 1997 and the period from inception to June 30, 1997.
The Company did not consult with Deloitte & Touche LLP on any accounting or
financial reporting matters in the periods prior to their appointment. The
change in accountants was approved by the Board of Directors.
ADDITIONAL INFORMATION
The Company has filed with the Securities and Exchange Commission (the
"Commission"), Washington, D.C. 20549, a Registration Statement on Form S-1
under the Securities Act with respect to the Common Stock offered hereby. This
Prospectus does not contain all of the information set forth in the Registration
Statement and the exhibits and schedules to the Registration Statement. For
further information with respect to the Company and such Common Stock offered
hereby, reference is made to the Registration Statement and the exhibits and
schedules filed as a part of the Registration Statement. Statements contained in
this Prospectus concerning the contents of any contract or any other document
referred to are not necessarily complete; reference is made in each instance to
the copy of such contract or document filed as an exhibit to the Registration
Statement. Each such statement is qualified in all respects by such reference to
such exhibit. The Registration Statement, including exhibits and schedules
thereto, may be inspected without charge at the Commission's principal office in
Washington, D.C., and copies of all or any part thereof may be obtained from
such office after payment of fees prescribed by the Commission. The Commission
maintains a Web site that contains reports, proxy and information statements and
other information regarding registrants that file electronically with the
Commission at http://www.sec.gov.
68
<PAGE> 70
ABOVENET COMMUNICATIONS INC.
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Independent Auditors' Report................................ F-2
Balance Sheets as of June 30, 1997 and 1998 and September
30, 1998 (Unaudited)...................................... F-3
Statements of Operations for the Period from March 8, 1996
(Inception) to June 30, 1996, the Years Ended June 30,
1997 and 1998 and the Three Months Ended September 30,
1997 and 1998 (Unaudited)................................. F-4
Statements of Stockholders' Equity (Deficiency) for the
Period from March 8, 1996 (Inception) to June 30, 1996,
the Years Ended June 30, 1997 and 1998 and the Three
Months Ended September 30, 1998 (Unaudited)............... F-5
Statements of Cash Flows for the Period from March 8, 1996
(Inception) to June 30, 1996, the Years Ended June 30,
1997 and 1998 and the Three Months Ended September 30,
1997 and 1998 (Unaudited)................................. F-6
Notes to Financial Statements............................... F-7
</TABLE>
F-1
<PAGE> 71
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
AboveNet Communications Inc.:
We have audited the accompanying balance sheets of AboveNet Communications
Inc. as of June 30, 1997 and 1998, and the related statements of operations,
stockholders' equity (deficiency) and cash flows for the period from March 8,
1996 (inception) to June 30, 1996 and for each of the two years in the period
ended June 30, 1998. 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, such financial statements present fairly, in all material
respects, the financial position of AboveNet Communications Inc. as of June 30,
1997 and 1998, and the results of its operations and its cash flows for the
period from March 8, 1996 (inception) to June 30, 1996 and for each of the two
years in the period ended June 30, 1998, in conformity with generally accepted
accounting principles.
DELOITTE & TOUCHE LLP
San Jose, California
August 7, 1998
(December 4, 1998 as to Note 12)
F-2
<PAGE> 72
ABOVENET COMMUNICATIONS INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
JUNE 30, PRO FORMA
------------------------- SEPTEMBER 30, SEPTEMBER 30,
1997 1998 1998 1998
----------- ----------- ------------- -------------
(UNAUDITED) (NOTE 1)
(UNAUDITED)
ASSETS
<S> <C> <C> <C> <C>
Current assets:
Cash and equivalents.............................. $ 331,100 $ 8,141,200 $ 10,625,600 $ 10,873,100
Short-term investments............................ -- -- 983,200 983,200
Accounts receivable, net of reserve for doubtful
accounts of $15,000, $60,000, $130,000 and
$130,000, respectively.......................... 41,100 357,000 625,500 625,500
Prepaid expenses and other current assets......... -- 269,600 668,100 668,100
----------- ----------- ------------- ------------
Total current assets....................... 372,200 8,767,800 12,902,400 13,149,900
Property and equipment, net......................... 766,400 4,436,100 11,115,500 11,115,500
Restricted cash..................................... -- 300,000 --
Deposits and other assets........................... 32,700 189,400 968,100 968,100
----------- ----------- ------------- ------------
Total...................................... $ 1,171,300 $13,693,300 $ 24,986,000 $ 25,233,500
=========== =========== ============= ============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY)
Current liabilities:
Accounts payable.................................. $ 312,000 $ 2,301,300 $ 2,656,900 $ 2,656,900
Accrued liabilities............................... 109,700 619,900 928,900 928,900
Customer deposits................................. 85,000 309,400 442,100 442,100
Advances.......................................... 739,900 -- -- --
Current portion of long-term obligations.......... 71,500 476,000 1,760,700 1,760,700
----------- ----------- ------------- ------------
Total current liabilities.................. 1,318,100 3,706,600 5,788,600 5,788,600
----------- ----------- ------------- ------------
Convertible notes payable and advances.............. -- 8,000,000 -- --
----------- ----------- ------------- ------------
Other long-term obligations......................... 115,500 1,325,300 6,512,700 6,512,700
----------- ----------- ------------- ------------
Commitments and contingencies (Note 9)
Stockholders' equity (deficiency):
Preferred stock, $0.001 par value, 8,750,000
shares authorized:
Series A convertible preferred stock; 1,025,000
shares designated, issued and outstanding
(none pro forma).............................. 410,000 410,000 410,000 --
Series B convertible preferred stock; 1,775,000
shares designated; 1,000,000, 1,631,896 and
1,631,896 issued and outstanding, respectively
(none pro forma).............................. 1,200,000 2,323,100 2,323,100 --
Series C convertible preferred stock; 2,025,000
shares designated; none, 2,003,000 and
2,003,000 issued and outstanding, respectively
(none pro forma).............................. -- 3,873,400 3,873,400 --
Series D convertible preferred stock; 2,125,000
shares designated; none, none, and 2,115,378
shares issued and outstanding, respectively
(none pro forma).............................. -- -- 10,771,000 --
Series E convertible preferred stock; 1,750,000
shares designated; none, none, and 408,775
shares issued and outstanding, respectively
(none pro forma).............................. -- -- 3,846,400 --
Common stock, $0.001 par value, 12,500,000 shares
authorized; 203,125, 364,348 and 509,895 common
shares issued and outstanding, respectively
(7,817,680 pro forma)........................... 8,100 38,900 69,200 21,540,600
Common stock options.............................. -- 1,861,500 2,613,700 2,613,700
Deferred stock compensation....................... -- (540,100) (565,800) (98,800)
Accumulated deficit............................... (1,880,400) (7,305,400) (10,656,300) (11,123,300)
----------- ----------- ------------- ------------
Total stockholders' equity (deficiency).... (262,300) 661,400 12,684,700 12,932,200
----------- ----------- ------------- ------------
Total...................................... $ 1,171,300 $13,693,300 $ 24,986,000 $ 25,233,500
=========== =========== ============= ============
</TABLE>
See notes to financial statements.
F-3
<PAGE> 73
ABOVENET COMMUNICATIONS INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
MARCH 8, 1996 THREE MONTHS ENDED
(INCEPTION) YEAR ENDED JUNE 30, SEPTEMBER 30,
TO ------------------------- -------------------------
JUNE 30, 1996 1997 1998 1997 1998
------------- ----------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues........................ $ 78,600 $ 551,600 $ 3,436,400 $ 430,900 $ 1,793,100
-------- ----------- ----------- ----------- -----------
Costs and expenses:
Data communications and
telecommunications......... -- 558,600 2,199,800 256,000 1,079,900
Network operations............ 19,400 416,700 1,571,800 221,800 772,800
Sales and marketing........... 19,100 382,600 1,618,700 258,600 1,355,800
General and administrative.... 66,100 433,700 1,621,500 198,900 812,700
Depreciation and
amortization............... 51,600 132,700 475,500 86,400 659,800
Stock-based compensation
expense.................... -- -- 1,276,400 14,300 436,200
Joint venture termination
fee........................ -- 431,100 -- -- --
-------- ----------- ----------- ----------- -----------
Total costs and
expenses............ 156,200 2,355,400 8,763,700 1,036,000 5,117,200
-------- ----------- ----------- ----------- -----------
Loss from operations............ (77,600) (1,803,800) (5,327,300) (605,100) (3,324,100)
Interest expense................ -- (7,400) (160,800) (58,800) (147,600)
Interest income................. -- 8,400 63,100 1,900 120,800
-------- ----------- ----------- ----------- -----------
Net loss........................ $(77,600) $(1,802,800) $(5,425,000) $ (662,000) $(3,350,900)
======== =========== =========== =========== ===========
Basic and diluted loss per
share......................... $ (0.62) $ (9.17) $ (20.68) $ (3.14) $ (7.35)
======== =========== =========== =========== ===========
Shares used in basic and diluted
loss per share................ 125,000 196,618 262,304 210,625 456,123
======== =========== =========== =========== ===========
</TABLE>
See notes to financial statements.
F-4
<PAGE> 74
ABOVENET COMMUNICATIONS INC.
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIENCY)
<TABLE>
<CAPTION>
CONVERTIBLE TOTAL
PREFERRED STOCK COMMON STOCK COMMON DEFERRED STOCKHOLDERS'
------------------------- ----------------- STOCK STOCK ACCUMULATED EQUITY
SHARES AMOUNT SHARES AMOUNT OPTIONS COMPENSATION DEFICIT (DEFICIENCY)
----------- ----------- ------- ------- ---------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balances, March 8, 1996
(inception)........... -- $ -- -- $ -- $ -- $ -- $ -- $ --
Issuance of common
stock................. -- -- 125,000 5,000 -- -- -- 5,000
Net loss................ -- -- -- -- -- -- (77,600) (77,600)
----------- ----------- ------- ------- ---------- ----------- ------------ ------------
Balances, June 30,
1996.................. -- -- 125,000 5,000 -- -- (77,600) (72,600)
Issuance of common
stock................. -- -- 62,500 2,500 -- -- -- 2,500
Issuance of Series A
convertible preferred
stock................. 1,025,000 410,000 -- -- -- -- -- 410,000
Exercise of common stock
options............... -- -- 15,625 600 -- -- -- 600
Issuance of Series B
convertible preferred
stock................. 500,000 600,000 -- -- -- -- -- 600,000
Issuance of Series B
convertible preferred
stock in conjunction
with acquisition of
DSK, Inc. (Note 8).... 500,000 600,000 -- -- -- -- -- 600,000
Net loss................ -- -- -- -- -- -- (1,802,800) (1,802,800)
----------- ----------- ------- ------- ---------- ----------- ------------ ------------
Balances, June 30,
1997.................. 2,025,000 1,610,000 203,125 8,100 -- -- (1,880,400) (262,300)
Exercise of common stock
options............... -- -- 161,223 30,800 -- -- -- 30,800
Issuance of warrants in
connection with
issuance of debt...... -- 112,000 -- -- 45,000 -- -- 157,000
Issuance of Series B
convertible preferred
stock................. 631,896 1,011,100 -- -- -- -- -- 1,011,100
Issuance of Series C
convertible preferred
stock................. 2,003,000 3,873,400 -- -- -- -- -- 3,873,400
Compensatory stock
arrangements.......... -- -- -- -- 1,816,500 (1,816,500) -- --
Amortization of deferred
stock compensation.... -- -- -- -- -- 1,276,400 -- 1,276,400
Net loss................ -- -- -- -- -- -- (5,425,000) (5,425,000)
----------- ----------- ------- ------- ---------- ----------- ------------ ------------
Balances, June 30,
1998.................. 4,659,896 6,606,500 364,348 38,900 1,861,500 (540,100) (7,305,400) 661,400
Issuance of Series D
convertible preferred
stock*................ 2,115,378 10,771,000 -- -- -- -- -- 10,771,000
Issuance of Series E
convertible preferred
stock*................ 408,775 3,846,400 -- -- -- -- -- 3,846,400
Exercise of common stock
options*.............. -- -- 145,547 30,300 -- -- -- 30,300
Issuance of warrants in
connection with
issuance of debt*..... -- -- -- -- 290,300 -- -- 290,300
Compensatory stock
arrangements*......... -- -- -- -- 461,900 (461,900) -- --
Amortization of deferred
stock compensation*... -- -- -- -- -- 436,200 -- 436,200
Net loss*............... -- -- -- -- -- -- (3,350,900) (3,350,900)
----------- ----------- ------- ------- ---------- ----------- ------------ ------------
Balances, September 30,
1998*................. 7,184,049 $21,223,900 509,895 $69,200 $2,613,700 $ (565,800) $(10,656,300) $ 12,684,700
=========== =========== ======= ======= ========== =========== ============ ============
</TABLE>
- ---------------
* Unaudited
See notes to financial statements.
F-5
<PAGE> 75
ABOVENET COMMUNICATIONS INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
MARCH 8, 1996 THREE MONTHS ENDED
(INCEPTION) YEAR ENDED JUNE 30, SEPTEMBER 30,
TO ------------------------- -------------------------
JUNE 30, 1996 1997 1998 1997 1998
------------- ----------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss.................................. $ (77,600) $(1,802,800) $(5,425,000) $ (662,000) $(3,350,900)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization........... 51,600 132,700 475,500 86,400 659,800
Stock-based compensation expense........ -- -- 1,276,400 14,300 436,200
Noncash interest expense................ -- -- 133,200 56,000 --
Joint venture termination fee........... -- 431,100 -- -- --
Changes in assets and liabilities:
Accounts receivable................... (12,000) (29,100) (315,900) (58,400) (268,500)
Prepaid expenses and other current
assets............................. -- -- (269,600) -- (398,500)
Restricted cash....................... -- -- (300,000) -- 300,000
Deposits and other assets............. -- (32,700) (111,700) (21,000) (488,400)
Accounts payable...................... 13,100 298,900 1,989,300 224,000 355,600
Accrued liabilities................... -- 109,700 510,200 5,600 309,000
Customer deposits..................... -- 85,000 224,400 24,300 132,700
Deferred rent......................... -- 30,400 18,200 -- 36,400
--------- ----------- ----------- ----------- -----------
Net cash used in operating
activities....................... (24,900) (776,800) (1,795,000) (330,800) (2,276,600)
--------- ----------- ----------- ----------- -----------
Cash flows from investing activities:
Purchase of property and equipment........ (101,100) (474,500) (3,666,000) (170,700) (7,339,200)
Purchase of short-term investments........ -- -- -- -- (983,200)
--------- ----------- ----------- ----------- -----------
Net cash used in investing
activities....................... (101,100) (474,500) (3,666,000) (170,700) (8,322,400)
--------- ----------- ----------- ----------- -----------
Cash flows from financing activities:
Proceeds from notes payable and
advances................................ 210,000 739,900 13,395,000 250,000 7,093,900
Payments on debt.......................... -- -- (70,000) -- (570,700)
Principal payments on capital leases...... -- (49,600) (84,700) (8,000) (87,500)
Proceeds from issuance of common stock.... 5,000 3,100 30,800 -- 30,300
Proceeds from issuance of convertible
preferred stock......................... -- 800,000 -- -- 6,617,400
--------- ----------- ----------- ----------- -----------
Net cash provided by financing
activities....................... 215,000 1,493,400 13,271,100 242,000 13,083,400
--------- ----------- ----------- ----------- -----------
Net increase in cash and equivalents........ 89,000 242,100 7,810,100 (259,500) 2,484,400
Cash and equivalents, beginning of period... -- 89,000 331,100 331,100 8,141,200
--------- ----------- ----------- ----------- -----------
Cash and equivalents, end of period......... $ 89,000 $ 331,100 $ 8,141,200 $ 71,600 $10,625,600
========= =========== =========== =========== ===========
Supplemental cash flow information -- Cash
paid for interest......................... $ -- $ 7,400 $ 27,600 $ 2,700 $ 147,600
========= =========== =========== =========== ===========
Noncash investing and financing activities:
Acquisition of equipment under capital
lease................................... $ -- $ 206,200 $ 479,200 $ -- $ --
========= =========== =========== =========== ===========
Acquisition of leasehold improvements in
conjunction with DSK, Inc.
acquisition............................. $ -- $ 168,900 $ -- $ -- $ --
========= =========== =========== =========== ===========
Exchange of notes, advances, accrued
interest and warrants for convertible
preferred stock......................... $ -- $ 210,000 $ 4,884,500 $ -- $ 8,000,000
========= =========== =========== =========== ===========
Issuance of warrants in connection with
issuance of debt........................ $ -- $ -- $ 45,000 $ -- $ 290,300
========= =========== =========== =========== ===========
</TABLE>
See notes to financial statements.
F-6
<PAGE> 76
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization -- AboveNet Communications Inc. (the Company), a California
corporation, was formed on March 8, 1996 (inception). The Company provides
managed co-location and Internet connectivity solutions for mission critical
Internet operations.
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 reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Concentration of Credit Risk -- Financial instruments that potentially
subject the Company to concentration of credit risk consist of trade
receivables. However, the Company's credit risk is mitigated by the Company's
credit evaluation process and the reasonably short collection terms. The Company
does not require collateral or other security to support accounts receivable and
maintains reserves for potential credit losses. To date, such losses have not
been significant.
Cash and Equivalents -- The Company considers all highly liquid investments
with an original maturity of ninety days or less to be cash equivalents.
Property and Equipment -- Property and equipment are stated at cost.
Depreciation is computed using the straight-line method over the estimated
useful lives of three to five years. Leasehold improvements and assets acquired
under capital lease are amortized over the shorter of the lease term or the
useful lives of the improvement.
Deposits and other assets -- Deposits and other assets at September 30,
1998 include deferred registration costs and deferred financing costs of
approximately $305,000 and $335,000, respectively.
Restricted Cash -- Restricted cash consists of certificates of deposit
which are restricted from use pursuant to certain capital lease agreements.
Revenue Recognition -- Revenue consists primarily of service revenue for
which revenue is recognized in the period in which the services are provided.
The services primarily include bandwidth and space requirement charges which are
recognized monthly as well as installation fees which are recognized as revenue
in the period of installation. Advance customer deposits received are deferred
until the period in which the services are rendered.
Income Taxes -- Deferred tax liabilities are recognized for future taxable
amounts, and deferred tax assets are recognized for future deductions, net of a
valuation allowance to reduce net deferred tax assets to amounts that are more
likely than not to be realized.
Stock-Based Compensation -- The Company accounts for stock-based awards to
employees using the intrinsic value method in accordance with Accounting
Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to
Employees."
Impairment of Long-Lived Assets and Long-Lived Assets To Be Disposed
Of -- The Company evaluates its long-lived assets and certain identifiable
intangibles for impairment whenever events or changes in circumstances indicate
that the carrying amount of such assets or intangibles 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
exceed
F-7
<PAGE> 77
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
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.
Net Income (Loss) per Share -- Basic income (loss) per share excludes
dilution and is computed by dividing net income (loss) by the weighted-average
number of common shares outstanding, less shares subject to repurchase by the
Company, for the period. Diluted income (loss) per share reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock. Common shares equivalents are
excluded from the computation in loss periods as their effect would be
antidilutive.
Unaudited Pro Forma Information -- Upon the closing of the initial public
offering contemplated by this Prospectus, each of the outstanding shares of
preferred stock will convert into one share of common stock and the Series B
convertible preferred stock warrants must be exercised or expire (see Note 6).
Also, approximately $467,000 of deferred stock compensation will be expensed
upon the closing of the offering (see Note 6). The pro forma balance sheet
presents the Company's balance sheet as if these transactions (including the
exercise and subsequent conversion of warrants to acquire 123,736 shares of
Series B preferred stock) had occurred at September 30, 1998.
Unaudited Interim Financial Information -- The interim financial
information as of September 30, 1998 and for the three months ended September
30, 1997 and 1998 is unaudited and has been prepared on the same basis as the
audited financial statements. In the opinion of management, such unaudited
information includes all adjustments (consisting only of normal recurring
adjustments) necessary for a fair presentation of the interim information.
Operating results for the three months ended September 30, 1998 are not
necessarily indicative of the results that may be expected for the year ending
June 30, 1999.
Reclassifications -- Certain prior year amounts have been reclassified to
conform to the current year presentation. Such reclassifications had no effect
on stockholders equity (deficiency) or net loss.
Recently Issued Accounting Standards -- In June 1997, the Financial
Accounting Standards Board (FASB) issued Statement of Financial Accounting
Standards (SFAS) No. 130, "Reporting Comprehensive Income," which requires an
enterprise to report, by major components and as a single total, the change in
its net assets during the period from nonowner sources; and SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information," which
establishes annual and interim reporting standards for an enterprise's business
segments and related disclosures about its products, services, geographic areas
and major customers. The Company will adopt both statements in fiscal 1999. The
Company has not yet identified its SFAS No. 131 reporting segments. Adoption of
these statements will not impact the Company's financial position, results of
operations or cash flows.
In March 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued SOP 98-1, "Accounting for the
Costs of Computer Software Developed or Obtained for Internal Use." SOP 98-1
provides guidance for an enterprise on accounting for the costs of computer
software developed or obtained for internal use. SOP 98-1 is effective for the
Company in fiscal 2000. The Company anticipates that accounting for transactions
under SOP 98-1 will not have a material impact on the Company's financial
position or results of operations.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which defines derivatives, requires that
all derivatives be carried at fair value, and provides for hedge accounting when
certain conditions are met. SFAS No. 133 is effective for the Company in fiscal
2000. Although the Company has not fully assessed the implications of SFAS No.
133, the Company does not believe adoption of this statement will have a
material impact on the Company's financial position or results of operations.
F-8
<PAGE> 78
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
2. PROPERTY AND EQUIPMENT, NET
Property and equipment are comprised of the following:
<TABLE>
<CAPTION>
JUNE 30,
----------------------- SEPTEMBER 30,
1997 1998 1998
--------- ---------- -------------
<S> <C> <C> <C>
Property and equipment, at cost:
Telecommunication equipment................. $ 774,300 $2,295,300 $ 3,243,000
Leasehold improvements...................... 168,900 224,700 8,222,400
Office equipment............................ 7,500 186,500 367,600
Construction in progress.................... -- 2,389,400 256,000
--------- ---------- -------------
Total............................... 950,700 5,095,900 12,089,000
Less accumulated depreciation and
amortization................................ (184,300) (659,800) (973,500)
--------- ---------- -------------
Property and equipment, net................... $ 766,400 $4,436,100 $ 11,115,500
========= ========== =============
</TABLE>
Construction in progress primarily relates to costs incurred during the
expansion of the Company's facilities.
3. CONVERTIBLE NOTES PAYABLE AND ADVANCES
In June 1997, the Company received $739,900 in cash advances from certain
individuals, including stockholders and employees. In July and August 1997, the
Company received an additional $250,000 in cash advances. In August 1997, the
advances were converted into notes payable of $989,900 and warrants to acquire
494,953 shares of Series B convertible preferred stock at $2.00 per share. The
notes generally bore an annual interest rate of 10%. The related warrants were
valued at $112,000, or $0.23 per share, and were recorded as a noncash interest
charge in 1998.
On December 31, 1997, the Company entered into exchange agreements with the
note holders. Pursuant to the exchange agreements, the above notes, accrued
interest of $21,200 and the related warrants were exchanged for (i) 631,896
shares of Series B convertible preferred stock and (ii) warrants to acquire
123,736 shares of Series B convertible preferred stock at $2.00 per share.
During fiscal 1998, the Company received $3,873,400 of cash advances from
certain potential investors. In May 1998, these advances were converted into
2,003,000 shares of Series C convertible preferred stock.
On June 30, 1998, in anticipation of the Company's pending sale of
preferred stock, the Company received $8 million in cash, of which $1 million
represented a noninterest bearing cash advance and $7 million represented
convertible notes payable. The notes bore interest at 6%, were due on July 15,
1998 and were convertible into Series D convertible preferred stock at $5.20 per
share. On July 15, 1998, the convertible notes and advance were converted into
Series D convertible preferred stock (see Note 6).
F-9
<PAGE> 79
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
4. OTHER LONG-TERM OBLIGATIONS
Long-term obligations consist of:
<TABLE>
<CAPTION>
JUNE 30,
--------------------- SEPTEMBER 30,
1997 1998 1998
-------- ---------- -------------
<S> <C> <C> <C>
Credit facility.................................. $ -- $1,201,600 $7,724,800
Capital lease facility........................... 156,600 551,100 463,600
Deferred rent.................................... 30,400 48,600 85,000
-------- ---------- ----------
Total obligations................................ 187,000 1,801,300 8,273,400
Current portion of long-term obligations......... (71,500) (476,000) (1,760,700)
-------- ---------- ----------
Long-term obligations.................. $115,500 $1,325,300 $6,512,700
======== ========== ==========
</TABLE>
CREDIT FACILITY
At June 30, 1998, the Company had a $6 million credit facility (the "Credit
Facility"), $1,271,600 of which had been drawn as of June 30, 1998. Proceeds
from borrowings on the Credit Facility may be used solely for the purpose of
acquiring network operating center equipment, office equipment and leasehold
improvements. Borrowings outstanding under the Credit Facility are payable in 42
monthly installments, bear interest at 14.7% and are collateralized by the
equipment and improvements purchased with the proceeds of the borrowing. The
ability to borrow on the Credit Facility expires June 30, 1999. At June 30,
1998, the outstanding borrowings on the Credit Facility are due as follows:
fiscal 1999, $252,000; fiscal 2000, $301,800; fiscal 2001, $349,300 and fiscal
2002, $298,500.
During the three months ended September 30, 1998, the Company and the
financing company amended the Credit Facility to increase the total facility to
$15.0 million, $6.0 million of which will become available upon completion of an
underwritten public offering. At September 30, 1998, $8.4 million had been drawn
on the Credit Facility.
CAPITAL LEASE FACILITY
At June 30, 1998, the Company had $1.45 million available on a $2 million
capital lease facility for which the Company leases certain equipment under
noncancelable capital leases. Leases outstanding at June 30, 1998 expire on
various dates through 2001 (see Note 9). In August 1998, the Company increased
its capital lease facility to $2.5 million. At September 30, 1998, the Company
had approximately $1.95 million available under this facility.
LINE OF CREDIT
The Company has a revolving line of credit from a bank which provides for
borrowings up to $750,000 through May 1999. Borrowings under the line bear
interest at the bank's prime rate plus 1% per annum (9.5% at June 30, 1998) and
are collateralized by substantially all of the Company's assets. As of June 30,
1998, the Company had no borrowings outstanding on the line of credit. The line
of credit agreement limits the Company's ability to pay cash dividends without
the bank's consent and requires, among other things, that the Company satisfy
certain financial covenants. As of June 30, 1998 and September 30, 1998, the
Company was not in compliance with the profitability covenant of its revolving
line of credit agreement. The Company has obtained a waiver with respect to this
covenant from the bank as of June 30, 1998, and is in the process of
renegotiating the covenant terms with the bank. In connection with the line of
credit agreement, in June 1998,
F-10
<PAGE> 80
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
the Company issued to the bank a warrant to purchase 1,250 shares of the
Company's Series D preferred stock at $4.00 per share. The warrant had an
estimated fair value of $1,900 or $1.52 per share.
5. INCOME TAXES
The Company's deferred income tax assets are comprised of the following:
<TABLE>
<CAPTION>
JUNE 30,
----------------------
1997 1998
-------- ----------
<S> <C> <C>
Net deferred tax assets:
Net operating loss carryforwards.......................... $516,900 $1,975,900
Stock compensation expense on nonqualified stock
options................................................ -- 512,300
Accruals deductible in different periods.................. 57,000 121,100
Depreciation and amortization............................. (14,800) (68,800)
-------- ----------
559,100 2,540,500
Valuation allowance......................................... (559,100) (2,540,500)
-------- ----------
Total............................................. $ -- $ --
======== ==========
</TABLE>
The Company's effective rate differs from the federal statutory tax rate as
follows:
<TABLE>
<CAPTION>
MARCH 8, 1996 YEAR ENDED
(INCEPTION) JUNE 30,
TO JUNE 30, --------------
1996 1997 1998
------------- ----- -----
<S> <C> <C> <C>
Federal statutory tax rate............................. 35.0% 35.0% 35.0%
State taxes, net of federal benefit.................... 6.0 6.0 6.0
Joint venture termination fee.......................... -- (9.8) --
Other.................................................. (8.8) (1.8) (1.2)
Valuation allowance.................................... (32.2) (29.4) (39.8)
----- ----- -----
Effective tax rate................................... --% --% --%
===== ===== =====
</TABLE>
The Company has no income tax provision due to its history of operating
losses. Due to the uncertainty surrounding the realization of the benefits of
its favorable tax attributes in future tax returns, the Company has fully
reserved its net deferred tax assets as of June 30, 1997 and 1998.
At June 30, 1998, the Company had net operating loss carryforwards of
approximately $4.9 million for federal and state income tax purposes. These
carryforwards begin to expire in 2003 for state and 2010 for federal purposes.
Additionally, Section 382 of the Internal Revenue Code and the applicable
California law impose annual limitations on the use of net operating loss
carryforwards if there is a change in ownership, as defined, within any
three-year period. The utilization of certain net operating loss carryforwards
may be limited due to the Company's capital stock transactions.
F-11
<PAGE> 81
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
6. STOCKHOLDERS' EQUITY (DEFICIENCY)
COMMON STOCK RESERVED FOR FUTURE ISSUANCE
At June 30, 1998 and September 30, 1998, the Company has reserved the
following shares of common stock for issuance in connection with:
<TABLE>
<CAPTION>
JUNE 30, 1998 SEPTEMBER 30, 1998
------------- ------------------
<S> <C> <C>
Conversion of Series A preferred stock.................. 1,025,000 1,025,000
Conversion of Series B preferred stock.................. 1,631,896 1,631,896
Conversion of Series C preferred stock.................. 2,003,000 2,003,000
Conversion of Series D preferred stock.................. -- 2,115,378
Conversion of Series E preferred stock.................. -- 408,775
Warrants issued and outstanding......................... 157,330 193,579
Options issued and outstanding.......................... 978,916 1,555,756
Options available under the 1996 and 1997 Plans......... 744,283 316,858
--------- ---------
Total......................................... 6,540,425 9,250,242
========= =========
</TABLE>
CONVERTIBLE PREFERRED STOCK
Significant terms of the Series A, B, C, D and E convertible preferred
stock are as follows (see Note 12):
- At the option of the holder, each share of preferred stock is convertible
at any time into one share of common stock, subject to adjustment for
certain dilutive issuances. Shares automatically convert into common
stock upon the completion of a public offering with aggregate proceeds
greater than $20,000,000 and at a price per share of not less than $12.00
(see Note 12).
- Series A, B, C, D and E convertible preferred stock have no preference as
to dividends but have a noncumulative right to participate in and receive
the same dividends as may be declared for common stockholders.
- In the event of a liquidation, dissolution or winding up of the Company
(which includes the acquisition of the Company by another entity), the
holders of Series A, B, C, D and E convertible preferred stock have a
liquidation preference over common stock of $0.40, $1.20, $2.00, $5.20
and $12.00 per share, respectively. Upon payment of the preferred stock
liquidation preference (aggregating $6,374,300 and $22,279,600 at June
30, 1998 and September 30, 1998 respectively), the remaining proceeds
will be allocated to the preferred and common stockholders on an as
converted basis.
- Each share of preferred stock has voting rights equivalent to the number
of shares of common stock into which it is convertible.
In fiscal 1997, the Company issued 1,025,000 shares of Series A convertible
preferred stock for cash of $200,000 and the conversion of advances of $210,000.
Also in fiscal 1997, the Company issued 500,000 shares of Series B convertible
preferred stock in connection with the acquisition of DSK, Inc. (see Note 8) and
issued 500,000 shares of Series B convertible preferred stock for cash of
$600,000. In fiscal 1998, the Company issued 631,896 shares of Series B
convertible preferred stock and 2,003,000 shares of Series C convertible
preferred stock upon conversions of notes, advances and accrued interest of
$1,011,100 and $3,873,400, respectively (see Note 3). During the three months
ended September 30, 1998, the Company issued 2,115,378 shares of Series D
convertible preferred stock for cash of $2,771,000 (net of costs of $229,000)
and the conversion of notes and advances of $8,000,000. During the same quarter,
the Company issued 408,775 shares of Series E convertible preferred stock for
cash of $3,846,400 (net of costs of $223,600).
F-12
<PAGE> 82
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
CONVERTIBLE PREFERRED STOCK WARRANTS
As discussed in Note 3, pursuant to certain exchange agreements entered
into on December 31, 1997, the Company issued warrants to acquire 123,736 shares
of Series B convertible preferred stock at $2.00 per share. These warrants
expire on the earlier of (i) January 1, 2002, (ii) an underwritten public
offering or (iii) a change in control. Also, as discussed in Note 4, warrants to
purchase 1,250 shares of Series D convertible preferred stock at $4.00 per share
were outstanding at June 30, 1998.
COMMON STOCK SUBJECT TO REPURCHASE
In fiscal 1998, upon the exercise of an option the Company sold 12,500
shares of common stock at $0.40 per share to an employee subject to repurchase
whereby the Company has the right to repurchase such shares at their original
purchase price. This right lapses over four years. At June 30, 1998, 12,500
shares were subject to such repurchase rights.
1996 STOCK OPTION PLAN
In March 1996, the Company adopted the 1996 Stock Option Plan (the "1996
Plan"). As of June 30, 1998, there were 505,885 options authorized for issuance
under the 1996 Plan. The 1996 Plan is administered by the Board of Directors and
encompasses nonstatutory and incentive stock options. Nonstatutory stock options
may be granted to employees and consultants, whereas incentive stock options may
only be granted to employees.
The 1996 Plan provides for the granting of incentive stock options at not
less than 100% of the fair market value of the underlying stock at the grant
date. Nonstatutory options may be granted at not less than 85% of the fair
market value of the underlying stock at the date of grant. Options under the
1996 Plan generally vest over four years and expire ten years from the date of
grant.
1997 STOCK OPTION PLAN
In fiscal 1998, the Company adopted the 1997 Stock Option Plan (the "1997
Plan"), authorizing 1,124,423 shares of common stock to be issued as options.
Upon a change in control, all shares granted under the 1997 Plan shall
immediately vest. Other provisions of the 1997 Plan are generally the same as
the 1996 Plan.
NONPLAN OPTION GRANT
In connection with its hiring of the Company's President and Chief
Operating Officer in November 1997, the Company granted to this officer options
to purchase 175,000 shares of common stock with an exercise price of $0.40 per
share. The option is immediately exercisable with respect to 20% of the option
shares and the balance becomes exercisable in equal monthly installments over
the next 36 months of employment with the Company measured from November 1997.
However, vesting accelerates upon the closing of an underwritten public
offering. In addition, the option grant contains an antidilution clause which
guarantees that, prior to any underwritten initial public offering of the
Company's common stock, the number of shares under the option grant will always
be equal to 5% of the Company's outstanding common stock on a fully diluted
basis less 18,333 shares. As a result of various sales of equity securities and
option grants since the initial grant in November 1997, the officer was issued
options to acquire an additional 264,862 and 30,110 shares of common stock at an
exercise price of $0.40 per share on July 31, 1998 and September 4,
F-13
<PAGE> 83
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
1998, respectively. In connection with this award, the Company recognized
$362,100 and $375,600 in stock-based compensation expense during fiscal 1998 and
the three months ended September 30, 1998, respectively.
OPTIONS AND WARRANTS GRANTED TO NONEMPLOYEES
The Company has granted options and warrants to nonemployees for services
performed and to be performed after the date of grant. In connection with these
awards, the Company recognized $310,100 in stock-based compensation expense
during fiscal 1998 ($33,300 during the three months ended September 30, 1998).
At June 30, 1998 and September 30, 1998, all services relating to these awards
has been rendered and the options and warrants were fully exercisable.
In connection with the Credit Facility (see Note 4), in fiscal 1998, the
Company issued warrants to acquire 22,500 shares of common stock at a
weighted-average exercise price of $4.61 per share. The fair value of these
warrants are being recognized as interest expense through June 30, 1999. During
the three months ended September 30, 1998, in connection with the amendment to
the Credit Facility (see Note 4), the Company issued warrants to acquire 25,000
shares of Common Stock, 12,500 of which have an exercise price of $10.00 per
share and have a term of five years. The remaining 12,500 warrants will have an
exercise price equal to 80% of an initial public offering price, or, if an
initial public offering is not completed, 80% of the price per share of the next
equity financing and will expire five years after the per share price is
determined. The estimated fair value of these warrants of $290,300 is included
in Deposits and other assets at September 30, 1998 and will be amortized to
interest expense over the repayment period.
At June 30, 1998, warrants to acquire 32,344 shares of common stock at a
weighted-average exercise price of $4.19 per share were outstanding; such
warrants expire in 2003. All of these warrants were issued during the year ended
June 30, 1998 (none issued in fiscal 1996 or 1997) and had an estimated
weighted-average fair value of $2.46 per share at the date of grant. At
September 30, 1998, warrants to acquire 56,093 shares of common stock at a
weighted-average exercise price of $5.68 per share were outstanding and
additional warrants to acquire 12,500 shares of common stock will have an
exercise price equal to 80% of an initial public offering price, or, if an
initial public offering is not completed, 80% of the price per share of the next
equity financing.
DEFERRED STOCK COMPENSATION
At June 30, 1998 and September 30, 1998, the Company had $540,100 and
$565,800, respectively, in deferred stock compensation related to options
granted to employees. This amount will be amortized to stock-based compensation
expense through fiscal 2000; however, as the vesting of the options granted
under the Nonplan Option Grant discussed above accelerates upon the closing of
an initial public offering, any unamortized deferred compensation relating to
this grant ($467,000 at September 30, 1998) will be recognized in the period the
offering closes.
F-14
<PAGE> 84
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
Stock option activity under the Plans and the Nonplan Option Grant are
summarized as follows:
<TABLE>
<CAPTION>
OUTSTANDING OPTIONS
-----------------------------
NUMBER WEIGHTED AVERAGE
OF SHARES EXERCISE PRICE
--------- ----------------
<S> <C> <C>
Balance, March 8, 1996 (inception)....................... -- $ --
Granted.................................................. 570,000 0.04
---------
Balance, June 30, 1996 (68,750 shares vested at a
weighted average exercise price of $0.04 per share).... 570,000 0.04
Granted.................................................. 225,000 0.13
Exercised................................................ (15,625) 0.04
Canceled................................................. (194,375) 0.04
---------
Balance, June 30, 1997 (109,687 shares vested at a
weighted average exercise price of $0.04 per share).... 585,000 0.06
Granted.................................................. 571,306 1.17
Exercised................................................ (161,223) 0.19
Canceled................................................. (16,167) 0.62
---------
Balance, June 30, 1998................................... 978,916 0.67
Granted.................................................. 725,387 6.29
Exercised................................................ (145,547) 0.21
Canceled................................................. (3,000) 4.00
---------
Balance, September 30, 1998.............................. 1,555,756 $3.33
=========
</TABLE>
The following table summarizes information as of June 30, 1998 concerning
currently outstanding and vested options:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS VESTED
----------------------------------- --------------------
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
REMAINING AVERAGE AVERAGE
EXERCISE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
PRICES OF SHARES LIFE (YEARS) PRICE OF SHARES PRICE
- ------------- --------- ------------ -------- --------- --------
<S> <C> <C> <C> <C> <C>
$0.04 - $0.20 524,386 8.0 $0.08 283,229 $0.08
0.40 271,250 9.4 0.40 25,000 0.40
1.20 79,655 9.6 1.20 47,656 1.20
4.00 103,625 9.9 4.00 11,250 4.00
------- -------
$0.04 - $4.00 978,916 8.7 0.67 367,135 0.37
======= =======
</TABLE>
At June 30, 1998, none and 744,283 shares were available for future grant
under the 1996 and 1997 Plans, respectively. At September 30, 1998, 316,858
shares remained available for future grant under the 1997 Plan.
ADDITIONAL STOCK PLAN INFORMATION
As discussed in Note 1, the Company accounts for its stock-based awards to
employees using the intrinsic value method in accordance with APB Opinion No.
25, "Accounting for Stock Issued to Employees," and its related interpretations.
SFAS No. 123, "Accounting for Stock-Based Compensation," requires the
disclosure of pro forma net income (loss) and earnings (loss) per share had the
Company adopted the fair value method since the
F-15
<PAGE> 85
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
Company's inception. Under SFAS No. 123, the fair value of stock-based awards to
employees is calculated through the use of option pricing models, even though
such models were developed to estimate the fair value of freely tradable, fully
transferable options without vesting restrictions, which significantly differ
from the Company's stock option awards. These models also require subjective
assumptions, including future stock price volatility and expected time to
exercise, which greatly affect the calculated values.
The Company's calculations for employee grants were made using the minimum
value method with the following weighted average assumptions: expected life, one
year following vest; no stock volatility; risk free interest rate of 6%; and no
dividends during the expected term. The Company's calculations are based on a
multiple award valuation approach, and forfeitures are recognized as they occur.
If the computed minimum values of the Company's stock-based awards to employees
had been amortized to expense over the vesting period of the awards as specified
under SFAS No. 123, net loss would have been $78,000 ($0.62 per basic and
diluted share), $1,803,800 ($9.17 per basic and diluted share), and $5,111,000
($19.49 per basic and diluted share) for the period from inception to June 30,
1996 and for the years ended June 30, 1997 and 1998, respectively.
The number and estimated weighted-average minimum and fair value per option
for employee and nonemployee awards, respectively, granted are as follows:
<TABLE>
<CAPTION>
INCEPTION TO JUNE 30, YEAR ENDED JUNE 30,
--------------------- -------------------
1996 1997 1998
--------------------- -------- --------
<S> <C> <C> <C>
Employee Options:
Number of shares...................................... 551,250 -- 501,625
Estimate weighted-average minimum value............... $0.01 $-- $0.20
Nonemployee Options:
Number of shares...................................... 18,750 225,000 69,681
Estimated weighted-average fair value................. $0.01 $0.03 $0.15
</TABLE>
7. NET LOSS PER SHARE
The following is a reconciliation of the numerators and denominators used
in computing basic and diluted net loss per share.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
INCEPTION YEAR ENDED JUNE 30, SEPTEMBER 30,
TO JUNE 30, ------------------------- -------------------------
1996 1997 1998 1997 1998
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Net loss (numerator), basic and
diluted......................... $(77,600) $(1,802,800) $(5,425,000) $ (662,000) $(3,350,900)
======== =========== =========== =========== ===========
Shares (denominator):
Weighted average common shares
outstanding.................. 125,000 196,618 265,112 210,625 469,683
Weighted average common shares
outstanding subject to
repurchase................... -- -- (2,808) -- (13,560)
-------- ----------- ----------- ----------- -----------
Shares used in computation, basic
and diluted..................... 125,000 196,618 262,304 210,625 456,123
-------- ----------- ----------- ----------- -----------
Net loss per share, basic and
diluted......................... $ (0.62) $ (9.17) $ (20.68) $ (3.14) $ (7.35)
======== =========== =========== =========== ===========
</TABLE>
For the above mentioned periods, the Company had securities outstanding
which could potentially dilute basic earnings per share in the future, but were
excluded in the computation of diluted net loss per share in the periods
presented, as their effect would have been antidilutive. Such outstanding
securities consist of the following at June 30, 1998 (at September 30, 1998 in
parenthesis): 4,659,896 (7,184,049) shares of
F-16
<PAGE> 86
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
convertible preferred stock, warrants to purchase 124,986 (124,986) shares of
convertible preferred stock, 12,500 (14,625) outstanding shares of common stock
subject to repurchase, and options and warrants to purchase 1,011,260
(1,624,349) shares of common stock.
8. JOINT VENTURE TERMINATION FEE
In fiscal 1996, the Company entered into a joint venture agreement (the
"Agreement") with DSK, Inc. ("DSK") to cooperatively market and develop the
Company's services. The Company paid $33,700 to DSK during the year ended June
30, 1997 related to the Agreement.
In April 1997, the Company terminated the Agreement and hired the majority
stockholders of DSK as either employees or consultants by issuing 500,000 fully
vested shares of the Series B preferred stock with a fair value of $1.20 per
share, or $600,000, for the outstanding shares of common stock of DSK. The
Company recorded the transaction by allocating the value of the shares issued to
property and equipment (at DSK's net book value of $168,900, which approximated
fair market value), with the balance of $431,100 reflected as a joint venture
termination fee.
Additionally, in April 1997, the Company granted to certain of the former
owners of DSK options to acquire a total of 125,000 shares of the Company's
common stock at $0.12 per share for real estate consulting services to be
performed. In June 1998, the Company accelerated the vesting of all the DSK
options awarded. In conjunction with this award, the Company recognized $604,200
of stock-based compensation expense during fiscal 1998.
9. COMMITMENTS AND CONTINGENCIES
LEASES
The Company leases its facilities under noncancelable operating leases.
These leases expire on various dates through 2002. Minimum future lease payments
under noncancelable operating and capital leases as of June 30, 1998 are
summarized as follows:
<TABLE>
<CAPTION>
CAPITAL OPERATING
FISCAL YEAR LEASES LEASES
----------- --------- -----------
<S> <C> <C>
1999....................................................... $ 248,300 $ 968,800
2000....................................................... 196,900 1,055,000
2001....................................................... 180,400 1,099,700
2002....................................................... -- 1,132,500
2003....................................................... -- 1,185,700
Thereafter................................................. -- 5,002,900
--------- -----------
Total minimum lease payments............................... 625,600 $10,444,600
===========
Less amount representing interest.......................... (74,500)
---------
Present value of minimum lease payments.................... 551,100
Less current portion....................................... (224,000)
---------
Long term portion.......................................... $ 327,100
=========
</TABLE>
Rent expense under the operating leases for the period from March 8, 1996
(inception) to June 30, 1996 and for the years ended June 30, 1997 and 1998 was
approximately none, $61,500, and $444,905, respectively.
F-17
<PAGE> 87
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
During the three months ended September 30, 1998, the Company entered into
an agreement to lease optical fiber. This lease is expected to commence in early
calendar 1999 upon the installation and acceptance of the connected fiber. The
lease will require annual payments of $420,000 for 20 years from installation.
This arrangement will be accounted for as a capital lease upon initiation of the
lease term.
PURCHASE COMMITMENTS
In fiscal 1998, the Company entered into noncancelable commitments to
purchase property and equipment related to the expansion of its operations
facilities. As of June 30, 1998, approximately $1.7 million was committed for
fiscal 1999 purchases under these agreements.
TELECOMMUNICATIONS AND PEERING ARRANGEMENTS
The Company has guaranteed to pay certain monthly usage levels or fees with
various communications or interconnect providers. Minimum payments under these
agreements at June 30, 1998 are as follows: $3.9 million in fiscal 1999 and $1.3
million in fiscal 2000.
The Company is a party to numerous peering agreements with other internet
providers to allow for the exchange of internet traffic. These agreements do not
have fee commitments and generally have a one year term with automatic renewals.
The Company does not record any revenue or expense associated with these
non-cash transactions as such transactions do not represent the culmination of
the earnings process and the fair value of such transactions are not reasonably
determinable.
LEGAL MATTERS
The Company is involved in various claims and legal actions arising out of
the normal course of business. Management does not expect that the outcome of
these cases will have a material effect on the Company's financial position or
results of operations.
10. RELATED PARTY TRANSACTIONS
A member of the Board of Directors is the President of an entity which is
the co-manager of the Company's primary facilities. Rent expense in fiscal 1996,
1997 and 1998 and for the three months ended September 30, 1998 for these
facilities was none, $16,400, $265,200, and $153,100 respectively. The Company
believes that its lease arrangements were at an arm's length basis.
11. MAJOR CUSTOMERS
Two customers accounted for 32% and 25% of revenues in fiscal 1996, while
another customer accounted for 12% and 14% of revenues in fiscal 1997 and 1998,
respectively.
At June 30, 1998, two customers accounted for approximately 22% and 13% of
trade receivables, while four other customers accounted for 13%, 13%, 11% and
10% of trade receivables at June 30, 1997.
12. SUBSEQUENT EVENTS
Subsequent to June 30, 1998, the Company changed the authorized number of
shares of the Common and Preferred Stock to 12,500,000 and 8,750,000
respectively. Additionally, the Company designated 2,125,000 and 1,750,000
shares of preferred stock as Series D and E, respectively. In July 1998, the
Company issued 2,115,378 shares of Series D convertible preferred stock in
exchange for the conversion of the
F-18
<PAGE> 88
ABOVENET COMMUNICATIONS INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
FOR THE PERIOD FROM MARCH 8, 1996 (INCEPTION) TO JUNE 30, 1996,
THE YEARS ENDED JUNE 30, 1997 AND 1998,
AND THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED)
$8,000,000 notes payable and advances outstanding at June 30, 1998 and
additional cash of $2,771,000 (net of costs of $229,000). On September 4, 1998,
the Company sold 408,775 shares of Series E convertible preferred stock at
$10.00 per share for proceeds of $3,846,400 (net of costs of $223,600).
On August 27, 1998, the Board of Directors adopted, subject to stockholder
approval, the 1998 Stock Incentive Plan (the "1998 Stock Plan"). The 1998 Stock
Plan will serve as the successor equity incentive program to the Company's
existing 1997 Plan effective upon the execution of an underwriting agreement to
sell shares in an initial public offering. A total of 1,562,500 shares of Common
Stock have been reserved for issuance under the 1998 Stock Plan.
Additionally, on August 27, 1998, the Board of Directors adopted, subject
to stockholder approval, the 1998 Employee Stock Purchase Plan (the "1998
Purchase Plan"). Under the 1998 Purchase Plan, eligible employees are allowed to
have salary withholdings of up to 10% of their base compensation to purchase
shares of common stock at a price equal to 85% of the lower of the market value
of the stock at the beginning or end of defined purchase periods. The initial
purchase period commences upon the execution and final pricing of the
underwriting agreement for the initial public offering of the Company's common
stock. The Company has reserved 156,250 shares of common stock for issuance
under this plan.
On August 27, 1998, the Board of Directors approved, subject to stockholder
approval, a change in the authorized number of shares of the common and
preferred stock upon the closing of the initial public offering to 60,000,000
and 5,000,000, respectively.
On September 3, 1998, the Board of Directors approved, subject to
stockholder approval, the reincorporation of the Company in the State of
Delaware and the associated exchange of one share of common stock and preferred
stock of the Company for every two and one-half shares of common stock and
preferred stock, respectively, of the Company's California predecessor entity.
Such reincorporation and stock exchange became effective on November 5, 1998.
On November 11, 1998, the Board of Directors adopted, subject to
stockholder approval, a 1-for-1.6 reverse split of the outstanding shares of
common and preferred stock. Additionally, on November 11, 1998, the Board of
Directors approved, subject to stockholder approval, an amendment to the
Certificate of Incorporation to require the automatic conversion of preferred
stock into common stock in connection with any public offering occurring prior
to March 31, 1999 regardless of the offering price. The Company's stockholders
approved these amendments on November 17, 1998.
All share and per share amounts in these financial statements have been
adjusted to give effect to the reincorporation, the associated 1-for-2.5
exchange and the subsequent 1-for-1.6 reverse stock split.
On December 4, 1998, the Company entered into a new facility lease
agreement. The agreement is for a minimum of 20 years with annual rent payments
increasing from approximately $3 million to $5 million over the lease term. In
connection with the lease, the Company issued the lessor a warrant to buy
100,000 shares of the Company's common stock at $10.00 per share.
F-19
<PAGE> 89
- ------------------------------------------------------
- ------------------------------------------------------
NO DEALER, SALESPERSON OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THE OFFERING OTHER
THAN THOSE CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR MADE, SUCH OTHER
INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED ON AS HAVING BEEN AUTHORIZED
BY THE COMPANY OR BY ANY OF THE UNDERWRITERS. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY TO ANY PERSON
IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION WOULD BE UNLAWFUL OR TO
ANY PERSON TO WHOM IT IS UNLAWFUL. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR
ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION
THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY, OR THAT THE
INFORMATION CONTAINED HEREIN IS CORRECT, AS OF ANY DATE SUBSEQUENT TO THE DATE
OF THIS PROSPECTUS.
---------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary........................ 3
Risk Factors.............................. 6
Use of Proceeds........................... 17
Dividend Policy........................... 17
Capitalization............................ 18
Dilution.................................. 19
Selected Financial and Operating Data..... 20
Management's Discussion and Analysis of
Financial Condition and Results of
Operations.............................. 21
Business.................................. 30
Management................................ 45
Certain Transactions...................... 57
Principal Stockholders.................... 60
Description of Capital Stock.............. 62
Shares Eligible for Future Sale........... 65
Underwriting.............................. 66
Legal Matters............................. 67
Experts................................... 68
Change in Accountants..................... 68
Additional Information.................... 68
Index to Financial Statements............. F-1
</TABLE>
---------------------
UNTIL , 1998, ALL DEALERS EFFECTING TRANSACTIONS IN THE
COMMON STOCK OFFERED HEREBY, WHETHER OR NOT PARTICIPATING IN THIS DISTRIBUTION,
MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS IN ADDITION TO THE OBLIGATION
OF DEALERS TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT
TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
4,000,000 SHARES
LOGO
COMMON STOCK
------------------------
PROSPECTUS
------------------------
CIBC OPPENHEIMER
VOLPE BROWN WHELAN & COMPANY
, 1998
- ------------------------------------------------------
- ------------------------------------------------------
<PAGE> 90
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the costs and expenses, other than
underwriting discounts and commissions, payable by the Registrant in connection
with the sale of Common Stock being registered. All amounts are estimates except
the SEC registration fee, the NASD filing fee and the Nasdaq National Market
listing fee.
<TABLE>
<CAPTION>
AMOUNT
TO BE PAID
----------
<S> <C>
SEC registration fee........................................ $ 17,425
NASD filing fee............................................. 6,250
Nasdaq National Market listing fee.......................... 50,000
Printing and shipping fees.................................. 200,000
Legal fees and expenses..................................... 350,000
Accounting fees and expenses................................ 350,000
Blue Sky qualification fees and expenses.................... 5,000
Transfer agent and registrar fees........................... 10,000
Miscellaneous fees.......................................... 211,325
----------
Total............................................. $1,200,000
==========
</TABLE>
- ---------------
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 145 of the Delaware General Corporation Law authorizes a court to
award or a corporation's Board of Directors to grant indemnification to
directors and officers in terms sufficiently broad to permit such
indemnification under certain circumstances for liabilities (including
reimbursement for expenses incurred) arising under the Securities Act of 1933,
as amended (the "Securities Act"). Article VII, Section 6, of the Registrant's
Bylaws provides for mandatory indemnification of its directors and officers and
permissible indemnification of employees and other agents to the maximum extent
permitted by the Delaware General Corporation Law. The Registrant's Certificate
of Incorporation provides that, pursuant to Delaware law, its directors shall
not be liable for monetary damages for breach of the directors' fiduciary duty
as directors to the Company and its stockholders. This provision in the
Certificate of Incorporation does not eliminate the directors' fiduciary duty,
and in appropriate circumstances equitable remedies such as injunctive or other
forms of non-monetary relief will remain available under Delaware law. In
addition, each director will continue to be subject to liability for breach of
the director's duty of loyalty to the Company for acts of omissions not in good
faith or involving intentional misconduct, for knowing violations of law, for
actions leading to improper personal benefit to the director, and for payment of
dividends or approval of stock repurchases or redemptions that are unlawful
under Delaware law. The provision also does not affect a director's
responsibilities under any other law, such as the federal securities laws or
state or federal environmental laws. The Registrant has entered into
Indemnification Agreements with its officers and directors, a form of which is
attached as Exhibit 10.1 hereto and incorporated herein by reference. The
Indemnification Agreements provide the Registrant's officers and directors with
further indemnification to the maximum extent permitted by the Delaware General
Corporation Law. Reference is made to Section 7 of the Underwriting Agreement
filed as Exhibit 1.1 hereto, indemnifying officers and directors of the
Registrant against certain liabilities.
II-1
<PAGE> 91
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
Since March 8, 1996, the Registrant's predecessor company has issued and
sold the following securities (which numbers do not reflect either the one for
two and one-half exchange effected in connection with the Company's
reincorporation into Delaware or the 1-for-1.6 reverse stock split to be
effected prior to this offering).
(1) On August 28, 1996, Registrant sold and issued an aggregate of
4,100,000 shares of Series A Preferred Stock, at a purchase price of
$0.10 per share, for cash in the aggregate amount of $410,000 to a
group of investors pursuant to a Series A Preferred Stock Purchase
Agreement.
(2) On March 14, 1997, Registrant sold and issued an aggregate of
2,000,000 shares of Series B Preferred Stock, at a purchase price of
$0.30 per share, for cash in the aggregate of $600,000 to a group of
investors pursuant to a Series B Preferred Stock Purchase Agreement.
(3) On April 30, 1997, Registrant terminated a joint venture agreement
with DSK, Inc. by issuing 2,000,000 shares of Series B Preferred
Stock.
(4) On August 7, 1997, Registrant issued promissory notes in the principal
amount of $989,000 and warrants to acquire 1,979,804 shares of Series
B Preferred Stock at $0.50 per share. On December 31, 1997, Registrant
entered into exchange agreements with the noteholders. Pursuant to the
exchange agreements, the above notes, accrued interest of $21,200 and
the related warrants were exchanged for (i) 2,527,640 shares of Series
B Preferred Stock and (ii) warrants to acquire 494,951 shares of
Series B Preferred Stock at $0.50 per share.
(5) On May 11, 1998, Registrant sold and issued an aggregate of 8,012,000
shares of Series C Preferred Stock, at a weighted-average purchase
price of $0.48 per share, for cash in the aggregate amount of
$3,882,400 to a group of investors pursuant to a Series C Preferred
Stock Purchase Agreement.
(6) On June 30, 1998, Registrant issued promissory notes, in the principal
amount of $7,000,000, convertible into Series D Preferred Stock (the
"Series D Notes") to a group of investors pursuant to a Note Purchase
Agreement. On July 15, 1998, Registrant sold and issued an aggregate
of 8,461,538 shares of Series D Preferred Stock, at a purchase price
of $1.30 per share, for cash and cancellation of indebtedness in the
aggregate amount of $10,999,999.40 to a group of investors pursuant to
a Series D Preferred Stock Purchase Agreement. All of the Series D
Notes were converted into shares of Series D Preferred Stock on July
15, 1998.
(7) On September 4, 1998, Registrant sold and issued an aggregate of
1,628,000 shares of Series E Preferred Stock, at a purchase price of
$2.50 per share, for cash in the aggregate amount of $4,070,000 to a
group of investors pursuant to a Series E Preferred Stock Purchase
Agreement. In addition, the Registrant issued 7,100 shares of Series E
Preferred in consideration for placement agent services.
(8) As of October 31, 1998, Registrant has sold and issued 2,086,482
shares of its Common Stock for an aggregate purchase price of $68,288
to employees, directors and consultants pursuant to direct issuances
and to exercises of options under its 1996 and 1997 Stock Option Plans
and non-plan options.
(9) During May 1998, Registrant issued warrants for 15,000 shares of
Common Stock, with an exercise price of $.50 per share, to Jerry
Weissman at Power Presentations for services to the Company. During
the same time period, Registrant issued warrants for 24,375 shares of
Common Stock, with an exercise price of $1.00 per share, to DEF Public
Relations, Heidrich & Struggles and Greg Moyer at Flying Beyond for
services to the Company.
(10) During May 1998, Registrant issued warrants, in connection with
various financing arrangements, to purchase 90,000 shares of Common
Stock, with a weighted-average exercise price of $1.15 per share to
Transamerica and 5,000 warrants of Series D Preferred Stock, with an
exercise price of $1.00 per share to Silicon Valley Bank.
II-2
<PAGE> 92
(11) In July 1998, Registrant sold and issued warrants for 35,000 shares of
its Common Stock, at an exercise price of $1.30 per share, to Primus
Technology for services in connection with developing Registrant's
Asian business opportunities. During the same time period, Registrant
issued warrants for 10,000 shares of Common Stock, at a purchase price
of $1.30 per share, for cash in the aggregate amount of $500 to
Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP.
(12) In September 1998, Registrant issued warrants to purchase 100,000
shares of Common Stock in connection with a financing arrangement, to
TransAmerica Business Credit Corporation. The exercise price for
50,000 shares is equal to $2.50 per share and the exercise price for
the remaining 50,000 shares is equal to 80% of the price of this
offering or, if this offering is not completed, 80% of the price of
the next equity financing.
(13) In October 1998, the Company issued warrants with an exercise price
equal to $4.00 per share to purchase 26,250 shares to various
consultants in connection with the construction of its new ISX.
(14) In December 1998, the Company issued a warrant to purchase 100,000
shares of Common Stock in connection with a real estate lease to
Forest City Enterprises, L.L.C. at an exercise price of $10.00 per
share (the share numbers and exercise price reflect the exchange and
reverse stock split).
(15) In November 1998, David K. Small exercised options to purchase 15,625
shares of Common Stock of the Company for an aggregate purchase price
of $1,875 (the share numbers and exercise price reflect the exchange
and reverse stock split).
The sale of the above securities was deemed to be exempt from registration
under the Securities Act in reliance upon Section 4(2) of the Securities Act or
Regulation D promulgated thereunder, or Rule 701 promulgated under Section 3(b)
of the Securities Act as transactions by an issuer not involving any public
offering or transactions pursuant to compensation benefit plans and contracts
relating to compensation as provided under such Rule 701. The recipients of
securities in each such transaction represented their intentions to acquire the
securities for investment only and now with a view to or for sale in connection
with any distribution thereof, and appropriate legends were affixed to the share
certificates issued in such transactions. All recipients had adequate access,
through their relationships with the Registrant, to information about the
Registrant.
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------
<S> <C>
1.1 Form of Underwriting Agreement.
2.1+ Form of Agreement and Plan of Merger between Registrant and
AboveNet Communications Inc., a California corporation.
3.2+ Amended and Restated Certificate of Incorporation.
3.3+ Form of Second Amended and Restated Certificate of
Incorporation to be filed upon completion of offering.
3.4+ Form of Third Amended and Restated Certificate of
Incorporation to be filed prior to completion of the
offering.
3.5+ Bylaws of Registrant.
4.1+ Reference is made to Exhibits 3.2, 3.3, 3.4, 3.5, 10.2,
10.3, 10.4 and 10.5.
4.2+ Form of Registrant's Common Stock Certificate.
4.3+ Amended and Restated Investors' Rights Agreement dated
September 4, 1998.
4.4(a)+ Stock Subscription Warrant No. 1 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation.
4.4(b)+ Stock Subscription Warrant No. 2 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation.
</TABLE>
II-3
<PAGE> 93
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------
<S> <C>
4.4(c)+ Stock Subscription Warrant No. 3 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation (see Exhibit No. 10.28).
4.4(d)+ Stock Subscription Warrant No. 4 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation (see Exhibit No. 10.28).
4.5+ Warrants to purchase shares of Series D Preferred Stock of
Registrant issued to Silicon Valley Bank.
4.6+ Form of Warrant to purchase shares of Common Stock of
Registrant.
5.1+ Opinion of Gunderson Dettmer Stough Villeneuve Franklin &
Hachigian, LLP ("Gunderson Dettmer").
10.1+ Form of Indemnification Agreement entered into by Registrant
with each of its directors and executive officers.
10.2+ 1996 Stock Option Plan.
10.3+ 1997 Stock Option Plan.
10.4+ 1998 Stock Incentive Plan.
10.5+ 1998 Employee Stock Purchase Plan.
10.6+ Employment Agreement between Registrant and Warren J.
Kaplan.
10.7+ Employment Agreement between Registrant and Sherman Tuan.
10.8+ Employment Agreement between Registrant and David Rand.
10.9+ Stock Option Agreement between Registrant and Warren J.
Kaplan.
10.10+ Technology Agreement between Registrant and David Rand.
10.11+ Lease Equipment Agreement between Registrant and Cisco
Systems Capital Corporation.
10.12+ Loan and Security Agreement between Registrant and Silicon
Valley Bank.
10.13+ Master Loan and Security Agreements between Registrant and
Transamerica Business Credit Corporation.
10.14+ Promissory Note by Registrant to Transamerica Business
Credit Corporation.
10.15+ Office Lease between 50 West San Fernando Associates and
Registrant dated May 15, 1996 (San Jose Office, 10th Floor).
10.16+ First Amendment to Lease Agreement between 50 West San
Fernando Associates and Registrant, dated December 12, 1996
(San Jose Office, 10th Floor).
10.17+ Second Amendment to Lease between 50 West San Fernando
Associates and Registrant, dated February 23, 1998 (San Jose
Office, 10th Floor).
10.18+ Office Lease between 50 West San Fernando Associates and
Registrant, dated May 15, 1996 (San Jose Office, 18th
Floor).
10.19+ First Amendment to Lease Agreement between 50 West San
Fernando Associates and Registrant, dated December 12, 1996
(San Jose Office, 18th Floor).
10.20+ Second Amendment to Lease between 50 West San Fernando
Associates and Registrant, dated February 24, 1998 (San Jose
Office, 18th Floor).
10.21+ Consent of Landlord between Registrant and Halcyon Software
California Inc., dated March 31, 1998 (San Jose Office,
Suite 1012).
10.22+ Consent of Landlord between 50 West San Fernando Associates
and KPMG Peat Marwick LLP, dated April 6, 1998 and April 12,
1998 (Registrant sublease from KPMG Peat Marwick LLP, San
Jose Office, 10th Floor).
</TABLE>
II-4
<PAGE> 94
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------
<S> <C>
10.23+ Sublease between KPMG Peat Marwick (USA) LLP and Registrant,
dated March 13, 1998 (Registrant sublease from KPMG Peat
Marwick LLP (USA), San Jose Office, 10th Floor).
10.24+ Deed of Lease between Gosnell Properties, Inc. and
Registrant dated September 3, 1997 (Suite B-290, Vienna,
VA/"D.C.").
10.25+ Deed of Lease between Gosnell Properties, Inc. and
Registrant dated January 30, 1998 (Suite 110, Vienna,
VA/"D.C.").
10.26+ Network Access Agreement between Goodnet and Registrant
dated June 11, 1996.
10.27+** Fiber Optic Private Network Agreement Product Order between
Metromedia Fiber Network Services, Inc. and Registrant,
dated September 1, 1998.
10.28+ Amended and Restated Master Loan and Security Agreement
between Registrant and Transamerica Business Credit
Corporation.
10.29+ Loan Modification Agreement between Registrant and Silicon
Valley Bank dated as of October 26, 1998.
10.30 Lease by and between F.C. Pavilion, L.L.C. and Registrant
dated as of December 4, 1998.
16.1+ Letter Regarding Change in Certifying Accountants.
23.1+ Consent of Gunderson Dettmer (included in Exhibit 5.1).
23.2 Consent of Deloitte & Touche LLP, Independent Accountants.
23.3 Independent Auditors' Report on Schedule.
27.1+ Financial data schedule.
99.1+ Consent of Forrester Research, Inc.
99.2+ Consent of International Data Corporation.
</TABLE>
- ---------------
* To be filed by amendment.
+ Previously filed.
** Confidential treatment requested as to certain portions of exhibit.
(b) Financial Statement Schedule
(i) Schedule II. Valuation and Qualifying Accounts.
Schedules not listed above have been omitted because the information
required to be set forth therein is not applicable.
ITEM 17. UNDERTAKINGS
The undersigned Registrant hereby undertakes to provide to the Underwriters
at the closing specified in the Underwriting Agreement, certificates in such
denominations and registered in such names as required by the Underwriters to
permit prompt delivery to each purchaser.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the Delaware General Corporation Law, the Registrant's
Restated Certificate of Incorporation, the Registrant's Bylaws, and Registrant's
indemnification agreements or otherwise, the Registrant has been advised that in
the opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act, and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other than the payment by the Registrant of expenses incurred or
paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered hereunder, the Registrant will, unless in the opinion of its counsel
the matter has been settled by controlling precedent, submit to a court of
appropriate jurisdiction the
II-5
<PAGE> 95
question whether such indemnification by it is against public policy as
expressed in the Securities Act and will be governed by the final adjudication
of such issue.
The undersigned Registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities
Act, the information omitted from the form of Prospectus filed as part of
this Registration Statement in reliance upon Rule 430A and contained in a
form of Prospectus filed by the Registrant pursuant to Rule 424(b)(1) or
(4) or 497(h) under the Securities Act shall be deemed to be part of this
Registration Statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act, each post-effective amendment that contains a form of Prospectus shall
be deemed to be a new Registration Statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
II-6
<PAGE> 96
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Registrant
has duly caused this Amendment No. 5 to Registration Statement on Form S-1 to be
signed on its behalf by the undersigned, thereunto duly authorized, in the City
of San Jose, State of California, on this 7th day of December, 1998.
ABOVENET COMMUNICATIONS INC.
By: /s/ SHERMAN TUAN
------------------------------------
Sherman Tuan
Chairman of the Board and Chief
Executive Officer
KNOW ALL PERSONS BY THESE PRESENTS, that David F. Larson whose signature
appears below, constitutes and appoints, jointly and severally, Warren J.
Kaplan, Sherman Tuan and Stephen B. Belomy, and each of them, his true and
lawful attorneys-in-fact and agents, each with full power of substitution, for
him and in his name, place and stead, in any and all capacities, to sign any and
all amendments (including post-effective amendments) to this Registration
Statement that is to be effective upon filing pursuant to Rule 462(b)
promulgated under the Securities Act of 1933, and all post-effective amendments
thereto, and to file the same, with all exhibits thereto and all other documents
in connection therewith, with the Securities and Exchange Commission, granting
unto said attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing requisite and necessary
to be done in and about the premises, as fully to all intents and purposes as he
might or could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents or any of them, or his or their substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirement of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated:
<TABLE>
<CAPTION>
NAME AND SIGNATURE TITLE DATE
------------------ ----- ----
<C> <S> <C>
/s/ SHERMAN TUAN Chairman of the Board and December 7, 1998
- ----------------------------------------------------- Chief Executive Officer
Sherman Tuan (Principal Executive Officer)
and Director
/s/ STEPHEN P. BELOMY* Executive Vice President and December 7, 1998
- ----------------------------------------------------- Secretary
Stephen P. Belomy
/s/ DAVID F. LARSON Senior Vice President and December 7, 1998
- ----------------------------------------------------- Chief Financial Officer
David F. Larson (Principal Financial Officer)
/s/ KEVIN HOURIGAN* Vice President Finance (Chief December 7, 1998
- ----------------------------------------------------- Accounting Officer)
Kevin Hourigan
/s/ PETER C. CHEN, PH.D.* Vice Chairman of the Board December 7, 1998
- -----------------------------------------------------
Peter C. Chen, Ph.D.
/s/ WARREN J. KAPLAN* President, Chief Operating December 7, 1998
- ----------------------------------------------------- Officer and Director
Warren J. Kaplan
/s/ ROBERT A. BURGELMAN* Director December 7, 1998
- -----------------------------------------------------
Robert A. Burgelman
</TABLE>
II-7
<PAGE> 97
<TABLE>
<CAPTION>
NAME AND SIGNATURE TITLE DATE
------------------ ----- ----
<C> <S> <C>
/s/ FRANK R. KLINE* Director December 7, 1998
- -----------------------------------------------------
Frank R. Kline
/s/ JAMES SHA* Director December 7, 1998
- -----------------------------------------------------
James Sha
/s/ TOM SHAO, PH.D.* Director December 7, 1998
- -----------------------------------------------------
Tom Shao, Ph.D.
/s/ KIMBALL W. SMALL* Director December 7, 1998
- -----------------------------------------------------
Kimball W. Small
/s/ FRED A. VIERRA* Director December 7, 1998
- -----------------------------------------------------
Fred A. Vierra
*By: /s/ SHERMAN TUAN
------------------------------------------------
Sherman Tuan
Attorney-In-Fact
</TABLE>
II-8
<PAGE> 98
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
BALANCE AT CHARGED TO BALANCE AT
BEGINNING OF COST AND DEDUCTIONS/ END OF
PERIOD EXPENSES WRITE - OFF PERIOD
------------ ---------- ------------ ----------
<S> <C> <C> <C> <C>
PERIOD FROM MARCH 8, 1996 (INCEPTION) TO
JUNE 30, 1996
Accounts receivable allowance........... $ -- $ -- $ -- $ --
YEAR ENDED JUNE 30, 1997
Accounts receivable allowance........... $ -- $ 15,000 $ -- $ 15,000
YEAR ENDED JUNE 30, 1998
Accounts receivable allowance........... $ 15,000 $ 58,787 $13,787 $ 60,000
</TABLE>
S-1
<PAGE> 99
EXHIBIT INDEX
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER DESCRIPTION OF DOCUMENT PAGE
- ----------- ----------------------- ------------
<S> <C> <C>
1.1 Form of Underwriting Agreement.
2.1+ Form of Agreement and Plan of Merger between Registrant and
AboveNet Communications Inc., a California corporation.
3.2+ Amended and Restated Certificate of Incorporation.
3.3+ Form of Second Amended and Restated Certificate of
Incorporation to be filed upon completion of offering.
3.4+ Form of Third Amended and Restated Certificate of
Incorporation to be filed prior to completion of the
offering.
3.5+ Bylaws of Registrant.
4.1+ Reference is made to Exhibits 3.2, 3.3, 3.4, 3.5, 10.2,
10.3, 10.4 and 10.5.
4.2+ Form of Registrant's Common Stock Certificate.
4.3+ Amended and Restated Investors' Rights Agreement dated
September 4, 1998.
4.4(a)+ Stock Subscription Warrant No. 1 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation.
4.4(b)+ Stock Subscription Warrant No. 2 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation.
4.4(c)+ Stock Subscription Warrant No. 3 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation (see Exhibit No. 10.28).
4.4(d)+ Stock Subscription Warrant No. 4 to purchase shares of
Common Stock of Registrant issued to Transamerica Business
Credit Corporation (see Exhibit No. 10.28).
4.5+ Warrants to purchase shares of Series D Preferred Stock of
the Registrant issued to Silicon Valley Bank.
4.6+ Form of Warrant to purchase shares of Common Stock of the
Registrant.
5.1+ Opinion of Gunderson Dettmer Stough Villeneuve Franklin &
Hachigian, LLP ("Gunderson Dettmer").
10.1+ Form of Indemnification Agreement entered into by Registrant
with each of its directors and executive officers.
10.2+ 1996 Stock Option Plan.
10.3+ 1997 Stock Option Plan.
10.4+ 1998 Stock Incentive Plan.
10.5+ 1998 Employee Stock Purchase Plan.
10.6+ Employment Agreement between the Registrant and Warren J.
Kaplan.
10.7+ Employment Agreement between the Registrant and Sherman
Tuan.
10.8+ Employment Agreement between the Registrant and David Rand.
10.9+ Stock Option Agreement between the Registrant and Warren J.
Kaplan.
10.10+ Technology Agreement between the Registrant and David Rand.
</TABLE>
<PAGE> 100
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER DESCRIPTION OF DOCUMENT PAGE
- ----------- ----------------------- ------------
<S> <C> <C>
10.11+ Lease Equipment Agreement between Registrant and Cisco
Systems Capital Corporation.
10.12+ Loan and Security Agreement between the Registrant and
Silicon Valley Bank.
10.13+ Loan and Security Agreements between the Registrant and
Transamerica Business Credit Corporation.
10.14+ Promissory Note by Registrant to Transamerica Business
Credit Corporation.
10.15+ Office Lease between 50 West San Fernando Associates and
Registrant dated May 15, 1996 (San Jose Office, 10th Floor).
10.16+ First Amendment to Lease Agreement between 50 West San
Fernando Associates and Registrant, dated December 12, 1996
(San Jose Office, 10th Floor).
10.17+ Second Amendment to Lease between 50 West San Fernando
Associates and Registrant, dated February 23, 1998 (San Jose
Office, 10th Floor).
10.18+ Office Lease between 50 West San Fernando Associates and
Registrant, dated May 15, 1996 (San Jose Office, 18th
Floor).
10.19+ First Amendment to Lease Agreement between 50 West San
Fernando Associates and Registrant, dated December 12, 1996
(San Jose Office, 18th Floor).
10.20+ Second Amendment to Lease between 50 West San Fernando
Associates and Registrant, dated February 24, 1998 (San Jose
Office, 18th Floor).
10.21+ Consent of Landlord between Registrant and Halcyon Software
California Inc., dated March 31, 1998 (San Jose Office,
Suite 1012).
10.22+ Consent of Landlord between 50 West San Fernando Associates
and KPMG Peat Marwick LLP, dated April 6, 1998 and April 12,
1998 (Registrant sublease from KPMG Peat Marwick LLP, San
Jose Office, 10th Floor).
10.23+ Sublease between KPMG Peat Marwick (USA) LLP and Registrant,
dated March 13, 1998 (Registrant sublease from KPMG Peat
Marwick LLP (USA), San Jose Office, 10th Floor).
10.24+ Deed of Lease between Gosnell Properties, Inc. and
Registrant dated September 3, 1997 (Suite B-290, Vienna,
VA/"D.C.").
10.25+ Deed of Lease between Gosnell Properties, Inc. and
Registrant dated January 30, 1998 (Suite 110, Vienna,
VA/"D.C.").
10.26+ Network Access Agreement between Goodnet and Registrant
dated June 11, 1996.
10.27+** Fiber Optic Private Network Agreement Product Order between
Metromedia Fiber Network Services, Inc. and Registrant,
dated September 1, 1998.
10.28+ Amended and Restated Master Loan and Security Agreement
between Registrant and Transamerica Business Credit
Corporation.
10.29+ Loan Modification Agreement between Registrant and Silicon
Valley Bank dated as of October 26, 1998.
10.30 Lease by and between F.C. Pavilion, L.L.C. and Registrant
dated December 4, 1998.
16.1+ Letter Regarding Change in Certifying Accountants.
23.1+ Consent of Gunderson Dettmer (included in Exhibit 5.1).
23.2 Consent of Deloitte & Touche LLP, Independent Accountants.
</TABLE>
<PAGE> 101
<TABLE>
<CAPTION>
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER DESCRIPTION OF DOCUMENT PAGE
- ----------- ----------------------- ------------
<S> <C> <C>
23.3 Independent Auditors' Report on Schedule.
27.1+ Financial data schedule.
99.1+ Consent of Forrester Research, Inc.
99.2+ Consent of International Data Corporation.
</TABLE>
- ---------------
* To be filed by amendment.
+ Previously filed.
** Confidential treatment requested as to certain portions of exhibit.
<PAGE> 1
4,000,000 Shares
ABOVENET COMMUNICATIONS INC.
Common Stock
UNDERWRITING AGREEMENT
December __, 1998
CIBC Oppenheimer Corp.
Volpe Brown Whelan and Company, LLC
c/o CIBC Oppenheimer Corp.
Oppenheimer Tower
World Financial Center
New York, New York 10281
On behalf of the Several Underwriters named on Schedule I attached hereto.
Ladies and Gentlemen:
AboveNet Communications Inc., a Delaware corporation (the
"Company"), proposes to sell to you and the other underwriters named on Schedule
I to this Agreement (the "Underwriters"), for whom you are acting as
Representatives, an aggregate of 4,000,000 shares (the "Firm Shares") of the
Company's Common Stock, $0.001 par value (the "Common Stock"). In addition, the
Company proposes to grant to the Underwriters an option to purchase up to an
additional 600,000 shares (the "Option Shares") of Common Stock from it for the
purpose of covering over-allotments in connection with the sale of the Firm
Shares. The Firm Shares and the Option Shares are together called the "Shares."
1. Sale and Purchase of the Shares. On the basis of the
representations, warranties and agreements contained in, and subject to the
terms and conditions of, this Agreement:
(a) The Company agrees to sell to each of the Underwriters, and
each of the Underwriters agrees, severally and not jointly, to purchase
from the Company, at $_____ per share (the "Initial Price"), the number of
Firm Shares set forth opposite the name of such Underwriter on Schedule I
to this Agreement.
(b) The Company grants to the several Underwriters an option to
purchase, severally and not jointly, all or any part of the Option Shares
at the Initial Price. The number of Option Shares to be purchased by each
Underwriter shall be the same
-1-
<PAGE> 2
percentage (adjusted by the Representatives to eliminate fractions) of the
total number of Option Shares to be purchased by the Underwriters as such
Underwriter is purchasing of the Firm Shares. Such option may be exercised
only to cover over-allotments in the sales of the Firm Shares by the
Underwriters and may be exercised in whole or in part at any time on or
before 9:00 a.m., San Francisco time, on the business day before the Firm
Shares Closing Date (as defined below), and only once thereafter within 30
days after the date of this Agreement, in each case upon written or
facsimile notice, or verbal or telephonic notice confirmed by written or
facsimile notice, by the Representatives to the Company no later than 9:00
a.m., San Francisco time, on the business day before the Firm Shares
Closing Date or at least two business days before the Option Shares
Closing Date (as defined below), as the case may be, setting forth the
number of Option Shares to be purchased and the time and date (if other
than the Firm Shares Closing Date) of such purchase.
2. Delivery and Payment. Delivery by the Company of the Firm
Shares to the Representatives for the respective accounts of the Underwriters,
and payment of the purchase price by certified or official bank check or checks
payable in New York Clearing House (next day) funds or by wire transfer to the
Company, shall take place at the offices of CIBC Oppenheimer Corp., at
Oppenheimer Tower, World Financial Center, New York, New York 10281, at 10:00
a.m., New York City time (a) on the third (3rd) full business day following the
first day that Shares are traded, (b) if this Agreement is executed and
delivered after 4:30 P.M., New York City time, the fourth (4th) full business
day following the day that this Agreement is executed and delivered or (c) at
such other time and date not later than 10 business days after the date of this
Agreement, as shall be agreed upon by the Company and the Representatives (such
time and date of delivery and payment are called the "Firm Shares Closing
Date").
In the event the option with respect to the Option Shares is
exercised, delivery by the Company of the Option Shares to the Representatives
for the respective accounts of the Underwriters and payment of the purchase
price by certified or official bank check or checks payable in New York Clearing
House (next day) funds or by wire transfer to the Company shall take place at
the offices of CIBC Oppenheimer Corp. specified above at the time and on the
date (which may be the same date as, but in no event shall be earlier than, the
Firm Shares Closing Date) specified in the notice referred to in Section 1(b)
(such time and date of delivery and payment are called the "Option Shares
Closing Date"). The Firm Shares Closing Date and the Option Shares Closing Date
are called, individually, a "Closing Date" and, together, the "Closing Dates."
Certificates evidencing the Shares shall be registered in such names
and shall be in such denominations as the Representatives shall request at least
two full business days before the Firm Shares Closing Date or, in the case of
Option Shares, on the day of notice of exercise of the option as described in
Section l(b) and shall be made available to the Representatives for checking and
packaging, at such place as is designated by the Representatives, on the full
business day before the Firm Shares Closing Date (or the Option Shares Closing
Date in the case of the Option Shares).
3. Registration Statement and Prospectus; Public Offering. The
Company has prepared in conformity with the requirements of the Securities Act
of 1933, as amended (the "Securities Act"), and the published rules and
regulations thereunder (the "Rules") adopted by
-2-
<PAGE> 3
the Securities and Exchange Commission (the "Commission") a registration
statement on Form S-1 (No. 333-63141), including a preliminary prospectus
relating to the Shares, and has filed with the Commission the Registration
Statement (as hereinafter defined) and such amendments thereof as may have been
required to the date of this Agreement. Copies of such Registration Statement
(including all amendments thereof) and of the related preliminary prospectus
have heretofore been delivered by the Company to you. The term "preliminary
prospectus" means any preliminary prospectus (as described in Rule 430 of the
Rules) included at any time as a part of the Registration Statement. The
Registration Statement as amended at the time and on the date it becomes
effective (the "Effective Date"), including all exhibits and information, if
any, deemed to be part of the Registration Statement pursuant to Rule 424(b) and
Rule 430A of the Rules, is called the "Registration Statement." The term
"Prospectus" means the prospectus in the form first used to confirm sales of the
Shares (whether such prospectus was included in the Registration Statement at
the time of effectiveness or was subsequently filed with the Commission pursuant
to Rule 424(b) of the Rules).
The Company understands that the Underwriters propose to make a
public offering of the Shares, as set forth in and pursuant to the Prospectus,
as soon after the Effective Date and the date of this Agreement as the
Representatives deem advisable. The Company hereby confirms that the
Underwriters and dealers have been authorized to distribute or cause to be
distributed each preliminary prospectus and are authorized to distribute the
Prospectus (as from time to time amended or supplemented if the Company
furnishes amendments or supplements thereto to the Underwriters).
4. Representations and Warranties of the Company. The Company
hereby represents and warrants to each Underwriter as follows:
(a) On the Effective Date, the Registration Statement complied,
and on the date of the Prospectus, on the date any post-effective
amendment to the Registration Statement shall become effective, on the
date any supplement or amendment to the Prospectus is filed with the
Commission and on each Closing Date, the Registration Statement and the
Prospectus (and any amendment thereof or supplement thereto) will comply,
in all material respects, with the applicable provisions of the Securities
Act and the Rules and the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), and the rules and regulations of the Commission
thereunder; the Registration Statement did not, as of the Effective Date,
contain any untrue statement of a material fact or omit to state any
material fact required to be stated therein or necessary in order to make
the statements therein not misleading; and on the other dates referred to
above neither the Registration Statement nor the Prospectus, nor any
amendment thereof or supplement thereto, will contain any untrue statement
of a material fact or will omit to state any material fact required to be
stated therein or necessary in order to make the statements therein not
misleading. When any related preliminary prospectus was first filed with
the Commission (whether filed as part of the Registration Statement or any
amendment thereto or pursuant to Rule 424(a) of the Rules) and when any
amendment thereof or supplement thereto was first filed with the
Commission, such preliminary prospectus as amended or supplemented
complied in all material respects with the applicable provisions of the
Securities Act and the Rules and did not contain any untrue statement of a
material fact or omit to state any material fact required to be stated
therein or necessary
-3-
<PAGE> 4
in order to make the statements therein not misleading. Notwithstanding
the foregoing, the Company makes no representation or warranty as to the
paragraph with respect to stabilization on the inside front cover page of
the Prospectus and the statements contained under the caption
"Underwriting" in the Prospectus. The Company acknowledges that the
statements referred to in the previous sentence constitute the only
information furnished in writing by the Representatives on behalf of the
several Underwriters specifically for inclusion in the Registration
Statement, any preliminary prospectus or the Prospectus.
(b) All contracts and other documents required to be filed as
exhibits to the Registration Statement have been filed with the Commission
as exhibits to the Registration Statement.
(c) The financial statements of the Company (including all notes
and schedules thereto) included in the Registration Statement and
Prospectus present fairly the financial position, the results of
operations and cash flows and the stockholders' equity and the other
information purported to be shown therein of the Company at the respective
dates and for the respective periods to which they apply; and such
financial statements have been prepared in conformity with generally
accepted accounting principles, consistently applied throughout the
periods involved, and all adjustments necessary for a fair presentation of
the results for such periods have been made.
(d) Deloitte & Touche LLP, whose reports are filed with the
Commission as a part of the Registration Statement, are and, during the
periods covered by their reports, were independent public accountants as
required by the Securities Act and the Rules.
(e) The Company has been duly incorporated and is validly existing
as a corporation in good standing under the laws of the State of Delaware.
The Company has no subsidiary or subsidiaries and does not control,
directly or indirectly, any corporation, partnership, joint venture,
association or other business organization. The Company is duly qualified
and in good standing as a foreign corporation in each jurisdiction in
which the character or location of its assets or properties (owned, leased
or licensed) or the nature of its business makes such qualification
necessary except for such jurisdictions where the failure to so qualify
would not have a material adverse effect on the assets or properties,
business, results of operations or financial condition of the Company.
Except as disclosed in the Registration Statement and the Prospectus, the
Company does not own, lease or license any asset or property or conduct
any business outside the United States of America. The Company has all
requisite corporate power and authority, and all necessary authorizations,
approvals, consents, orders, licenses, certificates and permits of and
from all governmental or regulatory bodies or any other person or entity,
to own, lease and license its assets and properties and conduct its
business as now being conducted and as described in the Registration
Statement and the Prospectus except for such authorizations, approvals,
consents, orders, material licenses, certificates and permits the failure
to so obtain would not have a material adverse effect upon the assets or
properties, business, results of operations, prospects or condition
(financial or otherwise) of the Company; no such authorization, approval,
consent, order, license, certificate or permit contains a materially
burdensome restriction other than as disclosed in the Registration
Statement and the Prospectus; and the Company has all such corporate
-4-
<PAGE> 5
power and authority, and such authorizations, approvals, consents, orders,
licenses, certificates and permits to enter into, deliver and perform this
Agreement and to issue and sell the Shares (except as may be required
under the Securities Act and state and foreign Blue Sky laws).
(f) Except as disclosed in the Prospectus, the Company owns or is
licensed, or otherwise possesses adequate and enforceable rights to use
copyrights, copyright applications, licenses, know-how and other similar
rights and proprietary knowledge (collectively, "Intangibles") and, to
it's knowledge, all trademarks, trademark applications, trade names and
service marks (the "Trademarks") necessary for the conduct of its business
as currently conducted and as described in the Registration Statement and
the Prospectus. The Company has not received any notice of, and to its
knowledge is not aware of, any infringement of or conflict with asserted
rights of others with respect to any Intangibles or Trademarks which,
singly or in the aggregate, if the subject of an unfavorable decision,
ruling or finding, would have a material adverse effect upon the assets or
properties, business, results of operations, prospects or condition
(financial or otherwise) of the Company.
(g) The Company has good title to each of the items of personal
property which are reflected in the financial statements referred to in
Section 4(c) or are referred to in the Registration Statement and the
Prospectus as being owned by it and valid and enforceable leasehold
interests in each of the items of real and personal property which are
referred to in the Registration Statement and the Prospectus as being
leased by it, in each case free and clear of all liens, encumbrances,
claims, security interests and defects, other than those described in the
Registration Statement and the Prospectus and those which do not and will
not have a material adverse effect upon the assets or properties,
business, results of operations or financial condition of the Company,
except as may be limited by bankruptcy, insolvency, reorganization,
moratorium or other similar laws affecting the enforcement of creditors'
rights generally and by general equitable principles. Nothing in this
Section 4(g) shall be interpreted as limiting the Company's representation
in Section 4(f) above.
(h) Other than as described in the Registration Statement and the
Prospetus, there is no litigation or governmental or other proceeding or
investigation before any court or before or by any public body or board
pending or, to the Company's knowledge, threatened (and the Company does
not know of any basis therefor) against, or involving the assets,
properties or business of, the Company which would materially adversely
affect the value or the operation of any such assets or properties or the
business, results of operations, prospects or condition (financial or
otherwise) of the Company.
(i) Subsequent to the respective dates as of which information is
given in the Registration Statement and the Prospectus, except as
described therein, (i) there has not been any material adverse change in
the assets or properties, business, results of operations, prospects or
condition (financial or otherwise), of the Company, whether or not arising
from transactions in the ordinary course of business; (ii) the Company has
not sustained any material loss or interference with its assets, business
or properties (whether owned or leased) from fire, explosion, earthquake,
flood or other calamity, whether or not covered by insurance, or from any
labor dispute or any court or legislative or other
-5-
<PAGE> 6
governmental action, order or decree; and (iii) since the date of the
latest balance sheet included in the Registration Statement and the
Prospectus, except as reflected therein, the Company has not (a) issued
any securities or incurred any material liability or obligation, direct or
contingent, for borrowed money, except such liabilities or obligations
incurred in the ordinary course of business and securities issued or
issuable to employees, directors, consultants and other service providers
in the ordinary course of business, (b) entered into any transaction not
in the ordinary course of business or (c) declared or paid any dividend or
made any distribution on any shares of its stock or redeemed, purchased or
otherwise acquired or agreed to redeem, purchase or otherwise acquire any
shares of its stock, other than the repurchase of shares of Common Stock
from employees, consultants or other service providers whose services have
been terminated with the Company.
(j) There is no document or contract of a character required to be
described in the Registration Statement or Prospectus which is not
described as required. Each agreement listed in the exhibits to the
Registration Statement is in full force and effect and, to its knowledge,
is valid and enforceable by and against the Company in accordance with its
terms, except as the enforceability thereof may be limited by bankruptcy,
insolvency, reorganization, moratorium or other similar laws affecting the
enforcement of creditors' rights generally and by general equitable
principles. Neither the Company, nor, to the Company's knowledge, any
other party is in default in the observance or performance of any term or
obligation to be performed by it under any such agreement, and no event
has occurred which with notice or lapse of time or both would constitute
such a default, in any such case which default or event would have a
material adverse effect on the assets or properties, business, results of
operations, prospects or condition (financial or otherwise) of the
Company.
(k) The Company is not in violation of any term or provision of
its charter or by-laws or of any franchise, license, permit, judgment,
decree, order, statute, rule or regulation, where the consequences of such
violation would have a material adverse effect on the assets or
properties, business, results of operations, prospects or condition
(financial or otherwise) of the Company.
(l) Other than as described in the Registration Statement and
Prospectus, neither the execution, delivery and performance of this
Agreement by the Company nor the consummation of any of the transactions
contemplated hereby (including, without limitation, the issuance and sale
by the Company of the Shares) will give rise to a right to terminate or
accelerate the due date of any payment due under, or conflict with or
result in the breach of any term or provision of, or constitute a default
(or an event which with notice or lapse of time or both would constitute a
default) under, or require any consent or waiver under, or result in the
execution or imposition of any lien, charge or encumbrance upon any
properties or assets of the Company pursuant to the terms of, any
indenture, mortgage, deed of trust or other agreement or instrument to
which the Company is a party or by which it or any of its properties or
business is bound, or any franchise, license, permit, judgment, decree,
order, statute, rule or regulation applicable to the Company or violate
any provision of the charter or by-laws of the Company, except
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<PAGE> 7
for such consents or waivers which have already been obtained and are in
full force and effect.
(m) The Company has authorized and outstanding capital stock as
set forth under the caption "Capitalization" in the Prospectus. All of the
outstanding shares of Common Stock have been duly and validly issued and
are fully paid and nonassessable and none were issued in violation of any
preemptive or other similar right. The Shares, when issued and sold
pursuant to this Agreement, will be duly and validly issued, fully paid
and nonassessable and none of them will be issued in violation of any
preemptive or other similar right. The Common Stock and the Shares conform
in all material respects to all statements in relation thereto contained
in the Registration Statement and the Prospectus.
(n) Each officer and director of the Company and each beneficial
owner of __________ or more shares of Common Stock has agreed in writing
that such person will not, for a period of 180 days from the date that the
Registration Statement is declared effective by the Commission (the
"Lock-up Period"), offer to sell, contract to sell, or otherwise sell,
dispose of, loan, pledge or grant any rights with respect to
(collectively, a "Disposition") any shares of Common Stock, any options or
warrants to purchase any shares of Common Stock or any securities
convertible into or exchangeable for shares of Common Stock (collectively,
"Securities") now owned or hereafter acquired directly by such person or
with respect to which such person has or hereafter acquires the power of
disposition, otherwise than (i) as a bona fide gift or gifts, provided the
donee or donees thereof agree in writing to be bound by this restriction,
(ii) as a distribution to partners or stockholders of such person,
provided that the distributees thereof agree in writing to be bound by the
terms of this restriction, (iii) to any trust for the benefit of such
person or such person's immediate family, provided that the trustee of the
trust agrees in writing, on behalf of the trust, to be bound by the terms
of this restriction, (iv) shares of Common Stock purchased on the Nasdaq
National Market, provided that such person is not an officer or director
of the Company and that following the date that the Registration Statement
is declared effective by the Commission, such person will hold less than
five percent (5%) of the capital stock of the Company, on an as-converted
basis, or (v) with the prior written consent of CIBC Oppenheimer Corp. The
foregoing restriction has been expressly agreed to preclude the holder of
the Securities from engaging in any hedging or other transaction which is
designed to or reasonably expected to lead to or result in a Disposition
of Securities during the Lock-up Period, even if such Securities would be
disposed of by someone other than such holder. Such prohibited hedging or
other transactions would include, without limitation, any short sale
(whether or not against the box) or any purchase, sale or grant of any
right (including, without limitation, any put or call option) with respect
to any Securities or with respect to any security (other than a
broad-based market basket or index) that includes, relates to or derives
any significant part of its value from Securities. Furthermore, such
person has also agreed and consented to the entry of stop transfer
instructions with the Company's transfer agent against the transfer of the
Securities held by such person except in compliance with this restriction.
(o) All necessary corporate action has been duly and validly taken
by the Company to authorize the execution, delivery and performance of
this Agreement and the
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<PAGE> 8
issuance and sale of the Shares by the Company. This Agreement has been
duly and validly authorized, executed and delivered by the Company and
constitutes a legal, valid and binding obligation of the Company
enforceable against the Company in accordance with its terms, except (A)
as the enforceability thereof may be limited by bankruptcy, insolvency,
reorganization, moratorium or other similar laws affecting the enforcement
of creditors' rights generally and by general equitable principles and (B)
to the extent that rights to indemnity or contribution under this
Agreement may be limited by Federal and state securities laws or the
public policy underlying such laws.
(p) The Company is not involved in any labor dispute nor, to the
knowledge of the Company, is any such dispute threatened, which dispute
would have a material adverse effect on the assets or properties,
business, results of operations, prospects or condition (financial or
otherwise) of the Company.
(q) No transaction has occurred between or among the Company and
any of its officers or directors or any affiliate or affiliates of any
such officer or director that is required to be described in and is not
described in the Registration Statement and the Prospectus.
(r) The Company has not taken, nor will it take, directly or
indirectly, any action designed to or which might reasonably be expected
to cause or result in, or which has constituted or which might reasonably
be expected to constitute, the stabilization or manipulation of the price
of the Common Stock to facilitate the sale or resale of any of the Shares.
(s) The Company has filed all Federal, state, local and foreign
tax returns which are required to be filed through the date hereof, or has
received extensions thereof, and has paid or is contesting in good faith
all taxes shown on such returns and all assessments received by it to the
extent that the same are material and have become due.
(t) The Shares have been duly authorized for quotation on the
National Association of Securities Dealers Automated Quotation ("Nasdaq")
National Market.
(u) The Company has complied with all of the requirements and
filed the required forms as specified in Florida Statutes Section 517.075.
5. Conditions of the Underwriters' Obligations. The obligations
of the Underwriters under this Agreement are several and not joint. The
respective obligations of the Underwriters to purchase the Shares are subject to
each of the following terms and conditions:
(a) The Prospectus shall have been timely filed with the
Commission in accordance with Section 6(A)(a) of this Agreement.
(b) No order preventing or suspending the use of any preliminary
prospectus or the Prospectus shall have been or shall be in effect and no
order suspending the effectiveness of the Registration Statement shall be
in effect and no proceedings for such purpose shall be pending before or
threatened by the Commission, and any requests for additional information
on the part of the Commission (to be included in the Registration
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<PAGE> 9
Statement or the Prospectus or otherwise) shall have been complied with to
the satisfaction of the Representatives.
(c) The representations and warranties of the Company contained in
this Agreement and in the certificates delivered pursuant to Section 5(d)
shall be true and correct when made and on and as of each Closing Date as
if made on such date and the Company shall have performed all covenants
and agreements and satisfied all the conditions contained in this
Agreement required to be performed or satisfied by it at or before such
Closing Date.
(d) The Representatives shall have received on each Closing Date a
certificate, addressed to the Representatives and dated such Closing Date,
of the chief executive or chief operating officer and the chief financial
officer or chief accounting officer of the Company to the effect that the
signatories of such certificate have carefully examined the Registration
Statement, the Prospectus and this Agreement and that the representations
and warranties of the Company in this Agreement are true and correct on
and as of such Closing Date with the same effect as if made on such
Closing Date and the Company has performed all covenants and agreements
and satisfied all conditions contained in this Agreement required to be
performed or satisfied by it at or prior to such Closing Date.
(e) The Representatives shall have received on the Effective Date,
at the time this Agreement is executed and on each Closing Date, a signed
letter from Deloitte & Touche LLP addressed to the Representatives and
dated, respectively, the Effective Date, the date of this Agreement and
each such Closing Date, in form and substance reasonably satisfactory to
the Representatives, confirming that they are independent accountants
within the meaning of the Securities Act and the Rules, that the response
to Item 10 of the Registration Statement is correct insofar as it relates
to them and stating in effect that:
(i) in their opinion the audited financial statements and
financial statement schedules included in the Registration Statement
and the Prospectus and reported on by them comply as to form in all
material respects with the applicable accounting requirements of the
Securities Act and the Rules;
(ii) on the basis of a reading of the amounts included in the
Registration Statement and the Prospectus under the headings
"Summary Financial and Operating Data" and "Selected and Operating
Data," carrying out certain procedures (but not an examination in
accordance with generally accepted auditing standards) which would
not necessarily reveal matters of significance with respect to the
comments set forth in such letter, a reading of the minutes of the
meetings of the stockholders and directors of the Company, and
inquiries of certain officials of the Company who have
responsibility for financial and accounting matters of the Company
as to transactions and events subsequent to the date of the latest
audited financial statements, except as disclosed in the
Registration Statement and the Prospectus, nothing came to their
attention which caused them to believe that:
(A) the amounts in "Summary Financial and Operating
Data," and "Selected Financial and Operating Data" included in
the Registration
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<PAGE> 10
Statement and the Prospectus do not agree with the
corresponding amounts in the audited financial statements from
which such amounts were derived; or
(B) with respect to the Company, there were, at a
specified date not more than five business days prior to the
date of the letter, any increases in the current liabilities
and long-term liabilities of the Company or any decreases in
net income or in working capital or the stockholders' equity
in the Company, as compared with the amounts shown on the
Company's audited balance sheet for the fiscal year ended June
30, 1998 included in the Registration Statement; and
(iii) they have performed certain other procedures as a result
of which they determined that certain information of an accounting,
financial or statistical nature (which is limited to accounting,
financial or statistical information derived from the general
accounting records of the Company) set forth in the Registration
Statement and the Prospectus and reasonably specified by the
Representatives agrees with the accounting records of the Company.
References to the Registration Statement and the Prospectus in this
paragraph (e) are to such documents as amended and supplemented at
the date of the letter.
(f) The Representatives shall have received on each Closing Date
from Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP,
counsel for the Company, an opinion, addressed to the Representatives and
dated such Closing Date, and stating in effect that:
(i) The Company has been duly organized and is validly
existing as a corporation in good standing under the laws of the
State of Delaware. To such counsel's knowledge, the Company has no
subsidiaries and does not control, directly or indirectly, any
corporation, partnership, joint venture, association or other
business organization. The Company is duly qualified and in good
standing as a foreign corporation in each jurisdiction in which the
character or location of its assets or properties (owned, leased or
licensed) or the nature of its business makes such qualification
necessary, except for such jurisdictions where the failure to so
qualify would not have a material adverse effect on the assets or
properties, business, results of operations, prospects or condition
(financial or otherwise) of the Company.
(ii) The Company has all requisite corporate power and
authority to own, lease and license its assets and properties and
conduct its business as described in the Registration Statement and
the Prospectus; and the Company has all requisite corporate power
and authority and all necessary authorizations, approvals, consents,
orders, licenses, certificates and permits to enter into, deliver
and perform this Agreement and to issue and sell the Shares other
than those required under the Securities Act and state and foreign
Blue Sky laws.
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<PAGE> 11
(iii) The Company has authorized and issued capital stock as
set forth in the Registration Statement and the Prospectus; the
certificates evidencing the Shares are in due and proper legal form
and have been duly authorized for issuance by the Company; all of
the outstanding shares of Common Stock of the Company have been duly
and validly authorized and have been duly and validly issued and, to
such counsel's knowledge, are fully paid and nonassessable and none
of them was issued in violation of any preemptive or other similar
right set forth in the Company's Certificate of Incorporation or
Bylaws. The Shares when issued and sold pursuant to this Agreement
will be duly and validly issued, outstanding, fully paid and
nonassessable and none of them will have been issued in violation of
any preemptive or other similar right set forth in the Company's
Certificate of Incorporation or Bylaws. To such counsel's knowledge,
except as disclosed in the Registration Statement and the
Prospectus, there is no outstanding option, warrant or other right
calling for the issuance of, and no commitment, plan or arrangement
to issue, any share of stock of the Company or any security
convertible into, exercisable for, or exchangeable for, stock of the
Company. The Common Stock and the Shares conform in all material
respects to the descriptions thereof contained in the Registration
Statement and the Prospectus.
(iv) All necessary corporate action has been duly and validly
taken by the Company to authorize the execution, delivery and
performance of this Agreement and the issuance and sale of the
Shares. This Agreement has been duly and validly authorized,
executed and delivered by the Company.
(v) Other than as stated in the Prospectus, neither the
execution, delivery and performance of this Agreement by the Company
nor the consummation of any of the transactions contemplated hereby
(including, without limitation, the issuance and sale by the Company
of the Shares) will give rise to a right to terminate or accelerate
the due date of any payment due under, or conflict with or result in
the breach of any term or provision of, or constitute a default (or
any event which with notice or lapse of time, or both, would
constitute a default) under, or require consent or waiver under, or
result in the execution or imposition of any lien, charge or
encumbrance upon any properties or assets of the Company pursuant to
the terms of any indenture, mortgage, deed trust, note or other
agreement or instrument which has been filed as an exhibit to the
Registration Statement and to which the Company is a party or by
which it or any of its properties or businesses is bound, or to such
counsel's knowledge any franchise, license, permit, judgment,
decree, order, statute, rule or regulation under Delaware corporate
law or California law or violate any provision of the charter or
by-laws of the Company.
(vi) To the best of such counsel's knowledge, no default
exists, and no event has occurred which with notice or lapse of
time, or both, would constitute a default, in the due performance
and observance of any term, covenant or condition by the Company of
any indenture, mortgage, deed of trust, note or any other agreement
or instrument to which is filed or required to be filed as an
exhibit to the Registration Statement and to which the Company is a
party or by
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<PAGE> 12
which it or any of its assets or properties or business may be bound
or affected, where the consequences of such default would have a
material and adverse effect on the assets, properties, business,
results of operations, prospects or condition (financial or
otherwise) of the Company.
(vii) To the best of such counsel's knowledge, the Company is
not in violation of any term or provision of its charter or by-laws
or any judgment, decree, order, statute, rule or regulation, where
the consequences of such violation would have a material and adverse
effect on the assets or properties, business, results of operations,
prospects or condition (financial or otherwise) of the Company.
(viii) No consent, approval, authorization or order of any
court or governmental agency or body is required for the performance
of this Agreement by the Company or the consummation of the
transactions contemplated hereby, except such as have been obtained
under the Securities Act and such as may be required under state
securities or Blue Sky laws in connection with the purchase and
distribution of the Shares by the several Underwriters.
(ix) Other than as stated in the Prospectus, to such
counsel's knowledge, there is no litigation or governmental or other
proceeding or investigation, before any court or before or by any
public body or board pending or threatened against, or involving the
assets, properties or business of, the Company which would have a
material adverse effect upon the assets or properties, business,
results of operations, prospects or condition (financial or
otherwise) of the Company
(x) The statements in the Prospectus under the captions
"Description of Capital Stock--Effect of Delaware Antitakeover
Statute," "Shares Eligible for Future Sale," "Management-Employment
Agreements," "Management-Stock Incentive Plan," and "Certain
Transactions," insofar as such statements constitute a summary of
documents referred to therein or matters of law, are fair summaries
in all material respects and accurately present the information
called for with respect to such documents and all contracts and
other documents required to be filed as exhibits to, or described
in, the Registration Statement have been so filed with the
Commission or are fairly described in the Registration Statement, as
the case may be.
(xi) The Registration Statement has become effective under
the Securities Act, and to such counsel's knowledge no stop order
suspending the effectiveness of the Registration Statement has been
issued and no proceedings for that purpose have been instituted or
are threatened, pending or contemplated.
To the extent deemed advisable by such counsel, they may rely as to
matters of fact on certificates of responsible officers of the Company and
public officials and on the opinions of other counsel satisfactory to the
Representatives as to matters which are governed by laws other than the laws of
the State of California, the General Corporation Law of the State of Delaware
and the Federal securities laws of the United States; provided that such counsel
shall state that in their opinion the Underwriters and they are justified in
relying on such other
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<PAGE> 13
opinions. Copies of such other opinions shall be furnished to the
Representatives and counsel for the Underwriters.
In addition, such counsel shall state that although such counsel is
not passing upon and does not assume any responsibility for the accuracy,
completeness or fairness of the statements contained in the Registration
Statement and the Prospectus (except as specified in the foregoing opinion), on
the basis of the foregoing, (i) no facts have come to the attention of such
counsel which lead such counsel to believe that the Registration Statement at
the time it became effective (except with respect to the financial statements
and notes and schedules thereto and other financial data, as to which such
counsel need express no belief) contained any untrue statement of a material
fact or omitted to state a material fact required to be stated therein or
necessary to make the statements therein not misleading, or that the Prospectus
as amended or supplemented (except with respect to the financial statements and
notes schedules thereto and other financial data, as to which such counsel need
make no statement) on the date thereof contained any untrue statement of a
material fact or omitted to state a material fact necessary in order to make the
statements therein, in the light of the circumstances under which they were
made, not misleading and (ii) the Registration Statement and the Prospectus
comply as to form in all material respects with the requirements of the
Securities Act and the applicable Rules (except as to financial statements and
schedules and other financial and statistical data included therein).
(g) All proceedings taken in connection with the sale of the Firm
Shares and the Option Shares as herein contemplated shall be reasonably
satisfactory in form and substance to the Representatives and their
counsel and the Underwriters shall have received from Pillsbury Madison &
Sutro LLP a favorable opinion, addressed to the Representatives and dated
such Closing Date, with respect to the Shares, the Registration Statement
and the Prospectus, and such other related matters, as the Representatives
may reasonably request, and the Company shall have furnished to Pillsbury
Madison & Sutro LLP such documents as they may reasonably request for the
purpose of enabling them to pass upon such matters.
(h) The Representatives shall have received on each Closing Date a
certificate, addressed to the Representative, and dated such Closing Date,
of an executive officer of the Company to the effect that the signatory of
such certificate has reviewed and understands the provisions of Section
517.075 of the Florida Statutes, and represents that the Company has
complied, and at all times will comply, with all provisions of Section
517.075 and further, that as of such Closing Date, neither the Company nor
any of its affiliates does business with the government of Cuba or with
any person or affiliate located in Cuba.
6. Covenants of the Company.
(A) The Company covenants and agrees as follows:
(a) The Company shall prepare the Prospectus in a form approved by
the Representatives and file such Prospectus pursuant to Rule 424(b) under
the Securities Act not later than the Commission's close of business on
the second business day following the execution and delivery of this
Agreement, or, if applicable, such earlier time as may be required by Rule
430A(a)(3) under the Securities Act, and shall promptly advise the
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<PAGE> 14
Representatives (i) when any amendment to the Registration Statement shall
have become effective, (ii) of any request by the Commission for any
amendment of the Registration Statement or the Prospectus or for any
additional information, (iii) of the prevention or suspension of the use
of any preliminary prospectus or the Prospectus or of the issuance by the
Commission of any stop order suspending the effectiveness of the
Registration Statement or the institution or threatening of any proceeding
for that purpose and (iv) of the receipt by the Company of any
notification with respect to the suspension of the qualification of the
Shares for sale in any jurisdiction or the initiation or threatening of
any proceeding for such purpose. The Company shall not file any amendment
of the Registration Statement or supplement to the Prospectus unless the
Company has furnished the Representatives a copy for its review prior to
filing and shall not file any such proposed amendment or supplement to
which the Representatives reasonably object. The Company shall use its
reasonable efforts to prevent the issuance of any such stop order and, if
issued, to use its reasonable efforts to obtain as soon as possible the
withdrawal thereof.
(b) If, at any time when a prospectus relating to the Shares is
required to be delivered under the Securities Act and the Rules, any event
occurs as a result of which the Prospectus as then amended or supplemented
would include any untrue statement of a material fact or omit to state any
material fact necessary to make the statements therein in the light of the
circumstances under which they were made not misleading, or if it shall be
necessary to amend or supplement the Prospectus to comply with the
Securities Act or the Rules, the Company promptly shall prepare and file
with the Commission, subject to the second sentence of paragraph (a) of
this Section 6(A), an amendment or supplement which shall correct such
statement or omission or an amendment which shall effect such compliance.
(c) The Company shall make generally available to its security
holders and to the Representatives as soon as practicable, but not later
than 45 days after the end of the 12-month period beginning at the end of
the fiscal quarter of the Company during which the Effective Date occurs
(or 90 days if such 12-month period coincides with the Company's fiscal
year), an earning statement (which need not be audited) of the Company,
covering such 12-month period, which shall satisfy the provisions of
Section 11(a) of the Securities Act or Rule 158 of the Rules.
(d) The Company shall furnish to the Representatives and counsel
for the Underwriters, without charge, signed copies of the Registration
Statement (including all exhibits thereto and amendments thereof) and to
each other Underwriter a copy of the Registration Statement (without
exhibits thereto) and all amendments thereof and, so long as delivery of a
prospectus by an Underwriter or dealer may be required by the Securities
Act or the Rules, as many copies of any preliminary prospectus and the
Prospectus and any amendments thereof and supplements thereto as the
Representatives may reasonably request.
(e) The Company shall cooperate with the Representatives and their
counsel in endeavoring to qualify the Shares for offer and sale under the
laws of such jurisdictions as the Representatives may designate and shall
maintain such qualifications in effect so long as required for the
distribution of the Shares; provided, however, that the Company
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<PAGE> 15
shall not be required in connection therewith, as a condition thereof, to
qualify as a foreign corporation or to execute a general consent to
service of process in any jurisdiction or subject itself to taxation as
doing business in any jurisdiction.
(f) For a period of five years after the date of this Agreement,
the Company shall supply to the Representatives, and to each other
Underwriter who may so request in writing, copies of such financial
statements and other periodic and special reports as the Company may from
time to time distribute generally to the holders of any class of its
capital stock and to furnish to the Representatives a copy of each annual
or other report it shall be required to file with the Commission.
(g) Without the prior written consent of CIBC Oppenheimer, for a
period of 180 days after the date of this Agreement, the Company shall not
issue, sell or register with the Commission (other than on Form S-8 or on
any successor form), or otherwise dispose of, directly or indirectly, any
equity securities of the Company (or any securities convertible into or
exercisable or exchangeable for equity securities of the Company), except
for the issuance of the Shares pursuant to the Registration Statement and
the issuance of shares pursuant to the Company's existing stock option and
purchase plans. In the event that during this period, (i) any shares are
issued pursuant to the Company's existing stock and option purchase plans
or (ii) any registration is effected on Form S-8 or on any successor form,
the Company shall obtain the written agreement of such grantee or
purchaser or holder of such registered securities that, for a period of
180 days after the date of this Agreement, such person will not, without
the prior written consent of the Representatives, offer for sale, sell,
distribute, grant any option for the sale of, or otherwise dispose of,
directly or indirectly, or exercise any registration rights with respect
to, any shares of Common Stock (or any securities convertible into,
exercisable for, or exchangeable for any shares of Common Stock) owned by
such person.
(h) Notwithstanding any agreement between any holder of the
Company's securities and the Company, the Company agrees that it will not
allow any holder of the Company's securities to transfer such securities
during the Lock Up Period without CIBC Oppenheimer's prior written
consent. For the purposes of this Agreement, the "Lock Up Period" shall be
as defined in the Lock Up Agreement between CIBC Oppenheimer and certain
holders of the Company's securities dated October 4, 1998.
(i) On or before completion of this offering, the Company shall
make all filings required under applicable securities laws and by the
Nasdaq National Market (including any required registration under the
Exchange Act).
(B) The Company agrees to pay, or reimburse if paid by the
Representatives, whether or not the transactions contemplated hereby are
consummated or this Agreement is terminated, all costs and expenses incident to
the performance of the obligations of the Company under this Agreement and all
costs and expenses relating to: (i) the preparation, printing, filing and
distribution of the Registration Statement including all exhibits thereto, each
preliminary prospectus, the Prospectus, all amendments and supplements to the
Registration Statement and the Prospectus, and the printing, filing and
distribution of this Agreement; (ii) the preparation
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<PAGE> 16
and delivery of certificates for the Shares to the Underwriters; (iii) the
registration or qualification of the Shares for offer and sale under the
securities or Blue Sky laws of the various jurisdictions referred to in Section
6(A)(e), including the reasonable fees and disbursements of counsel for the
Underwriters in connection with such registration and qualification and the
preparation, printing, distribution and shipment of preliminary and
supplementary Blue Sky memoranda; (iv) the furnishing (including costs of
shipping and mailing) to the Representatives and to the Underwriters of copies
of each preliminary prospectus, the Prospectus and all amendments or supplements
to the Prospectus, and of the several documents required by this Section to be
so furnished, as may be reasonably requested for use in connection with the
offering and sale of the Shares by the Underwriters or by dealers to whom Shares
may be sold; (v) the filing fees of the National Association of Securities
Dealers, Inc. in connection with its review of the terms of the public offering;
(vi) the furnishing (including costs of shipping and mailing) to the
Representatives and to the Underwriters of copies of all reports and information
required by Section 6(A)(f); (vii) inclusion of the Shares for quotation on the
Nasdaq National Market; and (viii) all transfer taxes, if any, with respect to
the sale and delivery of the Shares by the Company to the Underwriters. Subject
to the provisions of Section 9, the Underwriters agree to pay, whether or not
the transactions contemplated hereby are consummated or this Agreement is
terminated, all costs and expenses incident to the performance of the
obligations of the Underwriters under this Agreement not payable by the Company
pursuant to the preceding sentence, including, without limitation, the fees and
disbursements of counsel for the Underwriters.
7. Indemnification.
(a) The Company agrees to indemnify and hold harmless each
Underwriter and each person, if any, who controls any Underwriter within
the meaning of Section 15 of the Securities Act or Section 20 of the
Exchange Act against any and all losses, claims, damages and liabilities,
joint or several (including any reasonable investigation, legal and other
expenses incurred in connection with, and any amount paid in settlement
of, any action, suit or proceeding or any claim asserted), to which they,
or any of them, may become subject under the Securities Act, the Exchange
Act or other Federal or state law or regulation, at common law or
otherwise, insofar as such losses, claims, damages or liabilities arise
out of or are based upon any untrue statement or alleged untrue statement
of a material fact contained in any preliminary prospectus, the
Registration Statement or the Prospectus or any amendment thereof or
supplement thereto, or arise out of or are based upon any omission or
alleged omission to state therein a material fact required to be stated
therein or necessary to make the statements therein not misleading;
provided, however, that such indemnity shall not inure to the benefit of
any Underwriter (or any person controlling such Underwriter) on account of
any losses, claims, damages or liabilities arising from the sale of the
Shares to any person by such Underwriter if (i) such untrue statement or
omission or alleged untrue statement or omission was made in such
preliminary prospectus, the Registration Statement or the Prospectus, or
such amendment or supplement, in reliance upon and in conformity with
information furnished in writing to the Company by the Representatives on
behalf of any Underwriter specifically for use therein or (ii) at or prior
to the written confirmation of the sale of such shares a copy of the
Prospectus (or the Prospectus as amended or supplemented) was not sent or
delivered to such person as proven by the Company and the untrue statement
or omission of a material fact contained in such preliminary Prospectus
was corrected in the Prospectus (or the Prospectus as amended or
supplemented) unless the failure is
-16-
<PAGE> 17
the result of non-compliance by the Company with paragraph (d) of Section
6 hereof. This indemnity agreement will be in addition to any liability
which the Company may otherwise have.
(b) Each Underwriter agrees, severally and not jointly, to
indemnify and hold harmless the Company, each person, if any, who controls
the Company within the meaning of Section 15 of the Securities Act or
Section 20 of the Exchange Act, each director of the Company, and each
officer of the Company who signs the Registration Statement, to the same
extent as the foregoing indemnity from the Company to each Underwriter,
but only insofar as such losses, claims, damages or liabilities arise out
of or are based upon any untrue statement or omission or alleged untrue
statement or omission which was made in any preliminary prospectus, the
Registration Statement or the Prospectus, or any amendment thereof or
supplement thereto, contained in the last paragraph of the cover page, in
the paragraph relating to stabilization on the inside front cover page of
the Prospectus and the statements contained under the caption
"Underwriting" in the Prospectus; provided, however, that the obligation
of each Underwriter to indemnify the Company (including any controlling
person, director or officer thereof) shall be limited to the net proceeds
received by the Company from such Underwriter.
(c) Any party that proposes to assert the right to be indemnified
under this Section will, promptly after receipt of notice of commencement
of any action, suit or proceeding against such party in respect of which a
claim is to be made against an indemnifying party or parties under this
Section, notify each such indemnifying party of the commencement of such
action, suit or proceeding, enclosing a copy of all papers served. No
indemnification provided for in Section 7(a) or 7(b) shall be available to
any party who shall fail to give notice as provided in this Section 7(c)
if the party to whom notice was not given was unaware of the proceeding to
which such notice would have related and was prejudiced by the failure to
give such notice but the omission so to notify such indemnifying party of
any such action, suit or proceeding shall not relieve it from any
liability that it may have to any indemnified party for contribution or
otherwise than under this Section. In case any such action, suit or
proceeding shall be brought against any indemnified party and it shall
notify the indemnifying party of the commencement thereof, the
indemnifying party shall be entitled to participate in, and, to the extent
that it shall wish, jointly with any other indemnifying party similarly
notified, to assume the defense thereof, with counsel reasonably
satisfactory to such indemnified party, and after notice from the
indemnifying party to such indemnified party of its election so to assume
the defense thereof and the approval by the indemnified party of such
counsel, the indemnifying party shall not be liable to such indemnified
party for any legal or other expenses, except as provided below and except
for the reasonable costs of investigation subsequently incurred by such
indemnified party in connection with the defense thereof. The indemnified
party shall have the right to employ its counsel in any such action, but
the fees and expenses of such counsel shall be at the expense of such
indemnified party unless (i) the employment of counsel by such indemnified
party has been authorized in writing by the indemnifying parties, (ii) the
indemnified party shall have reasonably concluded that there may be a
conflict of interest between the indemnifying parties and the indemnified
party in the conduct of the defense of such action (in which case the
indemnifying parties shall not have the right to direct the defense of
such action on behalf of the indemnified party) or (iii) the indemnifying
parties shall not have employed counsel to assume the defense of such
action within a reasonable time after notice of the commencement thereof,
in each of which case the fees and expenses of counsel shall be at the
expense of the indemnifying
-17-
<PAGE> 18
parties. An indemnifying party shall not be liable for any settlement of
any action, suit, proceeding or claim effected without its written
consent.
8. Contribution. In order to provide for just and equitable
contribution in circumstances in which the indemnification provided for in
Section 7(a) is due in accordance with its terms but for any reason is held to
be unavailable from the Company, the Company and the Underwriters shall
contribute to the aggregate losses, claims, damages and liabilities (including
any investigation, legal and other expenses reasonably incurred in connection
with, and any amount paid in settlement of, any action, suit or proceeding or
any claims asserted, but after deducting any contribution received by the
Company from persons other than the Underwriters, such as persons who control
the Company within the meaning of the Securities Act, officers of the Company
who signed the Registration Statement and directors of the Company, who may also
be liable for contribution) to which the Company and one or more of the
Underwriters may be subject in such proportion as is appropriate to reflect the
relative benefits received by the Company on the one hand and the Underwriters
on the other from the offering of the Shares or, if such allocation is not
permitted by applicable law or indemnification is not available as a result of
the indemnifying party not having received notice as provided in Section 7
hereof, in such proportion as is appropriate to reflect not only the relative
benefits referred to above but also the relative fault of the Company on the one
hand and the Underwriters on the other in connection with the statements or
omissions which resulted in such losses, claims, damages, liabilities or
expenses, as well as any other relevant equitable considerations. The relative
benefits received by the Company and the Underwriters shall be deemed to be in
the same proportion as (x) the total proceeds from the offering (net of
underwriting discounts but before deducting expenses) received by the Company,
as set forth in the table on the cover page of the Prospectus, bear to (y) the
underwriting discounts received by the Underwriters, as set forth in the table
on the cover page of the Prospectus. The relative fault of the Company or the
Underwriters shall be determined by reference to, among other things, whether
the untrue or alleged untrue statement of a material fact related to information
supplied by the Company or the Underwriters and the parties' relative intent,
knowledge, access to information and opportunity to correct or prevent such
statement or omission. The Company and the Underwriters agree that it would not
be just and equitable if contribution pursuant to this Section 8 were determined
by pro rata allocation (even if the Underwriters were treated as one entity for
such purpose) or by any other method of allocation which does not take account
of the equitable considerations referred to above. Notwithstanding the
provisions of this Section 8, (i) in no case shall any Underwriter (except as
may be provided in the Agreement Among Underwriters) be liable or responsible
for any amount in excess of the underwriting discount applicable to the Shares
purchased by such Underwriter hereunder, and (ii) the Company shall be liable
and responsible for any amount in excess of such underwriting discount;
provided, however, that no person guilty of fraudulent misrepresentation (within
the meaning of Section 11(f) of the Securities Act) shall be entitled to
contribution from any person who was not guilty of such fraudulent
misrepresentation. For purposes of this Section 8, each person, if any, who
controls an Underwriter within the meaning of Section 15 of the Securities Act
or Section 20(a) of the Exchange Act shall have the same rights to contribution
as such Underwriter, and each person, if any, who controls the Company within
the meaning of the Section 15 of the Securities Act or Section 20(a) of the
Exchange Act, each officer of the Company who shall have signed the Registration
Statement and each director of the Company shall have the same rights to
contribution as the Company, subject in each case to clauses (i) and (ii) in the
immediately
-18-
<PAGE> 19
preceding sentence of this Section 8. Any party entitled to contribution will,
promptly after receipt of notice of commencement of any action, suit or
proceeding against such party in respect of which a claim for contribution may
be made against another party or parties under this Section, notify such party
or parties from whom contribution may be sought, but the omission so to notify
such party or parties from whom contribution may be sought shall not relieve the
party or parties from whom contribution may be sought from any other obligation
it or they may have hereunder or otherwise than under this Section. No party
shall be liable for contribution with respect to any action, suit, proceeding or
claim settled without its written consent. The Underwriter's obligations to
contribute pursuant to this Section 8 are several in proportion to their
respective underwriting commitments and not joint.
9. Termination. This Agreement may be terminated with respect to
the Shares to be purchased on a Closing Date by the Representatives by notifying
the Company at any time
(a) in the absolute discretion of the Representatives at or before
any Closing Date: (i) if on or prior to such date, any domestic or
international event or act or occurrence has materially disrupted, or in
the opinion of the Representatives will in the future materially disrupt,
the securities markets; (ii) if there has occurred any new outbreak or
material escalation of hostilities or other calamity or crisis the effect
of which on the financial markets of the United States is such as to make
it, in the judgment of the Representatives, inadvisable to proceed with
the offering; (iii) if there shall be such a material adverse change in
general financial, political or economic conditions or the effect of
international conditions on the financial markets in the United States is
such as to make it, in the judgment of the Representatives, inadvisable or
impracticable to market the Shares; (iv) if trading in the Shares has been
suspended by the Commission or trading generally on the New York Stock
Exchange, Inc., on the American Stock Exchange, Inc. or the Nasdaq Stock
Market has been suspended or limited, or minimum or maximum ranges for
prices for securities shall have been fixed, or maximum ranges for prices
for securities have been required, by said exchanges or system or by order
of the Commission, the National Association of Securities Dealers, Inc.,
or any other governmental or regulatory authority; or (v) if a banking
moratorium has been declared by any state or Federal authority, or
(b) at or before any Closing Date, that any of the conditions
specified in Section 5 shall not have been fulfilled when and as required
by this Agreement.
If this Agreement is terminated pursuant to any of its provisions,
the Company shall not be under any liability to any Underwriter, and no
Underwriter shall be under any liability to the Company, except that (y) if this
Agreement is terminated by the Representatives or the Underwriters because of
any failure, refusal or inability on the part of the Company to comply with the
terms or to fulfill any of the conditions of this Agreement, the Company will
reimburse the Underwriters for all out-of-pocket expenses (including the
reasonable fees and disbursements of their counsel) incurred by them in
connection with the proposed purchase and sale of the Shares or in contemplation
of performing their obligations hereunder and (z) no Underwriter who shall have
failed or refused to purchase the Shares agreed to be purchased by it under this
Agreement, without some reason sufficient hereunder to justify cancellation or
termination of its obligations under this Agreement, shall be relieved of
liability to the Company or to the other Underwriters for damages occasioned by
its failure or refusal.
-19-
<PAGE> 20
10. Substitution of Underwriters. If one or more of the
Underwriters shall fail (other than for a reason sufficient to justify the
cancellation or termination of this Agreement under Section 9) to purchase on
any Closing Date the Shares agreed to be purchased on such Closing Date by such
Underwriter or Underwriters, the Representatives may find one or more substitute
underwriters to purchase such Shares or make such other arrangements as the
Representatives may deem advisable or one or more of the remaining Underwriters
may agree to purchase such Shares in such proportions as may be approved by the
Representatives, in each case upon the terms set forth in this Agreement. If no
such arrangements have been made by the close of business on the business day
following such Closing Date,
(a) if the number of Shares to be purchased by the defaulting
Underwriters on such Closing Date shall not exceed 10% of the Shares that
all the Underwriters are obligated to purchase on such Closing Date, then
each of the nondefaulting Underwriters shall be obligated to purchase such
Shares on the terms herein set forth in proportion to their respective
obligations hereunder; provided, that in no event shall the maximum number
of Shares that any Underwriter has agreed to purchase pursuant to Section
1 be increased pursuant to this Section 10 by more than one-ninth of such
number of Shares without the written consent of such Underwriter, or
(b) if the number of Shares to be purchased by the defaulting
Underwriters on such Closing Date shall exceed 10% of the Shares that all
the Underwriters are obligated to purchase on such Closing Date, then the
Company shall be entitled to an additional business day within which it
may, but is not obligated to, find one or more substitute underwriters
reasonably satisfactory to the Representatives to purchase such Shares
upon the terms set forth in this Agreement.
In any such case, either the Representatives or the Company shall
have the right to postpone the applicable Closing Date for a period of not more
than five business days in order that necessary changes and arrangements
(including any necessary amendments or supplements to the Registration Statement
or Prospectus) may be effected by the Representatives and the Company. If the
number of Shares to be purchased on such Closing Date by such defaulting
Underwriter or Underwriters shall exceed 10% of the Shares that all the
Underwriters are obligated to purchase on such Closing Date, and none of the
nondefaulting Underwriters or the Company shall make arrangements pursuant to
this Section within the period stated for the purchase of the Shares that the
defaulting Underwriters agreed to purchase, this Agreement shall terminate with
respect to the Shares to be purchased on such Closing Date without liability on
the part of any nondefaulting Underwriter to the Company and without liability
on the part of the Company, except in both cases as provided in Sections 6(B),
7, 8 and 9. The provisions of this Section shall not in any way affect the
liability of any defaulting Underwriter to the Company or the nondefaulting
Underwriters arising out of such default. A substitute underwriter hereunder
shall become an Underwriter for all purposes of this Agreement.
11. Miscellaneous. The respective agreements, representations,
warranties, indemnities and other statements of the Company or its officers and
of the Underwriters set forth in or made pursuant to this Agreement shall remain
in full force and effect, regardless of any investigation made by or on behalf
of any Underwriter or the Company or any of the officers, directors or
controlling persons referred to in Sections 7 and 8 hereof, and shall survive
delivery
-20-
<PAGE> 21
of and payment for the Shares. The provisions of Sections 6(B), 7, 8 and 9 shall
survive the termination or cancellation of this Agreement.
This Agreement has been and is made for the benefit of the
Underwriters and the Company and their respective successors and assigns, and,
to the extent expressed herein, for the benefit of persons controlling any of
the Underwriters, or the Company, and directors and officers of the Company, and
their respective successors and assigns, and no other person shall acquire or
have any right under or by virtue of this Agreement. The term "successors and
assigns" shall not include any purchaser of Shares from any Underwriter merely
because of such purchase.
All notices and communications hereunder shall be in writing and
mailed or delivered or by telephone or telegraph if subsequently confirmed in
writing, (a) if to the Representatives, c/o CBIC Oppenheimer Corp., Oppenheimer
Tower, World Financial Center, New York, New York 10281 Attention: __________,
and (b) if to the Company, to its agent for service as such agent's address
appears on the cover page of the Registration Statement.
This Agreement shall be governed by and construed in accordance with
the laws of the State of New York without regard to principles of conflict of
laws.
This Agreement may be signed in any number of counterparts, each of
which shall be an original, with the same effect as if the signatures thereto
and hereto were upon the same instrument.
-21-
<PAGE> 22
Please confirm that the foregoing correctly sets forth the agreement
among us.
Very truly yours,
ABOVENET COMMUNICATIONS INC.
By ______________________________________
Title:
Confirmed:
CIBC OPPENHEIMER CORP.
Acting severally on behalf of itself
and as representative of the several
Underwriters named in Schedule I annexed
hereto.
By CIBC OPPENHEIMER CORP.
By ____________________________________
Title:
<PAGE> 23
SCHEDULE I
<TABLE>
<CAPTION>
Number of
Firm Shares to
Name Be Purchased
- ---- --------------
<S> <C>
CIBC Oppenheimer Corp.
Volpe Brown Whelan and Company, LLC
------------
Total 4,000,000
============
</TABLE>
-22-
<PAGE> 1
LEASE
BY AND BETWEEN
F.C. PAVILION, L.L.C.
AND
ABOVENET COMMUNICATIONS, INC.
DATED: DECEMBER __, 1998
<PAGE> 2
LEASE
THIS LEASE (the "Lease") is made this ____ day of December 1998 by and
between F.C. PAVILION, L.L.C., an Ohio limited liability company ("Landlord")
and ABOVENET COMMUNICATIONS, INC., a California corporation ("Tenant");
WITNESSETH THAT, in consideration of the rents, covenants and agreements
hereinafter set forth, such parties enter into the following agreement:
RECITALS
1. The Redevelopment Agency of the City of San Jose (the "Agency") owns
certain property in the City of San Jose (the "Retail Pavilion Parcel") which
has been developed as the Retail Pavilion Complex, an element of a mixed use
urban development known as the Silicon Valley Financial Center.
2. Pursuant to an Amended and Restated Ground Lease by and between the
Agency and 50 West Fernando Associates ("50 West") dated April 30, 1990 (the
"Ground Lease") the Agency leased the Retail Pavilion Parcel to 50 West. 50 West
has assigned its interest under the Ground Lease to Landlord. The Agency or any
successor in interest to the Agency under the Ground Lease is referred to in
this Lease as the "Ground Lessor."
3. 50 West has constructed the Retail Pavilion Complex, a mixed use
retail and office complex, on the Retail Pavilion Parcel.
4. Under agreement with the Agency, 50 West has constructed a landscaped
pedestrian mall (the "Paseo Mall") on property owned by the City of San Jose
which is adjacent to the Retail Pavilion Parcel. Pursuant to the Ground Lease,
the Landlord, as successor to 50 West, will maintain and operate a portion of
the Paseo Mall. The Paseo Mall will be available for use by Tenant, Tenant's
employees, Tenant's customers, and the general public as a public right-of-way.
5. Under agreement with the Agency, 50 West has constructed a 284-space
public garage (the "Public Garage") on property owned by the Agency beneath the
Retail Pavilion Parcel. The Public Garage has been leased to Landlord pursuant
to a separate lease (the "Public Garage Lease").
6. Tenant desires to sublease from Landlord and Landlord desires to
sublease to Tenant the Premises (as hereinafter defined) within the Retail
Pavilion Complex pursuant to the terms and provisions of this Lease.
<PAGE> 3
ARTICLE I
EXHIBITS
EXHIBIT A Legal description of real estate on which the
Retail Pavilion Complex is situated (hereinafter
called "Retail Pavilion Parcel).
EXHIBIT B Plot Plan of Retail Pavilion Parcel, showing
existing improvements and depicting the retail
space, office space and Common Area as presently
configured. Retail Pavilion Parcel and Public
Garage with existing and future Improvements is
hereinafter called the "Complex." This Exhibit is
provided for reference purposes only, and shall not
be deemed to be a warranty, representation, or
agreement by Landlord that the Complex or buildings
and/or any stores are exactly as indicated on the
Exhibit, or that the other tenants which may be
drawn on the Exhibit will be occupants in the
Complex.
EXHIBIT C Tenant's Preliminary Plans dated December 3,
1998 ("Tenant's Plans"), including plans for the
Temporary Premises.
EXHIBIT D-1 Tenants to be removed or relocated.
EXHIBIT D-2 Tenant's from whom consent is required.
EXHIBIT E Rules and Regulations.
EXHIBIT F Preliminary Title Report
Notwithstanding Exhibits A or B or anything else in this Lease
contained, Landlord reserves the right to change or modify and add to or
subtract from the size and dimensions of the Complex or any part thereof, the
number, location and dimensions of buildings and stores, the size and
configuration of the parking areas, entrances, exits and parking aisle
alignments, dimensions of hallways, malls and corridors, the number of floors in
any building, the location, size and number of tenants' spaces which may be
erected in the Complex or otherwise, the identity, type and location of other
stores and tenants, and the size, shape, location and arrangement of Common
Areas (hereinafter defined), and to design and decorate any portion of the
Complex as it desires, but the general character of the Complex and the
approximate location of the Premises shall not be substantially changed, except
as provided in this Lease. Notwithstanding the foregoing, Landlord, without
Tenant's prior written consent, shall not make any change to the Complex which
does any of the following:
(a) Affects the size or dimensions of, or access to, the Premises
and/or the Ancillary Use Areas (as defined below);
(b) Materially interferes with, or impacts, Tenant's use of the
Premises and/or the Ancillary Use Areas, or materially increases
the costs of Tenant's maintenance
2
<PAGE> 4
and repair of those portions of the Premises and/or complex which
Tenant is required to maintain;
(c) Materially interferes with, or impacts, co-location,
telecommunications, and other equipment and components utilized
in Tenant's business (for purposes of the foregoing any
interference with the flow of data or interruption of any
communications signal shall be deemed to be "material");
(d) Materially increases Real Estate Taxes, Operating Expenses
(including, without limitation, Common Area Expenses), or any
other additional rent items payable by Tenant under this Lease;
(e) Would require Tenant to make alterations or other improvements to
the Premises and/or the Ancillary Use Areas, or necessitate the
installation of additional equipment or other fixtures in the
Premises and/or the Ancillary Use Areas;
(f) Reduces or further restricts use or access to the Public Garage
or the parking spaces allowed to Tenant under this Lease.
ARTICLE II
LEASED PREMISES
Section 2.1. Leased Premises.
Landlord hereby leases to Tenant and Tenant hereby rents from Landlord,
the following-described space within the Complex comprising, in the aggregate,
approximately 108,680 square feet (collectively, the "Premises"):
(a) Lower level space, including general office space and space for
co-location equipment, containing approximately 45,550 square
feet;
(b) Street level space containing approximately 4,740 square feet;
(c) Upper level space containing approximately 51,640 square feet;
and
(d) Space in Public Garage containing approximately 6,750 square
feet.
The Premises is more fully described in the Plot Plan attached hereto as Exhibit
B. As the Tenant's Plans are finalized the size of the foregoing areas may be
modified. The area of the Premises shall be measured, after construction in
accordance with this Lease, by the Design Architect (as hereinafter defined),
using the BOMA method of computation. The Premises shall include usable area
only. The decision of the Design Architect shall be final, binding and
conclusive, subject to the provisions of Section 6.6 hereof.
Section 2.2. Roof and Walls.
3
<PAGE> 5
Subject to Tenant's rights described in Section 2.3 below, Landlord
shall have the exclusive right to use all or any part of the roof, side and rear
walls of the Premises for any purpose, including but not limited to erecting
signs or other structures on or over all or any part of the same, erecting
scaffolds and other aids to the construction and installation of the same, and
installing, maintaining, using, repairing and replacing pipes, ducts, conduits
and wires leading through, to or from the Premises and serving other parts of
the Complex in locations which do not materially interfere with Tenant's use of
the Premises and the Ancillary Use Areas. Tenant shall have no right whatsoever
in the exterior of exterior walls or the roof of the Premises or any portion of
the Complex outside the Premises, except as provided in Sections 2.3 and 9.2
hereof.
Section 2.3. Ancillary Use Areas.
In addition to Tenant's rights with respect to the Premises, Landlord
hereby grants to Tenant the right to use those other areas of the Complex
described as follows (collectively, the "Ancillary Use Areas"):
A. The "Tenant Penthouse Area" consisting of an enclosed area
designated as the "Mechanical Penthouse" on the Preliminary
Plans;
B. The "Tenant HVAC Area" consisting of those portions of the roof
designated on the Preliminary Plans for the placement of
Tenant's HVAC equipment;
C. The "Tenant Antennae Area" consisting of those portions of the
roof designated on the Preliminary Plans for the placement of
Tenant's antennas and other telecommunication equipment (which
equipment shall be inclusive of the equipment of Tenant's
customers);
D. Tenant's elevator serving the loading dock area and related
areas specified on the Preliminary Plans; and,
E. Elevator No. 1 providing exclusive passenger movement between
the Public Garage and the Premises.
F. Those portions of the Complex, including without limitation,
telecommunication "closets", chases, and switch rooms to be
located in areas which will not materially affect or interfere
with other leasable areas within the Complex, for the purpose of
providing conduits, support, and access points for all of
Tenant's wires, cables, fiber, teleco equipment, and other items
as may be necessary to connect the equipment and fixtures within
the Premises to the "Ancillary Use Areas" and/or to points
outside of the Complex.
Tenant's right to use the Ancillary Uses Areas described in A. through
E. above shall be exclusive and Landlord shall not grant any rights to
any other tenant of the Complex or other party to use such areas.
Tenant's right to use the Ancillary Use Areas described in F. above
shall be upon a non-exclusive basis with respect to those portions of
such areas which have been designed and designated for multiple tenant
use and shall be
4
<PAGE> 6
exclusive as to those areas which have been constructed as part of
Tenant's Work and/or Landlord's Work and designated for Tenant's use. No
Fixed Rent or other specific payment shall be charged to Tenant with
respect to the Ancillary Use Areas.
Landlord and Tenant hereby recognize that Tenant's rights with respect
to the Ancillary Use Areas are necessary to Tenant's use and enjoyment
of the Premises and, therefore, such rights shall be coterminous with
and inseparable from Tenant's rights with respect to the Premises.
ARTICLE III
LEASE TERM
Section 3.1 Lease Term.
The term of this Lease (the "Lease Term") shall be for a period of
twenty (20) years beginning upon the Commencement Date (as hereinafter defined)
and ending on the last day of the twelfth (12th) month of the twentieth Lease
Year following the Commencement Date, unless sooner terminated as herein
provided, subject to Tenant's options to renew this Lease pursuant to Article
XXVII hereof.
Section 3.2 Commencement Date.
(a) The "Commencement Date" of this Lease shall mean the earlier of:
(i) the date on which Tenant's Work is Substantially Completed
(as such terms are hereinafter defined); or
(ii) one year following the earlier of the date on which the
construction of Tenant's Work commences or the date on
which Tenant's Work should have commenced if Tenant had
fulfilled its obligations to diligently pursue the
planning and approval process pursuant to Article V;
provided however, the date specified in this subsection
(ii) shall be extended for any Force Majeure event and/or
any Landlord Delays (as such terms are hereinafter
defined).
"Force Majeure Events" shall mean any of the events
described in Section 28.5 below which delay the design,
construction, and permitting of any of Tenant's Work and
any delays in the Agency providing the approvals and the
Non-Disturbance Agreement, as required in Section 5.1
below, unless such delays were caused by Tenant's failure
to meet its obligations to diligently pursue the planning
and approval process pursuant to Article V.
"Landlord's Delay" shall mean any delay in the design,
construction, and permitting of any of Tenant's Work
resulting from (i) Landlord's failure to
5
<PAGE> 7
proceed promptly and diligently with the design,
construction, and permitting of Landlord's Work, (ii)
any change orders requested by Landlord with respect to
Landlord's Work, and (iii) any other act or omission of
Landlord and/or its agents, consultants, contractors,
and/or subcontractors.
"Substantially Completed" shall mean any portion of the
Premises is completed to the point at which a temporary
certificate of occupancy is granted, subject to
completion of punchlist items.
(b) When the Commencement Date shall have been determined, Landlord and
Tenant shall execute an appropriate writing memorializing the Commencement Date
and the date that the Lease Term shall expire and confirming the actual square
footage of the Premises as measured by the Architect pursuant to Section 2.1
hereof.
Section 3.3 Lease Year Defined.
The first Lease year shall begin on the Commencement Date and shall end
on the last day of the twelfth (12th) full month following the Commencement
Date. Succeeding Lease Years shall be for a period of twelve (12) months
beginning on the day following the end of the preceding Lease Year.
Section 3.4 Effective Date.
This Lease shall be binding on both Landlord and Tenant commencing upon
the Effective Date (as defined in Section 28.6 hereof), subject to the
satisfaction and/or waiver of the Conditions Precedent (as defined in Section
5.1 hereof).
ARTICLE IV
RENT
Section 4.1. Rental Rate.
Beginning on the Commencement Date, Tenant covenants and agrees to pay
to Landlord, without notice, demand or set-off, at Landlord's address for notice
(Landlord's and Tenant's notice addresses being the addresses specified in
Section 28.7 hereof), as "Fixed Rent" for the Premises:
(a) During the first Lease Year, Two Dollars and 25/100 ($2.25) per
useable square foot of the Premises per month (prorated for any
partial calendar month between the Commencement Date and the end
of the calendar month in which the Commencement Date occurs);
(b) During the second through tenth Lease Years, an amount per month
equal to the Fixed Rent for the preceding Lease Year multiplied
by 103.5% (1.035).
6
<PAGE> 8
(c) During the eleventh through fifteenth Lease Years an amount equal
to the Fixed Rent for the tenth Lease Year multiplied by 115%
(1.15);
(d) During the sixteenth through twentieth Lease Years an amount
equal to the Fixed Rent for the fifteenth Lease Year multiplied
by 115% (1.15).
Section 4.2 Fixed Rent Payments.
The Fixed Rent as determined pursuant to Section 4.1 shall be paid by
Tenant to Landlord in advance on the first day of each and every calendar month
during the Lease Term.
Section 4.3. Miscellaneous Rent Provisions.
Any Fixed Rent or other amounts to be paid by Tenant which are not paid
when due shall bear interest at the lesser of four percent (4%) over the prime
rate announced by Citibank, N.A. as of the first day of the month on which any
sum is due and owing or the maximum legal rate permitted in the State of
California. If the Commencement Date is other than the first day of a month,
Tenant shall pay on the Commencement Date a prorated partial Fixed Rent on the
Commencement Date.
Section 4.4. Additional Rent.
All amounts required or provided to be paid by Tenant to Landlord under
this Lease other than Fixed Rent shall be deemed "Additional Rent", and Fixed
Rent and Additional Rent shall in all events be deemed rent and may be collected
by Landlord as provided by law in the case of rent.
Section 4.5. Payments for Tenant.
If Landlord pays any monies or incurs any expense to correct an Event of
Default, as defined in Section 21.1 below, all amounts so paid or incurred
shall, on notice to Tenant, be considered Additional Rent payable by Tenant with
the first Fixed Rent installment thereafter becoming due and payable, and may be
collected as provided by law in the case of rent.
Notwithstanding the foregoing, Additional Rent shall not include any
expenses incurred by Landlord to cure an Event of Default unless Landlord, prior
to incurring an expense, shall have given written notice to Tenant of Landlord's
intent. Any Additional Rent, as described in this Section 4.5, shall include
only the actual out-of-pocket expenses incurred by Landlord in directly curing
the subject Event of Default.
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ARTICLE V
CONDITIONS PRECEDENT
Section 5.1. Conditions Precedent.
Landlord and Tenant acknowledge and agree that their respective
obligations under this Lease, including the obligation to construct Tenant's
Work pursuant to Article VI hereof, is subject to the satisfaction of the
following conditions (the "Conditions Precedent") on or before February 15, 1999
(the "Condition Date"):
(a) The written approval by the Agency of the Tenant, of the terms of
this Lease, of the terms of the Temporary Lease (as hereinafter
defined) and of Tenant's Plans and the issuance by the City
and/or Agency of such building permits as may be necessary to
commence construction as well as approval by the City and/or
Agency of the plans for Landlord's Work (collectively, the "City
Approvals");
(b) The Agency's agreement to execute and deliver to Tenant a written
non-disturbance agreement (the "Non-Disturbance Agreement")
whereby the Agency agrees (i) to recognize this Lease, and
Tenant's rights hereunder, in the event of a termination of the
Ground lease and/or the Public Garage Lease and to not terminate
this Lease provided that Tenant is then in compliance with the
terms hereof, (ii) that this Lease shall become a direct lease
between the Agency and the Tenant pursuant to the terms and
provision hereof, (iii) that Tenant shall have no liability to
the Agency with respect to any obligations of Landlord under the
Ground Lease or the Public Garage lease, (iv) to not amend or
modify, or enter into any agreement with Landlord to amend or
modify, any of the terms or provisions of the Ground Lease and/or
Public Garage Lease which are material to Tenant's quiet
enjoyment of the Premises without the prior written consent of
Tenant, (v) to not enter into any agreement with Landlord which
would materially increase Landlord's Common Area Costs and/or any
other maintenance or operating expenses of the Complex (to the
extent that any such costs are passed on to Tenant), (vi) to not
terminate, or accept a surrender of, the Ground Lease and/or the
Public Garage Lease unless there has been an event of default
under the Ground Lease or the Public Garage Lease which gives the
Agency the right to terminate the same, (vii) to provide, prior
to exercising any right of termination, notice and an opportunity
to cure to Tenant with respect to any default by Landlord under
the Ground Lease or the Public Garage Lease, (viii) to not
approve any financing or further encumbrance of Landlord's
interest in the Ground Lease and/or the Public Garage Lease (to
the extent the Agency has retained such approval rights) without
providing prior written notice to Tenant, and (ix) to such other
matters as may be reasonably requested by Tenant in order to
protect its rights hereunder and its interest in the Tenant
Improvements;
(c) The successful completion of Tenant's initial public offering;
and
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(d) The removal or relocation of those existing tenants in the
complex whose removal or relocation is necessary to permit the
construction of Tenant's Work and the occupancy by Tenant of the
Premises pursuant to this Lease, which tenants are listed on
Exhibit D-1 hereto, and the granting of consent by those existing
tenants in the complex whose consent is necessary to permit the
construction of Tenant's Work and the occupancy by Tenant of the
Premises pursuant to this Lease, which tenants are listed on
Exhibit D-2 hereto (collectively, the "Tenant Actions"); provided
that Tenant acknowledges that Waldenbooks will not be relocated
until after January 1, 1999 (assuming that conditions 5.1(a),
(b), (c) and (e) have been satisfied), and that, in the absence
of a voluntary agreement to vacate, certain month-to-month
tenants may not be vacated under city ordinances until ninety
(90) days following delivery by Landlord of written notices to
vacate, which notices will not be delivered by Landlord until
after conditions 5.1(a), (b), (c) and (e) have been satisfied.
Landlord will use commercially reasonable efforts to cause all
Tenant Actions to be met by the Condition Date, provided that
Landlord shall not be obligated to execute any unconditional
vacation notices, relocation agreements or termination agreements
with any of such tenants until such time as conditions 5.1(a),
(b), (c) and (e) have been satisfied. Furthermore, the Condition
Date shall be extended to the extent necessary to permit the
relocation of Waldenbooks and the month-to-month tenants referred
to in the prior sentence, as long as all other Tenant Actions are
completed by the original Condition Date.
(e) Landlord obtains a firm commitment for financing its portion of
the costs associated with this Lease (including both Landlord's
Work and Landlord's Contribution, as such terms are hereinafter
defined), at prevailing market rates and terms reasonably
acceptable to Landlord; Tenant agrees to cooperate reasonably in
any conditions imposed by Landlord's lender under said
commitment; Landlord will use commercially reasonable efforts to
obtain the foregoing financing commitments prior to the Condition
Date.
Section 5.2. City Approvals.
Following the Effective Date of this Lease, Landlord and Tenant agree to
work diligently and cooperatively to obtain the City Approvals. Landlord and
Tenant agree that Tenant's Plans shall be submitted to the appropriate Agency or
City offices not later than five (5) days following the Effective Date of this
Lease (as long as such Plans are completed by Design Architect by such date)
(the "Initial Plan Submission Date"). Landlord and Tenant agree to make such
modifications to Tenant's Plans as may be reasonably requested by City or Agency
officials as a condition for obtaining the City Approvals. In the event that
Tenant's Plans are not submitted to the Agency or City by the Initial Plan
Submission Date, Tenant may elect to extend the Condition Date by one (1) day
for each day by which Tenant's submission of Tenant's Plans is delayed beyond
the Initial Plan Submission Date.
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Section 5.3. Tenant Actions.
Prior to the Effective Date of this Lease, Landlord has commenced
negotiations with the existing tenants in the complex which are subject to
Tenant Actions pursuant to this Lease, and Landlord will use commercially
reasonable efforts in pursuing such Tenant Actions. Notwithstanding the
foregoing, Landlord shall not be obligated to undertake litigation (except
litigation to enforce a tenant's relocation or termination agreement or any
other right Landlord may have to regain possession of a tenant's premises).
Section 5.4. Failure of Conditions Precedent.
In the event that the Conditions Precedent are not successfully obtained
by the Condition Date (as modified by Section 5.1(d)), then Tenant shall have
the right, upon written notice to the Landlord delivered not later than five (5)
days after the Condition Date, either (i) to terminate this Lease or (ii) extend
the Condition Date until a date which is not later than six (6) months after the
Effective Date of this Lease (the "Extended Condition Date"). In the event that
all of the conditions are not successfully obtained by the Extended Condition
Date, then either Tenant or Landlord shall have the right, upon written notice
to the other delivered not later than five (5) days after the Extended Condition
Date, to terminate this Lease; provided, however, that Landlord shall have no
right to terminate this Lease, nor shall Landlord be released from any liability
for damages (if any), if Landlord has not used commercially reasonable efforts
in pursuing the Tenant Actions. Upon the termination of this Lease pursuant to
this Section 5.4, all rights and obligations hereunder shall be discharged and
neither party shall have any claims, or rights of recovery against the other for
costs incurred by such party pursuant to this Lease. Until either party
exercises its right to terminate this Lease pursuant to this Section 5.4, this
Lease shall continue in effect.
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ARTICLE VI
CONSTRUCTION OF PREMISES
Section 6.1. Overview of Construction Scope.
Landlord and Tenant acknowledge that the construction of the Premises
contemplates the conversion of existing Retail Space in the complex to Office
Space and the conversion of portions of Common Area to leased premises and the
reconfiguration of other portions of the Complex to accommodate the construction
of the Premises (the "Base Building Construction") and that the construction of
the Premises will require the concurrent construction and reconfiguration of
other space within the Complex for lease to others, including, without
limitation, new Office Space or Retail Space on the upper level of the Complex
and new retail space along the Paseo Mall (collectively the "New Tenant Space").
Landlord and Tenant further acknowledge that, by virtue of the size and scope of
the construction required to create Tenant's Premises, Landlord may be required
under California law to retrofit the entire Complex to meet current earthquake
protection standards ("Seismic Upgrades"). By virtue of the foregoing, this
Lease must address both responsibility for construction and responsibility for
payment for (a) Tenant's improvements within its Premises, as hereinafter
specified ("Tenant Improvements"), (b) Base Building Construction, (c) Seismic
Upgrades, and (d) the construction of New Tenant Space.
Section 6.2. Preparation of Construction Plans
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Tenant, with Landlord's consent, has heretofore engaged Kenneth
Rodrigues and Partners (the "Design Architect"), at Tenant's sole cost and
expense (provided that in no event shall Tenant be obligated to the Design
Architect for work related to Landlord's Work), to prepare schematic designs for
the Premises and the related changes to the Complex, including Base Building
Construction and New Tenant Space and Seismic Upgrades (the "Preliminary
Plans"). These Preliminary Plans, dated December 3, 1998, are attached hereto as
Exhibit C. The Tenant has also engaged other mechanical, electrical, structural
and geotechnical engineers to assist the Design Architect in preparing the
Preliminary Plans, as they may be amended. Landlord, with Tenant's consent, has
engaged KA Associates (the "Inspecting Architect"), at Landlord's sole cost and
expense, to review the Preliminary Plans, as they may be amended, and to inspect
the Tenant's Work and the Landlord's Work during the course of construction.
Landlord and Tenant agree that the Premises and the balance of the Complex shall
be constructed or reconstructed, as the case may be, in accordance with the
Preliminary Plans, as the same may be modified or refined in accordance with the
terms of this Lease. Following the Effective Date, Landlord and Tenant agree to
work cooperatively with the Design Architect and the Inspecting Architect to
develop final plans and construction drawings which are satisfactory to both
Landlord and Tenant, in their respective reasonable discretion, which are
sufficient to obtain the City Approvals pursuant to Section 5.2 hereof, and
which are approved by Factory Mutual. Both Landlord and Tenant shall be
permitted ten (10) days to review all architectural plans and fifteen (15) days
to review all structural and mechanical plans. Landlord's or Tenant's approval
of any plans shall not be construed as a warranties that the plans are
consistent with applicable laws or that the Tenant's Work or Landlord's Work, as
the case may be as completed in accordance with such plans will be fit for the
intended purpose. The Design Architect shall enter into separate contracts with
Tenant and Landlord with respect to the preparation of plans for Tenant's Work
and Landlord's Work, respectively. The contract between the Design Architect and
the Tenant shall name Landlord as an additional insured with respect to any
errors and omissions insurance maintained by the Design Architect or by any
other architectural or engineering firm providing design services to the Design
Architect.
Section 6.3. Responsibility for Construction Costs.
Landlord and Tenant agree that Tenant shall be responsible for and shall
pay for the full cost of the following construction items (collectively,
"Tenant's Work") (subject to partial reimbursement by Landlord through
Landlord's Contribution, as hereinafter defined) and shall cause the Tenant's
Work to be completed in accordance with the approved plans in good and
workmanlike condition and in compliance with all applicable laws:
(a) All additional improvements necessary to complete the Premises,
including, without limitation, interior improvements, demising
partitions, exterior facade, all costs of bringing or increasing
electrical service to the Premises, electrical distribution
within the Premises, any roof top facilities (subject to Section
12.4 hereof) such as signage, antennae, dishes or masts, all
other utility distribution such as phone, data, cable television
service, natural gas, and sanitary and water (collectively, the
"Tenant Improvements");
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(b) All Base Building Construction for those areas of the Complex
necessary to complete the Premises (whether located inside or
outside the Premises), but expressly excluding therefrom the
costs of constructing the New Tenant Space;
(c) All Seismic Upgrades to the Complex, provided that Landlord shall
reimburse tenant in an amount equal to 50% of the cost of the
Seismic Upgrades to the First and Second Street retail/office
elements of the Complex, subject to a maximum reimbursement of
Five Hundred Thousand Dollars ($500,000); and
(d) All foundation improvements required to accommodate Tenant's
occupancy and use of the Premises, but excluding any foundation
improvements required to accommodate the use and occupancy of the
New Tenant Space (which shall be part of Landlord's Work).
In connection with the construction of Tenant's Work, Tenant shall also
be responsible for, and shall pay for the full cost of, all permits, City
Approval costs, inspection fees and connection fees (except those directly
associated with Landlord's Work), all life safety elements, including without
limitation sprinklers, annunciation panels and fire alarm connections to
Landlord's system, and all items required by applicable laws.
Landlord shall be responsible for and shall pay for the full cost of
constructing the New Tenant Space (collectively, "Landlord's Work") and shall
cause the same to be completed in accordance with the approved plans in good and
workmanlike condition and in compliance with all applicable laws.
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Landlord also agrees to contribute Seven Million Dollars ($7,000,000)
("Landlord's Contribution") toward the cost of the Base Building Construction,
as follows: One-third of the Landlord's Contribution shall be paid when the Base
Building Construction is one-third completed, one-third shall be paid when the
Base Building Construction is two-thirds completed, and the balance shall be
paid when the Base Building Construction is completed. Each draw request by
Tenant with respect to Landlord's Contribution shall require: (a) a
certification by the Inspecting Architect that the requisite level of completion
has been met; and (b) lien waivers from the Contractor and all major
subcontractors indicating that the work comprising the requisite level of
completion has been fully paid subject to payment of retainage as provided in
Section 6.5.
Section 6.4. Construction Contracts.
Landlord and Tenant have selected Rudolph and Sletten as construction
manager (the "Contractor") to perform both Tenant's Work and Landlord's Work,
provided that the Tenant's Work shall be performed pursuant to a contract
between Tenant and Contractor ("Tenant's Contract"), and the Landlord's Work
shall be performed pursuant to a separate contract between Landlord and
Contractor ("Landlord's Contract"). Both the Tenant's Contract and the
Landlord's Contract shall be guaranteed maximum price contracts and the
Contractor shall be required to post payment/performance bonds in the full
amount of the contract price with sureties acceptable to Landlord. The Tenant's
Contract and the Landlord's Contract, shall be subject to the reasonable
approval of Landlord or Tenant, as the case may be, shall provide that Landlord
or Tenant, as the case may be, may cure any Tenant or Landlord defaults
thereunder and demand performance by Contractor thereunder, including
performance by the surety under the Contractor's payment/performance bonds, and
shall provide that Landlord or Tenant, as the case may be, shall be an
additional insured with respect to any errors and omissions insurance maintained
by the Contractor. Tenant's Contract shall further provide that no change orders
may be implemented without the express written consent of Landlord (which
consent shall not be unreasonably withheld), and that any such change orders be
covered by the Contractor's payment/performance bonds; provided, however, that
Landlord's consent shall not be required with respect to change orders which
affect only the Tenant Improvements and which do not exceed $50,000 in the
aggregate as long as Landlord receives prior written notice of such change
orders and provided, further, that Landlord will approve any such change order
affecting only the Tenant Improvements which exceeds $50,000 if Tenant
demonstrates that it has the resources to pay the increased costs and will meet
its obligations pursuant to Section 6.5. Tenant's Contract and Landlord's
Contract shall require that the Contractor meet all requirements imposed by the
Ground Lease or applicable law (including without limitation prevailing wage
requirements, if applicable), that the Contractor will maintain builders risk
insurance naming both Tenant and Landlord as additional insureds and that
Contractor will not permit the imposition of any liens on the Premises or the
Complex and will provide lien searches with every draw request demonstrating the
absence of such liens.
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Section 6.5. Tenant's L/C, Tenant's Loan Facility and Tenant's Cash
Account
In order to assure Landlord that Tenant has the financial ability to pay
all amounts required under the Tenant's Contract and thereby to assure Landlord
that Tenant's Work will be completed, Tenant agrees (a) to deliver to Landlord
an irrevocable letter of credit ("Tenant's L/C") issued by a financial
institution reasonably acceptable to Landlord in the full amount of the
estimated cost to complete all of Tenant's Work, other than Tenant's non-real
estate fixtures, equipment and furnishings (the "Non L/C Work") and net of the
amount of Landlord's Contribution and (b) to provide Landlord with evidence that
Tenant has the ability to pay the full cost of the Non L/C Work, which evidence
shall be in the form of either or both of the following: (i) a loan facility
with a bank or underwriter reasonably satisfactory to Lender ("Tenant's Loan
Facility") which Tenant's Loan Facility shall be irrevocably committed by Tenant
and its Lender to be used to pay for the non L/C Work or (ii) a bank account
with a federally-insured financial institution ("Tenant's Cash Account"). The
amount of Tenant's L/C and of Tenant's Loan Facility and/or Tenant's Cash
Account shall be determined jointly by Landlord and Tenant on or before the
Condition Date based upon the Tenant's Contract, in consultation with the Design
Architect, the Inspecting Architect and the Contractor. Landlord agrees to pay
customary issuance costs and/or the annual fee for Tenant's L/C. The Tenant's
L/C shall provide that Landlord may draw thereupon upon delivery of a draw
request together with Landlord's certification as follows:
(a) There exists a payment default by Tenant not related to any
failure of performance by the Contractor or subcontractor or any
Landlord Delay and the Contractor or subcontractor has made a
demand for payment or has filed against the Premises a mechanics'
lien;
(b) As a result of the foregoing default, there has been an actual
cessation of work on the Premises for a continuous period of not
less than two (2) weeks; and
(c) The funds to be drawn are necessary to pay for the portions of
Tenant's Work for which Tenant's L/C was issued.
The outstanding amount of Tenant's L/C may be reduced periodically by an amount
equal to payments made pursuant to the Tenant's Contract for the portions of
Tenant's Work other than the Non-L/C Work, provided that the Tenant's Contract
provides for a retainage in amounts, and subject to conditions, set forth below
and provided further that the Tenant's L/C shall not be reduced by amounts which
are reimbursed out of Landlord's Contribution. In the event that the cost of
Tenant's Work (other than Non-L/C Work) increases as a result of change orders
approved by Landlord pursuant to Section 6.4 (to the extent such approval is
required), Tenant shall cause the amount of Tenant's L/C to be increased by an
amount equal to such change order. In the event that the cost of the Non L/C
Work increases as a result of change orders acceptable to Landlord, Tenant shall
cause either Tenant's Loan Facility or Tenant's Cash Account to be increased by
an amount or amounts equal in the aggregate to the amount of the change order.
Neither Tenant's L/C nor Tenant's Loan Facility shall be secured by a mortgage
on the Premises or Tenant's interest therein, except for any equipment financing
or leasing. Tenant's Contract shall provide for a retainage of ten percent (10%)
of all draw requests until Tenant's work is fifty
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percent (50%) completed, at which point the retainage may be reduced to five
percent (5%). The balance of the retainage may be paid to the Contractor after
all punchlist items are complete, all lien waivers from the Contractor and major
subcontractors are delivered to Landlord and "as-built" drawings are delivered
to Landlord pursuant to Section 6.6.
Section 6.6. Adjustment of Fixed Rent after Construction; As-built
Drawings.
Landlord and Tenant acknowledge that the actual useable square footage
of the Premises may change from that reflected in the Preliminary Plans as the
result of changes in such plans prior to construction or as the result of change
orders implemented during the construction process. Therefore, Landlord and
Tenant agree that, upon completion of the Premises, the Premises shall be
measured by the Design Architect using the BOMA method and the Design Architect
shall determine the actual usable space in each portion of the Premises, which
determination shall be binding on the parties provided, however, that upon
Landlord's request, the Premises shall also be measured by the Inspecting
Architect and, in the event that the actual usable space in the Premises as
determined by the Inspecting Architect shall vary from that determined by the
Design Architect by more than two (2%) percent (after consultation between the
Design Architect and the Inspecting Architect to determine whether each is
performing measurements in accordance with applicable BOMA Standards), the size
of the Premises shall be deemed to be the average between that determined by the
Design Architect and that determined by the Inspecting Architect. Tenant shall
also cause a set of "as-built" drawings of the Premises to be prepared and
delivered to Landlord upon completion of Tenant's Work.
Section 6.7. Ownership of Improvements.
Upon completion of construction and during the entire Lease Term, the
Tenant Improvements and those portions of the Base Building Construction which
are necessary to comprise the Premises, together with all of Tenant's installed
fixtures, equipment, and components, shall be the property of Tenant. Upon a
termination of this Lease, the Tenant Improvements and those portions of the
Base Building Construction which are necessary to comprise the Premises shall
become the property of Landlord, provided that Tenant shall have the right to
remove certain portions of the Tenant Improvements and its fixtures, equipment,
and components as provided in Section 13.3 below.
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ARTICLE VII
NET LEASE
This Lease is a "triple net" lease and Tenant shall be responsible for
all operating expenses, utilities, Real Estate Taxes (as defined in Article
VIII), insurance and other expenses associated with its occupancy of the
Premises and Tenant's Proportionate Share (as hereinafter defined) of the
expenses of operating and maintaining the Common Area, all as more specifically
described in this Lease. To the extent possible, all of the foregoing expenses
shall be separately billed to Tenant and paid directly by Tenant to the taxing
authority, utility company or service provider, as the case may be. In the event
any such expenses cannot be separately and directly billed to Tenant, Landlord
shall bill Tenant for such expenses and Tenant shall pay Landlord the billed
amount within fifteen (15) days of receipt, as Additional Rent. Tenant's
"Proportionate Share" of expenses shall be a fraction, the numerator of which
shall be the usable square footage of the Premises (as determined pursuant to
Section 6.6 hereof) and the denominator of which shall be of all space within
the Complex, including the Premises.
Notwithstanding the foregoing and any other provisions of this Lease to
the contrary, in no event shall Tenant be required to pay directly or to
Landlord, whether as an "operating expense, "Real Estate Taxes", "Landlord's
Common Area Costs," Additional Rent, or otherwise, any amounts with respect to
the following:
(a) Ground rent or other payments owing by Landlord to the Agency
under the Ground Lease and/or the Public Garage Lease, or other
costs or expenses which are necessary for Landlord to comply with
the terms and provisions of the Ground Lease and/or the Public
Garage Lease.
(b) Any costs which are not part of the Landlord's Common Area Costs
and which relate to the leasing, ownership, maintenance and
operation of the retail and office portions of the Complex,
including, without limitations, costs relating to HVAC,
electrical and other utilities, provided that any such costs for
HVAC, electrical or other utilities actually used by Tenant but
which cannot be separately metered or separately billed to Tenant
and the other tenants, shall be prorated between them by
Landlord.
(c) Any capital expenditures as determined under generally accepted
accounting principals, provided that any capital expenditures
which reduce an expense item may be billed to Tenant to the
extent of the savings, and provided, further, that Tenant shall
be responsible for any capital expenditures relating to the
replacement of any portion of Tenant's Work, whether or not such
replacement results from defective materials or ordinary wear and
tear.
(d) Any costs for which the Landlord has the right to a refund or
reimbursement, whether from insurance or otherwise.
(e) Any costs or expenses incurred by Landlord by reason of the
grossly negligent act or omission, or willful misconduct, of (i)
Landlord, its agents, employees, consultants, and/or contractors,
or (ii) any other tenants of the Complex.
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(f) Any costs or expenses incurred by Landlord by reason of
Landlord's failure to comply with the terms of (i) of this Lease
and (ii) any other agreement to which Landlord may be bound.
(g) Any costs or expenses relative to the maintenance and operation
of the Public Garage.
(h) Any costs or expenses incurred by Landlord to contest Real Estate
Taxes or other assessments or impositions against the Complex,
unless such contest, after deducting such costs or expenses,
result in a net reduction of such Taxes, assessments, or other
impositions.
(i) Any late charges or penalties imposed on Landlord in connection
with any late payment of Real Estate Taxes or other assessments
or impositions against the Complex, unless caused by Tenant's
failure to pay its portion of Real Estate Taxes.
(j) Any costs or expenses associated with the maintenance, repair, or
operation of elevators, utility and switching equipment and
related areas, HVAC equipment, and other equipment and components
within the Complex which serve the other tenants of the Complex
and do not serve the Tenant and are not otherwise included within
the Ancillary Use Areas.
(k) Any administrative or "overhead" fee or charge in connection with
the maintenance, repair, or operation of the Complex, provided
that Landlord may include within Landlord's Common Area Costs an
administrative fee equal to three (3%) of the total of such costs
(as limited pursuant to this Article VII).
(l) Any roof repair costs incurred by Landlord pursuant to Section
12.4 below.
ARTICLE VIII
TAXES
Section 8.1. Definition of Real Estate Taxes.
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Landlord shall, pay or cause to be paid all Real Estate Taxes (as
hereinafter defined) assessed or imposed upon the Complex which become due or
payable during the Lease Term. As used in this Section 8.1, the term Real Estate
Taxes shall mean and include all taxes (including, without limitation,
possessory interest taxes associated with the Retail Pavilion Parcel, the Ground
Lease, the Garage Lease, and any so-called value added tax), assessments
(including, without limitation, all assessments for public improvements or
benefits, whether or not commenced or completed prior to the date hereof and
whether or not to be completed within the term of this Lease), fees, levies,
water and sewer rents, rates and charges, vault license fees or rentals, license
and permit fees and other governmental charges of any kind or nature whatsoever,
general and special, ordinary and extraordinary, foreseen and unforeseen, or
hereinafter levied or assessed in lieu of or in substitution of any of the
foregoing which are or may be at any time or from time to time during the term
of the Ground Lease levied, charged, assessed or imposed upon or against Retail
Pavilion Parcel or any buildings or improvements which are now or hereafter
located thereon, or against any of Landlord's personal property now or hereafter
located thereon, or which may be levied, charged, assessed or imposed upon or
against the leasehold estate created by the Ground Lease and the Garage Lease or
which may be imposed upon any taxable interest of Landlord acquired pursuant to
the Ground Lease and the Garage Lease on account of any taxable possessory right
which Landlord may have acquired pursuant to the Ground Lease and the Garage
Lease (including any amounts due pursuant to California Health and Safety Code
Section 33673), any ad valorem taxes, privilege taxes, or other taxes or
assessments payable by Landlord pursuant to the Ground Lease (including any
amounts payable to the Agency pursuant to Section 404 of the Ground Lease) and
the Garage Lease, and including any fines, penalties, interest or costs which
may be added by the collecting authority for the late payment or nonpayment of
any taxes required to be paid by Landlord under the Ground Lease and the Garage
Lease, and all costs, expenses and attorneys' fees incurred by Landlord in
contenting or negotiating with public authorities (Landlord having the sole
authority to conduct such a contest or enter into such negotiations) as to any
of the same, but shall not include taxes on Tenant's business in the Premises,
machinery, equipment, inventory or other personal property or assets of Tenant,
Tenant agreeing to pay, before delinquency, all taxes upon or attributable to
such excluded items without apportionment. Tenant, at its sole cost and expense
(including, without limitation, the payment of any resulting late charges and/or
penalties) may initiate and process any and all appropriate legal actions and
appeals to contest or seek a reduction of any Real Estate Taxes, provided that
Tenant has, prior thereto, given thirty days written notice to Landlord and
Landlord has failed to pursue such contest itself.
Section 8.2. Tenant's Share of Real Estate Taxes.
Tenant shall pay to Landlord, as Additional Rent, its Proportionate
Share of all Real Estate Taxes upon the Complex which become due or payable
during the Lease Term, such Proportionate Share to be prorated for periods at
the beginning and end of the Lease Term which do not constitute full calendar
months or years.
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Section 8.3. Payment by Tenant.
Tenant's proportionate share of Real Estate Taxes shall be paid in
monthly installments commencing with the Commencement Date, in amounts initially
estimated by Landlord, one (1) such installment being due on the first day of
each full or partial month of each full or partial calendar year during the
Lease Term. Such monthly installments shall increase or decrease upon notice
from Landlord given after the actual or anticipated amounts of Real Estate Taxes
due or payable in a particular calendar year are determined. Following the close
of each full or partial calendar year during the Lease Term, the actual amount
of Real Estate Taxes due or payable shall be computed by Landlord and any excess
paid by Tenant during each calendar year over the actual amount Tenant is
obligated to pay hereunder shall be credited to Tenant, and within 30 days after
written notice from Landlord, any deficiency owed shall be paid by Tenant.
Section 8.4. Other Taxes.
Tenant's proportionate share of any governmental tax or charge (other
than income tax) levied, assessed, or imposed on account of the payment by
Tenant or receipt by Landlord, or based in whole or in part upon, the rents in
this Lease reserved or upon the Complex or Retail Pavilion Parcel or the value
thereof shall be paid by Tenant.
Section 8.5. Separate Tax Bill.
Notwithstanding the foregoing, Landlord will attempt to cause the
relevant taxing authorities to treat the Premises as a separate tax parcel or
otherwise to issue a separate tax bill with respect to the Premises. If such
efforts are successful, Tenant shall be obligated to pay such separate tax bill
with respect to the Premises prior to delinquency, and Tenant shall not be
obligated to pay its Proportionate Share of Landlord's tax bill with respect to
the Complex, except that Tenant shall continue to be responsible for its
Proportionate Share of any Real Estate Taxes with respect to the Common Areas.
Tenant's failure to pay its separate Real Estate Tax bill shall be a default by
Tenant under this Lease, and Tenant shall give Landlord prompt notice of such
failure and Landlord shall thereafter have the right to pay such Real Estate Tax
bill on behalf of Tenant and Tenant shall be obligated to reimburse Landlord for
such payment as Additional Rent.
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ARTICLE IX
PARKING, COMMON AREAS AND FACILITIES
Section 9.1. Common Areas.
All parking areas, access roads and facilities furnished, made available
or maintained by Landlord in or near the Complex, whether or not leased or
controlled by Landlord, including but not limited to truck ways, driveways,
loading docks and areas, delivery areas, the Public Garage, other multi-story
parking facilities (if any), package pickup stations, elevators, escalators,
pedestrian sidewalks, courts and ramps, plazas, the Paseo Mall, other malls,
sidewalks, landscaped areas, retaining walls, stairways, bus stops, first-aid
and comfort stations, lighting facilities, sanitary systems, utility lines, and
other areas and improvements provided by Landlord for the general use in common
of tenants of the Complex, and their customers (all herein called "Common
Areas") (but excluding any such areas which are beyond the scope of Landlord's
responsibility pursuant to either the Ground Lease or the Public Garage Lease)
shall at all times be subject to the exclusive control and management of
Landlord, and Landlord shall have the right, from time to time, to establish,
modify and enforce reasonable rules and regulations with respect to all Common
Areas. Tenant agrees to comply with all rules and regulations set forth in
Exhibit E attached hereto and all reasonable amendments thereto, provided that
Landlord enforces such rules and regulations against all tenants of the Complex
in a consistent and nondiscriminatory manner.
Subject to the restrictions set forth in Article I above and in the
Non-Disturbance Agreement, Landlord and the Agency, shall have the right from
time to time to: change or modify and add to or subtract from the sizes,
locations, shapes and arrangements of parking areas, entrances, exits, parking
aisle alignments and other Common Areas; restrict parking by Tenant's employees
to designated areas, construct surface, subsurface or elevated parking areas and
facilities; establish and from time to time change the level of parking
surfaces; enforce parking or otherwise) with, appropriate provisions for ticket
validating; add to or subtract from the buildings in the Complex; and do and
perform such other acts in and to said Common Areas as Landlord in its sole
discretion, reasonably applied, deems advisable for the use thereof by tenants
and their customers.
Section 9.2. Use of Common Areas.
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Tenant and its business invitees, employees and customers shall have the
nonexclusive right, in common with Landlord and those who own or control
portions of the Common Areas not owned, leased or controlled by Landlord and all
others to whom Landlord and those who own or control portions of the Common
Areas not owned, leased or controlled by Landlord have granted or may hereafter
grant rights, to use the Common Areas subject to such reasonable regulations as
Landlord and those who own or control portions of the Common Areas not owned,
leased or controlled by Landlord may from time to time impose and the rights of
Landlord set forth above. Tenant shall abide by all rules and regulations and
cause its concessionaires, officers, employees, agents, customers and invitees
to abide thereby. Subject to the restrictions set forth in Article I above and
in the Non-Disturbance Agreement, Landlord and the Agency may at any time close
temporarily any Common Areas to make repairs or changes, prevent the acquisition
of public rights therein, discourage noncustomer parking, or for other
reasonable purposes. Tenant shall not interfere with Landlord's or those who own
or control portions of the Common Areas not owned, leased or controlled by
Landlord or other tenants' rights to use any part of the Common Areas.
Section 9.3. Public Garage.
The Public Garage is for the general use of the public on a fee basis in
connection with the Complex and shall be operated on a continuous basis by
Landlord as a public parking facility. To the extent that parking in the Public
Garage is made available for the non-exclusive use of the Complex and their
respective employees and customers, the Public Garage shall be considered a part
of the Common Areas. In addition to that portion of the Public Garage which is
included within the Premises (as set forth in Section 2.1(a) above), Tenant
shall be allocated 109 spaces within the Public Garage which shall be reserved,
at Tenant's option, for Tenant's employees and customers. Tenant shall be
charged at market rates for any spaces which it elects to use. Landlord reserves
the right to shift up to 23 of such spaces reserved for Tenant's employees and
customers to an off-site location near the complex to be designated by Landlord
ARTICLE X
COST AND MAINTENANCE OF COMMON AREAS
Section 10.1. Expense of Operating and Maintaining the Complex.
In accordance with the standards set forth in the Ground Lease and the
Public Garage Lease, Landlord shall operate, manage, maintain and repair or
cause to be operated, managed, maintained or repaired, the Common Areas.
"Landlord's Common Area Costs" shall mean all costs of operating and maintaining
the Common Areas in a manner deemed by Landlord appropriate for the best
interests of tenants and other occupants in the Complex, less contributions, if
any, to Landlord's Common Area Costs received by Landlord from the owners or
ground lessees of adjacent and nearby properties. Included among the costs and
expenses which constitute Landlord's Common Area Costs, but subject to the
limitations set forth in Article VII above, but not limited thereto, shall be,
at the option of Landlord, all Landlord's costs and expenses of protecting,
operating, managing, repairing, repaving, lighting, cleaning, painting,
striping, insuring (including but not limited to fire, earthquake and extended
coverage insurance on the Common Areas, insurance protecting Landlord against
liability for personal injury, death and property damage, workers compensation
insurance, and any other insurance which may be
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required by the Ground Lessor), removing of snow, ice and debris, police
protection, security and security patrol, fire protection, regulating traffic,
inspecting, repairing and maintaining of machinery and equipment used in the
operation of the Common Areas, depreciation of machinery and equipment, cost and
expense of inspecting, maintaining, repairing and replacing storm and sanitary
drainage systems, sprinkler and other fire protection systems, electrical, gas,
water, telephone and irrigation system, and expense of installing, maintaining
and repairing burglar and fire alarm systems on Retail Pavilion Parcel, if
installed, cost and expense of landscaping and shrubbery, expenses of utilities
and other services, sums paid by Landlord to other persons or entities a
reimbursement towards the cost of operating, maintaining and repairing those
portions, if any, of the Complex not owned or controlled by Landlord.
Section 10.2. Tenant to Bear Proportionate Share of Expenses.
Subject to the limitations set forth in Article VII above, Tenant will
pay Landlord, in addition to all other amounts in this Lease provided, as
Additional Rent, its Proportionate Share of Landlord's Common Area Costs for
each calendar year during the Lease Term.
Tenant's share of Landlord's Common Area Costs shall be paid in monthly
installments in amounts as reasonably estimated from time to time by Landlord,
one (1) such installment being due on the first day of each month of each
calendar year. After the end of each calendar year, the total Landlord's Common
Area Costs for such year (and at the and of the Lease Term, the total Landlord's
Common Area Costs for the period since the end of the immediately next preceding
calendar year) shall be determined by Landlord and Tenant's share paid for such
period shall immediately, upon such determination, be adjusted by credit of any
excess or payment of any deficiency.
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ARTICLE XI
UTILITIES AND SERVICES
Section 11.1. Utilities.
Landlord and Tenant acknowledge that Tenant's business requires unusual
demands with respect to the magnitude and reliability of the utility facilities
serving the Premises and, for that reason, Tenant's Work includes substantial
upgrades and redundancies in the utility facilities and systems which are
presently in the Complex. Landlord shall have no responsibility for and shall
make no warranty concerning the sufficiency or reliability of the utility
facilities and systems which are planned and installed as part of Tenant's Work
and Landlord makes no warranty that the utility services and utility lines which
enter the Complex are adequate for Tenant's purposes. Furthermore, Landlord
shall have no liability for any interruption or failure of any utility
facilities, whether such failure occurs within or outside of the Complex, unless
such failure is a result of (a) grossly negligent or willful act or omission of
Landlord, its agents, employees, consultants, and/or contractors, or (b)
Landlord's breach of its obligations under this Lease. Tenant shall be solely
responsible for and shall promptly pay when due all charges for use or
consumption of water, gas, electricity, sewer, air-conditioning, telephone and
all other public or private services and utilities of whatever kind furnished or
supplied to or used by Tenant or any party in connection with the use,
occupancy, maintenance, or operation of the Premises, and shall comply with all
contracts relating to such services and shall do all other things necessary and
required for the maintenance and continuance of such services.
Section 11.2. HVAC Systems Serving Premises.
Tenant, as part of Tenant's Work, shall install heating, ventilating and
air conditioning ("HVAC") systems serving the Premises. Landlord shall have no
responsibility for and shall make no warranty concerning the sufficiency or
reliability of such HVAC systems, and Landlord shall have no liability for any
interruption or failure of such HVAC systems unless such failure is a result of
(a) the grossly negligent or willful act or omission of Landlord, its agents,
employees, consultants, and/or contractors, or (b) Landlord's breach of its
obligations under this Lease.
ARTICLE XII
CONDUCT OF BUSINESS BY TENANT
Section 12.1. Use of Premises.
The Premises shall be occupied and used by Tenant solely for the purpose
of conducting therein the business of internet communications and/or for any
other purpose permitted by zoning codes and by the Agency pursuant to the Ground
Lease, provided that in no event shall the Premises be used for industrial or
residential purposes.
Section 12.2. Operation by Tenant.
Without limitation, Tenant covenants and agrees to the following:
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A. Tenant will not place or maintain any vending machines in any entry
of the Premises, outside the Premises or in the Common Area;
B. Tenant will not permit undue accumulations of garbage, trash,
rubbish, or other refuse and will store garbage, trash, rubbish and other refuse
in rat-proof and insect-proof containers inside the Premises, and remove the
same frequently and regularly and, if directed by Landlord, by such means and
methods and at such times and intervals as are designated by Landlord, all at
Tenant's cost;
C. Tenant will not permit any sound system which is audible outside the
Premises, nor use or permit the use of any objectionable advertising medium such
as, without limitation, loudspeakers, phonographs, public address systems, sound
amplifiers, radio or broadcast within the improvements in such manner that any
sounds reproduced, transmitted or produced shall be directed primarily beyond
the interior of the Premises, and will keep all mechanical apparatus free of
objectionable vibration and noise which may be transmitted beyond the interior
of the Premises;
D. Tenant will keep all mechanical equipment in good working order and
condition;
E. Tenant will not commit or suffer waste in, on or about the Premises,
the Complex or the Common Areas;
F. Tenant will not permit or cause odors to emanate or be dispelled from
the Premises;
G. Tenant will not create, cause, maintain or permit any nuisance in, or
about the Premises, the Complex, or the Common Areas;
H. Tenant will not solicit business in the Common Areas nor distribute
advertising matter to, in or upon any Common Areas;
I. Tenant will not permit the loading or unloading or the parking or
standing of delivery vehicles outside any area designated therefor, nor permit
any use of vehicles which will interfere with the use of any Common Areas;
J. Subject to the limitations set forth in Section 12.5 below, Tenant
will comply with all laws, recommendations, ordinances, rules and regulations of
governmental, public, private and other authorities and agencies, including
those with authority over insurance rates, with respect to the use or occupancy
of the Premises;
K. Tenant will not permit any noxious, toxic or corrosive fuel (other
than diesel fuel for Tenant's generators) or gas, dust, dirt or fly ash in the
Premises;
L. Tenant will not place a load on any floor in the Complex which
exceeds the floor load per square foot which such floor was designed to carry;
M. Tenant will not operate any fast food business open to the public on
the Premises;
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Section 12.3. Painting, Decorating, Displays, Alterations.
Tenant will not paint, decorate or change the architectural treatment of
any part of the exterior of the Premises nor any part of the interior of the
Premises visible from the exterior nor make any structural alterations,
additions or changes in the Premises which cost in excess of Fifty Thousand
Dollars ($50,000) without Landlord's written approval thereto, and will promptly
remove any paint, decoration, alteration, addition or changes, including
graffiti, applied or installed without Landlord's approval and restore the
Premises to an acceptable condition or take such other action with respect
thereto as Landlord directs.
Section 12.4 Telecommunications Rights and Rooftop Equipment.
Tenant shall have the right to install and maintain, at its expense,
telecommunication and other communications antenna, equipment and fixtures,
HVAC, mechanical, electrical, and other equipment on the roof of the Complex
subject to Landlord and Agency approval. The aforesaid items shall be located
within the Tenant Penthouse Area, the Tenant HVAC Area, and the Tenant Antennae
Area as appropriate (collectively the "Tenant Roof Areas"). Tenant shall, at its
expense, maintain that portion of the roof upon which the Tenant Roof Areas are
located as well as an equitably allocated portion of those areas of the roof
providing access to those areas. The cost of any replacement of the roof
membrane shall be allocated among Tenant and the other tenants in the Complex
based on the ratio between the Tenant Roof Areas (which shall be Tenant's
responsibility) and the other areas of the roof (which shall be the collective
responsibility of the other Tenants of the Complex) Landlord shall be obligated
to maintain all other portions of the roof of the Complex. All equipment located
within the Tenant Roof Area shall be subject to noise limits and visual
screening requirements to be imposed by the City and/or Agency in connection
with the City Approvals, and Tenant shall bear the full cost of compliance with
such requirements. As long as telecommunications equipment on the roof of the
Complex is used within the course of Tenant's normal business, there shall be no
rental charge for such placement on the roof, but Tenant shall have the
obligation to maintain that portion of the roof located within the Tenant Roof
Area. Tenant shall also have the right to distribute telecommunications services
within the Complex at Tenant's expense, so long as this distribution does not
interfere with the normal course of the business of the other tenants of the
Complex and does not affect any leaseable space.
Section 12.5. Compliance with Laws.
Tenant shall, at its sole costs and expense, comply with and shall cause
any operators licensees, co-locators and concessionaires to comply with:
(a) All federal, state, county, municipal and other governmental
statutes, laws, rules, orders, regulations and ordinances (herein sometimes
collectively referred to as "Law") affecting the Complex or any part thereof, or
the use thereof, including those which require the making of any structural,
unforeseen or extraordinary changes, whether or not any such statutes, laws,
rules, orders, regulations or ordinances which may be hereafter enacted were
within the
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contemplation of the parties at the time of execution of this Lease, or involve
a change of policy on the part of the governmental body enacting the same; and
(b) All rules, orders and regulations of the National Board of
Fire Underwriters or other bodies exercising similar functions in connection
with the prevention of fire or the correction of hazardous conditions which
apply to the Complex; and
(c) Each and every standard requirement of all policies of public
liability, fire and other insurance which at any time may be in force with
respect to the Complex, provided that such requirements do not materially
interfere with Tenant's use of the Premises.
Section 12.6. Non-Discrimination.
The Tenant herein covenants by and for itself, its heirs, executors,
administrators and assigns, and all persons claiming under or through it, and
this Lease is made and accepted upon and subject to the following conditions:
That there shall be no discrimination against or segregation of any person or
group of persons on account of race, color, creed, religion, sex, sexual
orientation, age, handicap, marital status, ancestry or national origin in the
leasing, subleasing, transferring, use, occupancy, tenure or enjoyment of the
Premises herein leased, nor shall Tenant itself, or any person claiming under or
through it, establish or permit any such practice or practices of discrimination
or segregation with reference to the selection, location, number, use or
occupancy of tenants, lessees, subtenants, sublessees or vendees in the Premises
herein leased.
ARTICLE XIII
MAINTENANCE OF LEASED PREMISES
Section 13.l. Maintenance by Landlord.
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Landlord shall keep or cause to be kept the foundations (except for
foundation upgrades which are constructed by Tenant as part of Tenant's Work
which shall be Tenant's obligation to maintain), roof (except for the Tenant
Roof Areas which shall be maintained by Tenant pursuant to Section 12.4 hereof)
and structural portions of the walls of the Premises (except such structural
portions which are constructed by Tenant as part of Tenant's Work which shall be
Tenant's obligation to maintain) in good order, repair and condition and neat,
clean, orderly, sanitary and safe (including but not limited to doing such
things as are necessary to cause the Complex to comply with applicable laws,
ordinances, rules, regulations and orders of governmental and public bodies and
agencies) to ensure that the Complex is maintained in a first class manner as is
appropriate in a first-class pedestrian-oriented retail shopping and office
environment. If replacement of equipment, fixtures and appurtenances thereto is
necessary (other than replacement of equipment or systems which are originally
installed as part of Tenant's work, which shall be Tenant's Responsibility),
Landlord shall replace the same with new or completely reconditioned equipment,
fixtures and appurtenances, and repair all damage done in or by such
replacement. Landlord shall carry out its required maintenance and repair at
such times as are necessary and prudent in order to maintain the Complex in a
first class condition and otherwise in accordance with the requirements and
standards of the Ground Lease and the Public Garage Lease. Landlord's obligation
to maintain and repair is not conditioned upon receiving any notice from Tenant;
provided, however, in the event an item of maintenance or repair is required,
Tenant may (but is not obligated) to provide notice to Landlord of the same and,
except in the case of any emergency, Landlord shall carry out the item of
maintenance or repair within ten (10) days of Tenant's notice. This Section 13.1
shall not apply in case of damage or destruction by fire or other casualty or
condemnation or eminent domain, in which events the obligations of Landlord
shall be controlled by Article XIX and XX. Except as provided in this Section
13.1, Landlord shall not be obligated to make repairs, replacements or
improvements of any kind upon the Premises, or to any equipment, merchandise,
stock in trade, facilities or fixtures therein, all of which shall be Tenant's
responsibility, but Tenant shall give Landlord prompt written notice of any
accident, casualty, damage or other similar occurrence in or to the Premises or
the Common Areas of which Tenant has knowledge. As a part of the consideration
for the rental of the Premises, Tenant hereby waives any provisions of law,
including but not limited to California Civil Code Sections 1941 and 1942, which
permit the Tenant to make repairs at the Landlord's expense.
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Section 13.2. Maintenance by Tenant.
Tenant shall at all times keep the Premises (including all entrances and
vestibules) and all partitions, window and window frames and moldings, glass,
store fronts, doors, door openers, fixtures, equipment and appurtenances thereof
(including lighting, heating, electrical, plumbing, ventilating and air
conditioning fixtures and systems and other mechanical equipment and
appurtenances) and all parts of the Premises, and parts of Tenant's Work not on
the Premises including the Tenant Roof Area and the loading dock reserved for
Tenant's exclusive use, not required herein to be maintained by Landlord, in
good order, condition and repair and neat, clean, orderly, sanitary and safe
(including but not limited to doing such things as are necessary to cause the
Premises to comply with applicable laws, ordinances, rules, regulations and
orders of governmental and public bodies and agencies) to ensure that the
Premises is maintained in a first class manner as is appropriate in a
first-class pedestrian-oriented retail shopping and office environment. If
replacement of equipment, fixtures and appurtenances thereto is necessary,
Tenant shall replace the same with new or completely reconditioned equipment,
fixtures and appurtenances, and repair all damages done in or by such
replacement. Subject to the limitations set forth in Section 4.5 above, if
Tenant fails to perform its obligations hereunder, Landlord without notice may,
but shall not be obligated to, perform Tenant's obligations or perform work
resulting from Tenant's acts, actions or omissions and the cost of the same
shall be deemed additional rent at the time of the next installment of Fixed
Rent due hereunder; provided, however, in no event shall Landlord be entitled to
perform work on the Tenant's equipment, components or fixtures.
Section 13.3. Surrender of Premises.
At the expiration of the Lease Term, or earlier termination of the
Lease, Tenant shall surrender the Premises in good condition, reasonable wear
and tear and damage by unavoidable casualty excepted, and deliver all keys for,
and all combinations on locks, safes and vaults in, the Premises to Landlord's
notice address as specified in Section 28.7 or, at Landlord's option, to the
office of the Complex's general manager. At the expiration of the Lease Term or
upon any other termination of this Lease, Tenant shall be entitled to remove
from the Premises and the Complex all or any portion of Tenant's equipment,
fixtures and components utilized in Tenant's co-location and telecommunications
business, provided that Tenant restores any damage to the Premises caused by
such removal. Unless Landlord consents thereto in its sole and absolute
discretion, Tenant shall not be permitted to remove any other portions of the
Tenant's Improvements or Basic Building Construction, including, without
limitation, HVAC systems, generators, and electrical distribution systems.
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ARTICLE XIV
ALTERATIONS
Section 14.1. Removal and Restoration by Tenant.
The following paragraph shall apply only following the initial
completion of Tenant's Work, which is governed by Article VI. Tenant shall give
Landlord at least fifteen (15) days written notice before commencing
construction of any alterations, changes, or additions to the Premises. Without
Landlord's prior written consent (which consent shall not be unreasonably
withheld), Tenant shall not make any alterations, changes or additions which (a)
are structural or affect any Complex utilities or systems (whether or not
affecting other tenants), (b) affect the exterior of the Complex, (c) require
the approval of the Agency pursuant to the Ground Lease and/or Public Garage
Lease, or (d) which are not in categories (a), (b), or (c) above but which cost,
in the aggregate, more than $500,000 at any one time. All alterations, changes
and additions and all improvements, including leasehold improvements, made by
Tenant, or made by Landlord on Tenant's behalf, whether part of Tenant's Work or
not and whether or not paid for wholly or in part by Landlord, shall remain
Tenant's property for the Lease Term. Any alterations, changes, additions and
improvements shall immediately upon the termination of this Lease become
Landlord's property, be considered part of the Premises. If Tenant fails to
remove any shelving, decorations, equipment, trade fixtures or personal property
from the Premises prior to the end of the Lease Term, they shall, at Landlord's
option, become Landlord's property. Tenant shall pay for the removal of such
property from the Premises and Tenant shall repair or pay for the repair of any
damage done to the Premises resulting from removing same.
Section 14.2. Tenant's Liens.
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A. Tenant shall not create or permit or suffer to be created or to
remain, and will discharge, any lien (including, but not limited to, the liens
of mechanics, laborers, materialmen, suppliers or vendors for work or materials
alleged to be done or furnished in connection with the Complex), encumbrance or
other charge upon the Complex, or any part thereof, or upon Tenant's leasehold
interest therein. If any such lien shall at any time be filed as aforesaid,
Tenant may contest the same in good faith, but, notwithstanding such contest,
Tenant shall, within thirty (30) days after the filing thereof, cause such lien
to be released of record by payment, bond, order of a court of competent
jurisdiction, or otherwise and shall indemnify and hold Landlord and the Ground
Lessor harmless from any adverse effects resulting from such lien. In the event
of Tenant's failure to release of record any such lien within the aforesaid
period, Landlord may remove said lien by paying the full amount thereof or by
bonding or in any other manner Landlord deems appropriate, without investigating
the validity thereof, and irrespective of the fact that Tenant may contest the
propriety or the amount thereof, and Tenant, upon demand, shall pay Landlord the
amount so paid out by Landlord in connection with the discharge of said lien,
together with reasonable expenses incurred in connection therewith, including
reasonable attorneys' fees. Nothing contained in this Lease shall be construed
as a consent on the part of Landlord to subject Landlord's estate in the Retail
Pavilion Parcel to any lien or liability under the lien laws of the State of
California. Tenant shall provide to Landlord at least ten (10) days written
notice prior to the start of any construction, which notice is to provide
Landlord the opportunity to enter upon the Premises to post a "Notice of
Nonresponsibility" pursuant to California Civil Code Section 3094.
B. Except as expressly provided in Article VI hereof, nothing in this
Lease shall be construed as constituting the consent of Landlord (to the extent
otherwise required pursuant to Section 14.1 above), expressed or implied, to the
performance of any labor or the furnishings of any materials or any specific
improvements, alterations of or repairs to the Premises, the Complex, or any
part thereof, by any contractor, subcontractor, laborer or materialman, nor as
giving Tenant or any other person any right, power or authority to act as agent
of or to contract for, or permit the rendering of, any services or the
furnishing of any materials in such manner as would give rise to the filing of
mechanics' liens or other claims against the Complex. Landlord and the Ground
Lessor shall have the right at all reasonable times to post, and keep posted, on
the Premises any notices which Landlord or the Ground Lessor may deem necessary
for the protection of Landlord or the Ground Lessor and of the Complex from
mechanics' liens or other claims. In addition, Tenant shall make, or cause to be
made, prompt payment of all monies due and legally owing to all persons doing
any work or furnishing any materials or supplies to Tenant or any of its
contractors or subcontractors in connection with the Complex.
C. Except as expressly provided in Section 16.5 hereof, Tenant shall not
create or suffer to be created a mortgage, security interest or other lien
against the Premises, Tenant's interest in the Premises, any improvements,
additions or other construction made by Tenant in or to the Premises or against
any equipment or fixtures installed by Tenant therein (other than Tenant's
property), and should any security interest be created in breach of the
foregoing, Landlord shall be entitled to discharge the same by exercising the
rights and remedies afforded it under the penultimate sentence of paragraph A of
this Section.
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Section 14.3. Signs, Awnings and Canopies.
Tenant will not place or permit on any exterior door or window or any
wall of the Premises or as otherwise may be visible from outside the Premises,
any sign, awning, canopy, advertising matter, decoration, lettering or other
thing of any kind without Landlord's written consent which shall not be
unreasonably withheld. All signs must additionally comply with applicable City
of San Jose ordinances and codes and must conform to the Sign Guidelines
contained within Exhibit C attached hereto and incorporated herein, and any
future amendments thereto.
ARTICLE XV
INSURANCE
Section 15.1. By Landlord.
A. Landlord shall carry public liability insurance on those portions of
the Common Areas included in and around the Complex, including coverage for any
accident resulting in personal injury, bodily injury or death of any person and
consequential damages arising therefrom, including comprehensive property damage
insurance, in an amount of not less than three million dollars ($3,000,000)
combined single-limit coverage with respect to personal or bodily injury or
death to any one or more persons and with respect to damage to property, or such
other amount an may be agreed by Landlord and Ground Lessor pursuant to the
Ground Lease or as may be required by the holder of any mortgage on the Complex.
Tenant shall be named as an additional insured on Landlord's public liability
policy with respect to the Common Areas only.
B. Landlord shall also carry insurance for fire, extended coverage,
vandalism, malicious mischief and other endorsements required by Ground Lessor
and/or deemed advisable by Landlord, insuring all improvements comprising the
Complex, including the Premises and all leasehold improvements thereon and
appurtenances thereto (excluding Tenant's merchandise, trade fixtures,
furnishings, equipment, personal property and excluding plate glass) for the
full insurable value thereof but in no event less than the full replacement cost
thereof, with such deductibles as are allowed by the Ground Lease, such
insurance coverage to include improvements provided by Tenant as set forth in
Exhibit C as Tenant's Work (excluding wall coverings, floor covering, carpeting
and drapes) and Landlord's Work as defined in Exhibit C. Tenant shall be named
as a loss payee with respect to such insurance coverage as respects those
portions of Tenant's Work set forth in the preceding sentence.
C. Landlord shall carry Business Interruption Insurance as required by
Ground Lessor and all other insurance now or in the future required by Ground
Lessor.
D. Tenant agrees to pay Landlord, as Additional Rent, its Proportionate
Share of the cost of the premiums for such insurance described above in this
Section 15.1.
Section 15.2. By Tenant.
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A. Tenant agrees to carry public liability insurance on the Premises
during the Lease Term, covering the Tenant and naming the Landlord, the Ground
Lessor, the Agency, and the City of San Jose as additional named insureds with
terms and companies satisfactory to Landlord, for limits of not less than Five
Million Dollars ($5,000,000.00) per occurrence combined single limit. Tenant's
insurance will include contractual liability coverage recognizing this Lease,
products and/or completed operations liability and providing that Landlord and
Tenant shall be given a minimum of thirty (30) days written notice by the
insurance company prior to cancellation, termination or change in such
insurance. Tenant also agrees to carry insurance against fire and such other
risks as are from time to time included in standard Fire and Extended Coverage
insurance, for the full insurable value, covering all of Tenant's merchandise,
trade fixtures, furnishing, wall covering, floor covering, carpeting, drapes,
equipment and all items of personal property of Tenant located on or within the
Premises. Tenant shall provide Landlord with certificates or, at Landlord's
request, copies of the policies, evidencing that such insurance is in full force
and effect and stating the terms thereof. Subject to Section 15.3 below, the
minimum limits of the comprehensive general liability policy of insurance shall
in no way limit or diminish Tenant's liability under Section 15.6 hereof. Within
thirty (30) days after demand therefore by Landlord, Tenant shall furnish
Landlord with evidence that it has complied with such demand.
B. If Tenant uses, stores, handles, processes or disposes of hazardous
materials, then Tenant shall maintain in full force and effect through the Term
of this Lease and or any renewal thereof, environmental impairment liability
insurance with limits of not less than $1,000,000, providing coverage for bodily
injury, property damage or injury or damage of actual, alleged or threatened
emission, hazardous materials, discharge, dispersal, seepage, release or escape
of including any loss, cost or expense incurred as a result of any cleanup of
hazardous materials or in the investigation, settlement or defense of any claim,
suit, or proceedings against the property owner or management company arising
from the Tenant's use, storage, handling, processing or disposal of hazardous
materials.
C. Before any alterations, additions, improvements or construction may
be undertaken by or on behalf of Tenant, Tenant shall require any contractor
performing work on the Premises to obtain, carry and maintain, at no expense to
Landlord: (i) worker's compensation insurance and employer's liability as
required by the jurisdiction in which the Complex is located; (ii) builder's
risk insurance with a deductible no greater than Ten Thousand Dollars ($10,000),
in the amount of the full replacement cost of the Tenant's Work and (iii)
Commercial General Liability Insurance providing on an occurrence basis a
minimum combined single limit of One Million Dollars ($1,000,000) per occurrence
(and Two Million Dollars ($2,000,000) general aggregate, if applicable). If the
contractor fails or is unable to acquire the above-mentioned insurance, Tenant
shall provide such insurance (except worker's compensation insurance and
employer's liability) at its sole cost and expense.
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Section 15.3. Mutual Waiver of Subrogation Rights.
Landlord and Tenant and all parties claiming under them mutually release
and discharge each other from all claims and liabilities arising from or caused
by any casualty or hazard covered or required hereunder to be covered in whole
or in part by insurance in the Complex or in connection with property on or
activities conducted on the Premises, and waive any right of subrogation which
might otherwise exist in or accrue to any person on account thereof, provided
that such release shall not operate in any case where the effect is to
invalidate or increase the cost of such insurance coverage (provided, that in
the case of increased cost, the other party shall have the right, within (30)
days following written notice, to pay such increased cost, thereby keeping such
release and waiver in full force and affect).
Section 15.4. Waiver.
Landlord, its agents and employees, shall not be liable for, and Tenant
waives all claims for, damage, including but not limited to consequential
damages, to person, property or otherwise, sustained by Tenant or any person
claiming through Tenant resulting from any accident or occurrence in or upon any
part of the Complex including, but not limited to, claims for damage resulting
from: (a) any equipment or appurtenances which become out of repair; (b)
Landlord's failure to keep any part of the Complex or Common Areas outside of
the Complex in repair; (c) injury done or caused by wind, water, or other
natural elements (d) any defect in or failure of plumbing, heating or air
conditioning equipment, electrical wiring or installation thereof, gas, water,
and steam pipes, stairs, porches, railings or walks; (e) broken glass; (f) the
backing up of any sewer pipe or downspout; (g) the bursting, leaking or running
of any tank, tub, washstand, water closet, waste pipe, drain or any other pipe
or tank in, upon or about the Premises; (h) the escape of steam or hot water;
(i) water, snow or ice upon the Premises; (j) the falling of any fixture,
plaster or stuccos (k) damage to or loss by theft or otherwise of property of
Tenant or others; (1) acts or omissions of persons in the Premises, other
tenants in the Complex, occupants of nearby properties, or any other persons;
and (m) any act or omission of owners of adjacent or contiguous property, or of
Landlord, its agents or employees. All property of Tenant kept in the Premises
shall be so kept at Tenant's risk only and Tenant shall save Landlord harmless
from claims arising out of damage to the same, including subrogation claims by
Tenant's insurance carrier. Notwithstanding anything to the contrary in this
Lease, but subject to Section 15.3, nothing in this Lease shall be construed as
a waiver or release of any claims which Tenant may have against Landlord as a
result of the negligent or willful act or omission of Landlord, its agents,
employees, consultants, and/or contractors.
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Section 15.5. Insurance - Tenant's Operation.
Tenant will not do or suffer to be done anything which will contravene
Landlord's insurance policies or prevent Landlord from procuring such policies
in amount and companies selected by Landlord. If anything done, omitted to be
done or suffered to be done by Tenant in, upon or about the Premises shall cause
the rates of any insurance effected or carried by Landlord on the Premises or
other property to be increased beyond the regular rate from time to time
applicable to the Premises for use for the purpose permitted under this Lease,
or such other property for the use or uses made thereof, Tenant will pay the
amount of such increase promptly upon Landlord's demand and Landlord shall have
the right to correct any such condition at Tenant's expense. In the event that
this Lease so permits and Tenant engages in the preparation of food or packaged
foods or engages in the use, sale or storage of inflammable or combustible
material, Tenant shall install chemical extinguishing devices (such as ansul)
approved by Underwriters Laboratories and Factory Mutual Insurance Company and
the installation thereof must be approved by the appropriate local authority.
Tenant shall keep such devices under service as required by such organizations.
If gas is used in the Premises, Tenant shall install gas cut-off devices (manual
and automatic).
Section 15.6. Hold Harmless and Indemnification.
Tenant shall indemnify and hold Landlord, the Ground Lessor, the Agency
and the City of San Jose and their respective officers, agents and employees
harmless from and against all liabilities, obligations, damages, penalties,
claims, costs, charges and expenses, including reasonable architects' and
attorneys' fees (collectively referred to in this Section 15.6 as "claim") which
may be imposed upon or incurred by or asserted against the Agency, Landlord, the
Ground Lessor or the City of San Jose or their respective officers, agents and
employees by reason of any of the following occurrences during the term of this
Lease arising out of Tenant's operations; provided, however, that Tenant shall
have no obligation to indemnify and hold Landlord, the Agency, the Ground Lessor
or the City of San Jose, respectively, and their respective officers, agents and
employees, harmless from and against any matter to the extent it arises from the
gross negligence or willful act of Landlord, the Agency, the Ground Lessor or
the City of San Jose, respectively, or their respective officers, agents or
employees or from Landlord's breach of this Lease or from conduct resulting in
an award of punitive damages against Landlord, the Agency, the Ground Lessor or
City of San Jose, respectively:
(a) Any work or thing done in, on or about the Premises and the
improvements thereon or construction of any improvements by or at the direction
of Tenant; or
(b) Any use, non-use, possession, occupation, condition
operation, maintenance or management of the Premises or any part thereof by or
at the direction of Tenant; or
(c) Subject to Section 15.3, any negligence on the part of Tenant
or any of its agents, contractors, servants, employees, subtenants, operators,
licensees or invitees; or
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(d) Subject to Section 15.3, any accident, injury or damage to
any person or property occurring in, on or about the Promises or any part
thereof; or
(e) Any failure on the part of Tenant to perform or comply with
any of the terms, provisions, covenants and conditions contained in this Lease
on its part to be performed or complied with on its part.
In case any action or proceeding is brought against Landlord, the
Agency, the Ground Lessor or the City of San Jose or their respective officers,
agents and employees by reason of any such claim, Tenant, upon written notice
from Landlord, shall, at Tenant's expense, resist or defend such action or
proceeding by counsel selected by Tenant or Tenant's insurance carrier and
reasonably approved by Landlord, the Agency, the Ground Lessor, and/or the City
of San Jose, whichever such entities are named as parties to such action or
proceeding.
15.7 Landlord's Indemnity.
Landlord shall indemnify, defend and hold Tenant and its officers,
agents, and employees ("Indemnified Tenant Parties") harmless from and against
all liabilities, obligations, damages, penalties, claims, costs, charges, and
expenses including reasonable attorneys' fees (collectively, "Indemnity Claims")
which may be imposed upon or incurred by or asserted against any of the
Indemnified Tenant Parties by reason of the following occurrences:
(a) Any work or thing done in, on, or about the Complex by or at the
direction of Landlord;
(b) Any negligence on the part of Landlord or any of its agents,
contractors, employees, or consultants;
(c) Any failure on the part of Landlord to perform or comply with
any of the terms, provisions, covenants and conditions contained
in this Lease; and
(d) Any failure on the part of Landlord to perform or comply with
any of the terms, provisions, covenants and conditions contained
in the Ground Lease.
Notwithstanding the foregoing, Landlord shall have no obligation to
indemnify any of the Tenant Indemnified parties with respect to any matter to
the extent it arises from the negligence or willful act of any of the Tenant
Indemnified Parties or is the subject of Tenant's indemnity of Landlord pursuant
to Section 15.6 above.
In the case any Indemnity Claims are brought against any of the
Indemnified Tenant Parties, Landlord, upon written notice from Tenant, shall, at
Landlord's expense, resist or defend such Indemnity Claims by counsel selected
by Landlord and reasonably approved by Tenant.
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ARTICLE XVI
ESTOPPEL CERTIFICATE ATTORNMENT, SUBORDINATION
Section 16.1. Estoppel Certificate.
Within ten (10) days after the written request of either party, the
other party shall deliver, executed in recordable form, a declaration to any
person designated by the requesting party (a) ratifying this Lease; (b) stating
the commencement and termination dates; and (c) certifying (i) that this Lease
is in full force and effect and has not been assigned, modified, supplements or
amended (except by such writings as shall be stated), (ii) that all conditions
under this Lease to be performed by the other party have been satisfied (stating
exceptions, if any), (iii) that no defenses or offsets against the enforcement
of this Lease by the other party exist (or stating those claimed), (iv) as to
advance rent, if any, paid by Tenant, (v) the date to which Fixed Rent has been
paid, and (vi) such other information as the requesting party reasonably
requires. Persons receiving such statements shall be entitled to rely upon them.
Section 16.2. Attornment.
A. Except as is provided in subsection 16.2 (B) below, Tenant shall, in
the event of a sale or assignment of Landlord's interest in the Premises or the
building in which the Premises is located or this Lease or the Complex or the
Retail Pavilion Parcel, or if the Premises or such building comes into the hands
of a purchaser, mortgage, Ground Lessor or any other person thereinafter
referred to as "New Landlord") whether because of a mortgage foreclosure,
exercise of a power of sale under a mortgage, termination of the Ground Lease,
or otherwise, attorn to the New Landlord or other person and recognize the same
as Landlord hereunder and pay rent to such New Landlord from the date of such
attornment. Tenant shall execute, at Landlord's request, any attornment
agreement required to be executed by any New Landlord containing such provisions
as such New Landlord requires, provided that such attornment agreement does not
expand Tenant's obligations or diminish Tenant's rights under this Lease and
does not diminish the obligations of "Landlord" under this Lease, and the New
Landlord agrees to assume the obligations of the Landlord under this Lease. The
New Landlord shall only be responsible to Tenant for obligations arising
subsequent to the date of such attornment.
B. In the event the Ground Lease is terminated for any reason the terms
of the Non-Disturbance Agreement between the Agency and Tenant (as required
pursuant to Section 5.1 hereof) shall govern.
Section 16.3. Release of Landlord.
In the event of termination of the Ground Lease or sale, assignment,
transfer or conveyance by Landlord of Retail Pavilion Parcel or its rights
hereunder, the same shall operate to release Landlord from any future liability
upon any of the covenants or conditions of this Lease, expressed or implied, in
favor of Tenant arising from events occurring following the date of such
termination, sale, assignment, transfer, or conveyance, and in such event Tenant
agrees to look solely to the responsibility of the successor in interest of
Landlord in and to the Complex or this Lease.
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Section 16.4. Landlord's Option to Purchase.
Pursuant to the Ground Lease, Landlord holds an option to purchase the
complex from the Ground Lessor. In the event Landlord exercises such option and
becomes the fee owner of the Complex, this Lease shall remain in full force and
effect.
Section 16.5. Subordination.
A. Landlord Financing. Landlord represents that Landlord's interest in
the Complex, as on the Effective Date, is not encumbered by any financing and is
subject only to the exceptions set forth in the preliminary title report
attached hereto as Exhibit G.
Landlord shall have the right to secure future financing with
Landlord's interest in the Complex and, with respect to any such future
financing, Tenant agrees to execute an agreement in favor of such lender
(provided such lender has been approved by the Agency to the extent the Agency
has retained such approval right) subordinating Tenant's interest in the Complex
and providing for Tenant's attornment to such lender upon a foreclosure if, in
turn, such lender (a) agrees to not terminate this Lease provided Tenant is not
then in material default of its obligations hereunder and (b) the lender, or its
successors or assigns, assumes all obligations of Landlord under this Lease to
the extent the same arise on or after the date of foreclosure.
B. Tenant Financing. Tenant shall have the right from time to time
during the Lease Term to secure any financing or other obligations of Tenant
with all or any part of Tenant's interest in the Tenant Improvements and in
Tenant's equipment, fixtures and components, provided that such security
interest shall not be created by any mortgage or other real estate lien on the
Premises, but only by a security interest in personalty secured with a security
agreement and perfected through the filing of financing statements. Landlord
shall, within ten (10) days following written request, execute and deliver such
lien releases, waivers, estoppels, or other instruments as may be required by
any lender or other obligor of Tenant to (a) confirm Tenant's rights under this
Lease and with respect to the Tenant Improvements and Tenant's equipment,
fixtures and components, (b) confirm Landlord's approval of such financing and
the subordination of any rights of Landlord with respect to the Tenant
Improvements and/or Tenant's equipment, fixtures and components to the rights of
such lender or obligor, and (c) grant to any lender or obligor, or their
successors or assigns, rights to enter the Premises as may be necessary to
exercise their rights with respect to the Tenant Improvements and/or Tenant's
equipment, fixtures and components.
Section 16.6. Failure to Execute Instruments.
Tenant's failure to execute instruments or certificates provided for in
this Article XVI within 15 days after the mailing by Landlord of a written
request shall be a default under this Lease.
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ARTICLE XVII
ASSIGNMENT AND SUBLETTING
Section 17.1. Consent Required.
Except as otherwise provided herein, Tenant shall not sell, assign,
mortgage, pledge or in any manner transfer this Lease or any interest therein,
nor sublet all or any part of the Premises, without Landlord's prior written
consent in each instance, which consent shall not be withhold unreasonably by
Landlord, provided, however, if the Ground Lease currently requires the consent
of the Agency then such sale, assignment, etc., shall be subject to such consent
and Landlord shall utilize diligent efforts to obtain same if Landlord is
prepared to grant its own consent to same. Consent by Landlord to any assignment
or subletting shall not waive the necessity for consent to any subsequent
assignment or subletting. This prohibition shall include a prohibition against
any subletting or assignment by operation of law. If this Lease is assigned or
the Premises or any part sublet or occupied by anybody other than Tenant,
Landlord may collect rent from the assignee, subtenant or occupant and apply the
same to the rent herein reserved, but no such assignment, subletting, occupancy
or collection of rent shall be deemed a waiver of any restrictive covenant
contained in this Section 17.1 or the acceptance of the assignee, subtenant or
occupant as tenant, or a release of Tenant from the performance by Tenant of any
covenants on the part of Tenant herein contained. Any assignment (a) as to which
Landlord has consented; or (b) which is required by reason of a final
nonappealable order of a court of competent jurisdiction; or (c) which is made
by reason of and in accordance with the provisions of any law or statute,
including, without limitation, the laws governing bankruptcy, insolvency or
receivership shall be subject to all terms and conditions of this Lease, and
shall not be effective or deemed valid unless, at the time of such assignment:
1. Each assignee or sublessee shall agree, in a written
agreement satisfactory to Landlord, to assume and abide by
all of the terms and provisions of this Lease, including
those which govern the permitted uses of the Premises
described in Article XII herein; and
2. Each assignee or sublessee has submitted a current
financial statement, audited by a certified public
accountant, showing a net worth and working capital in
amounts determined by Landlord to be sufficient to assure
the future performance by such assignee or sublessee of
Tenant's obligations hereunder; and
3. The business reputation of each assignee and sublessee
shall meet or exceed generally acceptable commercial
standards; and
4. The use of the Premises by each assignee or sublessee
shall not violate, or create any potential violation of
applicable laws, codes or ordinances, nor violate the
Ground Lease or any other agreements affecting the
Premises, Landlord or other tenants in the Complex.
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Landlord shall provide its consent to any proposed assignee or sublessee which
meets the requirements of 1. through 4. above. With respect to any proposed
sublease of less than the entire Premises or for less than the remaining balance
of the Lease Term, the requirements in 1. and 2. above shall not require (i) an
assumption of obligations greater than those imposed by the proposed sublease or
(ii) a showing of financial ability to beyond that which is necessary to perform
obligations under the proposed sublease.
Section 17.2 Excess Rent Upon Assignment or Subletting.
In the event of any assignment or subletting as provided above, there
shall be paid to Landlord, in addition to the Fixed Rent and other charges due
Landlord pursuant to this Lease, an amount equal to fifty percent (50%) of the
Excess Rent (as hereinafter defined), if any. "Excess Rent" shall mean the
amount of rent to be paid by the assignee or sublessee to Tenant in excess of
the sum of (a) the amount of Fixed Rent required to be paid by Tenant to
Landlord under this Lease, and (b) an amount equal to ten percent (10%) per
annum of the actual cost of Tenant's Work pursuant to Article VI hereof,
provided, however, that in no event shall the Excess Rent (when added to the sum
of (a) and (b) above) exceed the then prevailing market rent for premises of the
type being assigned or sublet; any amount in excess of the foregoing amounts
shall be deemed compensation for other assets of Tenant and Landlord shall not
participate therein. Such Excess Rent shall be paid to Landlord concurrently
with the payments of Fixed Rent required under this Lease, and Tenant shall
remain primarily liable for such payments. Notwithstanding any assignment or
subletting, Tenant shall remain fully liable on this Lease and for the
performance of all terms, covenants and provisions of this Lease.
Section 17.3. Change in Ownership.
If Tenant or the guarantor of this Lease, if any, is a corporation the
stock of which is not traded on any national securities exchange (as defined in
the Securities Exchange Act of 1934, as amended), then the following shall
constitute an assignment of this Lease for all purposes of this Article XVII:
(i) the merger, consolidation or reorganization of such corporation; and/or (ii)
the sale, issuance, or transfer, cumulatively or in one transaction, of any
voting stock, by Tenant or the guarantor of this Lease, if any, or the
stockholders of record of either as of the date of this Lease, which results in
a change in the voting control of Tenant or the guarantor of this Lease, except
any such transfer by inheritance or testamentary disposition. If Tenant or the
guarantor of this Lease is a corporation the stock of which is traded on any
securities exchange, then the events described in items (i) and (ii) of the
preceding sentence and any other activities relating to the sale or transfer of
stock of Tenant or the sale or transfer of substantially all of the assets of
Tenant, shall not comprise a transfer requiring Landlord's consent. If Tenant or
the guarantor of this Lease, if any, is a joint venture, partnership or other
association, then for all purposes of this Article XVII, the sale, issuance or
transfer, cumulatively or in one transaction, of either voting control or of a
twenty-five percent (25%) interest, or the termination of any joint venture,
partnership or other association, shall constitute an assignment, except any
such transfer by inheritance or testamentary disposition.
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Section 17.4. Co-Location Agreements.
Notwithstanding anything to the contrary set forth in this Lease,
co-location agreements entered into by Tenant in the ordinary course of its
business shall not be deemed to be an assignment or subletting for purposes of
this Lease and shall not require the consent of Landlord, provided that such
agreements shall under all circumstances be subordinate and subject to this
Lease and shall not diminish Tenant's liability hereunder. For the purposes of
this Section 17.4, the term "co-location agreement(s)" shall mean any agreement
entered into by Tenant with another party whereby Tenant is providing (whether
by cable, fiber or other form of physical transmission, wireless transmission,
or any other mode of transmission) co-location, access, or any other form of
connection to (a) the Internet, (b) any Internet successor or affiliated
networking system, and/or (c) any other existing or future telecommunications,
networking, or communication systems.
ARTICLE XVIII
TEMPORARY LEASE
In order to permit Tenant to expand its business operations pending
completion of the Premises, Landlord hereby agrees to lease to Tenant (the
"Temporary Lease") currently vacant space comprising approximately eight
thousand nine hundred seventy square feet (8,970 s.f.) on the second floor of
the existing Second Street wing of the Complex, as depicted on the Tenant's
Plans (the "Temporary Premises"). The foregoing agreement to lease the Temporary
Premises to Tenant shall be subject to Agency approval. Possession of the
Temporary Premises shall be delivered to Tenant within three (3) days following
receipt of Agency approval. Tenant shall pay rent for the Temporary Premises at
the rate of $1.81 per square foot per month (the "Temporary Rent") payable on
the first day of each month. Temporary Rent shall commence on the date on which
Tenant's improvements in the Temporary Premises are Substantially Completed, and
shall be prorated for any partial month between the date of Substantial
Completion and the first day of the month thereafter. Tenant shall be
responsible for completing, at its expense, all improvements to the Temporary
Premises which it deems necessary or desirable for its effective occupancy and
use of the Temporary Premises. Landlord does not warrant to Tenant the adequacy
of any utilities or systems in the Complex or the structural capacity of the
Complex for Tenant's intended use in the Temporary Premises and Landlord shall
not be liable to Tenant for any interruption of utility services or HVAC service
to the Temporary Premises. Tenant shall be responsible for maintaining all
building systems or equipment used in connection with Tenant's occupancy of the
Temporary Premises. The Temporary Lease shall terminate upon the earlier of the
following events: (a) the date on which Tenant removes its equipment and
employees or (b) December 31, 1999 (irrespective of whether or not the Tenant
has taken occupancy of the Premises and irrespective of whether or not the Lease
has been terminated as a result of the failure to satisfy or waive the
Conditions Precedent pursuant to Article V). During the Temporary Lease period,
Tenant shall be allocated nine (9) parking spaces in the Public Garage.
Utilities shall be separately metered to the Temporary Premises and paid by
Tenant, provided that chilled water shall be provided by Landlord and Tenant
shall pay its proportionate share thereof. To the extent applicable, all of the
terms and conditions of this Lease shall govern the Temporary Lease.
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ARTICLE XIX
DAMAGE AND DESTRUCTION
Section 19.1 Repair and Lease Termination.
If the Premises are hereafter damaged or destroyed or rendered partially
untenantable for their accustomed use by fire or other casualty insured under
the coverage which Landlord is obligated to carry pursuant to Section 15.1
hereof or Landlord is otherwise required to repair or restore pursuant to the
Ground Lease, Landlord shall promptly repair the same to substantially the
condition which they were in immediately prior to the happening of such casualty
(excluding stock in trade, fixtures, furniture, furnishings, carpeting, floor
covering, wall covering, drapes and equipment), and from the date of such
casualty until the Premises are so repaired and restored, the Fixed Rent
payments payable hereunder shall abate in such proportion as the part of said
Premises thus destroyed or rendered untenantable bears to the total Premises;
provided, however, that Landlord shall not be obligated to repair and restore if
such casualty is not covered by the insurance which Landlord is obligated to
carry pursuant to Section 15.1 hereof, or if insufficient insurance proceeds are
available to cover the full cost of repair and restoration of the Complex
following a claim on such proceeds by the Ground Lessor or by any lender of
Landlord (due to such claims by Ground Lessor or a lender or otherwise), and
provided, further, that Landlord shall not be obligated to expend for any repair
or restoration an amount in excess of the insurance proceeds available to
Landlord therefor following any claims on such proceeds by the Ground Lessor or
any lender of Landlord, and provided, further, that if, during the last three
(3) years of the Lease Term, the Premises be damaged, destroyed or rendered
untenantable for their accustomed uses by fire or other casualty to the extent
that the cost of restoration thereof would exceed fifty percent (50%) of the
amount it would cost to replace the Premises in their entirety at the time such
damage or destruction occurred, then Landlord shall have the right to terminate
this Lease effective as of the date of such casualty by giving to Tenant, within
sixty (60) days after the happening of such casualty, written notice of such
termination unless Tenant exercises its right, if any, to extend the term of
this Lease pursuant to Article XXVII hereof. If such notice be given, this Lease
shall terminate and Landlord shall promptly repay to Tenant any rent theretofore
paid in advance which was not earned at the date of such casualty. If Landlord
is required to repair or restore, then Landlord shall promptly commence the same
as soon as possible following the occurrence of the casualty. In connection with
such repair and restoration, Landlord shall rebuild the Premises and/or Complex
to substantially the same design and condition as are set forth in Tenant's Work
and Landlord's Work, and as otherwise required pursuant to the Ground Lease
and/or the Public Garage Lease. Any time that Landlord repairs or restores the
Premises after damage or destruction, then Tenant shall promptly repair or
replace its stock in trade, fixtures, furnishings, furniture, carpeting, wall
covering, floor covering, drapes and equipment to substantially the same
condition as they were in immediately prior to the casualty, and if Tenant has
closed its business, Tenant shall promptly reopen for business upon the
completion of such repairs.
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ARTICLE XX
EMINENT DOMAIN
Section 20.1. Condemnation.
If twenty-five percent (25%) or more of the Premises or of the Complex
shall be acquired or condemned by right of eminent domain for any public or
quasi public use or purpose, or if the Ground Lease or an Operating Agreement is
terminated as a result of such an acquisition or condemnation, then Landlord at
its election may terminate this Lease by giving notice to Tenant of its
election, and in such event rentals shall be apportioned and adjusted as of the
date of termination. If the Lease shall not be terminated as aforesaid, then it
shall continue in full force and effect, and Landlord shall within a reasonable
time after possession is physically taken (subject to delays due to shortage of
labor, materials or equipment, labor difficulties, breakdown of equipment,
government restrictions, fires, other casualties or other causes beyond the
reasonable control of Landlord) repair or rebuild what remains of the Premises
for Tenant's occupancy; and a just proportion of the Fixed Rent shall be abated,
according to the nature and extent of the injury to the Premises until such
repairs and rebuilding are completed, and thereafter for the balance of the
Lease Term.
Section 20.2. Damages.
Landlord reserves, and Tenant assigns to Landlord, all rights to damages
on account of any taking or condemnation or any act of any public or quasi
public authority for which damages are payable; provided, however, in connection
with any taking, or the threatened taking, Tenant shall have the right to seek
and retain compensation for the following:
(a) Damages for the unamortized value of the Tenant's Work and any
and all other alterations or improvements constructed or
installed by Tenant following the Commencement Date;
(b) Leasehold severance damages;
(c) As to any subleases or assignments then in effect, that portion
of Excess Rents which Tenant would have otherwise been able to
retain pursuant to Section 17.2 above following the termination
of this Lease as to all or any portion of the Premises;
(d) Damages for moving and related out-of-pocket expenses;
(e) Relocation assistance or compensation as may be available
pursuant to applicable law.
Tenant shall execute such instruments of assignment as Landlord requires, join
with Landlord in any action for the recovery of damages, if requested by
Landlord, and turn over to Landlord any damages recovered in any proceeding. If
Tenant fails to execute instruments required by Landlord, or undertake such
other steps an requested, Landlord shall be deemed the duly
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authorized irrevocable agent and attorney-in-fact of Tenant, coupled with an
interest, to execute such instruments and undertake such steps an behalf of
Tenant.
ARTICLE XXI
DEFAULT BY TENANT
Section 21.1. Event of Default.
The following shall be considered for all purposes to be defaults under
and breaches of this Lease: (a) any failure of Tenant to pay any Fixed Rent,
Additional Rent or other amount when due hereunder five (5) days after receipt
of written notice from Landlord of such failure to pay; (b) subject to Section
28.5 below, any failure by Tenant to perform or observe any other of the terms,
provisions, conditions and covenants of this Lease, including, without
limitation, Tenant's obligation to complete Tenant's Work in accordance with
Article V hereof, for more than thirty (30) days after receipt of written notice
from Landlord of such failure (or if such default is not amenable to cure within
such thirty (30) day period then for such longer period as may be reasonably
required provided Tenant acts diligently); (c) the bankruptcy or insolvency of
Tenant or the filing by or against Tenant of a petition in bankruptcy or for
reorganization or arrangement or for the appointment of a receiver or trustee of
all or a portion of Tenant's property, or Tenant's assignment for the benefit of
creditors; (d) this Lease or Tenant's interest herein or in the Premises or any
improvements thereon or any property of Tenant are executed upon or attached; or
(e) the Premises come into the hands of any person other than expressly
permitted under this Lease.
Section 21.2. Landlord's Remedies.
Upon occurrence of any Event of Default, Landlord may, at its option
without any further demand or notice, in addition to any other remedy or right
given hereunder or by law, do any of the following:
(a) Re-enter the Premises, take possession thereof, eject all
persons therefrom, using all necessary force to do so, and with or without
re-entry, declare this Lease at an end, in which event Tenant shall be liable to
Landlord for the costs and damages set forth in Sections 21.2(d) and (e) below.
(b) Re-enter the Premises, take possession thereof, eject all
persons therefrom, using all necessary force to do so, and without terminating
this Lease, relet the Premises or any part of the Premises, as the agent and for
the account of Tenant upon such terms and conditions as Landlord may deem
advisable, in which event the rents received on such reletting shall be applied
first to the expenses of such reletting and collection, including necessary
renovation and alterations of the Premises, any real estate commissions paid,
and thereafter to payment of all sums due or to be come due Landlord under the
Lease, and if a sufficient sum shall not be thus realized to pay such sums and
other charges, Tenant shall pay Landlord any deficiency monthly, notwithstanding
Landlord may have received rental in excess of the rental stipulated in this
Lease in previous or subsequent months, and Landlord may bring an action
therefor as such monthly deficiency shall arise.
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(c) Collect, by action or otherwise, each installment of rent or
other sum as the same becomes due and payable or enforce, by action or
otherwise, any other term or covenant of this Lease.
(d) After terminating this Lease or after the abandonment of the
Premises by Tenant, re-enter the Premises, take possession thereof, eject all
persons therefrom, using all necessary force to do so, make any alterations or
changes on the leased Premises, remove any and all property whatsoever found
there and place such property in a public warehouse or elsewhere for the account
and at the expense of Tenant. In the event that Tenant shall not pay the cost of
storing any such property, after the property has been stored for a period of
ninety (90) days or more Landlord may sell any or all of such property at public
or private sale in such manner and at such times and places as Landlord in its
sole discretion may deem proper, without notice to Tenant or any demand upon
Tenant for the payment of any part of such charges or the removal of any such
property, and shall apply the proceeds of such sale first to the cost and
expenses of such sale; second, to the payment of the cost of or charges for
storing any such property; third, to the payment of any other sums of money
which may then or thereafter be due to Landlord from Tenant under any of the
terms hereof; and fourth, the balance, if any, to Tenant. Tenant hereby waives
all claims for damages that may be caused by Landlord's re-entering and taking
possession of the Premises or removing and storing furniture and property as
herein provided, and will save Landlord harmless from loss, costs or damages
occasioned Landlord thereby.
(e) If Tenant breaches this Lease and abandons the Premises
before the end of the Lease Term, or if Tenant's right to possession is
terminated by Landlord because of a breach of the Lease, then in either such
case, Landlord may recover from Tenant:
(i) The worth at the time of award of the unpaid Rents which
had been earned at the time of termination;
(ii) The worth at the time of award of the amount by which the
Rents which would have been earned after termination until
the time of the award exceeds the amount of such rental
loss that Tenant proves could have been reasonably
avoided;
(iii) The worth at the time of award (computed by discounting at
the discount rate of the Federal Reserve Bank of San
Francisco at the time of award plus one percent) of the
amount by which the Rents for the balance of the Lease
Term after the time of award exceed the amount of such
rental loss that Tenant proves could be reasonably
avoided; and
(iv) Any other amounts necessary to compensate Landlord for all
detriment proximately caused by the default by Tenant or
which in the ordinary course of events would likely
result.
The "worth at the time of award" of the amount referred to above is computed by
allowing interest at an annual rate equal to the greater of: ten percent (10%);
or five percent (5%) plus the
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rate established by the Federal Reserve Bank of San Francisco, as of the
twenty-fifth (25th) day of the month immediately preceding the default by
Tenant, on advances to member banks under Sections 13 and 13(a) of the Federal
Reserve Act, as now in effect or hereafter from time to time amended, not to
exceed the maximum rate allowable by law. The computation of the damages
pursuant to the foregoing shall include a credit for the unamortized value of
the Tenant's Work assuming a useful life of not less than twenty (20) years.
(f) All rights and remedies of Landlord hereunder shall not be
exclusive but shall be cumulative.
(g) To the extent permitted by applicable law, any such re-entry
or taking of possession of the Premises or property thereon shall be allowed by
Tenant without hindrance, and Landlord shall not be liable in damages for any
such re-entry, or such taking of possession or be guilty of trespass for
forcible entry. Such re-entry or taking of possession shall not be construed as
an election on Landlord's part to terminate this Lease unless a notice of such
intention is given to Tenant.
Section 21.3. Counterclaim.
If Landlord commences any proceedings for non-payment of rent (Fixed
Rent or Additional Rent), Tenant will not interpose any counterclaim of any
nature or description in such proceedings. This shall not, however, be construed
as a waiver of Tenant's right to assert such claims in a separate action brought
by Tenant. The covenants to pay Fixed Rent and other amounts hereunder are
independent covenants and Tenant shall have no right to hold back, offset or
fail to pay any such amounts for default by Landlord or any other reason
whatsoever.
Section 21.4. Waiver of Rights of Redemption.
To the extent permitted by law, Tenant waives any and all rights of
redemption or rights to relief from forfeiture granted by or under any present
or future laws if Tenant is evicted or dispossessed for any cause, or if
Landlord obtains possession of the Premises due to Tenant's default hereunder or
otherwise.
Section 21.5. Right to Cure Defaults by Tenant; Attorneys' Fees.
In the event of Tenant's breach or default of any covenant in this
Lease, Landlord may at any time, after notice if it is required by Section 19.1,
cure such breach or default for the account and at the expense of Tenant subject
to the provisions of Section 4.5 hereof. If Landlord at any time, by reason of
such breach, is compelled to pay, or elects to pay, any sum of money or to do
any act that will require the payment of any sum of money, or is compelled to
incur any expense, including reasonable attorneys' fees, in instituting,
prosecuting, or defending any actions or proceedings to enforce Landlord's
rights under this Lease or otherwise, the sum or sums so paid by Landlord, with
all interest, costs, and damages, shall be deemed to be Additional Rent under
this Lease and shall be due from Tenant to Landlord on the first day of the
month following the incurring of such expenses.
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Section 21.6. Waiver.
A waiver of any breach or default shall not be a waiver of any other
breach or default. Landlord's consent to or approval of any act by Tenant
requiring Landlord's consent or approval shall not be deemed to waive or render
unnecessary Landlord's consent to or approval of any subsequent similar act by
Tenant.
Section 21.7. Bankruptcy.
A. In the event Tenant shall become a Debtor under Chapter 7 of the
Bankruptcy Code ("Code") or a petition for reorganization or adjustment of debts
is filed concerning Tenant under Chapters 11 or 13 of the Code, or a proceeding
is filed under Chapter 7 and is transferred to Chapters 11 or 13, the Trustee or
Tenant, as Debtor-In-Possession, may not elect to assume this Lease unless, at
the time of such assumption, the Trustee or Debtor-In-Possession has:
(i) Cured or provided Landlord "Adequate Assurance" (as defined
below) that:
(a) The Trustee or the Debtor-In-Possession has cured, or has
provided Landlord Adequate Assurance that:
(1) Within ninety (90) days from the date of such
assumption the Trustee or Debtor-In-Possession will
cure all monetary defaults under this Lease; and
(2) Within ninety (90) days from the date of such
assumption the Trustee will cure all nonmonetary
defaults under this Lease.
(ii) For purposes of this Section 21.7, Landlord and Tenant
acknowledge that, in the context of a bankruptcy proceeding of
Tenant, at a minimum "Adequate Assurance" shall mean the Trustee
or the Debtor-In-Possession has and will continue to have
sufficient resources to fulfill the obligations of Tenant under
this Lease as the same become due.
B. If the Trustee or Debtor-In-Possession has assumed the Lease pursuant
to the provisions of this Section 21.7 for the purpose of assigning Tenant's
interest hereunder to any other person or entity, such interest may be assigned
only after the Trustee, Debtor-In-Possession or the proposed assignee have
complied with all of the terms, covenants and conditions of Section 17.1 herein,
Landlord and Tenant acknowledging that such terms, covenants and conditions are
commercially reasonable in the consent of a bankruptcy proceeding of Tenant. The
terms of Section 17.1 applicable to any such assignment shall include, without
limitation, those with respect to Additional Rent and the use of the Premises
only as permitted in Article XII herein.
C. Unless otherwise allowed by the Court and until such time as the
Lease is assumed or rejected, the Trustee or Debtor-In-Possession shall timely
perform all the monetary and non-monetary obligations under this Lease which
arise after the bankruptcy filing, including,
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without limitation, the payment of Fixed Rent and such other Additional Rent
charges payable hereunder.
D. The rights, remedies and liabilities of Landlord and Tenant set forth
in this Section 21.8 shall be in addition to those which may now or hereafter be
accorded, or imposed upon, Landlord and Tenant by the Code.
ARTICLE XXII
DEFAULT BY LANDLORD
Section 22.1. Default Defined, Notice.
Landlord shall in no event be charged with default in any of its
obligations hereunder unless and until Landlord shall have failed to perform
such obligations within 30 days (or such shorter time in the event of an
emergency or such additional time as is reasonably required to correct any such
default) after written notice to Landlord by Tenant, specifically describing
such failure.
Section 22.2. Notice to Mortgagees and Ground Lessor.
Tenant shall give written notice of any default of Landlord to the
Ground Lessor and to any holders of mortgages covering the Complex who have
given written notice to Tenant of the address to which notices to such holders
are to be sent, simultaneously with any such notice of Landlord's default given
to Landlord, and if Landlord fails to cure any default asserted in said notice
within the time provided above, Tenant shall notify the Ground Lessor and such
holders of mortgages in writing of the failure to cure, and the Ground Lessor
and said holders shall each have the right but not the obligation, within 30
days after receipt of such second notice, to cure such default before Tenant may
take any action by reason of such default.
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ARTICLE XXIII
TENANT'S PROPERTY
Section 23.1. Taxes on Leasehold.
Tenant acknowledges and agrees that this Lease may create possessory
interest subject to property taxation. Subject to Section 8.2 (with respect to
Real Property Taxes) Tenant agrees to pay and discharge, as Additional Rent for
the Premises during the term of this Lease, before delinquency, all taxes
(including, without limitation, possessory interest taxes associated with the
Premises, this Lease, and any so called value added tax), assessments
(including, without limitation, all assessments for public improvements or
benefits, whether or not commenced or completed prior to the date hereof and
whether or not to be completed within the term of this Lease), fees, levies,
water and sewer rents, rates and charges, vault license fees or rentals, license
and permit fees and other governmental charges of any kind or nature whatsoever,
general and special, ordinary and extraordinary, foreseen and unforeseen, or
hereinafter levied or assessed in lieu of or in substitution of any of the
foregoing (all of the foregoing collectively called "taxes") which are or may be
at any time or from time to time during the term of this Lease levied, charged,
assessed or imposed upon or against the Premises or improvements which are now
or hereafter located thereon, or against any of Tenant's personal property now
or hereafter located thereon, or which may be levied, charged, assessed or
imposed upon or against the leasehold estate created hereby or which may be
imposed upon any taxable interest of Tenant acquired pursuant to this Lease on
account of any taxable possessory right which Tenant may have acquired pursuant
to this Lease. Tenant shall pay or reimburse Landlord, an the case may be, for
any fines, penalties, interest or costs which may be added by the collecting
authority for the late payment or nonpayment of any taxes required to be paid by
Tenant hereunder.
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ARTICLE XXIV
ACCESS BY LANDLORD
Section 24.1 Right of Entry.
Provided that Landlord complies with Tenant's security procedures and
provides at least twenty-four (24) hours notice, Landlord, its agents (including
Ground Lessor) and employees shall have the right to enter the Premises from
time to time at reasonable times to examine the same, to show them to
prospective purchasers, mortgagees and other persons, to ascertain compliance
with the terms of this Lease, to make such repairs, alterations, improvements or
additions as Landlord deems desirable, and to post notices. Rent shall not abate
while any such entry, repairs, alterations, improvements, or additions are being
made. During the last six (6) months of the Lease Term, Landlord may exhibit the
Premises to prospective tenants and maintain upon the Premises notices deemed
advisable by Landlord. In addition, during any apparent emergency, Landlord or
its agents may enter the Premises forcibly without liability therefor and
without in any manner affecting Tenant's obligations under this Lease, and no
such entry shall be construed or deemed to be forcible or lawful entry into, or
detainer of, the Premises or an eviction, actual or constructive, of Tenant from
the Premises. Nothing herein contained shall be deemed to impose upon Landlord
any obligation, responsibility or liability whatsoever, for any care,
maintenance or repair except as otherwise herein expressly provided, and Tenant
hereby waives any claim for damages for any injury or inconvenience to or
interference with Tenant's business, any loss of occupancy or quiet enjoyment of
the Premises, and any other loss of whatever kind or nature occasioned by the
Landlord's or its agents' entry for such purposes; provided, however, Landlord
shall not be relieved of any liability arising as a result of (a) the grossly
negligent or wilful act or omission of Landlord, its agents, employees,
consultants, and/or contractors, or (b) Landlord's breach of its obligations
under this Lease.
ARTICLE XXV
HOLDING OVER, SUCCESSORS
Section 25.1 Holding Over.
If Tenant holds over or occupies the Premises beyond the Lease Term (it
being agreed there shall be no such holding over or occupancy without Landlord's
written consent), Tenant shall pay Landlord for each day of such holding over a
sum equal to 1.5 times the Fixed Rent prorated for the number of days of such
holding over plus a prorata portion of all other amounts which Tenant would have
been required to pay hereunder had this Lease been in effect. If Tenant holds
over with or without Landlord's written consent Tenant shall occupy the Premises
on a tenancy from month to month and all other terms and provisions of this
Lease shall be applicable to such period.
Section 25.2. Successors.
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All rights and liabilities herein given to or imposed upon the
respective parties hereto shall bind and inure to the several respective heirs,
successors, administrators, executors and assigns of the parties and if Tenant
is more than one (1) person, they shall be bound jointly and severally by this
Lease except that no rights shall inure to the benefit of any assignee or
subtenant of Tenant unless the assignment or sublease was approved by Landlord
in writing as provided in Section 17.1 hereof. Landlord, at any time and from
time to time, may make an assignment of its interest in this Lease and, in the
event of such assignment, Landlord and its successors and assigns (other than
the assignee of Landlord's interest in this Lease) shall be released from any
and all liability thereafter accruing hereunder; provided that the successor has
been consented to by the Agency and has signed in favor of Tenant an assumption
agreement.
ARTICLE XXVI
QUIET ENJOYMENT
Section 26.1. Landlord's Covenant.
If Tenant pays the Fixed Rents, Additional Rents and other amounts
herein provided, and observes and performs all the covenants, terms and
conditions hereof, Tenant shall peaceably and quietly hold and enjoy the
Premises for the Lease Term without interruption by Landlord or any person or
persons claiming by, through or under Landlord, subject, nevertheless, to the
terms and conditions of this Lease.
ARTICLE XXVII
RENEWAL OPTIONS
A. Provided that this Lease is in full force and effect and there is no
Event of Default which has not been cured at the time Tenant elects to extend
the Term pursuant to Section B below, and at the commencement of such Extended
Term (as hereinafter defined), Tenant shall have the option to extend the term
of this Lease for two (2) successive terms of ten (10) years each ("Extended
Term") upon the same terms and provisions set forth in this Lease except that
the Fixed Rent payable by Tenant shall be the greater of (i) the Fixed Rent
payable during the initial lease Term or first Extended Term, as the case may
be, or (ii) the "Fair Market Rental Value" of the Premises determined as
follows:
(i) Upon receipt of notice from Tenant pursuant to Section B
below, that it elects to extend the term of this Lease,
the parties will attempt, during the first thirty (30)
day period thereafter to mutually agree upon the Fair
Market Rental Value of the Premises for the Extended
Term. "Fair Market Rental Value" shall mean the value
based on Tenant's current use, shall exclude the value
of Tenant's Work and any Alterations made by Tenant
following the Commencement Date, and shall assume that
no commissions are to be paid by Landlord. If the
parties are unable to agree upon the Fair Market Rental
Value, each party will notify the other within fifteen
(15) days following the end of said thirty (30) day
period of the
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name of a licensed, independent, local real estate
appraiser, who is an individual of substantial
experience with respect to office buildings in the San
Jose, California area and is an MAI (or its successor)
appraiser (a "Qualified Appraiser"). If both Qualified
Appraisers shall have been appointed within said fifteen
day period, then the two Qualified Appraisers so
appointed shall determine the Fair Market Rental Value
of the Premises. If only one Qualified Appraiser shall
have been appointed within said fifteen (15) day period,
then such Qualified Appraiser shall determine the Fair
Market Rental Value of the Premises.
(ii) The two Qualified Appraisers shall determine the Fair
Market Rental Value of the Premises independently of
each other and shall meet within thirty (30) days
following their appointment and shall exchange
appraisals. If the difference in the appraisals of the
Fair Market Rental Value of the two Qualified Appraisers
is not greater than fifteen percent (15%), then the
average of the two will be used to determine the Fair
Market Rental Value of the Premises.
(iii) If they are greater than fifteen percent (15%), then the
two Qualified Appraisers shall select a third Qualified
Appraiser within ten (10) days from the end of said
thirty (30) day period who shall determine which of the
two appraisals of the Qualified Appraisers is closest to
the Fair Market Rental Value, and that number will stand
as the Fair Market Rental Value for the Extended Term.
If the two Qualified Appraisers shall not appoint a
third Qualified Appraiser within said ten (10) day
period, then such third Qualified Appraiser shall be
appointed by the American Arbitration Association.
(iv) Each party shall be responsible for the costs, charges
and/or fees of its respective appointee, and the parties
shall share equally in the costs, charges and/or fees of
the third Qualified Appraiser. The decision of the
Qualified Appraiser(s) shall be final and binding on
each party and may be entered in any court having
jurisdiction hereof.
(v) The Fixed Rent as determined above shall be paid by
Tenant to Landlord in advance on the first day of each
and every calendar month during the Extended Term.
(vi) Because of the Tenant's construction of, and payment
for, the Tenant's Work pursuant to this Lease, the Fixed
Rent during an Extended Term shall not include an
allowance from Landlord to Tenant for the refurbishment
of the Premises.
B. Each option for an Extended Term to be effective must be exercised by
Tenant by written notice which must be received by Landlord at least one (1)
year prior to the beginning of each such Extended Term. Tenant's failure to
deliver such notice within the required time period
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shall be deemed an election by Tenant not to extend the term of this Lease.
Tenant shall have no further option to extend the term of this Lease at the
expiration of said second Extended Term.
ARTICLE XXVIII
MISCELLANEOUS
Section 28.1. Waiver.
No waiver by Landlord or Tenant of any breach of any term, covenant or
condition hereof shall be deemed a waiver of the same or any subsequent breach
of the same or any other term, covenant or condition. The acceptance of rent by
Landlord shall not be deemed a waiver of any earlier breach by Tenant of any
term, covenant or condition hereof, regardless of Landlord's knowledge of such
breach when such rent is accepted. No covenant, term or condition of this Lease
shall be deemed waived by Landlord or Tenant unless waived in writing.
Section 28.2. Accord and Satisfaction.
Landlord is entitled to accept, receive and cash or deposit any payment
made by Tenant for any reason or purpose or in any amount whatsoever, and apply
the same at Landlord's option to any obligation of Tenant and the same shall not
constitute payment of any amount owed except that to which Landlord has applied
the same. No endorsement or statement on any check or letter of Tenant shall be
deemed an accord and satisfaction or otherwise recognized for any purpose
whatsoever. The acceptance of any such check or payment shall be without
prejudice to Landlord's right to recover any and all amounts owed by Tenant
hereunder and Landlord's right to pursue any other available remedy.
Section 28.3. Entire Agreement.
There are no representations, covenants, warranties, promises,
agreements, conditions or undertakings, oral or written, between Landlord and
Tenant other than herein met forth. Except as herein otherwise provided, no
subsequent alteration, amendment, change or addition to this Lease shall be
binding upon Landlord or Tenant unless in writing and signed by both Landlord
and Tenant.
Section 28.4. No Partnership.
Landlord does not, in any way or for any purpose, become a partner,
employer, principal, master, agent or joint venturer of or with Tenant.
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Section 28.5. Force Majeure.
If either party hereto shall be delayed or hindered in or prevented from
the performance of any act required hereunder by reason of strikes, lockouts,
labor troubles, inability to procure material, failure of power, restrictive
governmental laws or regulations, riots, insurrection, war or other reason of a
like nature not the fault of the party delayed in performing work or doing acts
required under this Lease, the period for the performance of any such act shall
be extended for a period equivalent to the period of such delay. Notwithstanding
the foregoing, the provisions of this Section 28.5 shall at no time operate to
excuse Tenant from the obligations for payment of Fixed Rent, Additional Rent or
any other payments required by the terms of this Lease when the same are due,
and all such amounts shall be paid when due.
Section 28.6. Submission of Lease.
The effective date of this Lease (the "Effective Date") shall be the
date filled in on Page 1 hereof by Landlord, which shall be the date of
execution by the last of the parties to execute this Lease.
Section 28.7. Notices.
All notices from Tenant to Landlord-required or permitted by any
provision of this Lease shall be directed to Landlord as follows:
F.C. Pavilion, L.L.C.
c/o Forest City Enterprises, Inc.
1100 Terminal Tower
50 Public Square
Cleveland, Ohio 44113
Attn: Mr. James A. Ratner
with copies to:
Forest City Enterprises, Inc.
1160 Terminal Tower
50 Public Square
Cleveland, Ohio 44113
Attn: General Counsel
All notices from Landlord to Tenant required or permitted hereunder
shall be directed as follows:
AboveNet Communications, Inc.
50 West San Fernando St.
Suite 1010
San Jose, California 95113
Attn: Stephen P. Belomy
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All notices to the Ground Lessor required or permitted by any provision
of this Lease shall be directed to Ground Lessor as follows:
Executive Director
Redevelopment Agency of the City of San Jose
801 North First Street
San Jose, CA 95110
All notices to be given hereunder by either party shall be written and
sent by certified mail, return receipt requested, postage pre-paid, addressed to
the party intended to be notified at the address set forth above. Either party
may, at any time, or from time to time, notify the other in writing of a
substitute address for that above set forth, and thereafter notices shall be
directed to such substitute address. Notice given as aforesaid shall be
sufficient service thereof and shall be deemed given as of the date received, as
evidenced by the return receipt of the registered or certified mail. A duplicate
copy of all notices from Tenant shall be sent to the Ground Lessor and mortgagee
as provided for in Section 22.2.
Section 28.8. Captions and Section Numbers.
This Lease shall be construed without reference to titles of Articles
and Sections, which are inserted only for convenience of reference.
Section 28.9. Number and Gender.
The use herein of a singular term shall include the plural and use of
the masculine, feminine or neuter gender shall include all others.
Section 28.10. Joint and Several Liability.
If Tenant is a partnership or other business organization the members of
which are subject to personal liability, the liability of each such member shall
be deemed to be joint and several.
Section 28.11. Objection to Statements.
Tenant's failure to object to any statement, invoice or billing rendered
by Landlord within a period of thirty (30) days after receipt thereof shall
constitute Tenant's acquiescence with respect thereto and shall render such
statement, invoice or billing an account stated between Landlord and Tenant.
55
<PAGE> 57
Section 28.12. Representation by Corporate Tenant.
If Tenant is or will be a corporation, the persons executing this Lease
on behalf of Tenant hereby covenant and warrant that Tenant is a duly qualified
corporation authorized to do business in the State of California, that all
franchise and corporate taxes have been paid to date and all future forms,
reports, fees and other documents necessary to comply with applicable laws will
be filed when due, and the person signing this Lease on behalf of the
corporation is an officer of Tenant and is duly authorized to sign and execute
this Lease.
Section 28.13. Limitation of Liability.
Anything to the contrary herein contained notwithstanding, there shall
be absolutely no personal liability of persons, firms or entities who constitute
Landlord with respect to any of the terms, covenants, conditions and provisions
of this Lease, and Tenant shall, subject to the rights of the Ground Lessor and
any mortgagee, look solely to the interest of Landlord, its successors and
assigns, in the Complex for the satisfaction of each and every remedy of Tenant
in the event of default by Landlord hereunder; such exculpation of personal
liability is absolute and without any exception whatsoever. In order to proceed
against the Complex and the revenues therefrom or to recover under any insurance
policy, Tenant shall be entitled to initiate a lawsuit against Landlord.
Section 28.14. Broker's Commission.
Each party represents and warrants that it has caused or incurred no
claims for brokerage commissions or finder's fees in connection with the
execution of this Lease, and each party shall indemnify and hold the other
harmless against and from all liabilities arising from any such claims caused or
incurred by it (including without limitation, the cost of attorneys' fees in
connection therewith).
Section 28.15. Partial Invalidity.
If any provision of this Lease or the application thereof to any person
or circumstance shall to any extent be invalid or unenforceable, the remainder
of this Lease, or the application of such provision to persons or circumstances
other than those as to which it is invalid or unenforceable shall not be
affected thereby and each provision of this Lease shall be valid and enforceable
to the fullest extent permit by law.
56
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Section 28.16. Recording.
The parties agree not to place this Lease of record but at any time
after the Conditions Precedent are satisfied and/or waived, each party shall, at
the request of the other, execute and acknowledge so that the same may be
recorded a Short Form Lease or Memorandum of Lease, indicating the Lease Term,
but omitting rent and other terms, and an Agreement specifying date of
commencement and termination of the Lease Term; provided, however, that the
failure to record said Short Form Lease, Memorandum of Lease or Agreement shall
not affect or impair the validity and effectiveness of this Lease. Tenant shall
pay all costs, taxes, fees and other expenses in connection with or prerequisite
to recording.
Section 28.17. Applicable Law.
This Lease shall be construed under the laws of the State of California.
Section 28.18. Ground Lease.
This Lease is subject and subordinate to the Ground Lease. Tenant agrees
to comply with all applicable provisions of the Ground Lease. In the event any
of the provisions of this Lease conflict with the provisions of the Ground
Lease, the provisions of the Ground Lease shall prevail. With respect to the
Ground Lease and the Public Garage Lease, Landlord covenants as follows:
(a) During the entire Lease Term, Landlord shall fully and completely
comply with all of the terms and provisions of the Ground Lease
and the Public Garage Lease.
(b) Landlord shall take all actions as may be required or necessary
in order to keep the Ground Lease and the Public Garage Lease in
full force and effect provided that nothing in this Lease shall
prevent Landlord from acquiring fee title to the Complex,
including the Public Garage, from the Agency, in which event this
Lease shall continue in full force and effect.
(c) Landlord shall not amend or modify, or enter into any agreement
with the Agency to amend or modify, any of the terms or
provisions of the Ground Lease and/or the Public Garage Lease
which have a material impact on Tenant or the Premises, without
the prior written consent of Tenant.
(d) Landlord shall not enter into any agreement with Ground Lessor to
which would materially increase Landlord's Common Area Costs,
and/or any other maintenance or operating expenses of the Complex
(to the extent that any such costs are passed on to Tenant).
(e) Landlord shall not terminate or surrender the Ground Lease and/or
the Public Garage Lease.
57
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(f) Landlord shall provide to Tenant any notices from the Agency
relating to any default or breach by Landlord under the Ground
Lease or the Public Garage Lease.
Section 28.19. Notice of Lease to Ground Lessor.
Immediately upon execution of this Lease, Tenant shall provide written
notice to the Ground Lessor that the Lease has been executed and shall inform
the Ground Lessor of Tenant's name and mailing address for the purpose of
receipt of notice from the Ground Lessor.
Section 28.20. Landlord's Expenses.
If Landlord incurs any expense in exercising Landlord's rights
hereunder, excluding attorney's fees and court costs, arising from Tenant's
failure to perform any of Tenant's obligations hereunder, Tenant shall pay or
reimburse Landlord for such expenses.
IN WITNESS WHEREOF, Landlord and Tenant have signed and sealed this
Lease as of the day and year first above written.
F.C. PAVILION, L.L.C.,
an Ohio limited liability company
By:
---------------------------------
ABOVENET COMMUNICATIONS, INC.
By:
---------------------------------
Attest:
-----------------------------
58
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EXHIBIT A
Legal Description of Retail Pavilion Parcel
(to be inserted)
<PAGE> 61
EXHIBIT B
Plot Plan of Retail Pavilion Parcel
(to be inserted)
<PAGE> 62
EXHIBIT C
Tenant's Plans
(to be inserted)
<PAGE> 63
EXHIBIT D-1
Tenants To Be Removed or Relocated
(to be inserted)
<PAGE> 64
EXHIBIT D-2
Tenants From Which Consent Is Required
(to be inserted)
<PAGE> 65
EXHIBIT E
Rules and Regulations
(to be inserted)
<PAGE> 66
EXHIBIT F
Preliminary Title Report
(to be inserted)
<PAGE> 67
<TABLE>
<CAPTION>
TABLE OF CONTENTS
Page
----
<S> <C>
ARTICLE I -- EXHIBITS........................................................................2
ARTICLE II -- LEASED PREMISES................................................................3
Section 2.1. Leased Premises........................................................3
Section 2.2. Roof and Walls.........................................................4
Section 2.3. Ancillary Use .........................................................4
ARTICLE III -- LEASE TERM....................................................................5
Section 3.1 Lease Term.............................................................5
Section 3.2 Commencement Date......................................................5
Section 3.3 Lease Year Defined.....................................................6
Section 3.4 Effective Date.........................................................6
ARTICLE IV -- RENT...........................................................................6
Section 4.1. Rental Rate............................................................6
Section 4.2 Fixed Rent Payments....................................................7
Section 4.3. Miscellaneous Rent Provisions..........................................7
Section 4.4. Additional Rent........................................................7
Section 4.5. Payments for Tenant....................................................7
ARTICLE V -- CONDITIONS PRECEDENT............................................................8
Section 5.1. Conditions Precedent...................................................8
Section 5.2. City Approvals.........................................................9
Section 5.3. Tenant Actions........................................................10
Section 5.4. Failure of Conditions Precedent.......................................10
ARTICLE VI -- CONSTRUCTION OF PREMISES......................................................10
Section 6.1. Overview of Construction Scope........................................10
Section 6.2. Preparation of Construction Plans.....................................11
Section 6.3. Responsibility for Construction Costs.................................11
Section 6.4. Construction Contracts................................................12
Section 6.5. Tenant's L/C, Tenant's Loan Facility and Tenant's Cash Account........13
Section 6.6. Adjustment of Fixed Rent after Construction...........................14
ARTICLE VII -- NET LEASE....................................................................15
ARTICLE VIII -- TAXES.......................................................................17
Section 8.1. Definition of Real Estate Taxes.......................................17
Section 8.2. Tenant's Share of Real Estate Taxes...................................17
Section 8.3. Payment by Tenant.....................................................18
Section 8.4. Other Taxes...........................................................18
Section 8.5. Separate Tax Bill.....................................................18
i
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<TABLE>
<S> <C>
ARTICLE IX -- PARKING, COMMON AREAS AND FACILITIES..........................................18
Section 9.1. Common Areas..........................................................18
Section 9.2. Use of Common Areas...................................................19
Section 9.3. Public Garage.........................................................19
ARTICLE X -- COST AND MAINTENANCE OF COMMON AREAS...........................................20
Section 10.1. Expense of Operating and Maintaining the Complex......................20
Section 10.2. Tenant to Bear Proportionate Share of Expenses........................20
ARTICLE XI -- UTILITIES AND SERVICES........................................................21
Section 11.1. Utilities.............................................................21
Section 11.2. HVAC Systems Serving Premises.........................................21
ARTICLE XII -- CONDUCT OF BUSINESS BY TENANT................................................21
Section 12.1. Use of Premises.......................................................21
Section 12.2. Operation by Tenant...................................................22
Section 12.3. Painting, Decorating, Displays, Alterations...........................23
Section 12.4 Telecommunications Rights and Rooftop Equipment.......................23
Section 12.5. Compliance with Laws..................................................23
Section 12.6. Non-Discrimination...................................................24
ARTICLE XIII -- MAINTENANCE OF LEASED PREMISES..............................................24
Section 13.l. Maintenance by Landlord...............................................24
Section 13.2. Maintenance by Tenant.................................................25
Section 13.3. Surrender of Premises.................................................26
ARTICLE XIV -- ALTERATIONS..................................................................26
Section 14.1. Removal and Restoration by Tenant.....................................26
Section 14.2. Tenant's Liens........................................................26
Section 14.3. Signs, Awnings and Canopies...........................................27
ARTICLE XV -- INSURANCE.....................................................................28
Section 15.1. By Landlord...........................................................28
Section 15.2. By Tenant.............................................................28
Section 15.3. Mutual Waiver of Subrogation Rights...................................29
Section 15.4. Waiver................................................................30
Section 15.5. Insurance - Tenant's Operation.......................................30
Section 15.6. Hold Harmless and Indemnification....................................31
ARTICLE XVI -- ESTOPPEL CERTIFICATE ATTORNMENT, SUBORDINATION...............................32
Section 16.1. Estoppel Certificate..................................................32
Section 16.2. Attornment............................................................32
Section 16.3. Release of Landlord...................................................33
Section 16.4. Landlord's Option to Purchase.........................................33
Section 16.5. Subordination.........................................................33
Section 16.6. Failure to Execute Instruments........................................34
ii
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<PAGE> 69
<TABLE>
<S> <C>
ARTICLE XVII -- ASSIGNMENT AND SUBLETTING...................................................34
Section 17.1. Consent Required......................................................34
Section 17.2 Excess Rent Upon Assignment or Subletting.............................35
Section 17.3. Change in Ownership...................................................36
Section 17.4. Co-Location Agreements................................................36
ARTICLE XVIII -- TEMPORARY LEASE............................................................36
ARTICLE XIX -- DAMAGE AND DESTRUCTION.......................................................37
Section 19.1 Repair and Lease Termination..........................................37
ARTICLE XX -- EMINENT DOMAIN................................................................38
Section 20.1. Condemnation..........................................................38
Section 20.2. Damages...............................................................38
ARTICLE XXI -- DEFAULT BY TENANT............................................................39
Section 21.1. Event of Default......................................................39
Section 21.2. Landlord's Remedies...................................................39
Section 21.3. Counterclaim..........................................................41
Section 21.4. Waiver of Rights of Redemption........................................42
Section 21.5. Right to Cure Defaults by Tenant; Attorneys' Fees.....................42
Section 21.6. Waiver................................................................42
Section 21.7. Bankruptcy............................................................42
ARTICLE XXII -- DEFAULT BY LANDLORD.........................................................43
Section 22.1. Default Defined, Notice...............................................43
Section 22.2. Notice to Mortgagees and Ground Lessor................................43
ARTICLE XXIII -- TENANT'S PROPERTY..........................................................44
Section 23.1. Taxes on Leasehold....................................................44
ARTICLE XXIV -- ACCESS BY LANDLORD..........................................................44
Section 24.1 Right of Entry........................................................44
ARTICLE XXV -- HOLDING OVER, SUCCESSORS.....................................................45
Section 25.1 Holding Over..........................................................45
Section 25.2. Successors............................................................45
ARTICLE XXVI -- QUIET ENJOYMENT.............................................................45
Section 26.1. Landlord's Covenant...................................................45
ARTICLE XXVII -- RENEWAL OPTIONS............................................................46
ARTICLE XXVIII -- MISCELLANEOUS.............................................................47
Section 28.1. Waiver................................................................47
Section 28.2. Accord and Satisfaction...............................................47
iii
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<PAGE> 70
<TABLE>
<S> <C>
Section 28.3. Entire Agreement......................................................48
Section 28.4. No Partnership........................................................48
Section 28.5. Force Majeure.........................................................48
Section 28.6. Submission of Lease...................................................48
Section 28.7. Notices...............................................................48
Section 28.8. Captions and Section Numbers..........................................49
Section 28.9. Number and Gender.....................................................50
Section 28.10. Joint and Several Liability.........................................50
Section 28.11. Objection to Statements.............................................50
Section 28.12. Representation by Corporate Tenant..................................50
Section 28.13. Limitation of Liability.............................................50
Section 28.14. Broker's Commission.................................................50
Section 28.15. Partial Invalidity..................................................51
Section 28.16. Recording...........................................................51
Section 28.17. Applicable Law......................................................51
Section 28.18. Ground Lease........................................................51
Section 28.19. Notice of Lease to Ground Lessor....................................52
Section 28.20. Landlord's Expenses.................................................52
iv
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<PAGE> 1
EXHIBIT 23.2
INDEPENDENT AUDITORS' CONSENT
To the Board of Directors and Stockholders
of AboveNet Communications Inc.:
We consent to the use in this Amendment No. 5 to Registration Statement No.
333-63141 of AboveNet Communications Inc. on Form S-1 of our report dated August
7, 1998 (December 4, 1998 as to Note 12) appearing in the Prospectus, which is
part of this Registration Statement, and of our report dated August 7, 1998
relating to the financial statement schedule appearing elsewhere in this
Registration Statement. We also consent to the reference to us under the
headings "Selected Financial Data" and "Experts" in such Prospectus.
DELOITTE & TOUCHE LLP
San Jose, California
December 4, 1998
<PAGE> 1
Exhibit 23.3
INDEPENDENT AUDITORS' REPORT ON SCHEDULE
To the Board of Directors and Stockholders of AboveNet Communications Inc.
Our audits of the financial statements of AboveNet Communications, Inc. for
the period from March 8, 1996 (inception) to June 30, 1996 and for the years
ended June 30, 1997 and 1998 also include the financial statement schedule of
AboveNet Communications, Inc., listed in Item 16. (b). The financial statement
schedule is the responsibility of the Company's management. Our responsibility
is to express an opinion based on our audits. In our opinion, such financial
statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
San Jose, California
August 7, 1998
To the Board of Directors and Stockholders of
AboveNet Communications Inc.:
The financial statements/schedule included herein reflect the approval by
the Company's stockholders to the reincorporation of the company in the State of
Delaware and the associated exchange of one share of common stock and preferred
stock of the Company for every two and one-half shares of common stock and
preferred stock, as the case may be, of the Company's California predecessor
entity as described in Note 12 to the financial statements. The above report is
in the form that will be signed by Deloitte & Touche LLP upon the effectiveness
of such events assuming that from August 7, 1998 to the effective date of such
events, no other events shall have occurred that would affect the accompanying
financial statements or notes thereto.
Deloitte & Touche LLP
San Jose, California
September 8, 1998
