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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION
PERIOD FROM TO
COMMISSION FILE NUMBER: 001-13993
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FREEDOM SECURITIES CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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DELAWARE 04-3335712
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
ONE BEACON STREET, BOSTON, MASSACHUSETTS 02108
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
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(617) 725-2000
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Securities registered pursuant to Section 12(b) of the Act:
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TITLE OF CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
Common Stock, par value $.01 per share Common Stock, par value $.01 per share
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Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
At March 1 1999, the registrant had 19,638,927 shares of common stock
outstanding. The aggregate market value of the voting and non-voting common
equity held by non-affiliates of the registrant as of March 1, 1999 was
approximately $223,870,144 (based on the closing price on the New York Stock
Exchange on that date).
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive Proxy Statement for the registrant's annual
meeting of shareholders to be held June 10, 1999 are incorporated by reference
into Part III of this Form 10-K.
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PART I
ITEM 1. BUSINESS
FORWARD-LOOKING STATEMENTS
This annual report on Form 10-K, including without limitation "Item 7
Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Item 7A Quantitative and Qualitative Disclosures About Market
Risk," contains or incorporates both historical and "forward-looking statements"
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. Words such as
"anticipates", "believes", "expects", "intends", "future", and similar
expressions identify forward-looking statements. Any such "forward-looking"
statements in this report reflect the Company's current views with respect to
future events and financial performance, and are subject to a variety of factors
that could cause the actual results or performance to differ materially from
historical results or from the anticipated results or performance expressed or
implied by such forward-looking statements. Because of such factors, there can
be no assurance that the actual results or developments anticipated by the
Company will be realized or, even if substantially realized, that they will have
the anticipated results. The risks and uncertainties that may affect the
Company's business include, but are not limited to: volatility in the stock
markets, economic conditions, governmental regulations, technological advances
affecting the Company's industry, pricing and competition, retention of key
personnel, the Company's relationship with its clearing agent, the
communications and information systems of the Company and its business partners,
the sufficiency of financial resources to sustain and expand the Company's
operations, civil and enforcement liability related to operating in the
securities industry, and other factors described elsewhere in this report and in
prior filings with the Securities and Exchange Commission (the "Commission" or
"SEC"). Readers should not place undue reliance on such forward-looking
statements, which speak only as of the date hereof, and should be aware that
except as may be otherwise legally required of the Company, the Company
undertakes no obligation to publicly revise any such forward-looking statements
to reflect events or circumstances that may arise after the date hereof.
COMPANY OVERVIEW
Freedom Securities Corporation ("the Company" or "Freedom"), through its
three brokerage subsidiaries, Tucker Anthony Incorporated ("Tucker Anthony"),
Sutro & Co. Incorporated ("Sutro") and Cleary Gull & Reiland Inc. ("Cleary
Gull"), and its asset management subsidiary, Freedom Capital Management
Corporation ("Freedom Capital"), is a full-service, regionally focused retail
brokerage and investment banking firm. The Company was formed in November 1996
to effect the acquisition (the "Acquisition") of Freedom Securities Holding
Corporation (the "Predecessor Company") and its subsidiaries, including Tucker
Anthony, Sutro, and Freedom Capital, from John Hancock Mutual Life Insurance
Company ("Hancock"). The Acquisition was financed through purchases of equity
securities by approximately 350 employees of the Company including senior
management and investment executives as well as affiliates of Thomas H. Lee
Company and SCP Private Equity Partners, L.P. and through borrowings under a
credit facility.
Tucker Anthony, headquartered in Boston and focused primarily in the
northeastern United States, and Sutro, headquartered in San Francisco and
focused primarily in the western United States, are both over 100 years old and
have well established reputations in their respective regions. Cleary Gull,
headquartered in Milwaukee and with operations in Chicago and Denver, was
founded in 1987 and is an institutional capital markets, investment banking and
investment management services firm with a national client base. Cleary Gull was
acquired by the Company in the second quarter of 1998 and its acquisition was
accounted for using the purchase method of accounting. The consolidated
financial and other data included elsewhere in this report include the results
of Cleary Gull's operations from the date of acquisition. Management believes
that it can best serve the needs of these distinct regions through separate,
locally managed organizations, while avoiding cost duplication by using shared
clearing and support services. This approach enables the Company to capitalize
on each organization's name recognition, historical areas of expertise and close
community ties while lessening the Company's reliance on a single region's
economy. Tucker Anthony, Sutro and Cleary Gull clear their securities
transactions on a fully disclosed basis through Wexford Clearing Services
Corporation
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("Wexford" or "Clearing Broker"), a guaranteed wholly-owned subsidiary of
Prudential Securities Incorporated ("Prudential").
The Company believes that its primary strengths are (i) the experience and
tenure of its investment executives, which have often led to long-term
relationships with clients in their respective communities; (ii) its high level
of employee commitment, evidenced by significant employee ownership in the
Company; (iii) its personalized, service-oriented culture emphasizing
responsiveness to client and regional market demands; (iv) its focus on emerging
and middle-market companies in targeted industries in which the Company has
specialized expertise or regional presence; and (v) its ability to manage and
control operating costs through centralization of certain services and other
cost effective solutions, including its clearing and processing arrangements
with Wexford.
The Company's three main areas of focus, described below, are (i) its
full-service retail brokerage operations; (ii) its equity capital markets
activities; and (iii) its asset management operations.
Retail Operations
The retail operations of Tucker Anthony and Sutro, conducted in 14 states
and the District of Columbia, have together generated 51%, 58% and 58% of the
Company's operating revenues in 1998, 1997 and 1996, respectively, and have
historically represented the Company's core business. Management believes that
such retail services will continue to be the Company's leading source of revenue
for the foreseeable future. A large portion of the Company's revenues is
generated from commissions or fees earned as a broker or dealer for individual
clients in the purchase and/or sale of equity securities, fixed income
securities, mutual funds, insurance products, options and U.S. government and
municipal securities. As of December 31, 1998, Tucker Anthony had 480 investment
executives located in 11 states and the District of Columbia, and Sutro had 245
investment executives located in 3 states.
In its retail operations, the Company focuses on maintaining and developing
strong client relationships through a dedicated community focus while providing
the breadth and quality of services and products offered by national brokerage
firms. Tucker Anthony and Sutro provide their retail clients with a broad range
of services delivered in a personalized, service oriented manner. In addition to
recommending and effecting transactions in securities, the Company makes
available equity research reports prepared by Tucker Anthony, Sutro, Cleary Gull
and other research analysts and offers services such as financial and tax
planning, trust and estate advice to its retail clients. The Company believes
that the personalized nature and range of services it provides to its retail
clients is a key factor in the success of its retail brokerage businesses.
As of December 31, 1998, retail customers had approximately $32 billion of
assets in over 235,000 Tucker Anthony and Sutro brokerage accounts. Management
believes that the experience of its 725 investment executives and their strong
ties to their communities help differentiate the Company from its competitors
and enable the Company to more effectively access and serve its clients. The
Company's strategy of providing its investment executives with a high level of
support and the flexibility to operate in an entrepreneurial manner has allowed
the Company to recruit and retain highly effective, motivated investment
executives, many of whom have significant tenure at their local branch offices.
Management believes that Tucker Anthony and Sutro have been able to successfully
recruit and retain investment executives for a number of reasons including a
corporate culture which rewards performance, encourages employee ownership, and
provides advanced technology, competitive payouts, no discount sharing and a
service-driven rather than a product-driven environment.
The Company intends to increase its commitment to customer service by
providing its investment executives with advanced account information systems
and flexibility in determining fee schedules for certain services based upon the
level of customer needs, and by providing an array of one-stop investment and
financial planning services. The Company plans to continue to improve the
profitability of its retail operations primarily by hiring additional
experienced and highly productive investment executives that are attracted to
Tucker Anthony and Sutro by their entrepreneurial cultures, the high level of
product offerings and technological support provided by the Company.
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Equity Capital Markets
The Company's equity capital markets groups consist of equity research,
investment banking, institutional sales, trading and syndication services. Each
of Tucker Anthony, Sutro and Cleary Gull has historically demonstrated strengths
in offering various investment banking services, including public offerings,
merger and acquisition services and private placements, to its clients. The
respective research and investment banking departments of Tucker Anthony, Sutro
and Cleary Gull target emerging and middle-market companies within the
industries in which they specialize, such as consumer products, healthcare,
financial services, distribution and logistics, technology and business services
industries. Within each of these industries, Tucker Anthony, Sutro and Cleary
Gull have focused on various industry niches which each believes offers it the
greatest opportunities. Each firm focuses its equity capital markets group on
coordinating its research, institutional sales, corporate finance, trading and
syndication functions. Management believes that its research will be a key
factor in growing its equity capital markets activities. The Company's operating
revenues from equity capital markets activities generated 22%, 17% and 16% of
the Company's operating revenues in 1998, 1997 and 1996, respectively.
Tucker Anthony, Sutro and Cleary Gull execute securities transactions for
institutional investors such as banks, mutual funds, insurance companies and
pension and profit-sharing plans. These investors normally purchase and sell
securities in large quantities, which transactions require specialized marketing
and trading expertise. In order to service these institutional accounts, the
Company has established a network of institutional offices located in New York,
Boston, San Francisco, Los Angeles, Milwaukee, Chicago, Denver and Washington,
D.C.
Institutional transactions are executed by the Company acting as agent or
principal. The Company permits discounts from its commission schedule to its
institutional customers. The size of such discounts varies with the size of
particular transactions and other factors. The Company believes that it receives
a significant portion of its institutional brokerage commissions as a
consequence of its research advice and services regarding specific corporations
and industries, its principal transactions business and its investment banking
activities.
The Company's investment banking and underwriting activities are performed
by the corporate finance, public finance and syndicate departments of Tucker
Anthony, Sutro and Cleary Gull. The corporate finance groups manage and
underwrite public offerings of equity and, to a significantly lesser extent,
debt securities, arrange private placements of equity and debt securities and
provide financial advice in connection with mergers and acquisitions,
divestitures and other corporate reorganizations and restructurings. The managed
public equity offerings and merger and acquisition transactions of Tucker
Anthony, Sutro and Cleary Gull are typically undertaken for emerging or
middle-market companies in the consumer products, healthcare, financial
services, distribution and logistics, technology and business services sectors
or companies located in each firm's respective geographic region.
Historically, the Company's merger and acquisition advisory business has
been a significant component of the Company's investment banking revenues. The
Company believes that it has a well established merger and acquisition advisory
business and plans to capitalize on this strength by further building upon the
equity capital markets groups of Tucker Anthony, Sutro and Cleary Gull.
The syndicate departments coordinate the distribution of managed and
co-managed corporate securities offerings and accept invitations to participate
in underwritings managed by other investment banking firms.
The Company, through certain subsidiaries and employee incentive
arrangements, has from time to time in the past and may from time to time in the
future participate as an equity investor in connection with specific
transactions.
The Company intends to continue to increase its equity capital markets
activities by committing greater resources to and carefully focusing its
research and investment banking coverage on geographical regions and industries
which management believes offer the greatest opportunities. Management also
believes that consolidations within the investment banking industry, as a whole,
will offer enhanced opportunities for those firms which maintain their local and
industry specific focus.
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Asset Management
The Company provides investment advisory and portfolio management services
to institutions, pension and endowment funds, money market funds, professional
firms, individuals and trusts. The asset management business consists of Freedom
Capital Management, Cleary Gull's Investment Management Services group and asset
management business from Tucker Anthony and Sutro. As of December 31, 1998,
total assets under management were over $9.0 billion. Asset management revenues
in 1998 increased 38% over the prior year and have represented 11%, 10% and 10%
of the Company's total operating revenues in 1998, 1997 and 1996, respectively.
Freedom Capital, headquartered in Boston, was formed in 1930. Freedom
Capital has developed a leading position in the management of public funds for
Massachusetts municipalities and agencies, has developed an increasing presence
in certain sectors of the union pension fund market and is growing its corporate
funds management business. As with other aspects of the Company's business,
Freedom Capital is focused on service and client communication. To foster active
and attentive management, Freedom Capital limits the number of client
relationships of each portfolio manager. This policy is intended to provide each
portfolio manager with the time necessary to foster ongoing client relationships
and the opportunity to discuss portfolio strategies with the client. Freedom
Capital offers comprehensive client statements which include portfolio
appraisals, performance analyses and statements of transactions. In addition,
Freedom Capital provides its clients with economic commentary and investment
letters on a regular basis. Freedom Capital believes that its many strong,
long-term client relationships attest to its attention to service and client
communication.
Freedom Trust Company, a New Hampshire chartered trust company and a
subsidiary of Freedom Capital, commenced operations in early 1996 to provide
clients the opportunity to place their assets in trust so that the Company may
continue to provide asset management services to such trusts after the client's
death. Freedom Trust Company had assets under custody of $722 million as of
December 31, 1998.
The Company intends to enhance the profitability of its asset management
business by acquiring other money management businesses to increase both assets
under management and the number of investment professionals providing services
and by creating products to be marketed by Freedom Capital. The Company also
intends to increase the productivity and profitability of Freedom Capital
through improved coordination with the Tucker Anthony and Sutro brokerage
networks and other initiatives intended to allow Freedom Capital to manage a
larger percentage of funds held by Tucker Anthony and Sutro clients.
Trading and Other Broker-Dealer Activities
Tucker Anthony, Sutro and Cleary Gull make markets, buying and selling as
principal, in common stocks, convertible preferred stocks, warrants and other
securities traded on Nasdaq or in other OTC markets. As of December 31, 1998,
the Company made markets in equity securities of over 535 issuers. Such
securities are principally those in which there is substantial continuing client
interest and include securities which the Company has underwritten or on which
it provides research opinions. The Company also effects transactions in blocks
of securities, usually with institutional investors and generally involving
10,000 or more shares of listed stocks. Such transactions are handled on an
agency basis to the extent possible, but the Company may take a long or short
position as principal to the extent that no buyer or seller is immediately
available. By engaging in block positioning, the Company places a portion of its
capital at risk to facilitate transactions for clients.
The Company provides clients access to a range of fixed income products
including municipal securities, U.S. government and agency securities, mortgage
related securities including those issued through Government National Mortgage
Association ("GNMA"), Federal National Mortgage Association ("FNMA") and Federal
Home Loan Mortgage Corp. ("FHLMC"), and corporate investment-grade and
high-yield bonds. The Company takes positions on a principal basis in municipal,
U.S. government, agency and corporate securities to facilitate transactions for
its clients. Additionally, trading activities include the purchase of securities
under agreements to resell at future dates (reverse repurchase agreements) and
the sale of the same or similar securities under agreements to repurchase at
future dates (repurchase agreements). The Company
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actively participates on a principal basis in the mortgage-backed securities
markets through the purchase or sale of GNMA, FNMA, FHLMC, mortgage pass-through
securities, collateralized mortgage obligations and other mortgage related
securities, in order to meet client needs. The Company finances its trading
positions as part of its Wexford clearing arrangement, through overnight
borrowings and repurchase agreements.
Tucker Anthony and Sutro are each municipal securities dealers in both the
primary and secondary markets, buying and selling securities for their own
accounts and for clients. Revenues derived from these activities include
underwriting and management fees, selling concessions and trading profits.
The public finance departments of Tucker Anthony and Sutro provide
financial consulting, advisory and underwriting services to cities and public
service districts. These subsidiaries manage and underwrite offerings of
municipal securities to finance the construction and maintenance of a broad
range of public-related facilities, including healthcare, housing, education,
public power, water and sewer, airports, highways and other infrastructure
needs. Over the last several years, the public finance industry has generally
experienced diminishing spreads and a lower number of publicly financed
projects. Nevertheless, both firms experienced increasing profitability in this
sector in 1997 and 1998 by concentrating on regionally focused community
projects.
Tucker Anthony engages in the purchase and sale of convertible and equity
securities to take advantage of market price differences. Tucker Anthony's
arbitrage activities include both convertible and risk arbitrage. To the extent
that purchase and sale transactions are not simultaneous, or the closing of a
position is subject to a subsequent event such as the successful consummation of
a corporate merger, Tucker Anthony places a portion of its capital at risk.
Sutro and Cleary Gull do not engage in significant arbitrage activities. In
1998, arbitrage revenues represented less than three percent of the Company's
net revenues.
Tucker Anthony and Sutro hold memberships in the New York Stock Exchange
(the "NYSE") and in other major securities exchanges in the United States in
order to provide services to their brokerage clients in the purchase and sale of
listed securities.
The Company's wholly-owned subsidiary, Freedom Specialist Inc., has a 25%
interest in the profits and losses of a joint specialist account in which it
participates with two other NYSE specialist firms, RPM Specialist Corp. and R.
Adrian & Co. Specialists are responsible for executing transactions and
maintaining a fair and orderly market in securities under NYSE rules and
regulations. In this function, the specialist firm acts as an agent in executing
orders entrusted to it and/or acts as a dealer on the opposite side of public
orders in the security executed on the floor of the NYSE. As of December 31,
1998, the specialist firm acted as a specialist in 36 equity issues. Stock
settlement and clearing activities for the joint specialist account are provided
by RPM Clearing Corporation.
Retail client securities transactions are executed on either a cash or
margin basis. In a retail margin transaction, credit is extended to a client
through the Wexford clearing arrangement for the purchase of securities, using
the securities purchased and/or other securities in the client's account as
collateral for amounts loaned. The Company receives income from interest charged
on such extensions of credit. The financing of margin purchases can be an
important source of revenue to the Company, since the interest rate paid by the
client on funds loaned through Wexford exceeds the Company's interest costs for
net customer debit balances paid to Wexford. The amount of the Company's gross
interest revenues is affected not only by prevailing interest rates, but also by
the volume of business conducted on a margin basis. By permitting a client to
purchase on margin, the Company takes the risk that the client will not perform
its obligations under the margin loan to maintain adequate collateral in the
event that market declines reduce the value of the collateral below the
principal amount loaned. Amounts loaned are limited by margin regulations of the
Board of Governors of the Federal Reserve System and other regulatory
authorities and are subject to credit review and daily monitoring by Wexford,
Tucker Anthony, Sutro and Cleary Gull.
INITIAL PUBLIC OFFERING AND EMPLOYEE OWNERSHIP
On April 2, 1998, the Company completed its initial public offering of 7.4
million shares plus an over-allotment of 1.1 million shares (the "Offering"),
including 4.2 million shares of common stock ("Common
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Stock") sold by the Company. The Offering raised approximately $75.7 million for
the Company, after deducting underwriting discounts, commissions and expenses.
The Company used the proceeds and available cash to repay $77.5 million of debt.
The Common Stock is listed on the New York Stock Exchange under the symbol
"FSI".
In connection with the Offering, employees sold no shares of the Company's
Common Stock and purchased their entire allocation of 335,000 shares. As of
December 31, 1998, the Company's employees, including senior management and
investment executives, owned approximately 33% of the Company's outstanding
Common Stock, including shares purchased in the open market. Management believes
that significant employee ownership has resulted in progressively higher levels
of employee motivation, confidence and commitment.
Incentive equity programs, which are subject to various performance and
vesting requirements, have been established pursuant to which employees have
acquired or may acquire additional equity of the Company. As of December 31,
1998, option shares that have been granted or are authorized for grants under
these programs, when added to shares then owned, would result in employees
owning approximately 46% of the shares of Common Stock outstanding.
STRATEGIC ACQUISITIONS
Management believes that attractive acquisition opportunities exist
particularly among smaller regional firms that want to affiliate with a larger
firm while still retaining their regional identity, focus and entrepreneurial
culture, as Tucker Anthony and Sutro have been able to do. In addition, the
Company believes that the consolidation trends in the brokerage and asset
management businesses will allow it to hire proven investment professionals who
prefer the culture and opportunities inherent in a smaller, entrepreneurial and
independent firm. Management believes that acquisitions may also allow the
Company to realize cost benefits by leveraging its infrastructure. Since its
public offering, the Company has completed three important acquisitions.
Cleary Gull
On May 1, 1998, the Company completed its acquisition of Cleary Gull, a
privately held investment banking, institutional brokerage and investment
advisory firm headquartered in Milwaukee, Wisconsin. Cleary Gull was established
in 1987 as a private investment bank focusing on the equity capital markets
through institutional research, sales and trading, and investment banking
services. Cleary Gull's research analysts cover such areas as distribution and
logistics, healthcare, business services, technology and growth companies in the
upper midwestern United States. Cleary Gull's equity capital markets activities
include a national institutional sales force and over-the-counter and listed
trading services. Cleary Gull's investment banking activities are focused
primarily on merger and acquisition advisory services and financing assignments
in both public and private equity and debt markets. Cleary Gull recently
established its Investment Management Services group to provide retail brokerage
and investment management services to institutional accounts and high net worth
individuals.
Hopper Soliday & Co., Inc.
On January 19, 1999, the Company completed its acquisition of Hopper
Soliday & Co., Inc. ("Hopper Soliday"), and merged it with Tucker Anthony.
Hopper Soliday is an investment and municipal banking firm, founded in 1872 and
based in Lancaster, Pennsylvania. The acquisition of Hopper Soliday, which had
1998 revenues of approximately $20 million, enhances the Company's investment
and municipal finance business and provides greater penetration into markets in
Pennsylvania.
Charter Investment Group, Inc.
On February 1, 1999, the Company, through its Sutro subsidiary, acquired
Charter Investment Group, Inc. ("Charter"), a brokerage firm based in Portland,
Oregon. Charter, which had 1998 revenues of approximately $7.5 million and
approximately $900 million in brokerage accounts as of December 31, 1998,
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will add 28 investment executives to the Company's retail operations and provide
market penetration into Oregon.
RELATIONSHIP WITH WEXFORD
The Company clears all transactions, and carries accounts for customers and
proprietary accounts, with Wexford. Wexford furnishes the Company with
information necessary to run the Company's business, including commission runs,
transaction summaries, data feeds for various reports including compliance and
risk management, execution reports, trade confirmations and monthly account
statements; cashiering functions and the handling of margin accounts. As a
result of its arrangement with Wexford, the Company has achieved substantial
savings in its clearing and related operations. Under the Wexford arrangement,
management believes that the Company's cost of clearing its transactions is very
competitive with the industry's costs. The Company pays a fixed fee per trade,
subject to an aggregate annual minimum payment, for clearing trades through
Wexford.
Consistent with its strategy of providing its investment executives with a
high level of support, following the April 1996 conversion to the Wexford
clearing arrangement, the Company retained approximately 50 of its clearing
operation employees to serve as an interface between Wexford and the Company's
investment executives. The Company's retention of these employees allows its
investment executives to deal exclusively with Company employees in connection
with any client inquiries or problems. In addition to providing the Company and
its investment executives with access to advanced technology without substantial
capital investment by the Company, the Company's relationship with Wexford
enables the Company to provide its clients with benefits resulting from this
technology. The Company allows clients, for a fee, to access information
concerning their accounts and other market information from their own personal
computers and has acquired technology that will enable its investment executives
to communicate with its customers through electronic mail, subject to regulatory
requirements. The agreement between the Company and Wexford has a fixed term of
five years, with provisions for negotiated extensions.
The Company has an uncommitted financing arrangement with Wexford pursuant
to which the Company finances its customer accounts, certain broker-dealer
balances and firm trading positions through Wexford. Although the customer
accounts and such broker-dealer balances are not reflected on the Company's
statements of financial condition, the Company has agreed to indemnify Wexford
for losses it may sustain in connection with accounts of the Company's customers
and therefore retains risk with respect thereto. The Company seeks to control
the risks associated with these activities by requiring customers to maintain
margin collateral in compliance with various regulatory and internal guidelines.
The Company and Wexford monitor required margin levels daily and, pursuant to
such guidelines, request customers to deposit additional collateral or reduce
securities positions when necessary.
SEGMENT REPORTING
In order to meet new requirements of generally accepted accounting
principles, the Company is reporting business segment information for the first
time. The Company has two reportable segments: broker-dealer and asset
management. The Company's broker-dealer segment includes its retail operations,
investment banking, research, institutional sales and syndication service
businesses as well as its OTC, fixed income and arbitrage trading activities.
The asset management segment consists of Freedom Capital Management as well as
Tucker Anthony's and Sutro's managed account products and Cleary Gull's
Investment Management Services group. For further information, see Note 20 of
the audited financial statements contained in Item 8 of this report.
EMPLOYEES
As of December 31, 1998, the Company had a total of 1,998 employees, of
whom 1,273 were engaged in retail brokerage, 64 in institutional sales, 66 in
research, 135 in trading, 119 in investment banking, 65 in asset management, 67
in operations and trade support, 38 in exchange floor brokerage and order room,
34 in systems, technology and communications and 137 in legal and compliance,
accounting, and other administrative areas. Of these employees, 1,296 were
classified as professionals and 702 were classified in support
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positions. None of the Company's employees is subject to a collective bargaining
agreement. The Company believes that its relations with its employees generally
are good.
EFFECTS OF INTEREST RATES
The Company's business is affected by general economic conditions,
including movements of interest rates. The Company's inventory of fixed income
securities may fluctuate as interest rates change, and the Company's interest
income and interest expense may likewise change as interest rates change.
However, interest rates have indirect effects on other aspects of the Company's
business as well.
As interest rates increase, the price of equity securities may decline,
partially reflecting the increased competition posed by more attractive rates on
fixed income securities and partially reflecting the fact that interest rate
increases may tend to dampen economic activity by increasing the cost of capital
for investment and expansion, thereby reducing corporate profits and the value
of securities. As interest rates decline, securities may tend to rise in value.
The impact of these changes may affect the Company's inventory of securities,
which may change in value, and may also affect the profitability of the
Company's investment banking activities. Retail commission revenue may also be
affected by changes in interest rates and any resulting indirect impact on the
value of securities.
The Company's asset management revenues are derived from fees which are
generally based on the market value of assets under management. Consequently,
significant fluctuations in the values of securities, which can occur as a
result of changes in interest rates or changes in other economic factors, may
materially affect the amount of assets under management and thus the Company's
revenues and profitability.
COMPETITION
All aspects of the Company's business and of the securities industry in
general are highly competitive. The Company competes directly with national and
regional full-service broker-dealers, and to a lesser extent with discount
brokers and dealers, investment banking firms, investment advisors and certain
commercial banks. The Company also anticipates that recent and pending
legislative and regulatory initiatives intended to ease restrictions on the sale
of securities by commercial banks will increase competition from domestic and
international banks. In addition, the Company competes indirectly for investment
assets with insurance companies and others.
The financial services industry has recently undergone significant
concentration as numerous securities firms have either ceased operations or been
acquired by or merged into other firms. These mergers and acquisitions have
further concentrated equity capital and other financial resources in the
industry and increased competition. Many of the Company's competitors use their
greater financial capital and scope of operations to offer their customers more
product offerings, broader research capabilities, access to international
markets and other products and services not offered by the Company.
Competition from entities offering electronic and/or discount brokerage
services could increase competition in the securities industry. Competitors
offering Internet-based or other electronic brokerage services may have lower
costs and offer their customers more attractive pricing than other service
providers in the industry. The Company also anticipates additional competition
from underwriters who will attempt to conduct offerings of securities for
emerging and middle-market companies through new distribution channels such as
the Internet. Issuers may bypass financial intermediaries altogether and offer
their shares directly to purchasers through the Internet and other electronic
channels.
In addition, the Company faces competition for investment professionals.
Although the Company takes steps to maintain strong relationships with its
investment executives, the demand for investment executives has increased and
employers in the industry are increasingly offering guaranteed contracts,
upfront payments and increased compensation in an attempt to attract and retain
qualified personnel. The Company generally does not enter into written
employment agreements with its investment professionals.
The Company believes that the principal competitive factors influencing the
Company's business are: (1) the qualifications and experience of its
professional staff; (2) its reputation in the marketplace; (3) its
8
<PAGE> 10
existing client relationships; (4) its ability to commit capital to client
transactions; (5) the mix of market capabilities offered by the Company; and (6)
the adequacy of its capital levels and its ability to raise additional capital.
REGULATION
The securities and commodities industry is one of the nation's most
extensively regulated industries. Moreover, the regulations are subject to
change at any time, which can affect competition in the industry, capital
requirements and the Company's compliance costs.
The Commission is responsible for carrying out the federal securities laws
and serves as a supervisory body over all national securities exchanges and
associations. In many respects, the regulation of broker-dealers has been
delegated by the federal securities and commodities laws to self-regulatory
organizations ("SROs"). These SROs include all the national securities and
commodities exchanges, the National Association of Securities Dealers (the
"NASD") and the Municipal Securities Rulemaking Board (the "MSRB"). Subject to
review by the Commission and the Commodity Futures Trading Commission (the
"CFTC"), these SROs adopt rules that govern the industry and conduct periodic
examinations of the operations of certain subsidiaries of the Company. The NYSE
has been designated as the primary regulator of certain of the Company's
subsidiaries including Tucker Anthony and Sutro. In addition, these subsidiaries
are subject to regulation under the laws of the 50 states, the District of
Columbia, Puerto Rico and certain foreign countries in which they are registered
to conduct securities, investment banking, insurance or commodities business.
Broker-dealers are subject to regulations which cover all aspects of the
securities business, including sales methods, trade practices, use and
safekeeping of customers' funds and securities, capital structure of securities
firms, record-keeping and the conduct of directors, officers and employees.
Violation of applicable regulations can result in the revocation of
broker-dealer licenses, the imposition of censures or fines and the suspension
or expulsion of a firm, its officers or employees.
As registered broker-dealers or member firms of the NYSE, Tucker Anthony,
Sutro, Cleary Gull and Freedom Specialist Inc. are subject to certain net
capital requirements set forth in Rule 15c3-1 under the Securities Exchange Act
of 1934, as amended (the "Exchange Act"), and NYSE Rule 325. Freedom
Distributors Corporation, a subsidiary of Freedom Capital, is also subject to
Rule 15c3-1. The Net Capital Rules, which specify minimum net capital
requirements for registered broker-dealers, are designed to measure the
financial soundness and liquidity of broker-dealers. The Net Capital Rules also
(i) require that broker-dealers notify the Commission, in writing, two business
days prior to making withdrawals or other distributions of equity capital or
lending money to certain related persons if those withdrawals would exceed, in
any 30-day period, 30% of the broker-dealer's excess net capital, and that they
provide such notice within two business days after any such withdrawal or loan
that would exceed, and in any 30-day period, 20% of the broker-dealer's excess
net capital; (ii) prohibit a broker-dealer from withdrawing or otherwise
distributing equity capital or making related party loans if after such
distribution or loan, the broker-dealer's net capital is less than 120% of its
minimum net capital dollar amount or if the aggregate indebtedness of the
broker-dealer's consolidated entities would exceed 1,000% of the broker-dealer's
net capital and in certain other circumstances; and (iii) provide that the SEC
may, by order, prohibit withdrawals of capital from a broker-dealer for a period
of up to 20 business days, if the withdrawals would exceed, in any 30-day
period, 30% of the broker-dealer's excess net capital and if the SEC believes
such withdrawals would be detrimental to the financial integrity of the firm or
would unduly jeopardize the broker-dealer's ability to pay its customer claims
or other liabilities. Under NYSE Rule 326, a broker-dealer that is a NYSE member
is required to reduce its business if its net capital (after giving effect to
scheduled maturities of subordinated indebtedness or other planned withdrawals
of regulatory capital during the following six months) is less than either 125%
of its minimum net capital dollar amount or 4% of aggregate debit items (or 6%
of the funds required to be segregated pursuant to the Commodity Exchange Act)
for fifteen consecutive days. NYSE Rule 326 also prohibits the expansion of a
member's business if its net capital (after giving effect to scheduled
maturities of subordinated indebtedness or other planned withdrawals of
regulatory capital during the following six months) is less than either 150% of
its minimum net capital dollar amount or 5% of aggregate debit items (or 7% of
the funds required to be segregated pursuant to the Commodity Exchange Act) for
fifteen consecutive days. For information
9
<PAGE> 11
concerning compliance by the Company's subsidiaries with the Net Capital Rules,
see Note 14 of the audited financial statements included in Item 8 of this
report.
The Company also is subject to "Risk Assessment Rules" imposed by the
Commission which require, among other things, that certain broker-dealers
maintain and preserve certain information, describe risk management policies and
procedures and report on the financial condition of certain affiliates whose
financial and securities activities are reasonably likely to have material
impact on the financial and operational condition of the broker-dealers. Certain
"Material Associated Persons" (as defined in the Risk Assessment Rules) of the
broker-dealers and the activities conducted by such Material Associated Persons
may also be subject to regulation by the Commission. In addition, the
possibility exists that, on the basis of the information it obtains under the
Risk Assessment Rules, the Commission could seek authority over the Company's
unregulated subsidiaries either directly or through its existing authority over
the Company's regulated subsidiaries.
Tucker Anthony, Sutro, Cleary Gull, Freedom Capital and other subsidiaries
are registered with the Commission as investment advisors under the Investment
Advisors Act of 1940 (the "Advisors Act") and are subject to the requirements of
regulation pursuant to both the Advisors Act and certain state securities laws
and regulations. Such requirements relate to, among other things, limitations on
the ability of investment advisors to charge performance-based or non-refundable
fees to clients, record-keeping and reporting requirements, disclosure
requirements, limitations on principal transactions between an advisor or its
affiliates and advisory clients, as well as general anti-fraud prohibitions. The
state securities law requirements applicable to registered investment advisors
are in certain cases more comprehensive than those imposed under federal
securities laws.
As registered investment advisors under the Advisors Act, Tucker Anthony,
Sutro, Cleary Gull, Freedom Capital and certain other subsidiaries of the
Company are subject to regulations which cover various aspects of the Company's
business, including compensation arrangements. Under the Advisors Act, every
investment advisory agreement with the Company's clients must expressly provide
that such contract may not be assigned by the investment advisor without the
consent of the client. Under the Investment Company Act of 1940 (the "Investment
Company Act"), every investment advisor's agreement with a registered investment
company must provide for the agreement's automatic termination in the event it
is assigned. Under both the Advisors Act and the Investment Company Act, an
investment advisory agreement is deemed to have been assigned when there is a
direct or indirect transfer of the Agreement, including a direct assignment or a
transfer of a "controlling block" of the firm's voting securities or, under
certain circumstances, upon the transfer of a "controlling block" of the voting
securities of its parent corporation. A transaction is not, however, an
assignment under the Advisors Act or the Investment Company Act if it does not
result in a change of actual control or management of the investment advisor.
Any assignment of the Company's investment advisory agreements would require, as
to any registered investment company client, the prior approval of a majority of
its shareholders, and as to the Company's other clients, the prior consent of
such clients to such assignments.
The Company is also subject to the risk of losses as a result of customer
fraud, employee errors, misconduct and fraud (including unauthorized
transactions by traders) and failures in connection with the processing of
securities transactions. In the fourth quarter of 1997, the Company determined
that a former employee improperly valued securities positions of the Company
over the first eleven months of 1997 in order to conceal trading losses of $2.6
million. The Company recognized these losses in its 1997 financial results as
follows: $228,000 in the first quarter, $1,071,000 in the second quarter,
$431,000 in the third quarter and $901,000 in the fourth quarter. The Company
notified the Securities and Exchange Commission and the NYSE of this situation.
The Company has conducted an internal review of the specific trading loss and
the Company's reports and procedures relating thereto, and the Company has
enhanced procedures where appropriate. The Commission is investigating this
matter. The Company does not expect that the results of this investigation will
have a material adverse effect on the Company's business, financial condition or
operating results.
10
<PAGE> 12
ITEM 2. PROPERTIES
The principal executive offices of the Company are located at One Beacon
Street, Boston, Massachusetts under a lease expiring December 31, 2005. The
Company is currently leasing approximately 104,000 square feet at that location.
The Company also leases approximately 88,000 square feet (of which 18,000
square feet has been sublet) at One World Financial Center, 200 Liberty Street,
New York, New York, under a lease expiring in January 2005; 64,000 square feet
(of which 8,000 square feet has been sublet) at 201 California Street, San
Francisco, California under a lease expiring on July 31, 2003; 25,000 square
feet at 555 South Flower Street, Los Angeles, California under a lease expiring
July 31, 2002; and 24,000 square feet at 100 East Wisconsin Avenue, Milwaukee,
Wisconsin, under a lease expiring January 31, 2006. For the year ended December
31, 1998, the Company's net expenses for occupancy and equipment operating
leases were $18.3 million. The properties are shared by the Company's two
reportable segments; there are no properties being used exclusively by one
segment or the other. The Company believes that its existing facilities will be
adequate for the foreseeable future.
ITEM 3. LEGAL PROCEEDINGS
The Company and its subsidiaries are parties to various civil actions and
arbitrations incidental to its securities business. Some of these legal actions
involve claims for substantial amounts. The defense of such legal proceedings
may divert the attention of the Company's management, and the Company may incur
significant legal expenses in defending such claims or litigation. While the
ultimate outcome of these matters cannot be ascertained at this time, it is the
opinion of management that the resolution of such suits will not have a material
adverse effect on the Company's consolidated financial position or results of
operation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth information regarding the executive officers
of the Company as of March 1, 1999. The executive officers of the Company hold
office until their successors are appointed and qualify.
<TABLE>
<CAPTION>
EXECUTIVE OFFICER
OF THE COMPANY
OR THE PREDECESSOR
NAME AGE POSITION COMPANY SINCE
---- --- -------- ------------------
<S> <C> <C> <C>
John H. Goldsmith...................... 57 Chairman of the Board of Directors and 1988
Chief Executive Officer of the Company
and Chief Executive Officer of Tucker
Anthony Incorporated
William C. Dennis, Jr.................. 55 Executive Vice President and Chief 1997
Financial Officer of the Company
John F. Luikart........................ 49 Director of the Company and Chairman 1995
and Chief Executive Officer of Sutro
Kevin J. McKay......................... 50 Executive Vice President, General 1994
Counsel and Secretary of the Company
David P. Prokupek...................... 37 Director of the Company and President 1998
and Chief Executive Officer of Cleary
Gull
Robert H. Yevich....................... 50 Director of the Company and President 1995
of Tucker Anthony
</TABLE>
11
<PAGE> 13
JOHN H. GOLDSMITH. Mr. Goldsmith joined Freedom Securities Holding
Corporation (the Predecessor Company to Freedom) in 1988 and has served as
Chairman, Director and Chief Executive Officer of the Predecessor Company as
well as Chief Executive Officer of Tucker Anthony since that time. Mr. Goldsmith
has served as Chairman, Director and Chief Executive Officer of the Company
since the Acquisition in 1996. Prior to joining Freedom Securities Holding
Corporation, Mr. Goldsmith served in various capacities at Prescott, Ball &
Turben in Cleveland, Ohio, including as Managing Partner and Chief Executive
Officer from 1978 to 1982 and as President and Chief Executive Officer from 1982
to 1988. Mr. Goldsmith worked in the institutional sales department of L.F.
Rothschild from 1963 to 1971.
WILLIAM C. DENNIS, JR. Mr. Dennis was elected Executive Vice President and
Chief Financial Officer of the Company in May 1997. Prior to joining the
Company, he was a Director and Chief Financial Officer of Rodman & Renshaw
Capital Group, Inc., a financial services firm, from 1996 to 1997. Previously,
Mr. Dennis was a managing director of MIS, Inc., a database management company,
and prior to joining MIS, Inc. he was Chief Financial Officer of the Capital
Markets Sector of Merrill Lynch & Co., Inc. Earlier in his career, Mr. Dennis
was a senior financial executive of Exxon Corporation.
JOHN F. LUIKART. Mr. Luikart joined Sutro in 1988 as Executive Vice
President and was responsible for directing all of the firm's capital markets
activities. Mr. Luikart became President of Sutro in 1990. Mr. Luikart was
subsequently elected to the Board of Directors of Freedom Securities Holding
Corporation and appointed Chief Executive Officer of Sutro in October 1995. Mr.
Luikart became Chairman of Sutro in October 1998 and has served as a Director of
Freedom since the Acquisition in November 1996. Prior to joining Sutro, Mr.
Luikart served as General Partner and Executive Vice President at Prescott, Ball
& Turben in Cleveland, Ohio. Mr. Luikart is a former Chairman of the NASD
District Business Conduct Committee and is a former member of the New York Stock
Exchange Regional Firm Advisory Committee.
KEVIN J. MCKAY. Mr. McKay joined Freedom Securities Holding Corporation in
1994 and has served as General Counsel and Secretary of Freedom Securities
Holding Corporation since that time. Mr. McKay has served as General Counsel and
Secretary of the Company since the Acquisition in 1996. Prior to joining Freedom
Securities Holding Corporation, Mr. McKay was General Counsel of Prudential
Securities Incorporated from 1990 to 1994. Mr. McKay has over 20 years of
experience in the legal and compliance field of the securities industry. Mr.
McKay is a past President of the Compliance & Legal Division of the Securities
Industry Association.
DAVID P. PROKUPEK. Mr. Prokupek was elected to the Freedom Board of
Directors in May 1998, following the acquisition of Cleary Gull. He joined
Cleary Gull as Managing Director of the Investment Banking Department in 1992,
was elected a director in 1994, and was named Chief Executive Officer in 1996.
Prior to joining Cleary Gull, Mr. Prokupek was a Managing Director of American
Asset Management, a New York-based investment counselor and merchant bank, and
from 1987 to 1989, he was a member of Bankers Trust Company's Merchant Banking
Group.
ROBERT H. YEVICH. Mr. Yevich joined Tucker Anthony in 1985 and became
National Sales Manager in 1988. Mr. Yevich was elected to the Board of Directors
of Freedom Securities Holding Corporation and promoted to President of Tucker
Anthony in 1995. Mr. Yevich has served as Director of Freedom since the
Acquisition in November 1996. Mr. Yevich has 25 years of varied experience in
the retail brokerage business as a stockbroker, branch manager and research
associate. Prior to joining Tucker Anthony, Mr. Yevich served as branch manager
with Paine Webber.
12
<PAGE> 14
PART II
ITEM 5. MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS
(a) Market Information
The Company's Common Stock is listed on the NYSE under the symbol "FSI."
The high and low sales prices per share of the Company's Common Stock by quarter
since the Offering in April 1998 were as follows:
<TABLE>
<CAPTION>
QUARTER HIGH LOW
- ------- ---- ---
<S> <C> <C>
Second 1998............................................... $23 1/8 $17 3/16
Third 1998................................................ 21 1/2 11 11/16
Fourth 1998............................................... 19 9 3/8
</TABLE>
As of March 1, 1999, the closing sales price per share of the Company's
Common Stock was $16.00.
(b) Holders
As of March 1, 1999 there were approximately 865 record holders of the
Company's Common Stock, according to the records maintained by the Company's
transfer agent. As of March 1, 1999, the Company estimates that there were over
6,900 beneficial owners of the Company's Common Stock.
(c) Dividends
Since the Offering of the Company's Common Stock, the Company has paid a
cash dividend of $0.04 per share on August 25, 1998, November 25, 1998 and March
8, 1999 and currently intends to declare similar quarterly dividends in the
future. The Company did not pay dividends from the time of the Acquisition until
the Offering. The timing and amount of future dividends will be determined by
the Company's Board of Directors and will depend, among other factors, upon the
Company's earnings, financial condition and cash requirements at the time such
payment is considered. Furthermore, the net capital rules of the various
regulatory bodies impose limitations on the payment of dividends by the Company.
13
<PAGE> 15
ITEM 6. SELECTED FINANCIAL DATA
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
PREDECESSOR COMPANY
COMBINED(a) -----------------------------------------
YEARS ENDED ------------ ONE MONTH ELEVEN MONTHS YEARS ENDED
DECEMBER 31 YEAR ENDED ENDED ENDED DECEMBER 31
------------------------ DECEMBER 31 DECEMBER 31 NOVEMBER 29 ------------------------
1998 1997 1996 1996 1996 1995 1994
---------- ---------- ----------- ----------- ------------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
FINANCIAL RESULTS
Net revenues............... $ 440,376 $ 376,814(b) $ 350,239(b) $ 28,836(b) $ 321,403(b) $ 332,762(b) $ 297,066(b)
Income before income
taxes.................... $ 44,594 $ 32,435 $ 21,807 $ 1,420 $ 20,387 $ 22,284 $ 10,876
Net income before
extraordinary item....... $ 26,411 $ 18,698 $ 12,283 $ 740 $ 11,543 $ 13,064 $ 6,415
Net income after
extraordinary item (c)... $ 25,135 $ 18,698 $ 12,283 $ 740 $ 11,543 $ 13,064 $ 6,415
PER COMMON SHARE
Basic earnings before
extraordinary item....... $ 1.41(d) $ 1.31 -- $ 0.05 -- -- --
Basic earnings after
extraordinary item (c)... $ 1.34(d) $ 1.31 -- $ 0.05 -- -- --
Diluted earnings before
extraordinary item....... $ 1.34(d) $ 1.27 -- $ 0.05 -- -- --
Diluted earnings after
extraordinary item (c)... $ 1.28(d) $ 1.27 -- $ 0.05 -- -- --
Cash dividends declared.... $ 0.08 -- -- -- -- -- --
Book value at end of
period................... $ 11.13 $ 6.96 $ 5.55 -- -- -- --
FINANCIAL CONDITION
Total assets............... $ 606,250 $ 727,587 $ 516,952 -- -- $1,214,003 $1,037,920
Long-term borrowings....... $ 16,709 $ 101,446 $ 110,819 -- -- -- --
Stockholders' equity....... $ 223,390 $ 102,326 $ 79,468 -- -- $ 152,781 $ 145,468
Common shares outstanding
at end of period......... 20,079 14,704 14,313 -- -- 1 1
OTHER FINANCIAL DATA
EBITDA(e).................. $ 61,393 $ 50,742 $ 37,424 $ 3,095 $ 34,329 $ 34,246 $ 21,730
Pre-tax margin............. 10.1% 8.6% 6.2% -- -- 6.7% 3.7%
Return on average equity
(f)...................... 16.2% 20.6% 10.6% -- -- 8.8% 4.5%
Assets in retail brokerage
accounts at end of period
(in billions)............ $ 31.7 $ 27.5 $ 23.4 -- -- $ 20.8 $ 16.8
</TABLE>
- ---------------
(a) Based on the consolidated results of the Company for the one month ended
December 31,1996 combined with the consolidated results of the Predecessor
Company for the eleven months ended November 29, 1996.
(b) Amounts have been reclassified to conform with 1998 financial statement
presentation.
(c) Extraordinary item of $1.2 million after tax represents the write-off of
capitalized debt costs as a result of the retirement of $77.5 million in
debt in conjunction with the Company's April 2, 1998 initial public
offering.
(d) Earnings per share in 1998 as compared to prior periods reflect a
significant increase in shares outstanding due to the Company's 1998 public
offering.
(e) EBITDA represents earnings before extraordinary item, acquisition interest
expense, taxes, depreciation and amortization. EBITDA is a supplemental
measure of operating results or cash flow from operations and is a widely
accepted financial indicator of a company's liquidity. It is not an
alternative measure of operating results or cash flow from operations as
determined in accordance with generally accepted accounting principles.
(f) Return on average equity for 1998 is before extraordinary item.
14
<PAGE> 16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
BUSINESS ENVIRONMENT
The Company's retail securities brokerage activities, as well as its
investment banking, asset management, institutional sales and trading and equity
research services, are highly competitive and subject to various risks including
volatile trading markets and fluctuations in the volume of market activity.
These markets are affected by general economic and market conditions, including
fluctuations in interest rates, volume and price levels of securities and flows
of investor funds into and out of mutual funds and pension plans and by factors
that apply to particular industries such as technological advances and changes
in the regulatory environment. Declining interest rates and an improving
economic environment contributed to a significant increase in activity in the
equity markets in the United States throughout 1996 and 1997. The United States
economy remained strong during 1998, with stable interest rates and low
inflation. The financial markets experienced periods of heavy volatility during
August and September 1998, resulting in a difficult operating environment for
the third quarter, particularly in trading and investment banking activities.
The financial markets stabilized somewhat in the fourth quarter of 1998. The
Company's financial results have been and may continue to be subject to
fluctuations due to these and other factors. Consequently, the results of
operations for a particular period may not be indicative of results to be
expected for other periods.
COMPANY DEVELOPMENTS
Management believes that certain factors positively impacted operating
results in 1998. First, except for much of the second half of 1998, favorable
economic conditions generally resulted in strong securities markets. Second,
changing from private to public ownership aided in the retention and recruiting
of quality employees, especially in the Company's retail and equity capital
markets businesses. Third, the acquisition of Cleary Gull provided the Company
with a strong presence in the midwestern United States and significantly
enhanced the Company's investment banking, equity research and institutional
trading businesses.
Initial Public Offering
On April 2, 1998, the Company completed its initial public offering of 7.4
million shares plus an over-allotment of 1.1 million shares, including 4.2
million shares of Common Stock sold by the Company. The Offering raised
approximately $75.7 million for the Company, after deducting underwriting
discounts, commissions and expenses. The Company used the proceeds and available
cash to repay $77.5 million of debt.
Cleary Gull Acquisition
On May 1, 1998, the Company completed its acquisition of Cleary Gull, a
privately held investment banking, institutional brokerage and investment
advisory firm headquartered in Milwaukee, Wisconsin. Cleary Gull was established
in 1987 as a private investment bank focusing on the equity capital markets
through institutional research, sales and trading, and investment banking
services. Cleary Gull's research analysts cover such areas as distribution and
logistics, healthcare, business services, technology and growth companies in the
upper midwestern United States. Cleary Gull's equity capital markets activities
include a national institutional sales force and over-the-counter and listed
trading services. Cleary Gull's investment banking activities are focused
primarily on merger and acquisition advisory services and financing assignments
in both public and private equity and debt markets. Cleary Gull recently
established its Investment Management Services group to provide retail brokerage
and investment management services to institutional accounts and high net worth
individuals. The acquisition was accounted for by the Company using the purchase
method of accounting and its consolidated financial statements include the
results of Cleary Gull's operations from the date of acquisition.
15
<PAGE> 17
COMPONENTS OF REVENUES AND EXPENSES
REVENUES. Commission revenues include retail and institutional commissions
received by the Company as an agent in securities transactions, including all
exchange listed, over-the-counter agency, mutual fund, insurance and annuity
transactions. Principal transactions revenues include principal sales credits
and dividends as well as gains and losses from the trading of securities by the
Company as principal. Investment banking revenues include selling concessions,
underwriting fees and management fees received from the underwriting of
corporate or municipal securities as well as fees earned from providing merger
and acquisition and other financial advisory services. Asset management revenues
include fees generated from providing investment advisory, portfolio management
and custodial services to clients, as well as managed account fees and 12b-1
distribution fees. Other revenues primarily consist of retirement plan revenue
and third party correspondent clearing fees. Interest income primarily consists
of interest earned on margin loans made to customers, securities purchased under
agreements to resell and fixed income securities held in the Company's trading
accounts. Net revenues equal total revenues less interest expense. Interest
expense includes interest incurred under its Wexford financing arrangement and
on bank borrowings, securities sold under agreements to repurchase, fixed asset
financing and cash balances in customer accounts.
EXPENSES. Compensation and benefits expense includes sales, trading and
incentive compensation, which are primarily variable based on revenue production
and/or business unit profit contribution, and salaries, payroll taxes and
employee benefits which are relatively fixed in nature. Incentive compensation,
including bonuses for eligible employees, is accrued proratably throughout the
year based on actual or estimated annual amounts. Brokerage and clearance
expense includes the cost of securities clearance, floor brokerage and exchange
fees. Communications expense includes service charges for telecommunications,
news and market data services. Occupancy and equipment expense includes rent and
operating expenses for facilities, expenditures for repairs and maintenance, and
depreciation and amortization of furniture, fixtures and leasehold improvements.
Promotional expense includes travel, entertainment and advertising. Other
expenses include general and administrative expenses, including professional
services, litigation expenses, goodwill amortization, data processing and other
miscellaneous expenses. Acquisition interest expense represents the interest
incurred under the previous revolving credit agreement, the balance of which was
repaid with proceeds from the Company's Offering in April 1998.
16
<PAGE> 18
RESULTS OF OPERATIONS
The following table sets forth year-to-year increases (decreases) in the
major revenue and expense categories (in thousands):
<TABLE>
<CAPTION>
1998 1997
TWELVE MONTHS ENDED COMPARED TO COMPARED TO
DECEMBER 31, 1997 1996
---------------------------------- ------------------ ------------------
1998 1997(a) 1996(a)(b) AMOUNT PERCENT AMOUNT PERCENT
---- ------- ---------- ------ ------- ------ -------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenues:
Commissions......................... $178,959 $157,193 $145,241 $21,766 14% $11,952 8%
Principal transactions.............. 98,287 97,958 103,099 329 0 (5,141) (5)
Investment banking.................. 82,255 57,683 39,210 24,572 43 18,473 47
Asset management.................... 47,294 34,376 32,803 12,918 38 1,573 5
Other............................... 8,569 7,976 8,322 593 7 (346) (4)
-------- -------- -------- ------- -------
Total operating revenues........ 415,364 355,186 328,675 60,178 17 26,511 8
Interest income..................... 50,848 44,056 49,847 6,792 15 (5,791) (12)
-------- -------- -------- ------- -------
Total revenues.................. 466,212 399,242 378,522 66,970 17 20,720 5
Interest expense.................... 25,836 22,428 28,283 3,408 15 (5,855) (21)
-------- -------- -------- ------- -------
Net revenues.................... 440,376 376,814 350,239 63,562 17 26,575 8
Non-interest expenses:
Compensation and benefits........... 286,072 245,159 228,046 40,913 17 17,113 8
Occupancy and equipment............. 23,557 21,431 30,651 2,126 10 (9,220) (30)
Communications...................... 19,181 17,105 17,912 2,076 12 (807) (5)
Brokerage and clearance............. 13,170 11,739 11,894 1,431 12 (155) (1)
Promotional......................... 14,115 10,452 9,974 3,663 35 478 5
Other............................... 38,223 32,441 29,388 5,782 18 3,053 10
-------- -------- -------- ------- -------
Total non-interest expenses..... 394,318 338,327 327,865 55,991 17 10,462 3
Acquisition interest expense............ 1,464 6,052 567 (4,588) (76) 5,485 (c)
-------- -------- -------- ------- -------
Income before income taxes.............. 44,594 32,435 21,807 12,159 37 10,628 49
Income tax expense...................... 18,183 13,737 9,524 4,446 32 4,213 44
-------- -------- -------- ------- -------
Net income before extraordinary item.... 26,411 18,698 12,283 7,713 41 6,415 52
Extraordinary item (net of
tax)(d)........................... (1,276) -- -- (1,276) (c) -- --
-------- -------- -------- ------- -------
Net income after extraordinary item..... $ 25,135 $ 18,698 $ 12,283 $ 6,437 34% $ 6,415 52%
======== ======== ======== ======= =======
</TABLE>
- ---------------
(a) Certain amounts have been reclassified from those previously reported to
conform with 1998 financial statement presentation.
(b) Based on the consolidated results of the Company for the one month ended
December 31,1996 combined with the consolidated results of the Predecessor
Company for the eleven months ended November 29, 1996.
(c) Not meaningful.
(d) Extraordinary item is related to the write-off of capitalized debt costs as
a result of the retirement of $77.5 million in debt in conjunction with the
Company's April 2, 1998 initial public offering.
17
<PAGE> 19
1998 Compared to 1997
The Company achieved record operating results in 1998 compared to 1997. Net
revenues increased $63.6 million or 17% to $440.4 million in 1998 from $376.8
million in 1997 and, with the exception of principal transactions, reflected
increases in generally all revenue categories. Net income before extraordinary
item was $26.4 million, up $7.7 million or 41% for 1998 versus $18.7 million in
1997.
Earnings per common share (diluted) before extraordinary item were $1.34 in
1998, compared to $1.27 in 1997. Earnings per common share in 1998 were
significantly impacted by the increase in the number of shares outstanding
following the Company's Offering. Earnings per share (diluted) on a pro forma
basis, adjusted to reflect the public offering, repayment of debt and the Cleary
Gull acquisition as if they had occurred at the beginning of 1997, would result
in a year over year improvement in pro forma earnings per share of $0.22 versus
the $0.07 improvement actually reported.
Total operating revenues increased $60.2 million or 17% to $415.4 million
in 1998 from $355.2 million in 1997. During 1998 and 1997, Tucker Anthony
contributed 56% and 59%, respectively, of the Company's total operating
revenues; Sutro contributed 31% and 35%, respectively; and Freedom Capital
contributed 6% in each year. Cleary Gull contributed 6% during 1998.
Commission revenues increased $21.8 million or 14% to $179.0 million in
1998 from $157.2 million in 1997, due to higher institutional sales as well as
increased volume in the Company's retail businesses, resulting from increased
average production per retail investment executive, a greater number of
investment executives and penetration into new markets. The Company opened three
new retail branches in 1998 and hired 105 new investment executives.
Principal transactions revenues of $98.3 million in 1998 were essentially
flat when compared to $98.0 million in 1997. Although fixed income related
revenues rose 14% from 1997, this increase was offset by lower over-the-counter
and arbitrage trading revenues. Arbitrage trading activities were adversely
impacted by turbulent financial market conditions in the 1998 third quarter, but
rebounded during the fourth quarter and were profitable for the year.
Investment banking revenues increased $24.6 million or 43% to $82.3 million
in 1998 from $57.7 million in 1997. The improvement in investment banking
revenues resulted from higher public offering revenues during the first six
months of the year, continued growth in merger and acquisition and advisory
activities, and the inclusion of Cleary Gull in 1998.
Asset management revenues grew $12.9 million or 38% to $47.3 million in
1998 from $34.4 million in 1997, and now represent 11% of the Company's total
net revenues. This revenue increase reflected the overall growth in assets under
management, which grew 38% to over $9.0 billion at year end 1998 and resulted
from both new money added to the funds as well as asset appreciation arising
from equity market performance.
Interest income increased $6.8 million or 15% to $50.8 million in 1998 from
$44.0 million in 1997, due primarily to the combination of higher interest
income on higher average customer margin balances and greater stock borrow
activity. Interest expense, excluding those expenses associated with financing
the Acquisition, increased $3.4 million or 15% to $25.8 million for 1998 from
$22.4 million in 1997, mainly reflecting the financing of higher average firm
inventory and customer balances. Acquisition interest expense decreased $4.6
million during 1998 reflecting the retirement of debt in conjunction with the
Company's public offering.
Compensation and benefits expense increased $40.9 million or 17% to $286.1
million in 1998 from $245.2 million in 1997, primarily due to increased
incentive and production-related compensation attributable to higher revenues
and the inclusion of Cleary Gull in 1998. Compensation and benefits as a
percentage of net revenues were 65% for both 1998 and 1997.
Non-compensation related operating expenses increased an aggregate of $15.0
million or 16% to $108.2 million in 1998 from $93.2 million in 1997. The
increase in 1998 included approximately $6.7 million of operating expenses for
Cleary Gull, which was acquired in 1998. Non-compensation related operating
expenses as a percentage of net revenues were 25% in both 1998 and 1997.
Communication expenses increased
18
<PAGE> 20
$2.1 million or 12% (including $0.9 million from Cleary Gull) to $19.2 million
in 1998 from $17.1 million in 1997 primarily due to upgrades to the Company's
market data technology. Promotional expenses increased $3.7 million or 35%
(including $1.2 million from Cleary Gull) to $14.1 million in 1998 from $10.4
million in 1997 due to increased spending on research conferences, advertising,
business development and travel. Other expenses, which include professional
fees, data processing, printing, postage and license/registration fees,
increased $5.8 million or 18% (including $2.7 million from Cleary Gull) to $38.2
million in 1998 from $32.4 million in 1997.
The Company's income tax provisions for 1998 and 1997 were $18.2 million
and $13.7 million, respectively. The effective tax rate was 41% for 1998, down
from 42% in 1997 reflecting an increase in income not subject to tax.
1997 Compared to 1996
The Company experienced strong operating results in 1997 compared to 1996.
Revenues increased in all of the Company's core businesses, with the exception
of principal transaction revenues, and expenses declined as a percentage of net
revenues. Net income increased $6.4 million or 52% to $18.7 million in 1997 from
net income of $12.3 million in 1996, even after deducting after-tax expenses of
$5.9 million in 1997 related to the Acquisition (primarily amortization of
goodwill and interest and other expenses related to the former credit facility).
Total operating revenues increased $26.5 million or 8% to $355.2 million in
1997 from $328.7 million in 1996. During 1997 and 1996, Tucker Anthony
contributed 59% and 61%, respectively, of the Company's total operating revenues
while Sutro contributed 35% and 32%, respectively, and Freedom Capital
contributed 6% and 7%, respectively. Net revenues, including the effect of
interest income and interest expense, other than the Acquisition interest
expense, increased $26.6 million or 8% to $376.8 million in 1997 versus $350.2
million in 1996.
Commission revenues increased $12.0 million or 8% to $157.2 million in 1997
from $145.2 million in 1996, due to increases in the Company's retail
businesses, reflecting the growth in listed share volume on all the major equity
exchanges, higher mutual fund commission revenue and increased average
production per retail investment executive.
Principal transaction revenues declined $5.1 million or 5% to $98.0 million
in 1997 from $103.1 million in 1996, mainly due to the combined result of
management's decision to discontinue certain institutional fixed income business
resulting in a decline of $1.5 million, the $1.3 million net effect of a
decrease in convertible arbitrage trading profits as interest rates declined
during the period partially offset by improvement in risk arbitrage trading, and
a mortgage-backed securities trading loss of $2.6 million caused by a former
employee, partially offset by a $0.8 million improvement in the trading of
equities.
Investment banking revenues increased $18.5 million or 47% to $57.7 million
in 1997 from $39.2 million in the prior year. The higher investment banking
revenues resulted from increased underwriting activity, similar to that
experienced in the securities industry generally, and from the Company's
refocused and increased emphasis on the public offering business at Tucker
Anthony and Sutro. Additionally, the Company generated an increase in private
placement, advisory and merger and acquisition fees of 17% over 1996.
Asset management revenues increased $1.6 million or 5% to $34.4 million in
1997 from $32.8 million in 1996. This revenue increase arose primarily in the
institutional area where assets grew 14% to $1.7 billion and related revenues
increased 21% or $1.0 million in 1997, reflecting the full year effect of new
accounts at year-end 1996 and asset appreciation arising from equity market
performance which produced higher fee income. Total assets under management grew
to $6.5 billion at year end 1997 from $6.1 billion at year end 1996.
Interest income decreased $5.8 million or 12% to $44.0 million in 1997 from
$49.8 million in 1996, due to a $10.1 million decline in interest income mainly
on lower average government bond inventories partially offset by $4.4 million of
higher interest income on customer balances. Interest expense, excluding those
expenses associated with financing the Acquisition, decreased $5.9 million or
21% to $22.4 million in 1997 from $28.3 million in 1996, reflecting lower
average inventory balances. Acquisition interest expense increased
19
<PAGE> 21
$5.5 million during 1997 reflecting the full year effect of borrowings under the
previous revolving credit agreement made at the time of the Acquisition in
November 1996.
Compensation and benefits expense increased $17.1 million or 8% to $245.2
million in 1997 from $228.1 million in 1996, primarily due to increased
incentive and production-related compensation, offset by lower fixed expenses
resulting from back office support personnel reductions associated with the
outsourcing of the Company's clearing function in 1996 and substantial
organizational changes in the fixed income area. Compensation and benefits as a
percentage of net revenues remained virtually unchanged at 65% in 1997 as
compared to 1996. During 1997, the Company incurred $1.4 million of non-cash
compensation expense resulting from the issuance of Common Stock and stock
options to its employees.
Non-compensation related operating expenses decreased an aggregate of $6.6
million or 7% to $93.2 million for 1997 from $99.8 million in 1996, primarily
due to the realization of benefits from outsourcing and other cost efficiencies
initiated by management. Non-compensation related expenses as a percentage of
net revenues declined to 25% in 1997 from 29% in 1996. Specifically,
communications expense decreased $0.8 million, or 5%, and occupancy and
equipment expense decreased $9.2 million, or 30% (including a one-time charge of
$4.5 million in 1996 related to entering into the Wexford clearing arrangement).
These decreases were partially offset by an increase in promotional expense of
$0.5 million or 5% and an increase in other expenses which totaled $32.4 million
in 1997 (including $1.9 million in goodwill amortization relating to the
Acquisition), as compared to 1996 when other expenses totaled $29.4 million
(including a one-time credit of $6.3 million due to an insurance recovery
associated with litigation expenses incurred during a prior period). Without
giving effect to such amortization expense and insurance recovery, other
expenses in 1997 decreased $5.0 million or 14% compared to 1996, primarily as a
result of the Wexford clearing arrangement.
The Company's income tax provisions in 1997 and 1996 were $13.7 million and
$9.5 million, respectively, which represented a 42% effective tax rate in 1997
and a 44% effective tax rate in 1996. The lower effective tax rate in 1997 was
due mainly to an increase in non-taxable income.
LIQUIDITY AND CAPITAL RESOURCES
The Company receives dividends, interest on loans and other payments from
its subsidiaries, which are the Company's primary sources of funds to pay
expenses, service debt and pay dividends. Distributions and interest payments to
the Company from its registered broker-dealer subsidiaries, the Company's
primary sources of liquidity, are restricted as to amounts which may be paid by
applicable law and regulations. The Net Capital Rules are the primary regulatory
restrictions regarding capital resources. The Company's rights to participate in
the assets of any subsidiary are also subject to prior claims of the
subsidiary's creditors, including customers of the broker-dealer subsidiaries.
Borrowings under the previous revolving credit agreement were repaid in
full by the Company with the net proceeds of the Offering and available cash,
leaving the Company with $16.7 million of indebtedness at year end 1998 under a
fixed asset credit facility (the "Fixed Asset Facility") secured by the
Company's fixed assets. In August 1998, the Company entered into a new unsecured
revolving credit agreement (the "Credit Agreement") whereby participating banks
have made commitments totaling $50 million. Under the Credit Agreement, the
Company has the option to borrow at the federal funds rate or the eurodollar
rate (each plus applicable margin as defined, ranging from 0.50% to 0.75% based
on a calculated leverage ratio) or the agent's base rate. Borrowings under the
Credit Agreement, which matures on August 21, 2001, may be prepaid without
penalty. Additionally, the Company must pay a quarterly commitment fee for the
new credit facility calculated at 0.15% per year on the unused facility. At
December 31, 1998, the Company did not have any borrowings under the Credit
Agreement.
The assets of the Company's primary operating subsidiaries are highly
liquid with the majority of such assets consisting of securities inventories and
collateralized receivables, both of which fluctuate depending on the levels of
customer business. Collateralized receivables consist mainly of securities
purchased under agreements to resell, which are secured by U.S. government and
agency securities. A relatively small percentage of total assets is fixed or
held for a period of longer than one year.
20
<PAGE> 22
The majority of the subsidiaries' assets are financed through Wexford, by
securities sold under repurchase agreements and by securities sold, not yet
purchased. The Company's principal source of short-term financing is based on
its clearing arrangement with Wexford under which the Company can borrow on an
uncommitted collateralized basis against its proprietary inventory positions.
This financing generally is obtained from Wexford at rates based upon prevailing
market conditions. The Company monitors overall liquidity by tracking the extent
to which unencumbered marketable assets exceed short-term unsecured borrowings.
Repurchase agreements are used primarily for customer accommodation
purposes and to finance the Company's inventory positions in U.S. government and
agency securities. These positions provide products and liquidity for customers
and are not maintained for the Company's investment or market speculation. The
level of activity fluctuates depending on customer and inventory needs; however,
these fluctuations have not materially affected liquidity or capital resources.
The Company monitors the collateral position and counterparty risk on these
transactions daily.
The subsidiaries' total assets and short-term liabilities and the
individual components thereof may vary significantly from period to period
because of changes relating to customer needs and economic and market
conditions. The Company's total assets at December 31, 1998 and December 31,
1997 were $606.3 million and $727.6 million, respectively.
The Company's operating activities generate cash resulting from net income
earned during the period and fluctuations in its current assets and liabilities.
The most significant fluctuations have resulted from changes in the level of
customer activity and securities inventory changes resulting from proprietary
arbitrage trading strategies dictated by prevailing market conditions.
The Acquisition was funded through proceeds from the sale of Common Stock
and borrowings under the previous revolving credit agreement. The acquisition of
Cleary Gull was funded through the issuance of shares of the Company's Common
Stock and with funds generated from operating activities.
As noted above, the Company maintains, through two subsidiaries, the Fixed
Asset Facility with BancBoston Leasing Inc. which matures in 2001 and had an
outstanding balance at December 31, 1998 of $16.7 million. The Company has
historically financed capital expenditures through internal cash generation and
through the Fixed Asset Facility. For the years ended December 31, 1998 and
December 31, 1997, the Company had capital expenditures of approximately $5.1
million and $2.0 million, respectively, which were funded from operations. In
January 1999, the Company refinanced a portion of the Fixed Asset Facility and
secured additional financing for a $4.7 million upgrade of its computer system.
This new financing bears interest at 5.15% annually and is payable in equal
monthly installments through May 2003.
In addition to normal operating requirements, capital is required to
satisfy financing and regulatory requirements on securities inventories and
investment banking commitments. The Company's overall capital needs are
continually reviewed to ensure that its capital base can appropriately support
the anticipated capital needs of the subsidiaries. Management believes that
existing capital funds provided from operations, the current credit arrangements
with Wexford and the unutilized Credit Agreement from participating banks will
be sufficient to finance the operating subsidiaries' ongoing businesses.
In September 1998, the Board of Directors approved a stock repurchase
program that permits the Company's management to purchase at its discretion up
to five percent of its Common Stock outstanding or approximately one million
shares. The Company will fund the stock repurchases from internal sources or
through borrowings and will use the shares for issuance of stock under employee
stock option and stock purchase plans, or retain the shares as treasury stock.
As of December 31, 1998, the Company had repurchased 76,290 shares at an average
price of $15.36 per share. In January 1999, the Company purchased 494,748 shares
from SCP Private Equity Partners, L.P., one of the original equity investors in
the Company, at $15.56 per share. This purchase was not part of the stock
repurchase program and was funded from operations of the Company.
21
<PAGE> 23
CASH FLOWS
Cash and cash equivalents at December 31, 1998 and 1997 totaled $11.3
million and $12.9 million, respectively. For the year ended December 31, 1998,
funds generated from operating activities of $16.3 million, including net income
of $25.1 million, along with available cash and proceeds from the Company's
Offering were used primarily for purchases of fixed assets, repayment of debt
and to fund the acquisition of Cleary Gull.
Net proceeds of approximately $75.7 million from the Offering on April 2,
1998 and available cash were used to repay the $77.5 million bank debt
outstanding under the former revolving credit agreement.
RISK MANAGEMENT
The Company's primary risk exposures are market risk (particularly equity
price and interest rate risk) and credit risk. Market risk refers to the risk
that a change in the level of equity prices, interest rates or other factors
could result in trading losses. Credit risk refers to the risk that a
counterparty to a transaction might fail to perform under its contractual
commitment resulting in the Company incurring losses. Tucker Anthony's, Sutro's
and Cleary Gull's risk management focuses on the trading of securities,
extension of credit to counterparties and investment banking activities, as well
as the extension of credit to retail and institutional customers. Tucker
Anthony, Sutro and Cleary Gull monitor their market and credit risk daily
through a number of control procedures designed to identify and evaluate the
various risks to which they are exposed.
Market Risk
Tucker Anthony, Sutro and Cleary Gull may act as a principal to facilitate
customer-related transactions in financial instruments which expose the firm to
market risks. Tucker Anthony, Sutro and Cleary Gull make markets in certain
equity and debt securities and Tucker Anthony trades for its own account in
arbitrage-related trading activities. Whether acting as principal to facilitate
customer transactions or trading for their own account, Tucker Anthony, Sutro
and Cleary Gull monitor market risk very closely.
Managing market risk exposure includes: limiting firm commitments by
position levels both long and short for every product that is traded; limiting
the type of trades that can occur in each inventory account; and tactically
employing certain hedging techniques that reduce the level of risk taken by
Tucker Anthony, Sutro and Cleary Gull. Management believes that the risk
management practices aid in managing the Company's market exposure.
Tucker Anthony and Sutro manage daily risk exposure in their firm inventory
accounts by requiring various levels of management review of these accounts. The
primary purpose of risk management is to participate in the establishment of
position limits, as well as to monitor both the buy and sell activity in the
firm's trading accounts. Trading activities of Tucker Anthony, Sutro and Cleary
Gull result in the creation of inventory positions. Position and exposure
reports indicating both long and short positions are prepared, distributed and
reviewed each day. These reports enable Tucker Anthony and Sutro to control
inventory levels, monitor daily trading results by product, as well as review
inventory aging, pricing and concentration. Cleary Gull monitors trading
activity on a monthly basis, unless the overall position limit is exceeded.
Credit Risk
Tucker Anthony, Sutro and Cleary Gull deal with counterparties or other
broker-dealers in conducting business for their clients or for their own
account. Financing extended to counterparties is provided against collateral.
Risk management participates in the review of counterparties to establish
appropriate exposure levels on an account by account basis. Tucker Anthony,
Sutro and Cleary Gull manage daily credit exposure by monitoring the level of
collateral and creditworthiness of counterparties and their related trading
limits.
Tucker Anthony and Sutro, through Wexford, extend credit to retail
customers. Amounts loaned are limited by the margin regulations of the Board of
Governors of the Federal Reserve System and other regulatory authorities and are
subject to credit review and daily monitoring by Wexford, Tucker Anthony and
Sutro.
22
<PAGE> 24
Risks associated with investment banking activities are controlled through
capital commitment committees within Tucker Anthony and Sutro. These commitment
committees review every significant proposed investment banking transaction
prior to its acceptance by Tucker Anthony or Sutro. These respective capital
committees review major proposed transactions in order to determine the effect
of such transactions on regulatory capital prior to their approval. Only after
acceptance by the committee within each firm will that subsidiary's commitment
to underwrite a specific security be extended to the investment banking client.
Cleary Gull's commitment committee performs the dual function of analyzing
proposed transactions as well as assessing the impact on regulatory capital.
Value at Risk
Under Securities and Exchange Commission rules, the Company is required to
disclose information about its exposure to market risk. As permitted by SEC
rules, the Company used a statistical technique known as Value-at-Risk ("VaR")
to estimate the potential daily earnings effect of adverse changes in fair value
of its trading positions. VaR incorporates numerous variables that could impact
the fair value of the Company's trading portfolio, including equity and interest
rates, associated volatilities, as well as the correlation that exists among
these variables.
The Company calculated VaR using a variance/covariance model with a
two-tailed confidence level of 95% over a one-day holding period. That is, the
Company's VaR represents a potential one-day loss in value that would be
exceeded less than 2.5% of the time if the portfolio were unchanged.
Among the benefits, a VaR model permits the estimation of a portfolio's
aggregate market risk exposure; incorporates a range of varied market risks in
the calculation; reflects risk reduction due to portfolio diversification; and
is comprehensive yet relatively easy to interpret. However, VaR measures should
be interpreted in light of the methodology's limitations, which include the fact
that past changes in market risk will not always accurately predict future
changes in a portfolio's value; the model does not include all of a trading
portfolio's market risk factors; and any published VaR results which reflect a
point in time analysis (i.e. December 31, 1998 positions) do not fully capture
the market risk of positions that may not be liquidated or hedged within one
day. The Company is aware of these and other limitations and therefore views VaR
as only one component in its risk management review process.
The table below presents the Company's VaR results for each of the
Company's primary risk exposures as well as on an aggregate basis at December
31, 1998 and incorporates substantially all financial instruments generating
market risk. Since VaR is based on historical data and changes in market risk
factor returns, VaR should not be viewed as predictive of the Company's future
financial performance or its ability to manage and monitor risk. Also, there can
be no assurance that the Company's actual losses on a particular day will not
exceed the VaR amounts indicated below (in thousands):
<TABLE>
<CAPTION>
95%/ONE-DAY VaR
PRIMARY MARKET RISK AT 12/31/98
------------------- ---------------
<S> <C>
Interest rate VaR....................................... $ 474
Equity VaR.............................................. 820
------
Sub-total............................................... 1,294
Less: Diversification benefit*.......................... (617)
------
Total................................................... $ 677
======
</TABLE>
- ---------------
* The diversification benefit represents the elimination of market risks which
are present and are offsetting in both the interest rate VaR and the equity
VaR.
YEAR 2000 COMPLIANCE
The securities industry is, to a significant extent, technologically driven
and dependent. In addition to internally utilized technological applications,
the Company's businesses are materially dependent upon the performance of
exchanges, market centers, counterparties, customers and vendors (collectively
"the Company's material third parties") who, in turn, may be heavily reliant on
technological applications. In sum, the
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<PAGE> 25
securities industry is pervasively interdependent with each "link of the chain"
strengthened or weakened by the quality and performance of its attendant
information and embedded technology.
The Company is aware that the Year 2000 provides potential problems with
the programming code in existing computer systems. The "Year 2000 problem" is
extensive and complex as virtually every computer operation will be affected to
some degree by the change of the two digit year value to 00. The issue is
whether computer systems will properly recognize date-sensitive information when
the year changes to 2000. Systems that do not properly recognize such
information could generate erroneous data or fail.
The failure or faulty performance of computer systems could potentially
have a far ranging impact on the Company's businesses such as a diminution in
its ability to (a) ascertain information vital to strategic decision making by
both the Company and its customers; (b) perform interest rate and pricing
calculations; (c) execute and settle proprietary and customer transactions; (d)
undertake regulatory surveillance and risk management; (e) maintain accurate
books and records and provide timely reports; (f) maintain appropriate internal
financial operations and accounting; and (g) access credit facilities for both
the Company and its customers. Accordingly it is necessary for the Company, to
the extent reasonably practicable, to identify the internal computer systems and
software which are likely to have a critical impact on its operations, make an
assessment of its Year 2000 readiness and modify or replace information and
embedded technology as needed. In addition, the Company must make a Year 2000
readiness assessment of the Company's material third parties.
In the fourth quarter of 1995, the Company began to strategically assess
the need for renovation, replacement or retirement of all business applications.
This assessment was coincident with the conversion of the Company's principal
broker-dealer subsidiaries to clear securities transactions through Wexford, an
unaffiliated broker-dealer. During the first half of 1996, in connection with
the conversion to Wexford, a substantial portion of all application and vendor
code were modified to be Year 2000 compliant and these changes were tested and
verified in 1998 to be materially effective. The Company continues to test the
remainder of application and vendor code in order to ensure that it is Year 2000
compliant.
Although Wexford is the contracting party for the provision of clearing
services, it in fact delivers those services through the operations of its
guaranteeing parent company, Prudential, a leading registered broker and dealer.
Consequently, it is the readiness of Prudential that is critical when assessing
the Year 2000 compliance of the clearing and operations capacity of the
Company's active broker-dealer subsidiaries. Prudential has been assessed, by
internal industry standards established by the Securities Industry Association,
to be within the top tier of Year 2000 readiness. In recent industry-wide
testing conducted by the Securities Industry Association, in which Prudential
took part, Prudential and other participants were able to input transactions and
send them to the appropriate markets for execution, confirmation and clearance
under simulated Year 2000 conditions.
Additionally, the Company has assessed the state of readiness of all known
technologically oriented service vendors and believes, based on letters of
certification, that the vast majority of these vendors are Year 2000 compliant
with the remainder expected to be compliant by August 1999. This determination
does not mean that the vast majority of the Company's material third parties
pose no Year 2000 risk to the Company. First, the Company is relying in large
measure on these parties' assessments of their readiness. Second, there are
several vendors, which account for a substantial portion of the Company's
mission critical operations, which may be partially or largely, but not fully,
Year 2000 compliant. Finally, certain critical third parties, such as exchanges,
clearing houses, depositories and other service vendors have no direct
functional contact with the Company (as they operate directly with Wexford) but
may impact the Company's operations.
At this juncture the Company's plan for the remainder of its Year 2000
remediation efforts include (1) identification, modification and testing of any
remaining non-compliant Year 2000 code; (2) identification, inventory,
assessment and, if necessary, modification of internal ad hoc systems or
applications that may be material to the Company's operations; (3) with the
exception of counterparties and customers, documentation of the assessment of
the readiness of the Company's material third parties; and (4) a timetable for
completion of the plan. The Company completed its written plan in March 1999 and
continues to assess and take measures to enhance its Year 2000 readiness. In
January 1999, the Company successfully tested the year
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<PAGE> 26
2000 readiness of its data network components. The Company's major vendor for
market data certified its system as Year 2000 compliant in February 1999. To
date, the Company's Year 2000 costs have been minimal. The Company believes
that, going forward, it will incur Year 2000 costs of approximately $500,000
which will be funded out of its working capital. Provided there is an absence of
unanticipated critical events, the Company does not expect Year 2000 costs to
have a material effect on its operating results, financial condition or cash
flows.
As a contingency plan, the Company intends to have information systems
personnel on site, from December 31, 1999 through January 2, 2000, on a 24-hour
basis, to insure that any Year 2000 problems that arise, will be addressed and
corrected immediately. The Company has been informed by Prudential that it
intends to implement a similar contingency plan. The Company believes these
measures will be sufficient because of the following reasons: (1) the Company
has substantially modified, to the extent it can ascertain the problem, most
mission critical code and embedded technology; (2) the Company's vendors have
represented that they are either currently Year 2000 compliant or will become so
by the third quarter of 1999.
However, it is the Company's position that there are no alternatives in the
event the exchanges or other market centers fail to perform, and the Company
believes it is highly likely that the factors which may prevent a particular
clearing firm from performing, would similarly affect all other clearing firms,
which would either preclude the availability of alternative clearing service
providers or overwhelm the resources of surviving alternative clearing service
providers. In other words, the Year 2000 presents a problem which is not likely
to be susceptible to remediation at a future date, if it is not fixed in
advance.
The Company is cautiously optimistic about its current state of readiness
and its ability to make any further necessary modifications to internal systems
in time for the Year 2000. The Company also believes that its major third party
service provider, Prudential, has undertaken a systematic approach to the Year
2000 problem and will complete its plan which is designed to achieve a state of
readiness. However, there are factors outside the control of the Company which
make certainty impossible such as: (1) the inability to assess the readiness of
market counterparties and customers; (2) the inability to achieve assurance as
to any material third parties' representations of readiness; (3) the global
exposure of material third parties to Year 2000 problems outside the United
States which have a "knock-on" effect within the domestic securities markets and
operations; and (4) the limitations in anticipating all aspects of a problem
with which there is no prior historical experience. The presence of any or all
of these and other factors may well have a material adverse effect on the
Company's businesses, operating results, financial condition and cash flows.
ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required by this item is contained in "Item 7 Management's
Discussion and Analysis of Financial Condition and Results of Operations" under
the caption "Risk Management" and is incorporated by reference herein.
25
<PAGE> 27
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
AUDITED CONSOLIDATED FINANCIAL STATEMENTS PAGE
- ----------------------------------------- ----
<S> <C>
Report of Independent Auditors.............................. 27
Consolidated Statements of Financial Condition-- December
31, 1998 and 1997......................................... 28
Consolidated Statements of Income-- For the years ended
December 31, 1998 and 1997, one month ended December 31,
1996 and eleven months ended November 29, 1996............ 29
Consolidated Statements of Changes in Stockholders'
Equity -- For the years ended December 31, 1998 and 1997,
one month ended December 31, 1996 and eleven months ended
November 29, 1996......................................... 30
Consolidated Statements of Cash Flows-- For the years ended
December 31, 1998 and 1997, one month ended December 31,
1996 and eleven months ended November 29, 1996............ 31
Notes to Consolidated Financial Statements.................. 32
</TABLE>
26
<PAGE> 28
REPORT OF INDEPENDENT AUDITORS
TO THE STOCKHOLDERS AND BOARD OF DIRECTORS OF
FREEDOM SECURITIES CORPORATION:
We have audited the accompanying consolidated statements of financial
condition of Freedom Securities Corporation ("Company") as of December 31, 1998
and 1997 and the related consolidated statements of income, changes in
stockholders' equity, and cash flows for the years ended December 31, 1998 and
1997 and the one month period ended December 31, 1996, and the accompanying
consolidated statements of income, changes in stockholders' equity and cash
flows of Freedom Securities Holding Corporation ("Predecessor Company") for the
period January 1, 1996 to November 29, 1996. These financial statements are the
responsibility of the management of the Company and the Predecessor Company. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly
in all material respects, the consolidated financial position of Freedom
Securities Corporation at December 31, 1998 and 1997 and the consolidated
results of its operations and its cash flows for the years ended December 31,
1998 and 1997 and the one month period ended December 31, 1996, and the
consolidated results of operations and cash flows of the Predecessor Company for
the period January 1, 1996 to November 29, 1996 in conformity with generally
accepted accounting principles.
/s/ ERNST & YOUNG, LLP
New York, New York
January 25, 1999
27
<PAGE> 29
FREEDOM SECURITIES CORPORATION
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
DECEMBER 31, 1998 AND 1997
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
ASSETS
Cash and cash equivalents................................... $ 11,292 $ 12,936
Receivables from brokers and dealers........................ 88,674 74,314
Securities purchased under agreements to resell............. 119,861 113,335
Securities owned, at market................................. 252,478 423,522
Fixed assets, net of accumulated depreciation and
amortization.............................................. 19,479 20,464
Goodwill, net of accumulated amortization................... 34,875 24,861
Exchange memberships owned, at cost......................... 5,939 5,939
Deferred taxes.............................................. 10,477 9,263
Other receivables........................................... 31,356 19,051
Other assets................................................ 31,819 23,902
-------- --------
Total assets......................................... $606,250 $727,587
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Payables to brokers and dealers........................... $ 85,306 $ 59,062
Securities sold under agreements to repurchase............ 28,582 --
Securities sold, not yet purchased, at market............. 124,148 354,565
Accrued compensation and benefits......................... 81,099 65,653
Accounts payable and accrued expenses..................... 47,016 44,535
Notes payable to banks.................................... 16,709 101,446
-------- --------
Total liabilities.................................... 382,860 625,261
-------- --------
Stockholders' equity:
Common stock (60,000,000 shares authorized, 20,155,395 and
14,840,627 shares issued in 1998 and 1997,
respectively, $.01 par value).......................... 201 147
Additional paid-in capital................................ 181,391 83,654
Retained earnings......................................... 42,970 19,438
Subscribed stock (136,532 shares in 1997)................. -- (913)
Treasury stock (76,290 shares in 1998, at cost)........... (1,172) --
-------- --------
Total stockholders' equity........................... 223,390 102,326
-------- --------
Total liabilities and stockholders' equity........... $606,250 $727,587
======== ========
</TABLE>
See Notes to Consolidated Financial Statements
28
<PAGE> 30
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
CONSOLIDATED STATEMENTS OF INCOME
(AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
PREDECESSOR
COMPANY
-------------
ONE MONTH ELEVEN MONTHS
YEAR ENDED YEAR ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, NOVEMBER 29,
1998 1997 1996 1996
------------ ------------ ------------ -------------
<S> <C> <C> <C> <C>
Revenues
Commissions.......................... $178,959 $157,193 $12,283 $132,958
Principal transactions............... 98,287 97,958 8,226 94,873
Investment banking................... 82,255 57,683 4,285 34,925
Asset management..................... 47,294 34,376 2,202 30,601
Other................................ 8,569 7,976 308 8,014
-------- -------- ------- --------
Total operating revenues........ 415,364 355,186 27,304 301,371
Interest income...................... 50,848 44,056 3,361 46,486
-------- -------- ------- --------
Total revenues.................. 466,212 399,242 30,665 347,857
Interest expense..................... 25,836 22,428 1,829 26,454
-------- -------- ------- --------
Net revenues.................... 440,376 376,814 28,836 321,403
Non-interest expenses
Compensation and benefits............ 286,072 245,159 18,859 209,187
Occupancy and equipment.............. 23,557 21,431 1,997 28,654
Communications....................... 19,181 17,105 1,316 16,596
Brokerage and clearance.............. 13,170 11,739 1,047 10,847
Promotional.......................... 14,115 10,452 818 9,156
Other................................ 38,223 32,441 2,812 26,576
-------- -------- ------- --------
Total non-interest expenses..... 394,318 338,327 26,849 301,016
Acquisition interest expense........... 1,464 6,052 567 --
-------- -------- ------- --------
Income before income taxes............. 44,594 32,435 1,420 20,387
Income taxes........................... 18,183 13,737 680 8,844
-------- -------- ------- --------
Net income before extraordinary item... 26,411 18,698 740 11,543
Extraordinary item (net of tax of
$922)............................. (1,276) -- -- --
-------- -------- ------- --------
Net income after extraordinary item.... $ 25,135 $ 18,698 $ 740 $ 11,543
======== ======== ======= ========
Net income per share:
Basic before extraordinary item...... $ 1.41 $ 1.31 $ 0.05 --
======== ======== ======= ========
Basic after extraordinary item....... $ 1.34 $ 1.31 $ 0.05 --
======== ======== ======= ========
Diluted before extraordinary item.... $ 1.34 $ 1.27 $ 0.05 --
======== ======== ======= ========
Diluted after extraordinary item..... $ 1.28 $ 1.27 $ 0.05 --
======== ======== ======= ========
Cash dividends declared per share...... $ 0.08 -- -- --
Weighted average common shares
outstanding:
Basic................................ 18,701 14,287 14,313 --
Diluted.............................. 19,705 14,733 14,313 --
</TABLE>
See Notes to Consolidated Financial Statements
29
<PAGE> 31
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON STOCK
OUTSTANDING ADDITIONAL
------------------ PAID-IN RETAINED SUBSCRIBED TREASURY
SHARES PAR VALUE CAPITAL EARNINGS STOCK STOCK TOTAL
------ --------- ---------- -------- ---------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
PREDECESSOR COMPANY:
Balance at December 31, 1995..... 1 $ 1 $109,748 $43,032 $ -- $ -- $152,781
Net income....................... -- -- -- 11,543 -- -- 11,543
------ ---- -------- ------- ----- ------- --------
Balance at November 29, 1996..... 1 $ 1 $109,748 $54,575 $ -- $ -- $164,324
====== ==== ======== ======= ===== ======= ========
FREEDOM SECURITIES CORPORATION:
Sale of common stock at November
29, 1996 (including $3,947 of
non-cash capital contributed by
Hancock)....................... 14,313 $143 $ 78,804 $ -- $ -- $ (219) $ 78,728
Net income....................... -- -- -- 740 -- -- 740
------ ---- -------- ------- ----- ------- --------
Balance at December 31, 1996..... 14,313 143 78,804 740 -- (219) 79,468
------ ---- -------- ------- ----- ------- --------
Sale of common stock............. 488 4 4,693 -- -- -- 4,697
Net income....................... -- -- -- 18,698 -- -- 18,698
Acquisition of treasury stock.... (97) -- -- -- -- (537) (537)
Reissuance of treasury stock..... -- -- 157 -- (913) 756 --
------ ---- -------- ------- ----- ------- --------
Balance at December 31, 1997..... 14,704 147 83,654 19,438 (913) -- 102,326
------ ---- -------- ------- ----- ------- --------
Sale of common stock............. 110 1 1,022 -- -- -- 1,023
Issuance of subscribed stock..... 136 1 -- -- 913 -- 914
Initial public offering.......... 4,200 42 75,699 -- -- -- 75,741
Acquisition of Cleary Gull....... 876 9 19,932 -- -- -- 19,941
Stock options exercised.......... 129 1 687 -- -- -- 688
Income tax benefit associated
with stock options............. -- -- 397 -- -- -- 397
Net income....................... -- -- -- 25,135 -- -- 25,135
Dividends declared............... -- -- -- (1,603) -- -- (1,603)
Acquisition of treasury stock.... (76) -- -- -- -- (1,172) (1,172)
------ ---- -------- ------- ----- ------- --------
Balance at December 31, 1998..... 20,079 $201 $181,391 $42,970 $ -- $(1,172) $223,390
====== ==== ======== ======= ===== ======= ========
</TABLE>
See Notes to Consolidated Financial Statements
30
<PAGE> 32
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
CONSOLIDATED STATEMENTS OF CASH FLOWS
(AMOUNTS IN THOUSANDS)
<TABLE>
<CAPTION>
PREDECESSOR
COMPANY
-------------
ONE MONTH ELEVEN
YEAR ENDED YEAR ENDED ENDED MONTHS ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, NOVEMBER 29,
1998 1997 1996 1996
------------ ------------ ------------ -------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income......................................... $ 25,135 $ 18,698 $ 740 $ 11,543
Adjustments to reconcile net income to net cash
from operating activities:
Depreciation..................................... 4,979 5,128 304 4,632
Amortization..................................... 4,883 4,714 685 7,807
Non-cash compensation............................ 632 1,432 -- --
Extraordinary item; write-off capitalized debt
costs.......................................... 2,198 -- -- --
Changes in assets and liabilities:
(Increase) decrease in operating assets:
Receivables from brokers and dealers........... (8,123) (8,910) 19,304 105,303
Receivables from customers..................... -- -- -- 333,252
Securities purchased under agreements to
resell....................................... (5,022) (29,124) 31,212 92,052
Securities owned, at market.................... 175,114 (170,416) 37,698 57,720
Deferred taxes................................. (1,214) 1,540 5,488 (5,363)
Other receivables.............................. (12,305) (5,268) (67) 542
Other assets................................... (5,144) (1,328) (1,545) (2,807)
Increase (decrease) in operating liabilities:
Short-term loans from a Hancock affiliate...... -- -- -- (200,000)
Short-term loans............................... -- -- -- (107,745)
Payables to brokers and dealers................ 26,244 (15,069) (33,027) (39,937)
Payables to customers.......................... -- -- -- (186,206)
Securities sold under agreements to
repurchase................................... 28,582 (44,976) (5,061) (91,795)
Securities sold, not yet purchased, at
market....................................... (233,439) 253,425 (47,088) 7,517
Accrued compensation and benefits.............. 12,784 10,150 2,230 364
Accounts payable and accrued expenses.......... 984 (6,380) (7,930) 11,060
--------- --------- --------- ---------
Net cash provided by (used in) operating
activities....................................... 16,288 13,616 2,943 (2,061)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of fixed assets.......................... (5,081) (1,994) (112) (8,417)
Proceeds from sale of fixed assets................. -- 711 -- --
Payment for Cleary Gull, net of cash acquired...... (3,072) -- -- --
Purchase of Predecessor Company.................... -- -- (180,000) --
Acquisition related expenditures................... -- -- (5,740) --
--------- --------- --------- ---------
Net cash used in investing activities.............. (8,153) (1,283) (185,852) (8,417)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sale of common stock, net............ 1,992 2,728 74,781 --
Proceeds from initial public offering, net......... 75,741 -- -- --
Proceeds from notes payable to banks............... -- -- 110,819 25,819
Purchases of treasury stock........................ (1,172) -- -- --
Payment of dividends............................... (1,603) -- -- --
Repayment of notes payable to banks................ (84,737) (9,373) -- --
Repayment of notes payable to a Hancock
affiliate........................................ -- -- -- (33,736)
--------- --------- --------- ---------
Net cash provided by (used in) financing
activities....................................... (9,779) (6,645) 185,600 (7,917)
Increase (decrease) in cash and cash equivalents... (1,644) 5,688 2,691 (18,395)
Cash and cash equivalents, beginning of period..... 12,936 7,248 4,557 22,952
--------- --------- --------- ---------
Cash and cash equivalents, end of period........... $ 11,292 $ 12,936 $ 7,248 $ 4,557
========= ========= ========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for:
Income taxes..................................... $ 11,641 $ 14,859 $ 1,421 $ 10,453
Interest......................................... $ 26,851 $ 28,338 $ 1,246 $ 22,912
</TABLE>
See Notes to Consolidated Financial Statements
31
<PAGE> 33
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION
Freedom Securities Corporation is a holding company which together with its
wholly-owned subsidiaries (collectively, the "Company") is a full-service,
regionally focused retail brokerage and investment banking firm. The Company is
engaged primarily in the retail and institutional brokerage business including
corporate finance and underwriting services. The consolidated financial
statements include the accounts of the Company including its primary operating
subsidiaries: Tucker Anthony Incorporated ("Tucker Anthony"), Sutro & Co.
Incorporated ("Sutro"), Cleary Gull & Reiland Inc. ("Cleary Gull") and Freedom
Capital Management Corporation ("Freedom Capital").
The Company was established to facilitate the buyout (the "Acquisition") of
Freedom Securities Holding Corporation (the "Predecessor Company"). Until
November 29, 1996, the Predecessor Company was a wholly-owned subsidiary of John
Hancock Mutual Life Insurance Company ("Hancock") (See Note 3).
On April 2, 1998, the Company completed its initial public offering,
whereby 4.2 million shares of common stock were sold by the Company resulting in
net proceeds to the Company of $75.7 million (See Note 4).
Tucker Anthony, headquartered in Boston and focused on the northeastern
United States, and Sutro, headquartered in San Francisco and focused on the
western United States, are full service regionally focused retail brokerage and
investment banking firms. Cleary Gull, headquartered in Milwaukee and focused
primarily on the midwestern United States, is an investment banking,
institutional brokerage and investment advisory firm which was acquired by the
Company in the second quarter of 1998 (See Note 5). Freedom Capital, the
Company's asset management subsidiary, is focused on public sector entities,
high net worth individuals and money market funds.
Tucker Anthony, Sutro and Cleary Gull clear their securities transactions
on a fully disclosed basis through Wexford Clearing Services Corporation
("Wexford" or the "clearing broker"), a guaranteed wholly-owned subsidiary of
Prudential Securities Incorporated ("Prudential").
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
All significant intercompany accounts and transactions have been eliminated
in consolidation. The preparation of the financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from these
estimates. Certain prior period amounts have been reclassified to conform with
the current period's financial statement presentation.
Securities
Securities transactions and related revenues and expenses are recorded on a
trade date basis. Securities owned and securities sold, not yet purchased are
stated at market value with related changes in unrealized appreciation or
depreciation reflected in principal transactions revenues. Securities sold, not
yet purchased represent obligations to deliver specified securities at
predetermined prices. The Company is obligated to acquire the securities sold
short at prevailing market prices in the future to satisfy these obligations.
Arbitrage positions included in securities owned and securities sold, not yet
purchased result from buying or selling a security subject to exchange,
conversion or reorganization and selling or buying the security or securities to
be received upon completion of the exchange, conversion or reorganization. The
Company may from time to time
32
<PAGE> 34
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
enter into options and futures contracts. These contracts are valued at market
with related changes in unrealized appreciation or depreciation reflected in
principal transactions revenues.
Investment Banking
Investment banking revenues are recorded as follows: management fees as of
the offering date, sales commissions on the trade date and underwriting fees at
the time the underwriting is completed and the income is reasonably
determinable.
Asset Management Fees
The Company earns fees for investment advisory and custodial services
rendered to its clients. Fees are based on a percentage of the average market
value of net assets managed, a percentage of quarter-end market value of assets
managed or on a fee for account basis, depending on the type of client account.
These fees are recorded as earned and billed monthly or quarterly.
Fixed Assets
Furniture and fixtures are depreciated on a straight-line basis over their
estimated useful lives, generally three to ten years. Leasehold improvements are
amortized on a straight-line basis over the lesser of the economic useful lives
of the improvements or the terms of the respective leases. Fixed assets are
stated at cost net of accumulated depreciation and amortization of $7.7 million
and $2.4 million at December 31, 1998 and 1997, respectively.
Intangibles
Intangibles include debt issuance costs ($2.4 million at December 31,
1997), which are reported in other assets, and goodwill. Goodwill is stated at
cost net of accumulated amortization and is amortized on a straight-line basis
over fifteen years. Debt issuance costs, which were stated at cost net of
accumulated amortization and were being amortized on a straight-line basis over
five years, were written off in April 1998 in conjunction with the Company's
repayment of related debt (See Note 12) and are reflected as an after-tax
extraordinary item of $1.2 million in the consolidated statement of income for
the year ended December 31, 1998.
The accumulated amortization of intangibles totaled $4.7 million and $2.7
million at December 31, 1998 and 1997, respectively.
Stock Based Compensation
The Company accounts for its stock-based compensation in accordance with
Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued
to Employees" and, accordingly, recognizes no compensation expense related to
stock option grants issued at fair market value. The Financial Accounting
Standards Board issued Statement of Financial Accounting Standards ("SFAS") No.
123, "Accounting for Stock-Based Compensation," which encourages, but does not
require, companies to recognize compensation expense for grants of stock and
stock options based on the fair value of those instruments. The Company has
elected, as permitted by SFAS No. 123, to adopt the disclosure requirement of
SFAS No. 123 and continue to account for stock-based compensation under APB
Opinion No. 25.
Income Taxes
The Company accounts for income taxes in accordance with SFAS No. 109,
"Accounting for Income Taxes." Under this method, the Company recognizes taxes
payable or refundable for the current year and
33
<PAGE> 35
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
deferred tax liabilities and assets for future consequences of events that have
been recognized in the Company's financial statements or tax returns.
Through November 29, 1996, the Predecessor Company was included in the
consolidated U.S. Federal income tax return of Hancock. Pursuant to an agreement
with Hancock, the Predecessor Company's share of combined Federal income taxes
was equivalent to the total provision or benefit the Predecessor Company would
have recorded for such taxes had they been determined on a stand-alone basis.
Cash Flows
For purposes of reporting cash flows, the Company considers all highly
liquid investments with original maturities of three months or less to be cash
equivalents. Cash flows for the year ended December 31, 1998 and the one month
period ended December 31, 1996 are shown net of the effects of the acquisitions
of Cleary Gull and the Predecessor Company, respectively.
Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." This statement,
which is effective for fiscal years beginning after June 15, 1999, establishes
standards for the accounting and reporting of derivative instruments. The
Company does not expect the adoption of this statement to have a material impact
on the Company's consolidated financial statements.
3. ACQUISITION FROM HANCOCK
Under terms of a Contribution Agreement dated October 4, 1996 and
consummated on November 29, 1996 among Hancock, the Company, two private
investor groups and selected employee investors, Hancock contributed 100% of the
issued and outstanding capital stock of the Predecessor Company to the Company
in exchange for 4.999% of the issued and outstanding capital stock of the
Company and an aggregate consideration of $180 million. With the consummation of
the transactions under the Contribution Agreement, the Predecessor Company
became a wholly-owned subsidiary of the Company as of the close of business
November 29, 1996. Through November 29, 1996, the consolidated financial
statements present the financial condition, results of operations and cash flows
of the Predecessor Company and its subsidiaries.
The Acquisition was accounted for as a purchase and, accordingly, the
purchase price was allocated to the assets and liabilities acquired based upon
their fair values at the date of the Acquisition. The purchase price, including
acquisition costs, exceeded the fair value of net assets acquired by $28.2
million and the excess was recorded as goodwill.
4. INITIAL PUBLIC OFFERING
On April 2, 1998, the Company completed its initial public offering of 7.4
million shares plus an over-allotment of 1.1 million shares (the "Offering"),
including 4.2 million shares of $.01 par value common stock ("Common Stock")
sold by the Company. The Offering raised approximately $75.7 million for the
Company after deducting underwriting discounts, commissions and expenses. The
Company used the proceeds and available cash to repay $77.5 million of existing
debt (See Note 12).
5. ACQUISITION OF CLEARY GULL & REILAND INC.
On Apri1 16, 1998, the Company closed into escrow and funded its
acquisition of Cleary Gull, a privately held, investment banking, institutional
brokerage, and investment advisory firm headquartered in Milwaukee, Wisconsin.
The acquisition was completed on May 1, 1998 after appropriate notification was
made to the New
34
<PAGE> 36
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
York Stock Exchange and was accounted for under the purchase method of
accounting. The consolidated financial statements include the results of Cleary
Gull's operations from the date of acquisition. The purchase price, including
adjustments in accordance with provisions of the related acquisition agreement,
was $24.7 million which included 875,910 shares of the Company's Common Stock (a
portion of which is subject to a four year vesting period) valued at $17.4
million and $4.6 million in cash. In addition, stock options to purchase shares
of Cleary Gull capital stock with a value of $2.7 million were converted into
options to purchase shares of the Company's Common Stock. The excess of the
purchase price over the estimated fair value of net assets acquired, which was
recorded as goodwill, was $12.5 million and is being amortized over 15 years
using the straight-line method of amortization. The Company also granted options
to Cleary Gull employees to purchase an additional 239,250 shares of the
Company's Common Stock, subsequently canceled these options and re-issued
options to purchase 242,910 shares with an exercise price of $13.00 per share.
6. RECEIVABLES FROM AND PAYABLES TO BROKERS AND DEALERS
Included in the receivables from brokers and dealers are unsettled
proprietary trades and certain overnight funds with Prudential. Included in
payables to brokers and dealers are the amounts due to Wexford for
collateralized financing of proprietary positions and to the custodian of
Freedom Capital's money market funds. The Company's principal source of
short-term financing is provided by Wexford, from which the Company can borrow
on an uncommitted basis against its proprietary inventory positions, subject to
collateral maintenance requirements.
The Company conducts business with brokers and dealers that are members of
the major securities exchanges. The Company monitors the credit standing of such
brokers and dealers, monitors the market value of collateral and requests
additional collateral as deemed appropriate.
Amounts receivable from and payable to brokers and dealers consist of the
following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1998 1997
------- -------
<S> <C> <C>
Receivables from brokers and dealers:
Receivable from Prudential...................... $78,862 $46,129
Unsettled proprietary trades, net............... 292 24,189
Receivables from other brokers and dealers...... 9,520 3,996
------- -------
$88,674 $74,314
======= =======
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1998 1997
------- -------
<S> <C> <C>
Payables to Brokers and Dealers:
Payable to Wexford.............................. $ 8,134 $16,633
Payable to custodian............................ 77,077 42,088
Payables to other brokers and dealers........... 95 341
------- -------
$85,306 $59,062
======= =======
</TABLE>
7. TRANSACTIONS WITH CUSTOMERS
For transactions in which the Company, through Wexford, extends credit to
customers, the Company seeks to control the risks associated with these
activities by requiring customers to maintain margin collateral in compliance
with various regulatory and internal guidelines. The Company and Wexford monitor
required margin levels daily and, pursuant to such guidelines, request customers
to deposit additional collateral or reduce securities positions when necessary.
35
<PAGE> 37
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company has agreed to indemnify Wexford for losses that it may sustain
in connection with customer accounts introduced by the Company. At December 31,
1998 and 1997, there were no amounts known to the Company to be indemnified to
Wexford for these customer accounts.
8. SHORT-TERM LOANS
In periods prior to 1997, short-term loans with banks and a Hancock
affiliate were used to finance securities purchased by customers on margin and
proprietary inventory positions. Borrowings from the Hancock affiliate were on
an uncollateralized basis and bore interest at a rate approximating the
commercial paper rate of such affiliate. Interest expense related to these loans
was $12.1 million for the eleven months ended November 29, 1996.
9. SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL AND SECURITIES SOLD UNDER
AGREEMENTS TO REPURCHASE
Securities purchased under agreements to resell and securities sold under
agreements to repurchase are treated as collateralized financing transactions,
and are carried at amounts at which the securities will be subsequently resold
or reacquired plus accrued interest. It is the Company's policy to take
possession or control of securities purchased under agreements to resell. The
Company is required to provide securities to counterparties in order to
collateralize repurchase agreements. The Company minimizes credit risk
associated with these activities by monitoring credit exposure and collateral
values on a daily basis and requiring additional collateral to be deposited or
returned when deemed appropriate.
10. TRANSACTIONS WITH AFFILIATES
Prior to November 29, 1996, the Predecessor Company had outstanding notes
payable to a Hancock affiliate which incurred interest at rates approximating
such affiliate's average cost of borrowing and were payable on demand. These
notes were repaid on November 29, 1996. Interest expense incurred relating to
these notes was $1.7 million for the eleven months ended November 29, 1996.
The Predecessor Company participated in group insurance arrangements
arranged through Hancock and also received certain shared services. The
Predecessor Company paid Hancock its allocable share of the cost of such
insurance and other items, which amounted to $11.1 million during the eleven
months ended November 29, 1996. Subsequent to the Acquisition, the Company
continued to participate in the group insurance arrangements through Hancock
until June 30, 1997, when the Company obtained its own insurance arrangements.
The Company paid to Hancock its allocable share of the cost of such insurance
which amounted to $6.1 million and $0.8 million for the six month period ended
June 30, 1997 and the one month period ended December 31, 1996, respectively.
Effective with the Acquisition, the Company entered into management
agreements, with certain shareholders, and agreed to pay annual management fees
totaling $0.3 million. These agreements terminated in 1998 upon the initial
public offering of the Company's Common Stock.
36
<PAGE> 38
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
11. SECURITIES
Securities owned and securities sold, not yet purchased are recorded at
market value and consist of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1998 1997
-------- --------
<S> <C> <C>
Securities Owned:
Obligations of the U.S. government or its agencies..... $ 27,214 $ 27,396
State and municipal obligations........................ 43,487 38,222
Arbitrage securities................................... 133,017 291,023
Other corporate obligations............................ 30,474 51,709
Other corporate stocks and warrants.................... 18,286 15,172
-------- --------
$252,478 $423,522
======== ========
Securities Sold, Not Yet Purchased:
Obligations of the U.S. government or its agencies..... $ 18,775 $ 22,890
State and municipal obligations........................ 1,398 1,519
Arbitrage securities................................... 93,569 322,316
Other corporate obligations............................ 1,712 1,356
Other corporate stocks and warrants.................... 8,694 6,484
-------- --------
$124,148 $354,565
======== ========
</TABLE>
12. NOTES PAYABLE TO BANKS
Included in notes payable to banks is the Company's borrowing for fixed
asset financing of approximately $16.7 million and $21.4 million at December 31,
1998 and 1997, respectively, which bears interest at 8.02% annually and is
payable in equal monthly installments through December 2001. This note is
collateralized by furniture, fixtures and leasehold improvements.
In August 1998, the Company entered into a new unsecured revolving credit
agreement (the "Credit Agreement") whereby participating banks have made
commitments totaling $50 million. Under the Credit Agreement, the Company has
the option to borrow at the federal funds rate or the eurodollar rate (each plus
applicable margin as defined, ranging from 0.50% to 0.75% based on a calculated
leverage ratio) or the lender's base rate. Borrowings under the Credit Agreement
may be prepaid without penalty and the agreement matures on August 21, 2001.
Additionally, the Company must pay a quarterly commitment fee calculated at
0.15% per year on the unused facility. Under financial covenants of the Credit
Agreement the Company must maintain a minimum net worth and debt to net worth
ratio. At December 31, 1998, the Company was in compliance with these covenants
and did not have any borrowings under the Credit Agreement.
Prior to August 1998, the Company maintained a revolving credit agreement
with certain participating banks and at December 31, 1997 had $80 million in
borrowings outstanding. On April 7, 1998, the $77.5 million balance then
outstanding under this revolving credit agreement was repaid in full with the
Company's net proceeds from the Offering and available cash.
The aggregate amount of principal repayment requirements on the fixed asset
notes payable at December 31, 1998 is as follows by year (in thousands):
<TABLE>
<CAPTION>
YEAR
- ----
<S> <C>
1999........................................................ $5,131
2000........................................................ 5,558
2001........................................................ 6,020
</TABLE>
37
<PAGE> 39
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
13. INCOME TAXES
The components of income tax expense (benefit) are (in thousands):
<TABLE>
<CAPTION>
ONE MONTH ELEVEN MONTHS
YEAR ENDED YEAR ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, NOVEMBER 29,
1998 1997 1996 1996
------------ ------------ ------------ -------------
<S> <C> <C> <C> <C>
Federal:
Current.............................. $13,358 $ 7,693 $581 $9,422
Deferred............................. (575) 1,482 (148) (3,930)
State:
Current.............................. 5,847 4,501 300 4,784
Deferred............................. (447) 61 (53) (1,432)
------- ------- ---- ------
$18,183 $13,737 $680 $8,844
======= ======= ==== ======
</TABLE>
The effective income tax differs from the amount computed by applying the
Federal statutory income tax rate as follows (in thousands):
<TABLE>
<CAPTION>
ONE MONTH ELEVEN MONTHS
YEAR ENDED YEAR ENDED ENDED ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31, NOVEMBER 29,
1998 1997 1996 1996
------------ ------------ ------------ -------------
<S> <C> <C> <C> <C>
Federal statutory income tax........... $15,608 $11,352 $497 $7,136
State and local income taxes, net of
federal tax benefits................. 3,510 2,965 160 2,179
Tax exempt interest, net............... (702) (770) (53) (570)
Other, net............................. (233) 190 76 99
------- ------- ---- ------
Effective income tax................... $18,183 $13,737 $680 $8,844
======= ======= ==== ======
</TABLE>
The temporary differences which created deferred tax assets and liabilities
are included as a net amount in other assets at December 31, 1998 and 1997 as
follows (in thousands):
<TABLE>
<CAPTION>
1998 1997
------- ------
<S> <C> <C>
Deferred tax assets:
Deferred compensation.................................. $ 5,038 $5,990
Reserves............................................... 3,256 2,042
Other.................................................. 3,202 2,118
------- ------
Total deferred tax assets......................... 11,496 10,150
Deferred tax liabilities:
Net unrealized appreciation on investments............. -- 421
Other.................................................. 1,019 466
------- ------
Total deferred tax liabilities.................... 1,019 887
------- ------
Net deferred tax asset...................................... $10,477 $9,263
======= ======
</TABLE>
At December 31, 1996, the Company had net operating loss carryforwards
("NOLs") related to the original acquisition of Sutro of $3.2 million for which
it had recorded a valuation allowance against the full amount of the deferred
tax asset. These NOLs were fully utilized in 1997 resulting in a reduction to
taxes payable but without a reduction to reported income tax expense since the
offset was reported as an adjustment to goodwill.
38
<PAGE> 40
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
14. NET CAPITAL REQUIREMENTS
Certain subsidiaries of the Company are subject to the net capital
requirements of the New York Stock Exchange ("Exchange") and the Uniform Net
Capital requirements of the Securities and Exchange Commission ("Commission")
under Rule 15c3-1. The Exchange and the Commission requirements also provide
that equity capital may not be withdrawn or cash dividends paid if certain
minimum net capital requirements are not met. The Company's principal regulated
subsidiaries are discussed below.
Under the clearing arrangement with Wexford, Tucker Anthony, Sutro and
Cleary Gull are required to maintain certain minimum levels of net capital and
comply with other financial ratio requirements. At December 31, 1998, Tucker
Anthony, Sutro and Cleary Gull were in compliance with all such requirements.
Tucker Anthony is a registered broker and dealer. At December 31, 1998,
Tucker Anthony had net capital of approximately $57.1 million which was $56.1
million in excess of the $1.0 million amount required to be maintained at that
date.
Sutro is a registered broker and dealer. At December 31, 1998, Sutro had
net capital of approximately $13.9 million which was $12.9 million in excess of
the $1.0 million amount required to be maintained at that date.
Cleary Gull is a registered broker and dealer. At December 31, 1998, Cleary
Gull had net capital of approximately $5.2 million which was $4.4 million in
excess of the $0.8 million amount required to be maintained at that date.
Freedom Trust Company ("FTC") is a subsidiary of Freedom Capital and is a
limited purpose trust company. Pursuant to state regulations, FTC is required to
meet and maintain certain capital minimums and ratios. At December 31, 1998,
FTC's regulatory capital, as defined, was $1.2 million and FTC was in compliance
with all such requirements.
15. COMMITMENTS AND CONTINGENCIES
The Company leases office space and various types of equipment under
noncancelable leases generally varying from one to ten years, with certain
renewal options for like terms. Occupancy and equipment expense includes net
rentals of $18.3 million and $15.9 million for the years ended December 31, 1998
and 1997, respectively, $1.5 million for the one month period ended December 31,
1996 and $22.5 million for the eleven month period ended November 29, 1996.
Included in rent expense for the eleven month period ended November 29, 1996 was
$4.7 million of expense related to the present value of future rent costs for
space no longer required due primarily to the outsourcing of clearing services.
At December 31, 1998, the Company's future minimum rental commitments based
upon original terms (including escalation costs) under noncancelable leases
which have an initial or remaining term of one year or more are as follows (in
thousands):
<TABLE>
<CAPTION>
YEAR
- ----
<S> <C>
1999........................................................ $ 19,517
2000........................................................ 17,569
2001........................................................ 16,863
2002........................................................ 16,192
2003........................................................ 14,504
Thereafter.................................................. 19,326
--------
Sub-total.............................................. 103,971
Less aggregate sublease income.............................. (3,553)
--------
$100,418
========
</TABLE>
39
<PAGE> 41
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company is a defendant or co-defendant in legal actions primarily
relating to its broker-dealer activities. It is the opinion of management that
the resolution of these legal actions will not have a material adverse effect on
the consolidated financial position or results of operations of the Company.
Included in other operating expenses, for the eleven month period ended November
29, 1996, is $6.3 million of insurance recoveries relating to certain litigation
costs that were incurred in prior years.
The Company has outstanding underwriting agreements and when-issued
contracts which commit it to purchase securities at specified future dates and
prices. The Company presells such issues to manage risk exposure related to
these off-balance sheet commitments. Transactions which were open at December
31, 1998 have subsequently settled and had no material effect on the
consolidated statements of income and financial condition.
In accordance with the provisions of the Credit Agreement (See Note 12),
several of the Company's subsidiaries have executed agreements to guarantee the
borrowings of the Company to the benefit of the participating banks.
16. BENEFITS
Certain subsidiaries of the Company have qualified profit-sharing plans
which cover substantially all their full-time employees. Each plan includes a
salary reduction agreement and a matching contribution subject to certain
limitations. In addition, a subsidiary may contribute additional amounts to its
plan, at its discretion, based upon its profits for the year.
The aggregate contributions to these plans for the years ended December 31,
1998 and 1997, the one month period ended December 31, 1996 and the eleven month
period ended November 29, 1996 were $5.0 million, $7.1 million, $0.5 million and
$5.5 million, respectively.
Freedom Capital has a noncontributory defined benefit pension plan covering
substantially all of its employees. Effective August 1, 1997, the plan was
amended to provide that no new pension benefits would accrue and no new
participants would be admitted after August 1, 1997. Amounts related to the plan
are not material to the consolidated financial statements.
Compensation costs recognized for Common Stock and stock options issued to
employees during 1998 and 1997 were $0.6 million and $1.4 million, respectively.
17. FINANCIAL INSTRUMENTS
Substantially all of the Company's financial instruments are carried at
fair value or amounts approximating fair value. Assets, including cash and cash
equivalents, securities owned, securities purchased under agreements to resell
and certain receivables are carried at fair value or contracted amounts which
approximate fair value. Similarly, liabilities including securities sold, not
yet purchased, securities sold under agreements to repurchase and certain
payables are carried at fair value or contracted amounts approximating fair
value.
The fair value of the fixed asset financing, estimated using the Company's
incremental borrowing rate, approximated its carrying value at December 31, 1998
and 1997. The carrying value of the Company's debt under the former revolving
credit agreement at December 31,1997 approximated its fair value.
In the normal course of business, the Company may enter into transactions
in financial instruments to manage its exposure to market risks. At December 31,
1998 and 1997, the Company had equity and futures options outstanding
approximating $11.3 and $34.5 million, respectively (notional amounts). The
notional amounts are not reflected on the consolidated statements of financial
condition and are indicative only of the volume of activity at December 31, 1998
and 1997. They do not represent amounts subject to market risks and, in many
cases, limit the Company's overall exposure to market losses by hedging other
on-balance sheet
40
<PAGE> 42
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and off-balance sheet transactions. The volume of activity in these contracts
was not significant during the years ended December 31, 1998, 1997 and 1996.
18. EARNINGS PER COMMON SHARE
The Company computes its earnings per share in accordance with SFAS No.
128, "Earnings Per Share." The following table sets forth the computation for
basic and diluted earnings per share (in thousands, except per share amounts):
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED ONE MONTH ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1998 1997 1996
----------------- ----------------- -----------------
BASIC DILUTED BASIC DILUTED BASIC DILUTED
----- ------- ----- ------- ----- -------
<S> <C> <C> <C> <C> <C> <C>
Numerator:
Net income before extraordinary
item.............................. $26,411 $26,411 $18,698 $18,698 $ 740 $ 740
Less: extraordinary item (net of tax
of $922).......................... (1,276) (1,276) -- -- -- --
------- ------- ------- ------- ------- -------
Net income after extraordinary
item.............................. $25,135 $25,135 $18,698 $18,698 $ 740 $ 740
Denominator:
Weighted average shares
outstanding....................... 18,701 18,701 14,287 14,287 14,313 14,313
Dilutive effect of:
Stock options and other
exercisable shares (a)....... -- 1,004 -- 446 -- --
------- ------- ------- ------- ------- -------
Adjusted weighted average shares
outstanding....................... 18,701 19,705 14,287 14,733 14,313 14,313
Earnings Per Share:
Earnings per share before
extraordinary item................ $ 1.41 $ 1.34 $ 1.31 $ 1.27 $ 0.05 $ 0.05
Less: extraordinary item (net of
tax).............................. (0.07) (0.06) -- -- -- --
------- ------- ------- ------- ------- -------
Earnings per share after
extraordinary item................ $ 1.34 $ 1.28 $ 1.31 $ 1.27 $ 0.05 $ 0.05
</TABLE>
- ---------------
(a) Options to purchase 239,553 shares of the Company's Common Stock were
outstanding during 1998 but were not included in the computation of diluted
earnings per share. The inclusion of such options would have an antidilutive
effect on the diluted earnings per share calculation because the exercise
price of these options was greater than the average market price of the
Company's common shares for 1998.
19. INCENTIVE PLANS
The Company has adopted a number of compensation plans to attract, retain
and motivate officers and other key employees to compensate them for their
contributions to growth and profits of the Company and to encourage employee
stock ownership.
41
<PAGE> 43
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Stock Option Plans
The Company has two stock option plans under which officers and other key
employees are granted stock options, stock appreciation rights, restricted stock
and long-term performance awards at the fair market value of the stock on the
date of the grant or on such terms as the administrators, a committee of
non-employee directors, may select. Some of the options are currently
exercisable and others vest over the next four years if certain individual and
Company performance-based goals are met. The options expire within ten years
from the date of the grant. There was no option activity prior to 1997. The
activity during the years ended December 31, 1997 and 1998 is set forth below:
<TABLE>
<CAPTION>
EXERCISE PRICE WEIGHTED-AVERAGE
NUMBER OF SHARES PER SHARE EXCERCISE PRICE
---------------- -------------- ----------------
<S> <C> <C> <C>
Options outstanding at December 31,
1996.................................... -- $ -- $ --
Granted................................... 2,336,652 5.50 5.50
Exercised................................. -- -- --
Terminated................................ (202,764) 5.50 5.50
---------
Options outstanding at December 31, 1997
(276,247 exercisable)................... 2,133,888 $ 5.50 $ 5.50
Granted................................... 1,119,066 4.95 - 20.00 13.21
Exercised................................. (128,618) 4.95 - 5.70 5.35
Terminated................................ (327,291) 5.50 - 20.00 16.10
---------
Options outstanding at December 31, 1998
(633,669 exercisable)................... 2,797,045 $4.95 - 13.00 $ 7.35
========= ============= ======
</TABLE>
The following table summarizes information about stock options outstanding
at December 31, 1998:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
--------------------------------- WEIGHTED-AVERAGE OPTIONS EXERCISABLE
WEIGHTED- REMAINING -----------------------------------
RANGE OF EXERCISE NUMBER OF SHARES AVERAGE CONTRACTUAL LIFE NUMBER OF SHARES WEIGHTED-AVERAGE
PRICES PER SHARE OUTSTANDING EXERCISE PRICE (YEARS) EXERCISABLE EXERCISE PRICE
- ----------------- ---------------- -------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C> <C>
$4.95 -- 5.49........... 67,855 $4.95 9.42 67,855 $4.95
5.50 -- 5.69........... 2,034,030 5.50 7.56 565,814 5.50
5.70 -- 13.00.......... 695,160 13.00 9.83 -- --
--------- -------
$4.95 -- 13.00.......... 2,797,045 $7.35 8.17 633,669 $5.44
========= =======
</TABLE>
42
<PAGE> 44
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company accounts for stock option grants in accordance with APB Opinion
No. 25. Pro forma information regarding net income and earnings per share is
required under SFAS No. 123 and has been determined as if the Company had
accounted for all 1998 and 1997 stock option grants based on the fair value
method. The pro forma information presented below is not representative of the
effect stock options will have on pro forma net income or earnings per share for
future years. The pro forma information for 1998 and 1997 was as follows (in
thousands, except per share amounts):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1998 1997
- ----------------------- ---- ----
<S> <C> <C> <C>
Net income......................................... As reported $25,135 $18,698
Pro forma $23,610 $18,318
Earnings per common share:
Basic after extraordinary item................ As reported $ 1.34 $ 1.31
Basic after extraordinary item................ Pro forma $ 1.26 $ 1.28
Diluted after extraordinary item.............. As reported $ 1.28 $ 1.27
Diluted after extraordinary item.............. Pro forma $ 1.22 $ 1.26
</TABLE>
The fair value of each option granted during the year ended December 31,
1998 and 1997 is the estimated present value at grant date. The fair value of
1998 options was estimated using the Black-Scholes option pricing model whereby
the expected volatility was based on average volatilities of similar companies.
The fair value of 1997 options was estimated using the minimum value model. The
following weighted-average assumptions were used for 1998 and 1997,
respectively:
- dividend yield of 1.4% and 0.8%, respectively
- expected life of 8 and 6 years, respectively
- risk free interest rate of 5.1% and 5.4%, respectively
- expected volatility of 56.2% in 1998
The weighted-average fair value of options granted during 1998 and 1997
whose exercise price equals the fair market value of the Company's stock on
grant date was $7.47 and $1.30, respectively. The weighted-average fair value of
options granted during 1998 and 1997 whose exercise price is less than the fair
market value of the Company's stock on grant date was $7.71 and $4.37,
respectively.
1998 Employee Stock Purchase Plan
The Employee Stock Purchase Plan (the "ESPP") allows eligible employees to
invest from 1% to 10% of their compensation to purchase shares of the Company's
Common Stock at a price equal to 85% of its fair market value. The Company has
reserved 500,000 shares for purchase by employees under the ESPP and, through
December 31, 1998, 44,836 shares have been purchased.
43
<PAGE> 45
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
20. SEGMENT REPORTING DATA
In 1998, the Company adopted SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information." The Company has two reportable segments:
broker-dealer and asset management. The Company's broker-dealer segment includes
the retail operations, equity capital markets and trading businesses of its
three brokerage subsidiaries, Tucker Anthony, Sutro and Cleary Gull, since they
generally offer similar products and services and are subject to uniform
regulatory requirements. The Company offers its broker-dealer clients a wide
range of products and services, including retail brokerage, investment banking,
institutional sales and fixed income products. The asset management segment
includes the Company's asset management subsidiary, Freedom Capital, Cleary
Gull's Investment Management Services group and asset management business from
Tucker Anthony and Sutro. The Company offers its asset management clients
investment advisory, portfolio management and custodial services. Substantially
all of the Company's business is transacted in the United States. The following
table presents information about reported segments (amounts in thousands):
<TABLE>
<CAPTION>
ASSET
BROKER-DEALER MANAGEMENT OTHER (a) TOTAL
------------- ---------- --------- --------
<S> <C> <C> <C> <C>
Year Ended December 31, 1998
Operating revenues............................ $367,603 $47,294 $ 467 $415,364
Income (loss) before income taxes............. 36,038 10,630 (2,074) 44,594
Total assets.................................. 463,594 92,142 50,514 606,250
Year Ended December 31, 1997
Operating revenues............................ $320,248 $34,376 $ 562 $355,186
Income (loss) before income taxes............. 30,723 7,178 (5,466) 32,435
Total assets.................................. 620,707 58,580 48,300 727,587
One Month Ended December 31, 1996
Operating revenues............................ $ 25,101 $ 2,202 $ 1 $ 27,304
Income (loss) before income taxes............. 1,208 554 (342) 1,420
Total assets.................................. 408,207 53,330 55,415 516,952
Predecessor Company
Eleven Months Ended November 29, 1996
Operating revenues............................ $270,646 $30,601 $ 124 $301,371
Income (loss) before income taxes............. 17,037 5,640 (2,290) 20,387
Total assets.................................. 492,463 50,897 67,527 610,887
</TABLE>
- ---------------
(a) Other reflects the activities of the Company's holding companies. Income
(loss) before income taxes principally includes amortization of goodwill and
acquisition interest expense related to financing the Acquisition. Total
assets primarily consist of goodwill and deferred taxes.
44
<PAGE> 46
FREEDOM SECURITIES CORPORATION AND
FREEDOM SECURITIES HOLDING CORPORATION ("PREDECESSOR COMPANY")
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
21. QUARTERLY INFORMATION (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) (UNAUDITED):
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
-------- ------------ ------------ -----------
<S> <C> <C> <C> <C>
1998
Net revenues........................... $100,110(a) $ 121,661(a) $ 99,862(a) $ 118,743(a)
Income before income taxes............. 8,596 13,238 10,621 12,139
Net income before extraordinary item... 5,029 7,635 6,670 7,077
Extraordinary item (net of tax of
$922)................................ -- 1,276 -- --
Net income after extraordinary item.... 5,029 6,359 6,670 7,077
Earnings per share:
Basic before extraordinary item... $ 0.34 $ 0.39 $ 0.33 $ 0.35
Basic after extraordinary item.... 0.34 0.32 0.33 0.35
Diluted before extraordinary
item............................ 0.32 0.36 0.32 0.34
Diluted after extraordinary
item............................ 0.32 0.30 0.32 0.34
Stock price range(b):
High.............................. -- $ 23.13 $ 21.50 $ 19.00
Low............................... -- $ 17.19 $ 11.69 $ 9.38
1997
Net revenues........................... $ 84,777(a) $ 85,310(a) $ 103,912(a) $ 102,815(a)
Income before income taxes............. 6,043 5,040 10,464 10,888
Net income............................. 3,493 2,918 5,967 6,320
Basic earnings per share............... $ 0.25 $ 0.20 $ 0.42 $ 0.44
Diluted earnings per share............. 0.24 0.20 0.41 0.42
</TABLE>
- ---------------
(a) Amounts have been reclassified to conform with fourth quarter 1998 financial
statement presentation.
(b) Prices represent the range of sales per share on the New York Stock Exchange
since the Company's public offering on April 2, 1998.
22. SUBSEQUENT EVENTS (UNAUDITED)
In January 1999, the Company acquired the investment and municipal banking
firm of Hopper Soliday & Co., Inc. ("Hopper Soliday"), and merged it with Tucker
Anthony. The total purchase price approximated $9 million paid in cash. Hopper
Soliday had revenues of approximately $20 million and after-tax net income of
approximately $2.6 million for the year ended December 31, 1998.
In February 1999, the Company, through its Sutro subsidiary, acquired
Charter Investment Group, Inc. ("Charter"), a brokerage firm based in Portland,
Oregon. The total purchase price approximated $3.7 million, of which $465,000
was paid in cash and the remainder paid with shares of the Company's Common
Stock. Charter had 1998 revenues of approximately $7.5 million and had
approximately $900 million in brokerage accounts as of December 31, 1998.
In January 1999, the Company purchased 494,748 shares from SCP Private
Equity Partners, L.P., one of the original equity investors in the Company, at
$15.56 per share. The purchase was funded from operations of the Company.
In January 1999, the Company refinanced certain of its existing fixed
assets and secured financing for a $4.7 million upgrade of its computer system.
This new financing bears interest at 5.15% annually and is payable in equal
monthly installments through May 2003.
45
<PAGE> 47
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required in Item 10 will be contained in the Company's
definitive Proxy Statement to be filed pursuant to Regulation 14A within 120
days after the close of the fiscal year for which this Report is filed and is
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required in Item 11 will be contained in the Company's
definitive Proxy Statement to be filed pursuant to Regulation 14A within 120
days after the close of the fiscal year for which this Report is filed and is
incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required in Item 12 will be contained in the Company's
definitive Proxy Statement to be filed pursuant to Regulation 14A within 120
days after the close of the fiscal year for which this Report is filed and is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required in Item 13 will be contained in the Company's
definitive Proxy Statement to be filed pursuant to Regulation 14A within 120
days after the close of the fiscal year for which this Report is filed and is
incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) (1) Financial Statements
A listing of all financial statements filed as part of this Annual
Report on Form 10-K is included in Item 8.
(2) Financial Statement Schedules
All schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable, and therefore have been omitted.
(3) Exhibits
The exhibits listed on the accompanying Index to Exhibits are filed as
part of this Annual Report on Form 10-K.
(b) (1) Reports on Form 8-K
None.
46
<PAGE> 48
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
/s/ JOHN H. GOLDSMITH
------------------------------------
JOHN H. GOLDSMITH
CHAIRMAN OF THE BOARD,
CHIEF EXECUTIVE OFFICER AND DIRECTOR
Date: March 30, 1999
Pursuant to the requirements of the Securities and Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities indicated on the 30th day of March, 1999.
<TABLE>
<C> <S>
/s/ JOHN H. GOLDSMITH
- --------------------------------------------------- Chairman of the Board, Chief Executive Officer
JOHN H. GOLDSMITH (Principal Executive Officer) and Director
/s/ WILLIAM C. DENNIS, JR. Executive Vice President, Chief Financial
- --------------------------------------------------- Officer (Principal Financial and Accounting
WILLIAM C. DENNIS, JR. Officer)
/s/ JOHN F. LUIKART
- ---------------------------------------------------
JOHN F. LUIKART Director
/s/ DAVID P. PROKUPEK
- ---------------------------------------------------
DAVID P. PROKUPEK Director
/s/ ROBERT H. YEVICH
- ---------------------------------------------------
ROBERT H. YEVICH Director
/s/ C. HUNTER BOLL
- ---------------------------------------------------
C. HUNTER BOLL Director
/s/ WINSTON J. CHURCHILL
- ---------------------------------------------------
WINSTON J. CHURCHILL Director
/s/ THOMAS M. HAGERTY
- ---------------------------------------------------
THOMAS M. HAGERTY Director
/s/ DAVID V. HARKINS
- ---------------------------------------------------
DAVID V. HARKINS Director
/s/ HUGH R. HARRIS
- ---------------------------------------------------
HUGH R. HARRIS Director
/s/ SETH W. LAWRY
- ---------------------------------------------------
SETH W. LAWRY Director
</TABLE>
47
<PAGE> 49
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------- -----------------------
<C> <S>
+ 3.1 Restated Certificate of Incorporation of the Company
+ 3.2 Bylaws of the Company
+ 10.1 Contribution Agreement by and among the Company, Hancock,
THL and SCP Private Equity Partners, L.P., dated as of
October 4, 1996
+ 10.2 Stockholders Agreement by and among the Company and the
persons listed on the signature pages thereof as the Initial
Investors, SCP Initial Investor, Employee Investors and
Seller Initial Investor dated as of November 30, 1996
+ 10.3 Additional Share Agreement by and between the Company and
Hancock, dated as of November 29, 1996
+ 10.4 Tax Matters Agreement by and between the Company and
Hancock, dated as of November 29, 1996
+ 10.5 Contribution and Indemnity Agreement by and between the
Company and John H. Goldsmith, dated as of November 29, 1996
+ 10.6 Management Agreement by and between the Company and THL,
dated as of November 29, 1996
+ 10.7 Management Agreement by and between the Company and SCP,
dated as of November 29, 1996
+ 10.8 1996 Stock Option Plan
+ 10.9 Employment Agreement by and between the Company and John H.
Goldsmith, dated as of November 29, 1996
+10.10 Letter Agreement by and between the Company and William C.
Dennis, Jr., dated as of April 2, 1997
+10.11 Agreement, by and among Prudential Securities Incorporated,
John Hancock Clearing Corporation, Tucker Anthony
Incorporated and Sutro & Co. Incorporated
+10.12 Form of TAMP Incentive Plan Limited Partnership, Limited
Partnership Agreement, dated as of July 1, 1989
+10.13 Form of TAMP II Incentive Plan Limited Partnership, Limited
Partnership Agreement, dated as of February 28, 1995
+10.14 Form of TAMM II Incentive Plan Limited Partnership, Limited
Partnership Agreement, dated as of April 8, 1984
+10.15 Form of Sutro Venture Partners I, L.P. Limited Partnership
Agreement, dated as of March 21, 1996
+10.16 Form of Sutro Venture Partners II, L.P. Limited Partnership
Agreement, dated as of March 21, 1996
+10.17 Form of Operating Agreement for Sutro Investment Partners
IV, LLC dated as of June 30, 1997
++10.18 Agreement and Plan of Merger, by and among the Company, CGRM
Merger Corp. and Cleary Gull Reiland & McDevitt Inc., dated
March 9, 1998
++10.19 Cleary Gull Registration Rights Agreement
++10.20 Chattel Leasing Security Agreement by and between T.A.
Leasing, Inc. and BancBoston Leasing, Inc., dated November
29, 1996
++10.21 Amended and Restated Chattel Leasing Promissory Note, by and
between T.A. Leasing, Inc. and BancBoston Leasing, Inc.,
dated February 28, 1997
++10.22 Chattel Leasing Security Agreement by and between Sutro
Leasing Inc. and BancBoston Leasing, Inc., dated February
28, 1997
++10.23 Chattel Leasing Promissory Note by and between Sutro Leasing
Inc. and BancBoston Leasing, Inc., dated February 28, 1997
++10.24 1998 Long Term Incentive Plan
++10.25 1998 Executive Performance Bonus Plan
</TABLE>
48
<PAGE> 50
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
- ------- -----------------------
<C> <S>
++10.26 Amendment No. 1 to the Stockholders Agreement dated January
30, 1998
++10.27 Form of Amendment No. 2 to the Stockholders Agreement
++10.28 Form of Amendment No. 3 to the Stockholders Agreement
++10.29 David P. Prokupek Employment Agreement, dated as of March 9,
1998
++10.30 Revolving Credit Agreement, by and among the Company,
BankBoston, N.A., and the other banks party thereto, dated
as of August 21, 1998
+++10.31 John F. Luikart Employment Agreement, dated as of September
15, 1998
++10.32 Kevin J. McKay Employment Agreement, dated as of September
15, 1998
10.33 Form of Sutro Venture Partners III, L.P. Limited Partnership
Agreement, dated as of December 15, 1998.
10.34 Form of Sutro Venture Partners IV, L.P. Limited Partnership
Agreement, dated as of December 15, 1998.
10.35 Amendment to Clearing Agreement (September 8, 1995), dated
as of April 23, 1998
21 Subsidiaries of the Company
23 Consent of Ernst & Young, LLP, Independent Auditors
27 Financial Data Schedule
</TABLE>
- ---------------
+ Incorporated by reference to the Company's registration statement on Form S-1
(File No. 333-44938)
++ Incorporated by reference to the Company's registration statement on Form S-1
(File No. 333-62857)
Schedules and exhibits to certain exhibits to this Form 10-K have been
omitted, which schedules shall be furnished to the Commission upon request.
49
<PAGE> 1
EXHIBIT 10.33
OPERATING AGREEMENT
FOR
SUTRO VENTURE PARTNERS III LLC
A DELAWARE LIMITED LIABILITY COMPANY
THE SECURITY WHICH IS THE SUBJECT OF THIS AGREEMENT HAS NOT BEEN
REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION UNDER THE SECURITIES ACT
OF 1933, AS AMENDED (THE "ACT"), IN RELIANCE UPON THE EXEMPTION FROM
REGISTRATION PROVIDED BY RULE 506 PROMULGATED UNDER THE ACT, AND THIS SECURITY
HAS NOT BEEN REGISTERED OR QUALIFIED UNDER THE STATE SECURITIES LAWS OF ANY
RELEVANT JURISDICTION IN WHICH THIS SECURITY HAS BEEN OFFERED AND SOLD PURSUANT
TO AN APPLICABLE EXEMPTION THEREFROM. IT IS UNLAWFUL TO CONSUMMATE A SALE OR
TRANSFER OF THIS SECURITY WITHOUT PROVIDING THE MANAGER WITH AN OPINION OF
COUNSEL TO THE EFFECT THAT A PROPOSED TRANSFER OR SALE OF THIS SECURITY (i) DOES
NOT AFFECT THE ORIGINAL ISSUANCE AND SALE OF SECURITIES IN THE COMPANY PURSUANT
TO THE EXEMPTIONS FROM REGISTRATION PROVIDED BY RULE 506 UNDER THE ACT AND
PURSUANT TO ANY APPLICABLE STATE EXEMPTION FROM REGISTRATION AND QUALIFICATION
RELIED UPON BY THE MANAGER AND (ii) IS IN COMPLIANCE WITH ALL APPLICABLE STATE
AND FEDERAL SECURITIES LAWS.
THE SALE, TRANSFER OR OTHER DISPOSITION OF THE SECURITY WHICH IS THE
SUBJECT OF THIS AGREEMENT OR ANY INTEREST THEREIN IS SUBJECT TO CERTAIN
RESTRICTIONS SET FORTH IN Article VII OF THIS AGREEMENT.
<PAGE> 2
TABLE OF CONTENTS
Page
----
ARTICLE I - DEFINITIONS........................................................1
1.1 "Act"........................................................1
1.2 "Affiliate"..................................................1
1.3 "Agreement"..................................................1
1.4 "Articles"...................................................1
1.5 "Assignee"...................................................1
1.6 "Bankruptcy".................................................1
1.7 "Borrower"...................................................2
1.8 "Capital Account"............................................2
1.9 "Capital Contribution".......................................2
1.10 "Code".......................................................3
1.11 "Company"....................................................3
1.12 "Company Minimum Gain".......................................3
1.13 "Depreciation"...............................................3
1.14 "Determination Date".........................................3
1.15 "Disability".................................................3
1.16 "Dissolution Event"..........................................3
1.17 "Economic Interest"..........................................3
1.18 "Fiscal Period"..............................................3
1.19 "Fiscal Year"................................................3
1.20 "Gross Asset Value"..........................................3
1.21 "Interest"...................................................5
1.22 "Majority Interest"..........................................5
1.23 "Manager"....................................................5
1.24 "Master Company".............................................5
1.25 "Member".....................................................5
1.26 "Membership Interest"........................................5
1.27 "Memorandum".................................................5
1.28 "Nonmanager Member"..........................................5
1.29 "Offering"...................................................5
1.30 Not Used.....................................................5
1.31 "Percentage Interest"........................................6
1.32 "Person".....................................................6
1.33 "Plan".......................................................6
1.34 "Profits" and "Losses".......................................6
1.35 "Purchase Date"..............................................6
1.36 "Regulations"................................................6
1.37 "Remaining Members"..........................................6
1.38 "Securities Act".............................................6
1.39 "Subscription"...............................................7
1.40 "Sutro Employee".............................................7
1.41 "Sutro Group"................................................7
1.42 "SVM"........................................................7
1.43 "Tax Matters Partner"........................................7
ARTICLE II - ORGANIZATIONAL MATTERS............................................7
2.1 Formation....................................................7
2.2 Name.........................................................7
i
<PAGE> 3
2.3 Term.........................................................7
2.4 Office and Agent.............................................7
A. Principal Office....................................7
B. Registered Office...................................7
C. Other Jurisdictions.................................7
2.5 Purpose and Business of the Company..........................8
ARTICLE III - CAPITAL CONTRIBUTIONS............................................8
3.1 Capital Contributions of Members.............................8
3.2 Other Contributions..........................................8
3.3 Certain Restrictions upon Interest Sales.....................8
3.4 No Interest..................................................8
3.5 Borrowing....................................................8
3.6 Vesting......................................................9
ARTICLE IV - MEMBERS...........................................................9
4.1 Limitations on Liability of Members..........................9
4.2 Liability of Members to the Company..........................9
A. Liability of Members to the Company.................9
B. Member as Trustee for the Company..................10
C. Waiver of Liability of Member......................10
4.3 Admission of Additional Members.............................10
4.4 Withdrawals.................................................10
4.5 Transactions With The Company...............................11
4.6 Remuneration To Members.....................................11
4.7 Members Are Not Agents......................................11
4.8 Voting Rights...............................................11
4.9 Meetings of Members.........................................11
A. Date, Time and Place of Meetings of Members;
Secretary..........................................11
B. Power to Call Meetings.............................12
C. Notice of Meeting..................................12
D. Manner of Giving Notice; Affidavit of Notice.......12
E. Validity of Action.................................12
F. Quorum.............................................12
G. Adjourned Meeting; Notice..........................12
H. Waiver of Notice or Consent........................13
I. Action by Written Consent without a Meeting........13
J. Telephonic Participation by Member at Meetings.....13
K. Record Date........................................13
L. Proxies............................................14
4.10 Certificate of Membership Interest..........................14
ARTICLE V - MANAGEMENT AND CONTROL OF THE COMPANY.............................14
5.1 Management of the Company by Manager........................14
5.2 Resignation and Removal of Managers.........................14
5.3 Powers of Manager...........................................15
A. Powers of Manager..................................15
B. Limitations on Power of Manager....................15
5.4 Performance of Duties; Liability of Manager.................15
5.5 Payments to Manager.........................................16
5.6 Limited Liability...........................................16
5.7 Interests Held by Manager...................................16
ii
<PAGE> 4
ARTICLE VI - ALLOCATIONS OF PROFITS AND LOSSES; DISTRIBUTIONS.................16
6.1 Capital Accounts............................................16
6.2 Allocations.................................................17
A. Allocations........................................17
1. Profits and Losses........................17
2. Recapture.................................17
B. Special Capital Account Allocations................17
1. Section 704 Allocations...................17
2. Tax Allocations...........................17
3. Other Allocation Rules....................18
4. Provisional Allocation....................18
C. Withdrawals from Capital Accounts..................18
6.3 Distributions in General....................................19
6.4 Restriction on Distribution.................................19
A. Limitation.........................................19
B. Liability for Return...............................19
C. Limitation on Liability............................19
6.5 Returned Distributions......................................19
6.6 Obligations of Members to Report Allocations................20
ARTICLE VII - TRANSFER AND ASSIGNMENT OF INTERESTS............................20
7.1 Transfer and Assignment of Interests........................20
7.2 Further Restrictions on Transfer of Interests...............20
7.3 Substitution of Members.....................................20
7.4 Permitted Transfers.........................................20
7.5 Effective Date of Permitted Transfers.......................20
7.6 Rights of Legal Representatives.............................21
7.7 No Effect to Transfers in Violation of Agreement............21
ARTICLE VIII - CONSEQUENCES OF DISSOLUTION EVENTS.............................21
ARTICLE IX - ACCOUNTING, RECORDS, REPORTING BY MEMBERS........................21
9.1 Books and Records...........................................21
9.2 Delivery to Members and Inspection..........................22
A. Delivery of Information............................22
B. Inspection and Copying.............................22
C. Right to Request...................................22
D. Copies of Amendments...............................22
9.3 Annual Statements...........................................22
A. Delivery of Statements.............................22
B. Tax Information....................................23
9.4 Company Accounts............................................23
9.5 Accounting Decisions and Reliance on Others.................23
9.6 Tax Matters for the Company Handled by Manager and Tax
Matters Partner.............................................23
ARTICLE X - DISSOLUTION AND WINDING UP........................................23
10.1 Dissolution.................................................23
10.2 Certificate of Dissolution..................................23
10.3 Winding Up..................................................23
10.4 Distributions in Kind.......................................24
10.5 Order of Payment Upon Dissolution...........................24
iii
<PAGE> 5
10.6 Limitations on Payments Made in Dissolution.................24
10.7 Certificate of Cancellation.................................24
ARTICLE XI - INDEMNIFICATION..................................................24
11.1 Indemnification.............................................24
11.2 Successors and Assigns; Limitations.........................25
ARTICLE XII - COMPETING ACTIVITIES............................................25
ARTICLE XIII - MISCELLANEOUS..................................................25
13.1 Counsel to the Company......................................25
13.2 Complete Agreement..........................................26
13.3 Binding Effect..............................................26
13.4 Parties in Interest.........................................26
13.5 Pronouns; Statutory References..............................26
13.6 Headings....................................................26
13.7 Interpretation..............................................26
13.8 References to this Agreement................................26
13.9 Jurisdiction................................................26
13.10 Exhibits....................................................27
13.11 Severability................................................27
13.12 Additional Documents and Acts...............................27
13.13 Notices.....................................................27
13.14 Amendments..................................................27
13.15 Reliance on Authority of Person Signing Agreement...........27
13.16 No Interest in Company Property; Waiver of Action for
Partition...................................................28
13.17 Multiple Counterparts.......................................28
13.18 Attorney Fees; Arbitration..................................28
13.19 Remedies Cumulative.........................................29
iv
<PAGE> 6
OPERATING AGREEMENT
FOR
SUTRO VENTURE PARTNERS III LLC
A DELAWARE LIMITED LIABILITY COMPANY
This Operating Agreement is made as of December 15, 1998, by and among
Sutro Venture Management, Inc., a Delaware corporation, and those persons who,
themselves or by attorney-in-fact, have executed this Agreement or a counterpart
signature page to this Agreement and been admitted as Members in accordance with
the provisions hereof. The parties by this Agreement set forth the operating
agreement for the limited liability company being organized by them under the
laws of the State of Delaware upon the terms and subject to the conditions of
this Agreement.
ARTICLE I
DEFINITIONS
When used in this Agreement, the following terms shall have the
meanings set forth below (all terms used in this Agreement that are not defined
in this Article I shall have the meanings set forth elsewhere in this
Agreement):
1.1 "ACT" shall mean the Delaware Limited Liability Company Act,
as the same may be amended from time to time.
1.2 "AFFILIATE" of a Member or Manager shall mean any Person,
directly or indirectly, through one or more intermediaries, controlling,
controlled by, or under common control with a Member or Manager, as applicable.
The term "control," as used in the immediately preceding sentence, shall mean
with respect to a corporation or limited liability company the right to
exercise, directly or indirectly, more than fifty percent (50%) of the voting
rights attributable to the controlled corporation or limited liability company,
and, with respect to any individual, partnership, trust, other entity or
association, the possession, directly or indirectly, of the power to direct or
cause the direction of the management or policies of the controlled entity.
1.3 "AGREEMENT" shall mean this Operating Agreement, as originally
executed and as amended from time to time.
1.4 "ARTICLES" shall mean the Certificate of Formation for the
Company originally filed with the Delaware Secretary of State and as amended
from time to time.
1.5 "ASSIGNEE" shall mean the owner of an Economic Interest who
has not been admitted as a substitute Member in accordance with Article VII.
1.6 "BANKRUPTCY" shall mean: (a) the filing of an application by a
Manager for, or his or her consent to, the appointment of a trustee, receiver,
or custodian of his or her other assets; (b) the entry of an order for relief
with respect to a Manager in proceedings under the United States Bankruptcy
Code, as amended or superseded from time to time; (c) the making by a Manager of
a general assignment for the benefit of creditors; (d) the entry of an order,
judgement, or decree by any court of competent jurisdiction appointing a
trustee, receiver, or custodian of the assets of a Manager unless the
proceedings and the person appointed are dismissed within ninety (90) days; or
(e) the failure by a Manager generally to pay his or her debts as the debts
become due within the meaning of Section 303(h)(1) of the United States
Bankruptcy Code, as determined by the Bankruptcy Court, or the admission in
writing of his or her inability to pay his or her debts as they
1
<PAGE> 7
become due.
1.7 "BORROWER" shall have the meaning ascribed to such term in
Section 3.5 hereof.
1.8 "CAPITAL ACCOUNT" shall mean with respect to any Member the
individual Capital Account that shall be established and maintained for each
Member and for each Capital Contribution of each Member in accordance with the
following provisions:
(a) To each Capital Account of a Member there shall be
credited such Member's related Capital Contribution, such Member's share of
Profit with respect thereto, any items in the nature of income or gain that are
specifically allocated thereto pursuant to this Agreement and the amount of any
Company liabilities that are personally assumed by such Member or that are
secured by any Company property distributed to such Member with respect thereto;
(b) To each Capital Account of a Member, there shall be
debited the amount of cash and the Gross Asset Value of any Company property
distributed to such Member pursuant to any provision of this Agreement with
respect thereto, such Member's share of Loss with respect thereto, any items in
the nature of expenses or loss that are specifically allocated thereto pursuant
to this Agreement and the amount of any liabilities of such Member that are
assumed by the Company or that are secured by any property contributed by such
Member to the Company with respect thereto;
(c) In determining the amount of any liability, there
shall be taken into account Code Section 752(c) and any other applicable
provisions of the Code and Regulations;
(d) If any interest in the Company is transferred in
accordance with this Agreement, the transferee shall succeed to the Capital
Accounts of the transferor to the extent that they relate to the transferred
interest.
(e) If the Gross Asset Values of Company assets are
adjusted pursuant to this Agreement, the respective Capital Accounts of all
Members shall be adjusted simultaneously to reflect the aggregate net adjustment
as if the Company were to have recognized gain or loss equal to the amount of
such aggregate net adjustment.
(f) The foregoing provisions and other provisions of this
Agreement relating to the maintenance of Capital Accounts are intended to comply
with Regulations Section 1.704-1(b), and shall be interpreted and applied in a
manner consistent therewith. If the Manager determines that it is prudent to
modify the manner in which the Capital Accounts, or any debits or credits
thereto, are computed in order to comply with Regulations Section 1.704-1(b),
the Manager may make such modification if it is not likely to have a material
adverse effect on amounts distributable to any Member pursuant hereto on the
dissolution of the Company. The Manager shall adjust the amounts debited or
credited to Capital Accounts with respect to any property contributed to the
Company or distributed to a Member and any liabilities secured by such
contributed or distributed property or assumed by the Company or Member in
connection with such contribution or distribution if the Manager determines that
such adjustments are necessary or appropriate under Regulations Section
1.704-1(b)(2)(iv). The Manager shall also make any appropriate modifications if
unanticipated events might cause this Agreement not to comply with Regulations
Section 1.704-1(b), and the Manager shall make all elections provided for under
such Regulations.
1.9 "CAPITAL CONTRIBUTION" of a Member shall mean the total amount
of cash and the initial Gross Asset Value of property contributed to the capital
of the Company by such Member.
1.10 "CODE" shall mean the Internal Revenue Code of 1986, as
amended from time to
2
<PAGE> 8
time, the provisions of succeeding law, and to the extent applicable, the
Regulations.
1.11 "COMPANY" shall mean Sutro Venture Partners III LLC, a
Delaware limited liability company.
1.12 "COMPANY MINIMUM GAIN" shall have the meaning ascribed to the
term "Partnership Minimum Gain" in the Regulations Section 1.704-2(d).
1.13 "DEPRECIATION" shall mean, for each Fiscal Year or other
Fiscal Period, an amount equal to the depreciation, amortization or other cost
recovery deduction allowable with respect to an asset for such Year or other
Period, except that if the Gross Asset Value of an asset differs from its
adjusted basis for Federal income tax purposes at the beginning of such Year or
other Period, Depreciation shall be an amount which bears the same ratio to such
beginning Gross Asset Value as the Federal income tax depreciation, amortization
or other cost recovery deduction for such Year or other Period bears to such
beginning adjusted tax basis.
1.14 "DETERMINATION DATE" shall mean the date as of which the value
or amount of Company assets and/or liabilities is to be determined.
1.15 "DISABILITY" shall mean permanent inability to be gainfully
employed at Sutro or its Affiliates.
1.16 "DISSOLUTION EVENT" shall mean with respect to any Manager,
one or more of the following: the death, insanity, withdrawal, resignation,
retirement, removal, expulsion, Bankruptcy or dissolution of any such Manager.
1.17 "ECONOMIC INTEREST" shall mean the right to receive
distributions of the Company's assets and allocations of Profit and Loss and
similar items from the Company pursuant to this Agreement and the Act, but shall
not include any other rights of a Member, including, without limitation, the
right to vote or participate in the management of the Company, or except as
provided in the Act, any right to information concerning the business and
affairs of the Company.
1.18 "FISCAL PERIOD" shall mean each period commencing (i) on the
first day of each calendar year, (ii) on the date of any Capital Contribution,
(iii) on each date next following the date of any withdrawal from a Capital
Account, and (iv) on the date on which Members are first admitted to the
Company, and the prior Fiscal Period, if any, shall terminate on the day
immediately preceding the day on which a new Fiscal Period commences.
1.19 "FISCAL YEAR" shall mean the period from January 1 (or the
date purchasers of Interests are first admitted to the Company in the case of
the first Fiscal Year) through the succeeding December 31 or, if earlier, the
date of dissolution and termination of the Company.
1.20 "GROSS ASSET VALUE" shall mean, with respect to any asset, the
asset's adjusted basis for Federal income tax purposes, except as follows:
(a) The initial Gross Asset Value of any asset
contributed by a Member to the Company shall be the gross fair market value of
such asset, determined as provided in Paragraph 1.20(f) below;
(b) The Gross Asset Value of all Company assets shall be
adjusted to equal their respective gross fair market values, determined as
provided in Paragraph 1.20(f) below, as of the following times: (i) on the
acquisition of an additional interest in the Company by any new or
3
<PAGE> 9
existing Member in exchange for more than a DE MINIMIS Capital Contribution;
(ii) on the distribution by the Company to a Member of more than a DE MINIMIS
amount of Company property, unless all Members receive simultaneous
distributions of undivided interests in the distributed property in proportion
to their respective Percentage Interests; (iii) on the last day of each Fiscal
Period; and (iv) on a liquidation within the meaning of Regulations Section
1.704-1(b)(2)(ii)(g);
(c) The Gross Asset Value of any Company property
distributed to any Member shall be the gross fair market value of such Company
property, determined as provided in Paragraph 1.20(f) below;
(d) The Gross Asset Value of any Company property shall
be increased (or decreased) to reflect any adjustments to the adjusted basis of
such Company property pursuant to Code Section 734(b) or 743(b), but only to the
extent that such adjustments are taken into account in determining Capital
Accounts pursuant to Regulations Section 1.704-1(b)(2)(iv)(m); provided that
Gross Asset Values shall not be so adjusted to the extent that the Manager
determines that an adjustment pursuant to Paragraph 1.20(b) is necessary or
appropriate in connection with a transaction that would otherwise result in an
adjustment pursuant to this Paragraph 1.20(d); and
(e) If the Gross Asset Value of an asset has been
determined or adjusted pursuant hereto, such Gross Asset Value shall thereafter
be adjusted by the Depreciation taken into account with respect to such asset
for purposes of computing Profit and Loss, and Capital Accounts shall be
adjusted in accordance with Regulations Section 1.704-1(b)(2)(iv)(g) and the
Members' distributive shares of depreciation, depletion, amortization, gains and
net loss for tax purposes with respect to such property shall be determined to
take account of the variation between the adjusted tax basis and the Gross Asset
Value of such property in the same manner as under Code Section 704(c).
(f) Whenever the "value,""fair value" or "fair market
value" of Company property is to be determined, such "value" shall be
determined, and the assets and liabilities of the Company shall be valued, on
the following basis:
(i) Marketable securities listed on national
securities exchanges or reported in the National Market System will be valued at
the last sale price on the stock exchange or market on which the security is
traded on the Determination Date or, if the security is traded on more than one
stock exchange or market on the Determination Date, at the last sale price on
the exchange or market on which such securities are principally traded on that
Date; in the absence of a sale on such Date, such securities will be valued at
the average of the closing bid prices as to long positions and asked prices as
to short positions on such exchange or market on the Determination Date. A 25%
discount will be applied in the case of any "restricted securities."
(ii) Marketable securities not so traded will be
valued at the last bid prices as to long positions and at the last asked prices
as to short positions, as reported by NASDAQ in the case of securities quoted on
NASDAQ, or by the National Quotations Bureau, Inc. in the case of any other such
securities. A 25% discount will be applied in the case of any "restricted
securities."
(iii) Short term money market instruments and bank
deposits will be valued at cost plus reported interest to date.
(iv) All other assets and liabilities of the
Company will be valued at the fair value thereof as determined in good faith by
the Manager, except that if the Company's assets could be deemed to be plan
assets or plan property for the purposes of ERISA, securities which are
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of a class which is neither publicly traded nor convertible into a publicly
traded class will be valued by the Company's independent auditors or by such
other independent person which the Members might designate from time to time by
the vote of a Majority Interest. Securities which are neither of a class which
is publicly traded nor currently convertible into such a class will generally be
valued at cost, unless the Manager believes that there is persuasive evidence to
justify a valuation other than at cost. In making that determination, the
Manager will attempt to consider all relevant information available to it
without unreasonable effort or expense, and make a good faith attempt to ensure
that new Interests are sold taking into account the then fair market value of
the underlying investment portfolio, but these judgments will necessarily be
subjective and based in large part on information provided by investee entities
and investee funds. In determining the value of interests owned by the Master
Company in other funds, the Manager will rely on information furnished by the
managers of those other funds.
(v) If the Determination Date is not a business
day, values as of the close of business on the last business day preceding such
Date may be used. All determinations of values will, except as provided in (iv),
above, be accomplished by the Manager, whose determination thereof shall be
conclusive and binding.
1.21 "INTEREST" shall mean any membership interest in the Company
which was offered and sold pursuant to the Offering.
1.22 "MAJORITY INTEREST" shall mean those Members who hold a
majority of the Percentage Interests which all Members hold.
1.23 "MANAGER" shall mean and refer to SVM, as well as to any other
person that succeeds it as a manager of the Company.
1.24 "MASTER COMPANY" shall mean Sutro Venture Fund 34 LLC, a
Delaware limited liability company.
1.25 "MEMBER" shall mean the Manager and each Person who is an
initial signatory to this Agreement or has been admitted to the Company as a
Member in accordance with the Articles or this Agreement (including an Assignee
who has become a Member in accordance with Article VII), and (a) has not ceased
to be a Member for other reason, and the term includes the Manager.
1.26 "MEMBERSHIP INTEREST" shall mean a Member's entire interest in
the Company including the Member's Economic Interest, any right to vote, and the
right to receive information concerning the business and affairs of the Company.
1.27 "MEMORANDUM" shall mean the Confidential Memorandum of the
Company dated November 16, 1998, together with any amendments or supplements
thereto.
1.28 "NONMANAGER MEMBER" shall mean any Member that is not also a
Manager.
1.29 "OFFERING" shall mean the Company's offering of Interests
pursuant to the Memorandum.
1.30 Not Used.
1.31 "PERCENTAGE INTEREST" shall mean for each Member or owner of
Economic Interest as of a given date, the ratio of such Member's Capital Account
to the Capital Accounts of all Members as of such date.
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1.32 "PERSON" shall mean an individual, partnership, limited
partnership, limited liability company, corporation, trust, estate, association
or any other entity.
1.33 "PLAN" shall have the meaning ascribed to such term in
Section 3.5A hereof.
1.34 "PROFITS" and "LOSSES" shall mean, for each Fiscal Year or
Fiscal Period, an amount equal to the Company's taxable income or loss for such
Fiscal Year or Fiscal Period, determined in accordance with Code Section 703(a)
(for this purpose, all items of income, gain, loss or deduction required to be
stated separately pursuant to Code Section 703(a)(1) shall be included in
taxable income or loss), with the following adjustments:
(a) Any income of the Company that is exempt from Federal
income tax and not otherwise taken into account in computing Profit or Loss
pursuant to this Section 1.34 shall be added to such taxable income or loss;
(b) Any expenditures of the Company described in Code
Section 705(a)(2)(B) or treated as Code Section 705(a)(2)(B) expenditures
pursuant to Regulations Section 1.704-1(b)(2)(iv)(i), and not otherwise taken
into account in computing Profit and Loss pursuant to this Section 1.34 shall be
subtracted from such taxable income or loss;
(c) If the Gross Asset Value of any company asset is
adjusted pursuant to Paragraphs 1.20(b) or 1.20(d), the amount of such
adjustment shall be taken into account as gain or loss from the disposition of
such asset for purposes of computing Profit and Loss;
(d) Gain or loss resulting from any disposition of
Company property with respect to which gain or loss is recognized for Federal
income tax purposes shall be computed by reference to the Gross Asset Value of
the Company property disposed of, notwithstanding that the adjusted tax basis of
such property differs from its Gross Asset Value;
(e) In lieu of the depreciation, amortization and other
cost recovery deductions taken into account in computing such taxable income or
loss, there shall be taken into account Depreciation for such Fiscal Year or
Fiscal Period, computed in accordance with Section 1.13; and
(f) Notwithstanding any other provision of this Section
1.34, any items that are specially allocated pursuant to Section 6.2 shall not
be taken into account in computing Profit and Loss.
1.35 "PURCHASE DATE" shall mean any date on which the Manager
shall, in its sole and absolute discretion, permit purchasers of Interests to
make Capital Contributions.
1.36 "REGULATIONS" shall, unless the context clearly indicates
otherwise, mean the regulations in force as final or temporary that have been
issued by the U.S. Department of Treasury pursuant to its authority under the
Code, and any successor regulations.
1.37 "REMAINING MEMBERS" shall have the meaning ascribed to it in
Article VIII.
1.38 "SECURITIES ACT" shall mean the Securities Act of 1933, as
amended.
1.39 "SUBSCRIPTION" shall mean the form of Subscription Agreement
signed by investors under the Offering and attached as Exhibit "C" to the
Memorandum.
1.40 "SUTRO EMPLOYEE" means a full time employee of Sutro Group or
an Affiliate of Sutro
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Group which is controlled by the Sutro Group.
1.41 "SUTRO GROUP" shall mean The Sutro Group, a Nevada
corporation.
1.42 "SVM" shall mean Sutro Venture Management, Inc., a Delaware
corporation.
1.43 "TAX MATTERS PARTNER" (as defined in Code Section 6231(a)(7))
shall be SVM or its successor as designated pursuant to Section 9.6.
ARTICLE II
ORGANIZATIONAL MATTERS
2.1 FORMATION. The Members have formed a Delaware limited
liability company under the laws of the State of Delaware by filing the Articles
with the Delaware Secretary of State and entering into this Agreement. The
rights and liabilities of the Members shall be determined pursuant to the Act
and this Agreement. To the extent that the rights or obligations of any Member
are different by reason of any provision of this Agreement than they would be in
the absence of such provision, this Agreement shall, to the extent permitted by
the Act, control.
2.2 NAME. The name of the Company shall be "Sutro Venture Partners
III LLC." The business of the Company may be conducted under that name or, upon
compliance with applicable laws, any other name that the Manager deems
appropriate or advisable. The Manager shall file any fictitious name
certificates and similar filings, and any amendments thereto, that the Manager
considers appropriate or advisable.
2.3 TERM. The term of this Agreement commenced on the filing of
the Articles and shall continue until terminated as hereinafter provided.
2.4 OFFICE AND AGENT.
A. PRINCIPAL OFFICE. The principal office of the Company
shall be located at 3773 Howard Hughes Parkway, #190 South, Las Vegas, NV 89109,
unless and until the Manager shall determine otherwise, and the Manager may
determine to establish such additional offices to be located at such place or
places inside or outside the State of Delaware as the Manager may designate from
time to time.
B. REGISTERED OFFICE. The Registered Office of the
Company in the State of Delaware is located at 1013 Centre Road, in the City of
Wilmington, County of New Castle. The registered agent of the Company for
service of process at such address is Corporation Service Company.
C. OTHER JURISDICTIONS. The Company shall file or record
such documents and take such other actions under the laws of any jurisdiction
outside the State of Delaware as are necessary or desirable to permit the
Company to do business in any such jurisdiction as is selected by the Manager
and to promote the limitation of liability for the Members in any such
jurisdiction.
2.5 PURPOSE AND BUSINESS OF THE COMPANY. The Company was formed to
acquire, own, hold for investment and otherwise dispose of securities, and to do
any and all acts and things necessary, appropriate, proper, advisable,
incidental to, or convenient for the furtherance and accomplishment of such
business, objectives, and purpose, but subject to the provisions of Paragraph
5.3B hereof. It is contemplated that the Company will accomplish its purpose
principally
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through investment in the Master Company.
ARTICLE III
CAPITAL CONTRIBUTIONS
3.1 CAPITAL CONTRIBUTIONS OF MEMBERS. Any person, including the
Manager, whose Subscription has been accepted by the Manager and who has signed,
or whose attorney-in-fact has signed, this Agreement shall, on the Purchase Date
immediately following acceptance of such person's most recent Subscription,
contribute to the capital of the Company cash in an amount equal to the amount
as to which such person's Subscription has been accepted in respect of such
Purchase Date, and thereupon such person shall become a Member or, if already a
Member, such person's interest in the Company shall be increased accordingly. In
either case, a new Capital Account shall be established for such person in
respect of the new Capital Contribution. The Manager may, but need not, purchase
Interests (but shall be a Member whether or not it purchases any Interests).
3.2 OTHER CONTRIBUTIONS. No person shall be permitted to make any
Capital Contribution except as permitted pursuant to the provisions of this
Agreement.
3.3 CERTAIN RESTRICTIONS UPON INTEREST SALES. The Company shall
not issue or sell an Interest in any case where that issuance or sale would
cause the Company or the Master Company to fail to qualify for the exemption
from the definition of "investment company" provided by Section 3(c)(1) of the
Investment Company Act of 1940, as amended (the "1940 Act"). Subscriptions shall
not be accepted from more than 35 persons who the Manager does not reasonably
believe to be "accredited investors," as such term is defined in Rule 501
promulgated under the Securities Act.
3.4 NO INTEREST. No Member shall be entitled to receive any
interest on his or her Capital Contributions.
3.5 BORROWING. Certain Members (each, a "Borrower") may be given
the opportunity prior to the due date of any Capital Contribution, to borrow all
or any part of such Contribution from Sutro upon such terms as may be offered by
Sutro. Such terms may include, without limitation, the following:
A. The principal of and interest on the loan shall
accelerate and be payable earlier than the date due as described in the
Memorandum and/or any note memorializing the loan, including, without
limitation; (i) to the extent of 2/3 of any distributions payable to a Borrower
as a Member under this Agreement; (ii) upon the termination of the employment of
the Borrower by Sutro and its Affiliates, except for a termination by reason of
death or Disability, or, in the sole discretion of Sutro, normal retirement
under the applicable policies of Sutro and its Affiliates, or (iii) upon the
sale, redemption, termination, withdrawal or transfer of all or any part of the
Borrower's interest in the Company. The principal of and interest on the loan
shall also accelerate and be payable to the extent of 100% of any distributions
to which the Borrower would otherwise be entitled under the Deferred
Compensation Plan referred to in the Memorandum (the "Plan").
B. The Manager shall have the right to offset and shall
offset loan obligations due Sutro against distributions due the Borrower as a
Member hereunder and to cause the payment of such loans to the extent of such
distributions.
3.6 VESTING. Notwithstanding the foregoing, the Interest of each
Nonmanager Member
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shall be subject to a vesting requirement that the Member remain a Sutro
Employee for a consecutive period of three years following purchase of the
Interest involved and with vesting occurring all at once on the third
anniversary of the Purchase Date relating to the Interest in question (and with
no partial, pro rata or incremental vesting). This vesting requirement may be
waived in whole or in part by the Manager in its discretion and shall be waived
in the event of termination of employment by reason of death or Disability, or,
in the sole discretion of the Manager, normal retirement under the applicable
policies of Sutro and its Affiliates. Upon termination of such employment of a
Member for any reason within three (3) years from the date of a Member's
acquisition of an Interest in the Company, unless the Manager otherwise
determines in its discretion:
A. The right of the Member to any distributions of
assets of the Company under Section 6.3 shall terminate as to the unvested
Interest; and
B. The Member shall be required to withdraw from the
Company in accordance with Section 4.4B as to the nonvested Interest and such
nonvested Interest shall be liquidated under Section 4.4C; provided, however,
that the Manager may elect instead, in its sole discretion, to purchase the
Interest of such Member, or of any Member withdrawing under clause (ii) of
Section 4.4B, on equivalent terms and, notwithstanding any provision of this
Agreement to the contrary, other than Section 7.2 hereof with which there shall
be compliance, the Manager shall be free to assign its purchase right or the
Interest which it acquires to any person and to admit that person as a Member.
The proceeds of such liquidation or purchase shall be applied to payment of the
remaining principal of and accrued interest on any loans owed by a Member who is
a Borrower under Section 3.5 hereof before any payment or distribution of such
proceeds is made to the Member.
ARTICLE IV
MEMBERS
4.1 LIMITATIONS ON LIABILITY OF MEMBERS. The debts, obligations
and liabilities of the Company, whether arising in contract, tort or otherwise,
shall be solely the debts, obligations and liabilities of the Company, and no
Member of the Company shall be obligated personally for any such debt,
obligation or liability of the Company solely by reason of being a Member or by
reason of such Member's acts or omissions in connection with the conduct of the
business of the Company.
4.2 LIABILITY OF MEMBERS TO THE COMPANY.
A. LIABILITY OF MEMBERS TO THE COMPANY. A Member is
liable to the Company: (i) for the difference between his or its contribution to
capital as actually made and that is stated in the Articles, this Agreement,
Subscription or other document executed by the Member as having been made by the
Member; and (ii) for any unpaid Capital Contribution which he, she or it agreed
in the Articles, this Agreement, or any Subscription or other document executed
by the Member to make in the future at the time and on the conditions stated in
the Articles, Agreement, Subscription or other document evidencing such
agreement. No Member shall be excused from an obligation to the Company to
perform any promise to contribute money, property or to perform services because
of death, disability, dissolution or any other reason.
B. MEMBER AS TRUSTEE FOR THE COMPANY. A Member holds as
trustee for the Company (i) specific property stated in the Articles, Agreement,
Subscription or other document executed by the Member as contributed by such
Member, but which was not contributed or which has been wrongfully or
erroneously returned; and (ii) money or other property wrongfully paid or
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conveyed to such Member on account of his or its Capital Contribution.
C. WAIVER OF LIABILITY OF MEMBER. The liabilities of a
Member as set out in this Section 4.2 can be waived or compromised only by the
consent of all Members; but a waiver or compromise shall only affect the right
of a creditor of the Company to the extent permitted by applicable law.
4.3 ADMISSION OF ADDITIONAL MEMBERS. The Manager may admit to the
Company additional Members, from time to time, only as expressly provided in
this Agreement, including pursuant to Sections 3.1 and Article VII hereof, and
neither the Manager nor the Members shall be permitted to admit new Members,
except as otherwise expressly provided in this Agreement.
4.4 WITHDRAWALS OR RESIGNATIONS. Except as otherwise provided in
this Section 4.4 no Member may withdraw or resign from the Company or demand a
return or withdrawal of any part of its Capital Account or Capital Contribution.
A. WITHDRAWAL OF MEMBER. Except as otherwise provided in
this Section 4.4, no Member shall be permitted to withdraw from the Company
until his or her Interest is vested under Section 3.6 hereof and then only with
the approval of the Manager, which approval may be withheld if the Manager does
not believe that such withdrawal is in the best interests of the other Members,
whether because of the cash position of the Company, the undesirability of
liquidating any of the investments of the Company, or otherwise. The following
provisions shall govern with respect to any withdrawals approved by the Manager:
(i) No such withdrawal shall be made except as
of the last day of a Fiscal Year;
(ii) Partial withdrawals shall not be permitted
and a Member desiring to withdraw must withdraw his or her entire interest in
the Company;
(iii) The Member desiring to withdraw must notify
the Manager in writing at least sixty (60) days prior to the close of the Fiscal
Year in which such Member wishes to effect his or her withdrawal; and
(iv) The Manager may, if necessary to accommodate
a request for withdrawal by a Member, attempt to obtain a purchaser of the whole
or a part of such Member's Interest.
B. MANDATORY WITHDRAWAL. Unless the Manager otherwise
determines, a Member shall (i) as to any of his or her unvested Interests, be
required to withdraw from the Company upon his or her resigning as an employee
of, or upon any other termination of his or her employment with, Sutro and its
Affiliates prior to the vesting of his or her Interest under Section 3.6, except
for a termination by reason of death or Disability, or, in the sole discretion
of the Manager, normal retirement under the applicable policies of Sutro and its
Affiliates, and (ii) as to all of his or her Interests, vested or not, be
required to withdraw from the Company upon any default by him or her under any
borrowing as a Borrower under Section 3.5 hereof, and, in each case ((i) or
(ii)), such Interests shall be liquidated under Section 4.3C or purchased by the
Manager as provided under Paragraph 3.6.
C. LIQUIDATING SHARE. In the event any Member shall
withdraw or be required to withdraw in accordance with the provisions of this
Section 4.4, there shall be paid to such Member or his or her legal
representative within 180 days after the last day of the Fiscal Year in which
the effective date of withdrawal occurs, an amount equal to such Member's
positive Capital Account
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balance as to the Interest involved, determined as of the effective date of
withdrawal; provided, however, that in the event of a mandatory withdrawal under
Section 4.4B, such Member shall be paid an amount equal to the lesser of (i) his
or her Capital Contribution(s) as to the subject Interest, less distributions
paid to such Member by the Company in respect thereof prior to the effective
date of withdrawal, other than that amount of such distributions as to the
subject Interest, if any, which is equal to the amount of taxes which is
estimated by the Manager (whose estimate shall be conclusive and binding) to
have been paid and/or to be payable by the Member by reason of Company
allocations to the Member which are attributable to Company operations through
the effective date of withdrawal (assuming a California taxpayer and the
applicability of maximum Federal and state rates), or (ii) his or her positive
Capital Account balance as to the subject Interest, in each case (in the case of
the foregoing clauses (i) and (ii)), less the balance due Sutro in respect of
any borrowing pursuant to Section 3.5 hereof (which balance due shall be
remitted by the Company to Sutro). In the case of mandatory withdrawal under
Section 4.4B, Capital Account balances will be determined and valuations will be
made as of the close of business on the Fiscal Year end closest in time to the
effective date of withdrawal. No interest shall accrue on any Interest between
the date of withdrawal and the date of payment. The term "effective date of
withdrawal" in this Section 4.4C means the date referred to in clause (i) of
Section 4.4A in the case of a withdrawal under Section 4.4A or the date of
termination or default, as the case may be, in the case of Section 4.4B.
4.5 TRANSACTIONS WITH THE COMPANY. Subject to any limitations set
forth in this Agreement and with the prior approval of the Manager, a Member may
lend money to and transact other business with the Company. Subject to other
applicable law, such Member has the same rights and obligations with respect
thereto as a Person who is not a Member.
4.6 REMUNERATION TO MEMBERS. Except as otherwise specifically
provided in this Agreement, no Member is entitled to remuneration for acting in
the Company business.
4.7 MEMBERS ARE NOT AGENTS. Pursuant to Section 5.1, the
management of the Company is vested in the Manager. The Members shall have no
power to participate in the management of the Company except as expressly
authorized by this Agreement or the Articles and except as expressly required by
the Act. No Member, acting solely in the capacity of a Member, is an agent of
the Company nor does any Member, unless expressly and duly authorized in writing
to do so by the Manager, have any power or authority to bind or act on behalf of
the Company in any way, to pledge its credit, to execute any instrument on its
behalf or to render it liable for any purpose.
4.8 VOTING RIGHTS. Except as expressly provided in this Agreement
or the Articles, Members shall have no voting, approval or consent rights.
4.9 MEETINGS OF MEMBERS.
A. DATE, TIME AND PLACE OF MEETINGS OF MEMBERS;
SECRETARY. Meetings of Members may be held at such date, time and place within
or without the State of Delaware as the Manager may fix from time to time. No
regular meetings of Members are required. At any Members' meeting, the Manager
shall appoint a person to preside at the meeting and a person to act as
secretary of the meeting. The secretary of the meeting shall prepare minutes of
the meeting which shall be placed in the minute books of the Company.
B. POWER TO CALL MEETINGS. Meetings of the Members may
be called by the Manager, or upon written demand of Members holding more than
ten percent (10%) of the Percentage Interests, for the purpose of addressing any
matters on which the Members may vote.
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C. NOTICE OF MEETING. Written notice of a meeting of
Members shall be sent or otherwise given to each Member not less than ten (10)
nor more than sixty (60) days before the date of the meeting. The notice shall
specify the place, date and hour of the meeting and the general nature of the
business to be transacted. No other business may be transacted at this meeting.
Upon written request to the Manager by any person entitled to call a meeting of
Members, the Manager shall immediately cause notice to be given to the Members
entitled to vote that a meeting will be held at a time requested by the person
calling the meeting, not less than ten (10) days nor more than sixty (60) days
after the receipt of the request. If the notice is not given within twenty (20)
days after the receipt of the request, the person entitled to call the meeting
may give the notice.
D. MANNER OF GIVING NOTICE; AFFIDAVIT OF NOTICE. Notice
of any meeting of Members shall be given either personally or by first-class
mail or telegraphic or other written communication, charges prepaid, addressed
to the Member at the address of that Member appearing on the books of the
Company or given by the Member to the Company for the purpose of notice. If no
such address appears on the Company's books or is given, notice shall be deemed
to have been given if sent to that Member by first-class mail or telegraphic or
other written communication to the Company's principal executive office, or if
published at least once in a newspaper of general circulation in the county
where that office is located. Notice shall be deemed to have been given at the
time when delivered personally or deposited in the mail or sent by telegram or
other means of written communication.
If any notice addressed to a Member at the address of
that Member appearing on the books of the Company is returned to the Company by
the United States Postal Service marked to indicate that the United States
Postal Service is unable to deliver the notice to the Member at that address,
all future notices or reports shall be deemed to have been duly given without
further mailing if these shall be available to the Member on written demand of
the Member at the principal executive office of the Company for a period of one
year from the date of the giving of the notice.
An affidavit of the mailing or other means of giving
any notice of any meeting shall be executed by the Manager and shall be filed
and maintained in the minute book of the Company.
E. VALIDITY OF ACTION. Any action approved at a meeting,
other than by unanimous approval of those entitled to vote, shall be valid only
if the general nature of the proposal so approved was stated in the notice of
meeting or in any written waiver of notice.
F. QUORUM. The presence in person or by proxy of a
Majority Interest shall constitute a quorum at a meeting of Members.
G. ADJOURNED MEETING; NOTICE. Any Members' meeting,
whether or not a quorum is present, may be adjourned from time to time by the
vote of the majority of the Membership Interests represented at that meeting,
either in person or by proxy, but in the absence of a quorum, no other business
may be transacted at that meeting. When any meeting of Members is adjourned to
another time or place, notice need not be given of the adjourned meeting if the
time and place are announced at a meeting at which the adjournment is taken,
unless a new record date for the adjourned meeting is subsequently fixed, or
unless the adjournment is for more than forty-five (45) days from the date set
for the original meeting, in which case the Manager shall set a new record date.
At any adjourned meeting the Company may transact any business which might have
been transacted at the original meeting.
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H. WAIVER OF NOTICE OR CONSENT. The actions taken at any
meeting of Members however called and noticed, and wherever held, have the same
validity as if taken at a meeting duly held after regular call and notice, if a
quorum is present either in person or by proxy, and if, either before or after
the meeting, each of the Members entitled to vote, who was not present in person
or by proxy, signs a written waiver of notice or consents to the holding of the
meeting or approves the minutes of the meeting. All such waivers, consents or
approvals shall be filed with the Company records or made a part of the minutes
of the meeting.
Attendance of a person at a meeting shall constitute
a waiver of notice of that meeting, except when the person objects, at the
beginning of the meeting, to the transaction of any business because the meeting
is not lawfully called or convened, and except that attendance at a meeting is
not a waiver of any right to object to the consideration of matters not included
in the notice of the meeting if that objection is expressly made at the meeting.
Neither the business to be transacted nor the purpose of any meeting of Members
need be specified in any written waiver of notice except as provided in
Paragraph 4.10E.
I. ACTION BY WRITTEN CONSENT WITHOUT A MEETING. Any
action that may be taken at a meeting of Members may be taken without a meeting,
if a consent in writing setting forth the action so taken, is signed and
delivered to the Company within sixty (60) days of the record date for that
action by Members having not less than the minimum number of votes that would be
necessary to authorize or take that action at a meeting at which all Members
entitled to vote on that action at a meeting were present and voted. All such
consents shall be filed with the Manager or the secretary, if any, of the
Company and shall be maintained in the Company records. Any Member giving a
written consent, or the Member's proxy holders, may revoke the consent by a
writing received by the Manager or secretary, if any, of the Company before
written consents of the number of votes required to authorize the proposed
action have been filed.
Unless the consents of all Members entitled to vote
have been solicited in writing, (i) notice of any Member approval of an
amendment to the Articles or this Agreement, a dissolution of the Company, or a
merger of the Company, without a meeting by less than unanimous written consent,
shall be given at least ten (10) days before the consummation of the action
authorized by such approval, and (ii) prompt notice shall be given of the taking
of any other action approved by Members without a meeting by less than unanimous
written consent, to those Members entitled to vote who have not consented in
writing.
J. TELEPHONIC PARTICIPATION BY MEMBER AT MEETINGS.
Members may participate in any Members' meeting through the use of any means of
conference telephones or similar communications equipment as long as all Members
participating can hear one another. A Member so participating is deemed to be
present in person at the meeting.
K. RECORD DATE. In order that the Company may determine
the Members of record entitled to notices of any meeting or to vote, or entitled
to receive any distribution or to exercise any rights in respect of any
distribution or to exercise any rights in respect of any other lawful action,
the Manager, or Members representing more than ten percent (10%) of the
Percentage Interests may fix, in advance, a record date, that is not more than
sixty (60) days nor less than ten (10) days prior to the date of the meeting and
not more than sixty (60) days prior to any other action. If no record date is
fixed:
(i) The record date for determining Members
entitled to notice of or to vote at a meeting of Members shall be at the close
of business on the business day next preceding the day on which notice is given
or, if notice is waived, at the close of business on the business
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day next preceding the day on which the meeting is held.
(ii) The record date for determining Members
entitled to give consent to Company action in writing without a meeting shall be
the day on which the first written consent is given.
(iii) The record date for determining Members for
any other purpose shall be at the close of business on the day on which the
Manager adopts the resolution relating thereto, or the sixtieth (60th) day prior
to the date of the other action, whichever is later.
(iv) The determination of Members of record
entitled to notice of or to vote at a meeting of Members shall apply to any
adjournment of the meeting unless the Manager or the Members who called the
meeting fix a new record date for the adjourned meeting, but the Manager or the
Members who called the meeting shall fix a new record date if the meeting is
adjourned for more than forty-five (45) days from the date set for the original
meeting.
L. PROXIES. Every Member entitled to vote on any matter
shall have the right to do so either in person or by one or more agents
authorized by a written proxy signed by the person and filed with the Manager or
secretary, if any, of the Company. A proxy shall be deemed signed if the
Member's name is placed on the proxy (whether by manual signature, typewriting,
telegraphic transmission, electronic transmission or otherwise) by the Member or
the Member's attorney in fact. A validly executed proxy which does not state
that it is irrevocable shall continue in full force and effect unless (i)
revoked by the person executing it, before the vote pursuant to that proxy, by a
writing delivered to the Company stating that the proxy is revoked, or by a
subsequent proxy executed by, or attendance at the meeting and voting in person
by, the person executing the proxy; or (ii) written notice of the death or
incapacity of the maker of that proxy is received by the Company before the vote
pursuant to that proxy is counted.
4.10 CERTIFICATE OF MEMBERSHIP INTEREST. Unless the Manager
otherwise elects, a Membership Interest shall not be represented by a
certificate of membership.
ARTICLE V
MANAGEMENT AND CONTROL OF THE COMPANY
5.1 MANAGEMENT OF THE COMPANY BY MANAGER. The business, property
and affairs of the Company shall be managed exclusively by the Manager. Except
for situations in which the approval of the Members is expressly required by the
Articles or this Agreement, the Manager shall have full, complete and exclusive
authority, power, and discretion to manage and control the business, property
and affairs of the Company, to make all decisions regarding those matters and to
perform any and all other acts or activities customary or incident to the
management of the Company's business, property and affairs. The number of
Managers shall be one (1).
5.2 RESIGNATION AND REMOVAL OF MANAGERS. No Manager may resign as
Manager at any time without the consent of a Majority Interest of the Members
other than the departing Manager. A Manager may be removed at any time, with
Cause (but may not be removed without Cause), by the unanimous vote of all of
the Members (other than the Member who is to be removed as Manager) at a meeting
called expressly for that purpose, or by the written consent of all of the
Members (other than the Member who is to be removed as Manager). Removal as
Manager shall not affect the Manager's rights as a Member or constitute a
withdrawal of a Manager as a Member. For purpose of this Section, "Cause" shall
mean fraud, willful misconduct or embezzlement.
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5.3 POWERS OF MANAGER.
A. POWERS OF MANAGER. Without limiting the generality of
Section 5.1, but subject to Paragraph 5.3B and to the express limitations set
forth elsewhere in this Agreement, the Manager shall have all necessary powers
to manage and carry out the purposes, business, property, and affairs of the
Company.
B. LIMITATIONS ON POWER OF MANAGER. Notwithstanding any
other provisions of this Agreement, the Manager shall not have authority
hereunder to cause the Company to engage in the following transactions without
first obtaining the affirmative vote or written consent of a Majority Interest
(or such larger percentage as is specified in this Agreement), the concurrence
of the Manager (except where expressly not required) and (except the case of
removal of the Manager) the concurrence of any Member materially and adversely
affected by the proposed amendment:
(i) The merger of the Company with another
limited liability company or limited partnership or corporation, general
partnership or other Person;
(ii) The establishment of different classes of
Members;
(iii) An alteration of the primary purpose or
business of the Company as set forth in Section 2.5;
(iv) Any act which would make it impossible to
carry on the ordinary business of the Company;
(v) To engage in any other transaction described
in this Agreement that requires the vote, consent, or approval of the Members;
5.4 PERFORMANCE OF DUTIES; LIABILITY OF MANAGER. The Manager shall
not be liable to the Company or to any Member for any loss or damage sustained
by the Company or any Member, unless the loss or damage shall have been the
result of fraud, deceit, gross negligence, reckless or intentional misconduct,
or a knowing violation of law by the Manager, and provided that the Manager
shall have acted in good faith and in a manner it reasonably believed to be in
the best interests of the Company and its Members. A Manager who so performs the
duties of Manager shall not have any liability by reason of being or having been
a Manager of the Company. Notwithstanding the foregoing, it is understood and
agreed that the Federal securities laws impose liabilities under certain
circumstances on persons who act in good faith, and, therefore, nothing herein
shall in any way be deemed to constitute a waiver or limitation of any rights
which a Member may have under any Federal securities laws.
In performing its duties, the Manager shall be entitled to
rely on information, opinions, reports, or statements, including financial
statements and other financial data, of the following persons or groups unless
the Manager has knowledge concerning the matter in question that would cause
such reliance to be unwarranted and provided that the Manager acts in good faith
and after reasonable inquiry when the need therefor is indicated by the
circumstances:
(a) One or more employees or other agents of the Company
or of a portfolio company of the Company or Master Company whom the Manager
reasonably believes to be reliable and competent in the matters presented; or
(b) Any attorney, independent accountant, or other person
as to matters which
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the Manager reasonably believes to be within such person's professional or
expert competence.
5.5 PAYMENTS TO MANAGER. Except as specified in this Agreement or
referred to in the Memorandum, no Manager or Affiliate of a Manager is entitled
to remuneration for services rendered or goods provided to the Company. The
Company shall reimburse the Manager for all expenses incurred by the Manager in
conducting the Company's business, and all direct disbursements made and
obligations incurred on behalf of the Company, including the Company's due
diligence trading, custodial, borrowing, legal, accounting, documentation,
reporting, meeting and auditing expenses, and other items of a general overhead
and administrative nature which are customarily incurred by persons engaged in
the business of the Company; provided, however, that overhead items pertaining
to the operations of the Manager, including salaries to its employees, rent,
office expenses and similar costs and expenses, shall not be reimbursable by the
Company, and it is specifically understood and agreed that all expenses incurred
in connection with the organization of the Company or the preparation of the
Memorandum in excess of Twenty-Five Thousand Dollars ($25,000) shall not be
reimbursed and shall be the sole responsibility of the Manager. In addition, the
Manager shall be entitled to receive payment of an administrative fee in an
amount equal to one percent (1.00%) of the Capital Accounts of each Nonmanager
Member as at the end of each Fiscal Year, which amount shall be calculated,
debited to the Capital Accounts of the Nonmanager Members and paid in cash or by
check to the Manager as soon as practicable following Fiscal Year end. If any
Company Fiscal Year is less than a complete year, then the Manager will be
entitled to payment of a proportionate share of such fee in respect of the
period in question; however, there shall be deducted from the fee otherwise
payable an aggregate amount equal to the amount by which the fair market value
of the Company's pro rata share (based on relative commitments to contribute
capital to the Master Company (as of the Company's admission to contribute
capital to the Master Company)) of the Interim Investments (as such term is
defined in the Memorandum) exceeds their original cost to Sutro (with fair
market value calculated as of the Company's admission to the Master Company).
5.6 LIMITED LIABILITY. No person who is a Manager of the Company
shall be personally liable under any judgement of a court, or in any other
manner, for any debt, obligation, or liability of the Company, whether that
liability or obligation arises in contract, tort, or otherwise, solely by reason
of being a Manager.
5.7 INTERESTS HELD BY MANAGER. Except as otherwise provided in
this Agreement, Interests held by the Manager, if any, shall entitle the Manager
to all the rights of any other holder of Interests, including without limitation
the economic, voting, information and inspection rights of a Member.
ARTICLE VI
ALLOCATIONS OF PROFITS AND LOSSES; DISTRIBUTIONS
6.1 CAPITAL ACCOUNTS. Individual Capital Accounts shall be
maintained in accordance with Section 1.8.
6.2 ALLOCATIONS. Subject to the provisions below regarding special
allocations and subject to Section 5.5 with respect to the administrative fee
provided for therein, Profits and Losses shall be allocated to the Members for
each Fiscal Period as of the first day of such Fiscal Period as follows:
A. ALLOCATIONS. Profits and Losses shall be allocated to
the Members for each period described as follows:
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1. PROFITS AND LOSSES. Profits and Losses for
each Fiscal Period shall be allocated to the Members in proportion to their
respective Percentage Interests as of the first day of such Fiscal Period.
2. RECAPTURE. Anything herein to the contrary
notwithstanding, any recapture under applicable tax laws shall be allocated to
the Members in the same proportions as the item generating the recapture shall
have been allocated.
B. SPECIAL CAPITAL ACCOUNT ALLOCATIONS. Notwithstanding
the allocation provisions of Section 6.2A, the following special allocations
shall be made in allocating Profits and Losses:
1. SECTION 704 ALLOCATIONS. Any special
allocations necessary to comply with the requirements set forth in Section 704
of the Code and the corresponding Regulations, including the qualified income
offset and minimum gain chargeback provisions contained therein, shall be made.
2. TAX ALLOCATIONS.
(a) Subject to clause 6.3B(2)(b) below,
in each Fiscal Year, items of income, deduction, gain, loss or credit that are
recognized for income tax purposes shall be allocated among the Members in such
manner as to reflect equitably amounts credited to or debited against the
Capital Account of each Member, whether in such Fiscal Year or in prior Fiscal
Years. To this end, the Company shall establish and maintain records that shall
show the extent to which the Capital Account of each Member shall, as of the
last day of each Fiscal Year, be comprised of amounts that have not been
reflected in the taxable income of such Member. To the extent deemed by the
Manager to be feasible and equitable, taxable income and gains in each Fiscal
Year shall be allocated among the Members who have enjoyed the related credits,
and items of deduction, loss and credit in each Fiscal Year shall be allocated
among the Members who have borne the burden of the related debits.
(b) Notwithstanding any of the foregoing
provisions to the contrary, if a Member withdraws capital during a Fiscal Year,
allocations of taxable income and loss may, in the exclusive discretion of the
Manager, be made as follows:
i. Taxable income may be
allocated first, to each Member who shall have withdrawn all or part of such
Member's Capital Account in that Fiscal Year, to the extent that such withdrawal
exceeds such member's adjusted tax basis in such Member's interest in the
Company immediately prior to such withdrawal. If more than one Capital Account
shall have been so withdrawn in full or in part, such allocations, if made,
shall be made to the extent of and in proportion to such differences;
ii. Taxable loss may first be
allocated to each member who shall have withdrawn all of such Member's Capital
Account in that Fiscal Year, to the extent that such Member's adjusted tax basis
in such Member's interest in the Company exceeds that Capital Account
immediately prior to such withdrawal. If more than one Capital Account has been
so withdrawn, such allocations of taxable loss, if made, shall be made to the
extent of and in proportion to such differences; and
iii. Thereafter, taxable income
and loss shall be allocated as provided in clause 6.3B(2)(a) above.
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(c) The Manager, in its exclusive discretion,
may cause the Company to make the election to adjust the basis of the Company
property under Code Section 754. In any year in which the Code Section 754
election is in effect, this clause 6.3B(2) shall be null and void. Any elections
or other decisions relating to such allocations shall be made by the Manager in
any manner that reasonably reflects the purpose and intention of this Agreement.
Allocations pursuant to this Paragraph 6.3B(2) are solely for purposes of
Federal, state and local taxes and shall not affect, or in any way be taken into
account in computing, any Capital Account or share of Profits, Losses or other
items of any Member, or distributions to any Member, pursuant to any provision
of this Agreement.
3. OTHER ALLOCATION RULES.
(1) Generally, all Profits and Losses
shall be allocated among the Members as provided in Section 6.2A and this
Section 6.3B. If Members are admitted to the Company on different dates during
any Fiscal Year, the Profits or Losses allocated among the Members for each such
Fiscal Year shall be allocated in proportion to their respective Capital
Accounts from time to time during such Fiscal Year in accordance with Code
Section 706, using any convention permitted by law and selected by the Manager.
(2) For purposes of determining the
Profits, Losses or any other items allocable to any period, Profits, Losses and
any such other items shall be determined on a daily, monthly or other basis, as
determined by the Manager using any permissible method under Code Section 706
and the Regulations thereunder.
(3) Notwithstanding any of the foregoing
provisions to the contrary, if taxable gain to be allocated includes income
resulting from the sale or disposition of Company property or property of a
limited partnership or joint venture in which the Company owns an interest that
is treated as ordinary income, such gain so treated as ordinary income shall be
allocated to and reported by each Member in proportion to allocations to that
Member of the items that gave rise to such ordinary income, and the Company
shall keep records of such allocations. In the event of the subsequent admission
of any new Member, any item that would constitute "unrealized receivables" under
Code Section 751 and the Regulations thereunder shall not be shared by the newly
admitted Members, but rather shall remain allocated to existing Members.
4. PROVISIONAL ALLOCATION. If any amount
claimed by the Company to constitute a deductible expense in any Fiscal Year is
treated by any Federal, state or local taxing authority as a payment made to a
Member in such Member's capacity as a member of the Company for income tax
purposes, with regard to such authority, items of income and gain of the Company
for such Fiscal Year shall first be allocated to such member to the extent of
such payment.
C. WITHDRAWALS FROM CAPITAL ACCOUNTS. If a Member's
Interest is liquidated by the Company pursuant to Section 4.4C and the Member
receives less than the amount of the balance in his or her Capital Account, then
the excess of (i) the balance in his or her Capital Account over (ii) the amount
distributed by the Company shall be allocated among all the remaining Members in
proportion to their Capital Account balances. This provision shall be applied so
as to maintain equality between the Capital Accounts of the Members and the
amount of Company capital reflected on the Company's balance sheet, as computed
for book purposes, in accordance with Regulations Section 1.704- 1(b)(2)(iv)(q).
Further, notwithstanding Section 6.1, if a Member's Interest is purchased by the
Manager pursuant to Paragraph 3.6(c) and the purchase price is less than the
balance of the Capital Account of the Member, then (i) the excess of (x) the
balance in the
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Member's Capital Account over (y) the amount paid by the Manager shall be
allocated among all the remaining Members in proportion to their Capital Account
balances and (ii) the Manager (and any assignee of the Manager) shall have a
Capital Account balance with respect to the purchased interest in the Company
equal to the purchase price paid by the Manager.
6.3 DISTRIBUTIONS IN GENERAL. Distributions will be made to all
Members in proportion to their Percentage Interests. The making of distributions
described in this Section 6.3 shall be within the sole and absolute discretion
of the Manager, except that net cash proceeds generated from the sale or other
disposition of investments in portfolio companies will not be reinvested by the
Company; instead, they will be distributed to Members, except that the Manager
may retain in the Company such amounts as it deems prudent as reserves to meet
current or future Company expenses or liabilities and to make tax distributions
as described below, and except that "restricted securities" will generally not
be distributed until they become publicly tradeable by reason of registration or
under Rule 144 of the Securities Act of 1933, as amended, or until the Company
is dissolved. To the extent that there is any amount due to Sutro from a Member
who is a Borrower under Section 3.5, each distribution to such Borrower pursuant
to this Section 6.3 shall be applied in payment of such obligation of such
Borrower. The Manager shall endeavor, but shall not be required, to distribute
cash to the Members in an amount estimated by the Manager to be equal to their
Federal and state income tax liabilities arising from investment in the Company
(assuming California taxpayers and applying the maximum Federal and state then
in effect).
6.4 RESTRICTION ON DISTRIBUTIONS.
A. LIMITATION. No distribution shall be made if, after
giving effect to the distribution, all liabilities of the Company, other than
liabilities to Members on account of their Membership Interests and liabilities
for which the recourse of creditors is limited to specified property of the
Company, exceed the fair value of the assets of the Company, except that the
fair value of property that is subject to a liability for which the recourse of
creditors is limited shall be included in the assets of the Company only to the
extent that the fair value of that property exceeds that liability.
B. LIABILITY FOR RETURN. A Member who receives a
distribution in violation of Paragraph 6.4A and who knew at the time of the
distribution that the distribution violated Paragraph 6.4A shall be liable to
the Company for the amount of the distribution. A Member who receives a
distribution in violation of Paragraph 6.4A and who did not know at the time of
the distribution that the distribution violated Paragraph 6.4A shall not be
liable for the amount of the distribution. Subject to Paragraph 6.4C, this
Paragraph 6.4B shall not affect any obligation or liability of a Member under
this Agreement or applicable law for the amount of a distribution.
C. LIMITATION ON LIABILITY. A Member who receives a
distribution from the Company shall have no liability for the amount of the
distribution after the expiration of three (3) years from the date of the
distribution unless an action to recover the distribution from such Member is
commenced prior to the expiration of the said 3-year period and an adjudication
of liability against such Member is made in the said action.
6.5 RETURNED DISTRIBUTIONS. The amount of any distribution
returned to the Company by a Member or Economic Interest owner or paid by a
Member or Economic Interest owner for the account of the Company or to a
creditor of the Company shall be added to the account or accounts from which it
was subtracted when it was distributed to the Member or Economic Interest owner.
6.6 OBLIGATIONS OF MEMBERS TO REPORT ALLOCATIONS. The Members are
aware of the income tax consequences of the allocations made by this Article VI
and hereby agree to be bound
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by the provisions of this Article VI in reporting their shares of Company income
and loss for income tax purposes.
ARTICLE VII
TRANSFER AND ASSIGNMENT OF INTERESTS
7.1 TRANSFER AND ASSIGNMENT OF INTERESTS. No Member shall be
entitled to transfer, assign, convey, sell, encumber or in any way alienate all
or any part of his or her Membership Interest (collectively, "transfer") except
with the prior written consent of the Manager, which consent may be given or
withheld, conditioned or delayed (as allowed by this Agreement or the Act), as
the Manager may determine in its sole and absolute discretion. Transfers in
violation of this Article VII shall only be effective to the extent set forth in
Section 7.7. After the consummation of any transfer of any part of a Membership
Interest, the Membership Interest so transferred shall continue to be subject to
the terms and provisions of this Agreement and any further transfers shall be
required to comply with all the terms and provisions of this Agreement.
7.2 FURTHER RESTRICTIONS ON TRANSFER OF INTERESTS. In addition to
other restrictions found in this Agreement, no Member shall transfer, assign,
convey, sell, encumber or in any way alienate all or any part of his or her
Membership Interest: (i) without compliance with all Federal and state
securities law, (ii) if it would cause the Company or the Master Company to fail
to qualify for the exemption from the definition of "investment company"
provided by Section 3(c)(1) of the 1940 Act, (iii) if it would cause the Company
to be treated as a publicly traded partnership ("PTP") taxable as a corporation
under Code Section 7704, or (iv) if the Membership Interest to be transferred,
when added to the total of all other Membership Interests transferred in the
preceding twelve (12) consecutive months prior thereto, would cause the tax
termination of the Company under Code Section 708(b)(1)(B).
7.3 SUBSTITUTION OF MEMBERS. An Assignee of a Membership Interest
shall have the right to become a substitute Member only if (i) the requirements
of Sections 7.1 and 7.2 relating to consent of the Manager and securities and
tax requirements hereof are met, (ii) the Assignee executes an instrument
satisfactory to the Manager accepting and adopting the terms and provisions of
this Agreement, and (iii) the Assignee pays any reasonable expenses in
connection with his or her admission as a new Member. The admission of an
Assignee as a substitute Member shall not result in the release of the Member
who assigned the Membership Interest from any liability that such Member may
have to the Company.
7.4 PERMITTED TRANSFERS. The Economic Interest of any Member may
be transferred subject to compliance with Sections 7.2 and 7.3, but without the
prior written consent of the Manager as required by Section 7.1, by the Member
(i) by inter vivos gift to any spouse, parent, sibling, in-law, child or
grandchild of the Member, (ii) to a trust for the benefit of the Member or such
spouse, parent, sibling, in-law, child or grandchild of the Member or by inter
vivos gift to a trust revocable during the Member's lifetime but for the benefit
of any Person, or (iii) by testamentary transfer to any Person.
7.5 EFFECTIVE DATE OF PERMITTED TRANSFERS. Any permitted transfer
of all or any portion of a Membership Interest or an Economic Interest shall be
effective as of the last day of the calendar quarter following the date upon
which the requirements of Sections 7.1, 7.2 and 7.3 have been met. Any
transferee of a Membership Interest shall take such Interest subject to the
restrictions on transfer imposed by this Agreement.
7.6 RIGHTS OF LEGAL REPRESENTATIVES. If a Member who is an
individual dies or is
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adjudged by a court of competent jurisdiction to be incompetent to manage the
Member's person or property, the Member's executor, administrator, guardian,
conservator, or other legal representative may exercise all of the Member's
rights for the purpose of settling the Member's estate or administering the
Member's property, including any power the Member has under the Articles or this
Agreement to give an assignee the right to become a Member. If a Member is a
corporation, trust, or other entity and is dissolved or terminated, the powers
of that Member may be exercised by his or her legal representative or successor.
7.7 NO EFFECT TO TRANSFERS IN VIOLATION OF AGREEMENT. Upon any
transfer of a Membership Interest in violation of this Article VII, the
transferee shall have no right to vote or participate in the management of the
business, property and affairs of the Company or to exercise any rights of a
Member. Such transferee shall only be entitled to become an Assignee and
thereafter shall only receive the share of one or more of the Company's Profits,
Losses and distributions of the Company's assets to which the transferor of such
Economic Interest would otherwise be entitled. Notwithstanding the immediately
preceding sentences, if, in the determination of the Manager, a transfer in
violation of this Article VII would cause the Company to be treated as a PTP
taxable as a corporation or cause the tax termination of the Company under Code
Section 708(b)(1)(B), the transfer shall be null and void and the purported
transferee shall not become either a Member or an Assignee.
ARTICLE VIII
CONSEQUENCES OF DISSOLUTION EVENTS
Upon the occurrence of a Dissolution Event as to the Manager, the
Company shall dissolve unless the remaining Members ("Remaining Members")
holding a majority of the Percentage Interests which all Remaining Members hold
consent within ninety (90) days of the Dissolution Event to the continuation of
the business of the Company and to the election of a new Manager.
ARTICLE IX
ACCOUNTING, RECORDS, REPORTING BY MEMBERS
9.1 BOOKS AND RECORDS. The books and records of the Company shall
be kept, and the financial position and the results of its operations recorded,
in accordance with the accounting methods followed for Federal income tax
purposes. The books and records of the Company shall reflect all the Company
transactions and shall be appropriate and adequate for the Company's business.
The Company shall maintain at its principal office all of the following:
(a) A current list of the full name and last known
business or residence address of each Member and Assignee set forth in
alphabetical order, together with the Capital Contributions, Capital Account and
Percentage Interest of each Member and Assignee;
(b) A current list of the full name and business or
residence address of each Manager;
(c) A copy of the Articles and any and all amendments
thereto together with executed copies of any powers of attorney pursuant to
which the Articles or any amendments thereto have been executed;
(d) Copies of the Company's Federal, state, and local
income tax or information returns and reports, if any, for the six (6) most
recent taxable years;
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(e) A copy of this Agreement and any and all amendments
thereto together with executed copies of any powers of attorney pursuant to
which this Agreement or any amendments thereto have been executed;
(f) Copies of the financial statements of the Company, if
any, for the six (6) most recent Fiscal Years; and
(g) The Company's books and records as they relate to the
internal affairs of the Company for at least the current and past four (4)
Fiscal Years.
9.2 DELIVERY TO MEMBERS AND INSPECTION.
A. DELIVERY OF INFORMATION. Upon the request of any
Member or Assignee for purposes reasonably related to the interest of that
Person as a Member or Assignee, the Manager shall promptly deliver to the
requesting Member or Assignee, at the expense of the Company, a copy of the
information required to be maintained under Paragraphs 9.1(a), (b) and (d), and
a copy of this Agreement.
B. INSPECTION AND COPYING. Each Member, Manager and
Assignee has the right, upon reasonable request for purposes reasonably related
to the interest of the Person as Member, Manager or Assignee, to:
(i) inspect and copy during normal business
hours any of the Company records described in Paragraphs 9.1(a) through 9.1(g);
and
(ii) obtain from the Manager, promptly after
their becoming available, a copy of the Company's Federal, state, and local
income tax or information returns for each Fiscal Year.
C. RIGHT TO REQUEST. Any request, inspection or copying
by a Member or Assignee under this Section 9.2 may be made by that Person or
that Person's agent or attorney.
D. COPIES OF AMENDMENTS. The Manager shall promptly
furnish to a Member a copy of any amendment to the Articles or this Agreement
executed by the Manager pursuant to a power of attorney from the Member.
9.3 ANNUAL STATEMENTS.
A. DELIVERY OF STATEMENTS. Within 180 days after the
close of each Fiscal Year, the Manager will distribute financial statements of
the Company (including a balance sheet, statements of income and expense,
Members' equity and changes in financial position) as at the end of and for the
year then ended, accompanied by an audit report thereon prepared by certified
public accountants. Members will also receive an annual written review of the
performance of the Company's portfolio companies.
B. TAX INFORMATION. The Manager shall provide the
Members with all tax information necessary for the preparation of their Federal,
state and local income tax returns within 120 days after the close of each
Fiscal Year.
9.4 COMPANY ACCOUNTS. The Manager shall maintain the funds of the
Company in such accounts, if any, as it deems appropriate.
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9.5 ACCOUNTING DECISIONS AND RELIANCE ON OTHERS. All decisions as
to accounting matters, except as otherwise specifically set forth herein, shall
be made by the Manager. The Manager may rely upon the advice of the Manager's
accountants as to whether such decisions are in accordance with accounting
methods followed for Federal income tax purposes.
9.6 TAX MATTERS FOR THE COMPANY HANDLED BY MANAGER AND TAX MATTERS
PARTNER. The Manager shall from time to time cause the Company to make such tax
elections as the Manager deems to be in the best interests of the Company and
the Members. The Tax Matters Partner shall represent the Company (at the
Company's expense) in connection with all examinations of the Company's affairs
by tax authorities, including resulting judicial and administrative proceedings,
and shall expend the Company funds for professional services and costs
associated therewith. The Tax Matters Partner shall oversee the Company tax
affairs in the overall best interests of the Company. If for any reason the Tax
Matters Partner can no longer serve in that capacity or ceases to be a Member or
Manager, as the case may be, the Manager may designate another Member to be Tax
Matters Partner.
ARTICLE X
DISSOLUTION AND WINDING UP
10.1 DISSOLUTION. The Company shall be dissolved, its assets shall
be disposed of, and its affairs wound up on the first to occur of the following:
(a) The entry of a decree of judicial dissolution;
(b) The vote of the Manager or the vote of a Majority
Interest and the concurrence of the Manager; or
(c) The occurrence of a Dissolution Event and the failure
of the Remaining Members to consent in accordance with Article VIII to continue
the business of the Company within ninety (90) days after the occurrence of such
event.
10.2 CERTIFICATE OF DISSOLUTION. As soon as possible following the
occurrence of any of the events specified in Section 10.1, the Manager who has
not wrongfully dissolved the Company or, if none, the Members, shall execute any
required Certificate of Dissolution in such form, if any, as shall be prescribed
by the Delaware Secretary of State and file the Certificate as required by the
Act.
10.3 WINDING UP. Upon the occurrence of any event specified in
Section 10.1, the Company shall continue solely for the purpose of winding up
its affairs in an orderly manner, liquidating its assets, and satisfying the
claims of its creditors. The Manager who has not wrongfully dissolved the
Company or, if none, the Members, shall be responsible for overseeing the
winding up and liquidation of Company, shall take full account of the
liabilities of Company and assets, shall either cause its assets to be sold or
distributed, and if sold shall cause the proceeds therefrom, to the extent
sufficient therefor, to be applied and distributed as provided in Section 10.5.
The Persons winding up the affairs of the Company shall give written notice of
the commencement of winding up by mail to all known creditors and claimants
whose addresses appear on the records of the Company. The Manager or Members
winding up the affairs of the Company shall not be entitled to any compensation
for such services.
10.4 DISTRIBUTIONS IN KIND. Any non-cash asset distributed to one
or more Members shall
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first be valued to determine the Profit or Loss that would have resulted if such
asset were sold for such value, such Profit or Loss shall then be allocated
pursuant to Article VI, and the Members' Capital Accounts shall be adjusted to
reflect such allocations. The amount distributed and charged to the Capital
Account of each Member receiving an interest in such distributed asset shall be
the value of such interest (net of any liability secured by such asset that such
Member assumes or takes subject to).
10.5 ORDER OF PAYMENT UPON DISSOLUTION. After determining that all
known debts and liabilities of the Company, including, without limitation, debts
and liabilities to Members who are creditors of the Company, have been paid or
adequately provided for, the remaining assets shall be distributed to the
Members in accordance with their positive Capital Account balances, after taking
into account allocations for the Company's taxable year during which liquidation
occurs. Such liquidating distributions shall be made by the end of the Company's
taxable year in which the Company is liquidated, or, if later, within ninety
(90) days after the date of such liquidation.
10.6 LIMITATIONS ON PAYMENTS MADE IN DISSOLUTION. Except as
otherwise specifically provided in this Agreement, each Member shall only be
entitled to look solely at the assets of the Company for the return of his or
her positive Capital Account balance and shall have no recourse for his or her
Capital Contribution and/or share of Profits (upon dissolution or otherwise)
against the Manager or any other Member.
10.7 CERTIFICATE OF CANCELLATION. The Manager or Members who filed
the Certificate of Dissolution shall cause to be filed in the office of, and on
a form prescribed by, the Delaware Secretary of State, a Certificate of
Cancellation of the Articles upon the completion of the winding up of the
affairs of the Company.
ARTICLE XI
INDEMNIFICATION
11.1 INDEMNIFICATION. The Manager may authorize the Company to pay
expenses incurred by, or to satisfy a judgement or fine rendered or levied
against, a present or former Manager, an employee of a Manager or a former or
present employee of the Company in an action brought by a third party against
such person (whether or not this Company is joined as a party defendant) to
impose a liability or penalty on such person for an act alleged to have been
committed by such person while a Manager, employee of such Manager or former or
present employee of the Company, provided that (i) the person to be indemnified
was acting in good faith within what he reasonably believed to be the scope of
his employment or authority and for a purpose which he reasonably believed to be
in the furtherance of the purpose and best interests of the Company or the
Members, and (ii) the action or failure to act in which respect of which
indemnification is sought does not constitute gross negligence, willful
misconduct or violation of applicable law. Payments authorized hereunder include
amounts paid and expenses incurred in settling any such action or threatened
action. This provision does not apply to any action instituted or maintained in
the right of this Company or by a Member. The indemnification authorized by this
Article XI shall be made from assets of the Company and no Member shall be
personally liable to an indemnitee.
11.2 SUCCESSORS AND ASSIGNS; LIMITATIONS. This Article XI shall
inure to the benefit of the Manager, its shareholders, partners, employees and
agents, the employees and agents of the Company, and their respective heirs,
executors, administrators, successors and assigns. The Federal securities laws
impose liabilities under certain circumstances on persons who act in good faith,
and, therefore, nothing herein shall in any way constitute a waiver or
limitation of any rights
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which a Member may have under any Federal securities laws.
ARTICLE XII
COMPETING ACTIVITIES
The Manager need not devote all of its business time to the affairs of
the Company, but shall devote only so much of its time and attention as it shall
deem necessary and advisable. Each of the parties hereto acknowledges and agrees
that any of the Members may engage in or possess an interest in other business
ventures of any nature and description independently or with others, and neither
the Company nor the Members shall have any right by virtue of this Agreement in
or to such independent ventures or to the income or profits derived therefrom.
No Member shall be accountable to the Company for any investment or business
opportunity which a Member hereafter becomes aware of by reason of the affairs
of the Company. The Members and each of them hereby waive any and all rights
which they or any of them have now or may have in the future by reason of the
doctrine of partnership or corporate opportunity in connection with the affairs
of the Company. The fact that any Member, or any Affiliate of any Member, or a
member of his or her family, is employed by, or is directly or indirectly
interested in or connected with, any person, firm or corporation employed or
engaged by the Company to render or perform a service, or from whom the Company
may make any purchase, or to whom the Company may make any sale, or from or to
whom the Company may obtain or make any loan or enter into any lease or other
arrangement, shall not prohibit the Company from engaging in any transaction
with such person, firm or corporation, or create any additional duty of legal
justification by such Member or such person, firm or corporation beyond that of
an unrelated party, and neither the Company nor any other Member shall have any
right in or to any revenues or profits derived from such transaction by such
Partner, Affiliate, person, firm or corporation. Neither the Company nor any
Member shall have any right in or to any such independent venture or investment
or the revenues or profits derived therefrom. The above references to Members
include Members who are Managers.
ARTICLE XIII
MISCELLANEOUS
13.1 COUNSEL TO THE COMPANY. Counsel to the Company may also be
counsel to any Manager or any Affiliate of a Manager. The Manager may execute on
behalf of the Company and the Members any consent to the representation of the
Company that counsel may request pursuant to the California Rules of
Professional Conduct or similar rules in any other jurisdiction ("Rules"). The
Company has initially selected Buchalter, Nemer, Fields & Younger ("Company
Counsel") as legal counsel to the Company. Each Member acknowledges that Company
Counsel does not represent any Nonmanager Member in the absence of a clear and
explicit written agreement to such effect between the Nonmanager Member and
Company Counsel, and that in the absence of any such agreement Company Counsel
shall owe no duties directly to a Nonmanager Member. Notwithstanding any
adversity that may develop, in the event any dispute or controversy arises
between any Members and the Company, or between any Members or the Company, on
the one hand, and a Manager (or Affiliate of a Manager) that Company Counsel
represents, on the other hand, then each Member agrees that Company Counsel may
represent either the Company or such Manager (or his or her Affiliate), or both,
in any such dispute or controversy to the extent permitted by the Rules, and
each Member hereby consents to such representation. Each Member further
acknowledges that: (a) Company Counsel has represented the interests of Sutro
and its Affiliates in connection with the formation of the Company and the
preparation and negotiation of this Agreement, (b) while communications with
Company Counsel concerning the formation of the Company, its Members and
Managers may be confidential with respect to third parties, no Member
25
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has any expectation that such communications are confidential with respect to
Sutro, and (c) Company Counsel has heretofore represented and will continue to
represent Affiliates of Sutro in connection with other matters, including their
investment activities, which may be competitive with those of the Company.
13.2 COMPLETE AGREEMENT. This Agreement and the Subscription
Agreement and the Articles constitute the complete and exclusive statement of
agreement among the Members and Manager with respect to the subject matter
herein and therein and replace and supersede all prior written and oral
agreements or statements by and among the Members and Manager or any of them. No
representation, statement, condition or warranty not contained in this Agreement
or the Articles will be binding on the Members or Manager or have any force or
effect whatsoever. To the extent that any provision of the Articles conflicts
with any provision of this Agreement, the Articles shall control.
13.3 BINDING EFFECT. Subject to the provisions of this Agreement
relating to transferability, this Agreement will be binding upon and inure to
the benefit of the Members, and their respective successors and assigns.
13.4 PARTIES IN INTEREST. Except as expressly provided in the Act,
nothing in this Agreement shall confer any rights or remedies under or by reason
of this Agreement on any Persons other than the Members and Managers and their
respective successors and assigns nor shall anything in this Agreement relieve
or discharge the obligation or liability of any third person to any party to
this Agreement, nor shall any provision give any third person any right of
subrogation or action over or against any party to this Agreement.
13.5 PRONOUNS; STATUTORY REFERENCES. All pronouns and all
variations thereof shall be deemed to refer to the masculine, feminine, or
neuter, singular or plural, as the context in which they are used may require.
Any reference to the Code, the Regulations, the Act or other statutes or laws
will include all amendments, modifications, or replacements of the specific
sections and provisions concerned.
13.6 HEADINGS. All headings herein are inserted only for
convenience and ease of reference and are not to be considered in the
construction or interpretation of any provision of this Agreement.
13.7 INTERPRETATION. In the event any claim is made by any Member
relating to any conflict, omission or ambiguity in this Agreement, no
presumption or burden of proof or persuasion shall be implied by virtue of the
fact that this Agreement was prepared by or at the request of a particular
Member or his or her counsel.
13.8 REFERENCES TO THIS AGREEMENT. Numbered or lettered articles,
sections and subsections herein contained refer to articles, sections and
subsections of this Agreement unless otherwise expressly stated.
13.9 JURISDICTION. Each Member hereby consents to the exclusive
jurisdiction of the state and Federal courts sitting in the State of California
in any action on a claim arising out of, under or in connection with this
Agreement or the transactions contemplated by this Agreement. Each Member
further agrees that personal jurisdiction over him or her may be effected by
service of process by registered or certified mail addressed as provided in
Section 13.13 of this Agreement, and that when so made shall be as if served
upon him or her personally within the State of California.
13.10 EXHIBITS. All Exhibits attached to this Agreement are
incorporated and shall be
26
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treated as if set forth herein.
13.11 SEVERABILITY. If any provision of this Agreement or the
application of such provision to any person or circumstance shall be held
invalid, the remainder of this Agreement or the application of such provision to
persons or circumstances other than those to which it is held invalid shall not
be affected thereby.
13.12 ADDITIONAL DOCUMENTS AND ACTS. Each Member agrees to execute
and deliver such additional documents and instruments and to perform such
additional acts as may be necessary or appropriate to effectuate, carry out and
perform all of the terms, provisions, and conditions of this Agreement and the
transactions contemplated hereby.
13.13 NOTICES. Any notice to be given or to be served upon the
Company or any party hereto in connection with this Agreement must be in writing
(which may include facsimile) and will be deemed to have been given and received
when delivered to the address specified by the party to receive the notice. Such
notices will be given to a Member or Manager at the address specified in Exhibit
A hereto. Any party may, at any time by giving five (5) days' prior written
notice to the other parties, designate any other address in substitution of the
foregoing address to which such notice will be given.
13.14 AMENDMENTS. This Agreement may be amended only upon the
written consent thereto of the Manager and a Majority Interest of the Nonmanager
Members, except that the Manager may amend this Agreement without the consent of
or notice to any of the Members to (a) cure any ambiguity, correct or supplement
any provision in the Agreement which may be inconsistent with any other
provision in this Agreement, or make any other provisions with respect to
matters or questions arising under the Agreement which will not be inconsistent
with the intent of the Agreement; (b) delete or add any provision of the
Agreement required to be so deleted or added by the Securities and Exchange
Commission or by a state securities law administrator or similar such official,
which addition or deletion is deemed by such agency or official to be for the
benefit or protection of the Members; (c) reflect the withdrawal, expulsion,
addition or substitution of Members; (d) reflect the proposal, promulgation or
amendment of Regulations under Code Section 704, if, in the opinion of the
Manager, the amendment does not have a material adverse effect on the Members;
(e) elect for the Company to be bound by any successor statute to the Act if, in
the opinion of the Manager, the amendment does not have a material adverse
effect on the Members; (f) conform the Agreement to changes in the Act or
interpretations thereof which, in the discretion of the Manager, it believes
appropriate, necessary or desirable, if, in its reasonable opinion, such
amendment does not have a materially adverse effect on the Members or the
Company; (g) change the name of the Company; and (h) make any change which, in
the discretion of the Manager, is advisable to qualify or to continue the
qualification of the Company as a limited liability company or that is necessary
or advisable, in the discretion of the Manager, so that the Company will not be
treated as an association taxable as a corporation for Federal income tax
purposes. Any amendments made pursuant to this Section 13.14 may by its terms be
made effective as of the date of this Agreement.
13.15 RELIANCE ON AUTHORITY OF PERSON SIGNING AGREEMENT. If a Member
is not a natural person, neither the Company nor any Member will (a) be required
to determine the authority of the individual signing this Agreement to make any
commitment or undertaking on behalf of such entity or to determine any fact or
circumstance bearing upon the existence of the authority of such individual or
(b) be responsible for the application or distribution of proceeds paid or
credited to individuals signing this Agreement on behalf of such entity.
13.16 NO INTEREST IN COMPANY PROPERTY; WAIVER OF ACTION FOR
PARTITION. No Member or
27
<PAGE> 33
Assignee has any interest in specific property of the Company. Without limiting
the foregoing, each Member and Assignee irrevocably waives during the term of
the Company any right that he or she may have to maintain any action for
partition with respect to the property of the Company.
13.17 MULTIPLE COUNTERPARTS. This Agreement may be executed in two
or more counterparts, each of which shall be deemed an original, but all of
which shall constitute one and the same instrument.
13.18 ATTORNEY FEES; ARBITRATION. In the event that any dispute
between the Company and the Members or among the Members should result in
litigation, including arbitration, the prevailing party in such dispute shall be
entitled to recover from the other party all reasonable fees, costs and expenses
of enforcing any right of the prevailing party, including without limitation,
reasonable attorneys' fees and expenses, all of which shall be deemed to have
accrued upon the commencement of such action and shall be paid whether or not
such action is prosecuted to judgement. Any judgement or order entered in such
action shall contain a specific provision providing for the recovery of attorney
fees and costs incurred in enforcing such judgement and an award of
pre-judgement interest from the date of the breach at the maximum rate of
interest allowed by law. For the purposes of this Section: (a) attorney fees
shall include, without limitation, fees incurred in the following: (1)
post-judgement motions; (2) contempt proceedings; (3) garnishment, levy, and
debtor and third party examinations; (4) discovery; and (5) bankruptcy
litigation and (b) prevailing party shall mean the party who is determined in
the proceeding to have prevailed or who prevails by dismissal, default or
otherwise. Any controversy or dispute arising out of this Agreement,
interpretation of any of the provisions hereof, or the actions of the Manager or
Members hereunder shall be submitted to arbitration before the National
Association of Securities Dealers, Inc. ("NASD") under the rules then obtaining
of the NASD. If the NASD refused to accept jurisdiction of the matter, then the
dispute shall be submitted to arbitration before the New York Stock Exchange
under the rules then obtaining of said Exchange. Any such arbitration shall be
held in San Francisco, California, and judgment upon any award thus obtained may
be entered in any court having jurisdiction thereof. In any such arbitration
each party to the arbitration shall bear its own expenses, including expenses of
attorneys, financial experts and other witnesses; and any arbitration fees and
expenses of the arbitrators shall be divided equally between the disputing
parties.
13.19 REMEDIES CUMULATIVE. The remedies under this Agreement are
cumulative and shall not exclude any other remedies to which any person may be
lawfully entitled.
IN WITNESS WHEREOF, this Operating Agreement has been executed on the
date first above written.
MANAGER
SUTRO VENTURE MANAGEMENT, INC.,
a Delaware corporation
By: _______________________________
OTHER MEMBERS
By: Sutro Venture Management, Inc.,
a Delaware corporation
Attorney-in-Fact
28
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By: _______________________________
29
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[THIS PAGE IS INTENTIONALLY LEFT BLANK]
30
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EXHIBIT 10.34
OPERATING AGREEMENT
FOR
SUTRO VENTURE PARTNERS IV LLC
A DELAWARE LIMITED LIABILITY COMPANY
THE SECURITY WHICH IS THE SUBJECT OF THIS AGREEMENT HAS NOT BEEN
REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION UNDER THE SECURITIES ACT
OF 1933, AS AMENDED (THE "ACT"), IN RELIANCE UPON THE EXEMPTION FROM
REGISTRATION PROVIDED BY RULE 506 PROMULGATED UNDER THE ACT, AND THIS SECURITY
HAS NOT BEEN REGISTERED OR QUALIFIED UNDER THE STATE SECURITIES LAWS OF ANY
RELEVANT JURISDICTION IN WHICH THIS SECURITY HAS BEEN OFFERED AND SOLD PURSUANT
TO AN APPLICABLE EXEMPTION THEREFROM. IT IS UNLAWFUL TO CONSUMMATE A SALE OR
TRANSFER OF THIS SECURITY WITHOUT PROVIDING THE MANAGER WITH AN OPINION OF
COUNSEL TO THE EFFECT THAT A PROPOSED TRANSFER OR SALE OF THIS SECURITY (i) DOES
NOT AFFECT THE ORIGINAL ISSUANCE AND SALE OF SECURITIES IN THE COMPANY PURSUANT
TO THE EXEMPTIONS FROM REGISTRATION PROVIDED BY RULE 506 UNDER THE ACT AND
PURSUANT TO ANY APPLICABLE STATE EXEMPTION FROM REGISTRATION AND QUALIFICATION
RELIED UPON BY THE MANAGER AND (ii) IS IN COMPLIANCE WITH ALL APPLICABLE STATE
AND FEDERAL SECURITIES LAWS.
THE SALE, TRANSFER OR OTHER DISPOSITION OF THE SECURITY WHICH IS THE
SUBJECT OF THIS AGREEMENT OR ANY INTEREST THEREIN IS SUBJECT TO CERTAIN
RESTRICTIONS SET FORTH IN Article VII OF THIS AGREEMENT.
<PAGE> 2
TABLE OF CONTENTS
Page
ARTICLE I - DEFINITIONS........................................................1
1.1 "Act"........................................................1
1.2 "Affiliate"..................................................1
1.3 "Agreement"..................................................1
1.4 "Articles"...................................................1
1.5 "Assignee"...................................................1
1.6 "Bankruptcy".................................................1
1.7 "Capital Account"............................................2
1.8 "Capital Contribution".......................................3
1.9 "Code".......................................................3
1.10 "Company"....................................................3
1.11 "Company Minimum Gain".......................................3
1.12 "Depreciation"...............................................3
1.13 "Determination Date".........................................3
1.14 "Dissolution Event"..........................................3
1.15 "Economic Interest"..........................................3
1.16 "Fiscal Period"..............................................3
1.17 "Fiscal Year"................................................4
1.18 "Gross Asset Value"..........................................4
1.19 "Interest"...................................................5
1.20 "Majority Interest"..........................................5
1.21 "Manager"....................................................6
1.22 "Master Company".............................................6
1.23 "Member".....................................................6
1.24 "Membership Interest"........................................6
1.25 "Memorandum".................................................6
1.26 "Nonmanager Member"..........................................6
1.27 "Offering"...................................................6
1.28 "Percentage Interest"........................................6
1.29 "Person".....................................................6
1.30 "Profits" and "Losses".......................................6
1.31 "Purchase Date"..............................................7
1.32 "Regulations"................................................7
1.33 "Remaining Balance"..........................................7
1.34 "Remaining Members"..........................................7
1.35 "Securities Act".............................................7
1.36 "Subscription"...............................................7
1.37 "Sutro Employee".............................................7
1.38 "Sutro Group"................................................7
1.39 "SVM"........................................................7
1.40 "Tax Matters Partner"........................................7
ARTICLE II - ORGANIZATIONAL MATTERS............................................8
2.1 Formation....................................................8
2.2 Name.........................................................8
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2.3 Term.........................................................8
2.4 Office and Agent.............................................8
A. Principal Office....................................8
B. Registered Office...................................8
C. Other Jurisdictions.................................8
2.5 Purpose and Business of the Company..........................8
ARTICLE III - CAPITAL CONTRIBUTIONS............................................9
3.1 Capital Contributions of Members.............................9
3.2 Other Contributions..........................................9
3.3 Certain Restrictions upon Interest Sales.....................9
3.4 No Interest..................................................9
3.5 Failure to Make Contributions................................9
ARTICLE IV - MEMBERS..........................................................10
4.1 Limitations on Liability of Members.........................10
4.2 Liability of Members to the Company.........................10
A. Liability of Members to the Company................10
B. Member as Trustee for the Company..................10
C. Waiver of Liability of Member......................10
4.3 Admission of Additional Members.............................11
4.4 Withdrawals.................................................11
4.5 Transactions With The Company...............................11
4.6 Remuneration To Members.....................................11
4.7 Members Are Not Agents......................................12
4.8 Voting Rights...............................................12
4.9 Meetings of Members.........................................12
A. Date, Time and Place of Meetings of Members;
Secretary..........................................12
B. Power to Call Meetings.............................12
C. Notice of Meeting..................................12
D. Manner of Giving Notice; Affidavit of Notice.......12
E. Validity of Action.................................13
F. Quorum.............................................13
G. Adjourned Meeting; Notice..........................13
H. Waiver of Notice or Consent........................13
I. Action by Written Consent without a Meeting........14
J. Telephonic Participation by Member at Meetings.....14
K. Record Date........................................14
L. Proxies............................................15
4.10 Certificate of Membership Interest..........................15
ARTICLE V - MANAGEMENT AND CONTROL OF THE COMPANY.............................15
5.1 Management of the Company by Manager........................15
5.2 Resignation and Removal of Managers.........................15
5.3 Powers of Manager...........................................16
A. Powers of Manager..................................16
B. Limitations on Power of Manager....................16
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5.4 Performance of Duties; Liability of Manager.................16
5.5 Payments to Manager.........................................17
5.6 Limited Liability...........................................17
5.7 Interests Held by Manager...................................17
ARTICLE VI - ALLOCATIONS OF PROFITS AND LOSSES; DISTRIBUTIONS................18
6.1 Capital Accounts............................................18
6.2 Allocations.................................................18
A. Allocations........................................18
1. Profits and Losses........................18
2. Recapture.................................18
B. Special Capital Account Allocations................18
1. Section 704 Allocations...................18
6.3 Distributions in General....................................20
6.4 Restriction on Distribution.................................20
A. Limitation.........................................20
B. Liability for Return...............................20
C. Limitation on Liability............................21
6.5 Returned Distributions......................................21
6.6 Obligations of Members to Report Allocations................21
ARTICLE VII - TRANSFER AND ASSIGNMENT OF INTERESTS............................21
7.1 Transfer and Assignment of Interests........................21
7.2 Further Restrictions on Transfer of Interests...............21
7.3 Substitution of Members.....................................21
7.4 Permitted Transfers.........................................22
7.5 Effective Date of Permitted Transfers.......................22
7.6 Rights of Legal Representatives.............................22
7.7 No Effect to Transfers in Violation of Agreement............22
ARTICLE VIII - CONSEQUENCES OF DISSOLUTION EVENTS.............................22
ARTICLE IX - ACCOUNTING, RECORDS, REPORTING BY MEMBERS........................23
9.1 Books and Records...........................................23
9.2 Delivery to Members and Inspection..........................23
A. Delivery of Information............................23
B. Inspection and Copying.............................24
C. Right to Request...................................24
D. Copies of Amendments...............................24
9.3 Annual Statements...........................................24
A. Delivery of Statements.............................24
B. Tax Information....................................24
9.4 Company Accounts............................................24
9.5 Accounting Decisions and Reliance on Others.................24
9.6 Tax Matters for the Company Handled by Manager and Tax
Matters Partner.............................................24
ARTICLE X - DISSOLUTION AND WINDING UP........................................25
10.1 Dissolution.................................................25
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10.2 Certificate of Dissolution..................................25
10.3 Winding Up..................................................25
10.4 Distributions in Kind.......................................25
10.5 Order of Payment Upon Dissolution...........................25
10.6 Limitations on Payments Made in Dissolution.................26
10.7 Certificate of Cancellation.................................26
ARTICLE XI - INDEMNIFICATION..................................................26
11.1 Indemnification.............................................26
11.2 Successors and Assigns; Limitations.........................26
ARTICLE XII - COMPETING ACTIVITIES............................................27
ARTICLE XIII - MISCELLANEOUS..................................................27
13.1 Counsel to the Company......................................27
13.2 Complete Agreement..........................................28
13.3 Binding Effect..............................................28
13.4 Parties in Interest.........................................28
13.5 Pronouns; Statutory References..............................28
13.6 Headings....................................................28
13.7 Interpretation..............................................28
13.8 References to this Agreement................................28
13.9 Jurisdiction................................................29
13.10 Exhibits....................................................29
13.11 Severability................................................29
13.12 Additional Documents and Acts...............................29
13.13 Notices.....................................................29
13.14 Amendments..................................................29
13.15 Reliance on Authority of Person Signing Agreement...........30
13.16 No Interest in Company Property; Waiver of Action for
Partition...................................................30
13.17 Multiple Counterparts.......................................30
13.18 Attorney Fees; Arbitration..................................30
13.19 Remedies Cumulative.........................................31
iv
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OPERATING AGREEMENT
FOR
SUTRO VENTURE PARTNERS IV LLC
A DELAWARE LIMITED LIABILITY COMPANY
This Operating Agreement is made as of December 15, 1998, by and among
Sutro Venture Management, Inc., a Delaware corporation, and those persons who,
themselves or by attorney-in-fact, have executed this Agreement or a counterpart
signature page to this Agreement and been admitted as Members in accordance with
the provisions hereof. The parties by this Agreement set forth the operating
agreement for the limited liability company being organized by them under the
laws of the State of Delaware upon the terms and subject to the conditions of
this Agreement.
ARTICLE I
DEFINITIONS
When used in this Agreement, the following terms shall have the
meanings set forth below (all terms used in this Agreement that are not defined
in this Article I shall have the meanings set forth elsewhere in this
Agreement):
1.1 "ACT" shall mean the Delaware Limited Liability Company Act,
as the same may be amended from time to time.
1.2 "AFFILIATE" of a Member or Manager shall mean any Person,
directly or indirectly, through one or more intermediaries, controlling,
controlled by, or under common control with a Member or Manager, as applicable.
The term "control," as used in the immediately preceding sentence, shall mean
with respect to a corporation or limited liability company the right to
exercise, directly or indirectly, more than fifty percent (50%) of the voting
rights attributable to the controlled corporation or limited liability company,
and, with respect to any individual, partnership, trust, other entity or
association, the possession, directly or indirectly, of the power to direct or
cause the direction of the management or policies of the controlled entity.
1.3 "AGREEMENT" shall mean this Operating Agreement, as originally
executed and as amended from time to time.
1.4 "ARTICLES" shall mean the Certificate of Formation for the
Company originally filed with the Delaware Secretary of State and as amended
from time to time.
1.5 "ASSIGNEE" shall mean the owner of an Economic Interest who
has not been admitted as a substitute Member in accordance with Article VII.
1.6 "BANKRUPTCY" shall mean: (a) the filing of an application by a
Manager for, or his or her consent to, the appointment of a trustee, receiver,
or custodian of his or her other assets; (b) the entry of an order for relief
with respect to a Manager in proceedings under the United States Bankruptcy
Code, as amended or superseded from time to time; (c) the making by a Manager of
a general assignment for the benefit of creditors; (d) the entry
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of an order, judgement, or decree by any court of competent jurisdiction
appointing a trustee, receiver, or custodian of the assets of a Manager unless
the proceedings and the person appointed are dismissed within ninety (90) days;
or (e) the failure by a Manager generally to pay his or her debts as the debts
become due within the meaning of Section 303(h)(1) of the United States
Bankruptcy Code, as determined by the Bankruptcy Court, or the admission in
writing of his or her inability to pay his or her debts as they become due.
1.7 "CAPITAL ACCOUNT" shall mean with respect to any Member the
individual Capital Account that shall be established and maintained for each
Member and for each Capital Contribution of each Member in accordance with the
following provisions:
(a) To each Capital Account of a Member there shall be
credited such Member's related Capital Contribution, such Member's share of
Profit with respect thereto, any items in the nature of income or gain that are
specifically allocated thereto pursuant to this Agreement and the amount of any
Company liabilities that are personally assumed by such Member or that are
secured by any Company property distributed to such Member with respect thereto;
(b) To each Capital Account of a Member, there shall be
debited the amount of cash and the Gross Asset Value of any Company property
distributed to such Member pursuant to any provision of this Agreement with
respect thereto, such Member's share of Loss with respect thereto, any items in
the nature of expenses or loss that are specifically allocated thereto pursuant
to this Agreement and the amount of any liabilities of such Member that are
assumed by the Company or that are secured by any property contributed by such
Member to the Company with respect thereto;
(c) In determining the amount of any liability, there shall be
taken into account Code Section 752(c) and any other applicable provisions of
the Code and Regulations;
(d) If any interest in the Company is transferred in
accordance with this Agreement, the transferee shall succeed to the Capital
Accounts of the transferor to the extent that they relate to the transferred
interest.
(e) If the Gross Asset Values of Company assets are adjusted
pursuant to this Agreement, the respective Capital Accounts of all Members shall
be adjusted simultaneously to reflect the aggregate net adjustment as if the
Company were to have recognized gain or loss equal to the amount of such
aggregate net adjustment.
(f) The foregoing provisions and other provisions of this
Agreement relating to the maintenance of Capital Accounts are intended to comply
with Regulations Section 1.704-1(b), and shall be interpreted and applied in a
manner consistent therewith. If the Manager determines that it is prudent to
modify the manner in which the Capital Accounts, or any debits or credits
thereto, are computed in order to comply with Regulations Section 1.704-1(b),
the Manager may make such modification if it is not likely to have a material
adverse effect on amounts distributable to any Member pursuant hereto on the
dissolution of the Company. The Manager shall adjust the amounts debited or
credited to Capital Accounts with respect to any property contributed to the
Company or
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distributed to a Member and any liabilities secured by such contributed or
distributed property or assumed by the Company or Member in connection with such
contribution or distribution if the Manager determines that such adjustments are
necessary or appropriate under Regulations Section 1.704-1(b)(2)(iv). The
Manager shall also make any appropriate modifications if unanticipated events
might cause this Agreement not to comply with Regulations Section 1.704-1(b),
and the Manager shall make all elections provided for under such Regulations.
1.8 "CAPITAL CONTRIBUTION" of a Member shall mean the total amount
of cash and the initial Gross Asset Value of property contributed to the capital
of the Company by such Member.
1.9 "CODE" shall mean the Internal Revenue Code of 1986, as
amended from time to time, the provisions of succeeding law, and to the extent
applicable, the Regulations.
1.10 "COMPANY" shall mean Sutro Venture Partners IV LLC, a Delaware
limited liability company.
1.11 "COMPANY MINIMUM GAIN" shall have the meaning ascribed to the
term "Partnership Minimum Gain" in the Regulations Section 1.704-2(d).
1.12 "DEPRECIATION" shall mean, for each Fiscal Year or other
Fiscal Period, an amount equal to the depreciation, amortization or other cost
recovery deduction allowable with respect to an asset for such Year or other
Period, except that if the Gross Asset Value of an asset differs from its
adjusted basis for Federal income tax purposes at the beginning of such Year or
other Period, Depreciation shall be an amount which bears the same ratio to such
beginning Gross Asset Value as the Federal income tax depreciation, amortization
or other cost recovery deduction for such Year or other Period bears to such
beginning adjusted tax basis.
1.13 "DETERMINATION DATE" shall mean the date as of which the value
or amount of Company assets and/or liabilities is to be determined.
1.14 "DISSOLUTION EVENT" shall mean with respect to any Manager,
one or more of the following: the death, insanity, withdrawal, resignation,
retirement, removal, expulsion, Bankruptcy or dissolution of any such Manager.
1.15 "ECONOMIC INTEREST" shall mean the right to receive
distributions of the Company's assets and allocations of Profit and Loss and
similar items from the Company pursuant to this Agreement and the Act, but shall
not include any other rights of a Member, including, without limitation, the
right to vote or participate in the management of the Company, or except as
provided in the Act, any right to information concerning the business and
affairs of the Company.
1.16 "FISCAL PERIOD" shall mean each period commencing (i) on the
first day of each calendar year, (ii) on the date of any Capital Contribution,
(iii) on each date next following the date of any withdrawal from a Capital
Account, and (iv) on the date on which Members are first admitted to the
Company, and the prior Fiscal Period, if any, shall
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terminate on the day immediately preceding the day on which a new Fiscal Period
commences.
1.17 "FISCAL YEAR" shall mean the period from January 1 (or the
date purchasers of Interests are first admitted to the Company in the case of
the first Fiscal Year) through the succeeding December 31 or, if earlier, the
date of dissolution and termination of the Company.
1.18 "GROSS ASSET VALUE" shall mean, with respect to any asset, the
asset's adjusted basis for Federal income tax purposes, except as follows:
(a) The initial Gross Asset Value of any asset contributed by
a Member to the Company shall be the gross fair market value of such asset,
determined as provided in Paragraph 1.18(f) below;
(b) The Gross Asset Value of all Company assets shall be
adjusted to equal their respective gross fair market values, determined as
provided in Paragraph 1.18(f) below, as of the following times: (i) on the
acquisition of an additional interest in the Company by any new or existing
Member in exchange for more than a DE MINIMIS Capital Contribution; (ii) on the
distribution by the Company to a Member of more than a DE MINIMIS amount of
Company property, unless all Members receive simultaneous distributions of
undivided interests in the distributed property in proportion to their
respective Percentage Interests; (iii) on the last day of each Fiscal Period;
and (iv) on a liquidation within the meaning of Regulations Section
1.704-1(b)(2)(ii)(g);
(c) The Gross Asset Value of any Company property distributed
to any Member shall be the gross fair market value of such Company property,
determined as provided in Paragraph 1.18(f) below;
(d) The Gross Asset Value of any Company property shall be
increased (or decreased) to reflect any adjustments to the adjusted basis of
such Company property pursuant to Code Section 734(b) or 743(b), but only to the
extent that such adjustments are taken into account in determining Capital
Accounts pursuant to Regulations Section 1.704- 1(b)(2)(iv)(m); provided that
Gross Asset Values shall not be so adjusted to the extent that the Manager
determines that an adjustment pursuant to Paragraph 1.18(b) is necessary or
appropriate in connection with a transaction that would otherwise result in an
adjustment pursuant to this Paragraph 1.18(d); and
(e) If the Gross Asset Value of an asset has been determined
or adjusted pursuant hereto, such Gross Asset Value shall thereafter be adjusted
by the Depreciation taken into account with respect to such asset for purposes
of computing Profit and Loss, and Capital Accounts shall be adjusted in
accordance with Regulations Section 1.704-1(b)(2)(iv)(g) and the Members'
distributive shares of depreciation, depletion, amortization, gains and net loss
for tax purposes with respect to such property shall be determined to take
account of the variation between the adjusted tax basis and the Gross Asset
Value of such property in the same manner as under Code Section 704(c).
(f) Whenever the "value,""fair value" or "fair market value"
of Company property is to be determined, such "value" shall be determined, and
the assets and liabilities of the Company shall be valued, on the following
basis:
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(i) Marketable securities listed on national
securities exchanges or reported in the National Market System will be valued at
the last sale price on the stock exchange or market on which the security is
traded on the Determination Date or, if the security is traded on more than one
stock exchange or market on the Determination Date, at the last sale price on
the exchange or market on which such securities are principally traded on that
Date; in the absence of a sale on such Date, such securities will be valued at
the average of the closing bid prices as to long positions and asked prices as
to short positions on such exchange or market on the Determination Date. A 25%
discount will be applied in the case of any "restricted" securities.
(ii) Marketable securities not so traded will be
valued at the last bid prices as to long positions and at the last asked prices
as to short positions, as reported by NASDAQ in the case of securities quoted on
NASDAQ, or by the National Quotations Bureau, Inc. in the case of any other such
securities. A 25% discount will be applied in the case of any "restricted"
securities.
(iii) Short term money market instruments and bank
deposits will be valued at cost plus reported interest to date.
(iv) All other assets and liabilities of the
Company will be valued at the fair value thereof as determined in good faith by
the Manager, except that if the Company's assets could be deemed to be plan
assets or plan property for the purposes of ERISA, securities which are of a
class which is neither publicly traded nor convertible into a publicly traded
class will be valued by the Company's independent auditors or by such other
independent person which the Members might designate from time to time by the
vote of a Majority Interest. Securities which are neither of a class which is
publicly traded nor currently convertible into such a class will generally be
valued at cost, unless the Manager believes that there is persuasive evidence to
justify a valuation other than at cost. In making that determination, the
Manager will attempt to consider all relevant information available to it
without unreasonable effort or expense, and make a good faith attempt to ensure
that new Interests are sold taking into account the then fair market value of
the underlying investment portfolio, but these judgments will necessarily be
subjective and based in large part on information provided by investee entities
and investee funds. In determining the value of interests owned by the Master
Company in other funds, the Manager will rely on information furnished by the
managers of those other funds.
(v) If the Determination Date is not a business
day, values as of the close of business on the last business day preceding such
Date may be used. All determinations of values will, except as provided in (iv),
above, be accomplished by the Manager, whose determination thereof shall be
conclusive and binding .
1.19 "INTEREST" shall mean any membership interest in the Company
which was offered and sold pursuant to the Offering.
1.20 "MAJORITY INTEREST" shall mean those Members who hold a
majority of the Percentage Interests which all Members hold.
1.21 "MANAGER" shall mean and refer to SVM, as well as to any other
person that
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succeeds it as a manager of the Company.
1.22 "MASTER COMPANY" shall mean Sutro Venture Fund 34 LLC, a
Delaware limited liability company.
1.23 "MEMBER" shall mean the Manager and each Person who is an
initial signatory to this Agreement or has been admitted to the Company as a
Member in accordance with the Articles or this Agreement (including an Assignee
who has become a Member in accordance with Article VII), and (a) has not ceased
to be a Member for other reason, and the term includes the Manager.
1.24 "MEMBERSHIP INTEREST" shall mean a Member's entire interest in
the Company including the Member's Economic Interest, any right to vote, and the
right to receive information concerning the business and affairs of the Company.
1.25 "MEMORANDUM" shall mean the Confidential Memorandum of the
Company dated November 16, 1998, together with any amendments or supplements
thereto.
1.26 "NONMANAGER MEMBER" shall mean any Member that is not also a
Manager.
1.27 "OFFERING" shall mean the Company's offering of Interests
pursuant to the Memorandum.
1.28 "PERCENTAGE INTEREST" shall mean for each Member or owner of
Economic Interest as of a given date, the ratio of such Member's Capital Account
to the Capital Accounts of all Members as of such date.
1.29 "PERSON" shall mean an individual, partnership, limited
partnership, limited liability company, corporation, trust, estate, association
or any other entity.
1.30 "PROFITS" and "LOSSES" shall mean, for each Fiscal Year or
Fiscal Period, an amount equal to the Company's taxable income or loss for such
Fiscal Year or Fiscal Period, determined in accordance with Code Section 703(a)
(for this purpose, all items of income, gain, loss or deduction required to be
stated separately pursuant to Code Section 703(a)(1) shall be included in
taxable income or loss), with the following adjustments:
(a) Any income of the Company that is exempt from Federal
income tax and not otherwise taken into account in computing Profit or Loss
pursuant to this Section 1.30 shall be added to such taxable income or loss;
(b) Any expenditures of the Company described in Code Section
705(a)(2)(B) or treated as Code Section 705(a)(2)(B) expenditures pursuant to
Regulations Section 1.704-1(b)(2)(iv)(i), and not otherwise taken into account
in computing Profit and Loss pursuant to this Section 1.30 shall be subtracted
from such taxable income or loss;
(c) If the Gross Asset Value of any company asset is adjusted
pursuant to Paragraphs 1.18(b) or 1.18(d), the amount of such adjustment shall
be taken into
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account as gain or loss from the disposition of such asset for purposes of
computing Profit and Loss;
(d) Gain or loss resulting from any disposition of Company
property with respect to which gain or loss is recognized for Federal income tax
purposes shall be computed by reference to the Gross Asset Value of the Company
property disposed of, notwithstanding that the adjusted tax basis of such
property differs from its Gross Asset Value;
(e) In lieu of the depreciation, amortization and other cost
recovery deductions taken into account in computing such taxable income or loss,
there shall be taken into account Depreciation for such Fiscal Year or Fiscal
Period, computed in accordance with Section 1.12; and
(f) Notwithstanding any other provision of this Section 1.30,
any items that are specially allocated pursuant to Section 6.2 shall not be
taken into account in computing Profit and Loss.
1.31 "PURCHASE DATE" shall mean February 15, 1999 and any other
date on which the Manager shall, in its sole and absolute discretion, permit
purchasers of Interests to make Capital Contributions.
1.32 "REGULATIONS" shall, unless the context clearly indicates
otherwise, mean the regulations in force as final or temporary that have been
issued by the U.S. Department of Treasury pursuant to its authority under the
Code, and any successor regulations.
1.33 "REMAINING BALANCE" shall have the meaning ascribed to it in
Section 3.2.
1.34 "REMAINING MEMBERS" shall have the meaning ascribed to it in
Article VIII.
1.35 "SECURITIES ACT" shall mean the Securities Act of 1933, as
amended.
1.36 "SUBSCRIPTION" shall mean the form of Subscription Agreement
signed by investors under the Offering and attached as Exhibit "C" to the
Memorandum.
1.37 "SUTRO EMPLOYEE" means a full time Employee of Sutro Group or
of an Affiliate of Sutro Group.
1.38 "SUTRO GROUP" shall mean The Sutro Group, a Nevada
corporation.
1.39 "SVM" shall mean Sutro Venture Management, Inc., a Delaware
corporation.
1.40 "TAX MATTERS PARTNER" (as defined in Code Section 6231(a)(7))
shall be SVM or its successor as designated pursuant to Section 9.6.
ARTICLE II
ORGANIZATIONAL MATTERS
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2.1 FORMATION. The Members have formed a Delaware limited
liability company under the laws of the State of Delaware by filing the Articles
with the Delaware Secretary of State and entering into this Agreement. The
rights and liabilities of the Members shall be determined pursuant to the Act
and this Agreement. To the extent that the rights or obligations of any Member
are different by reason of any provision of this Agreement than they would be in
the absence of such provision, this Agreement shall, to the extent permitted by
the Act, control.
2.2 NAME. The name of the Company shall be "Sutro Venture Partners
IV LLC." The business of the Company may be conducted under that name or, upon
compliance with applicable laws, any other name that the Manager deems
appropriate or advisable. The Manager shall file any fictitious name
certificates and similar filings, and any amendments thereto, that the Manager
considers appropriate or advisable.
2.3 TERM. The term of this Agreement commenced on the filing of
the Articles and shall continue until terminated as hereinafter provided.
2.4 OFFICE AND AGENT.
A. PRINCIPAL OFFICE. The principal office of the Company shall
be located at 3773 Howard Hughes Parkway, #190 South, Las Vegas, NV 89109,
unless and until the Manager shall determine otherwise, and the Manager may
determine to establish such additional offices to be located at such place or
places inside or outside the State of Delaware as the Manager may designate from
time to time.
B. REGISTERED OFFICE. The Registered Office of the Company in
the State of Delaware is located at 1013 Centre Road, in the City of Wilmington,
County of New Castle. The registered agent of the Company for service of process
at such address is Corporation Service Company.
C. OTHER JURISDICTIONS. The Company shall file or record such
documents and take such other actions under the laws of any jurisdiction outside
the State of Delaware as are necessary or desirable to permit the Company to do
business in any such jurisdiction as is selected by the Manager and to promote
the limitation of liability for the Members in any such jurisdiction.
2.5 PURPOSE AND BUSINESS OF THE COMPANY. The Company was formed to
acquire, own, hold for investment and otherwise dispose of securities, and to do
any and all acts and things necessary, appropriate, proper, advisable,
incidental to, or convenient for the furtherance and accomplishment of such
business, objectives, and purpose, but subject to the provisions of Paragraph
5.3B hereof. It is contemplated that the Company will accomplish its purpose
principally through investment in the Master Company.
ARTICLE III
CAPITAL CONTRIBUTIONS
3.1 CAPITAL CONTRIBUTIONS OF MEMBERS. Any person, including the
Manager, whose Subscription has been accepted by the Manager and who has signed,
or whose
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attorney-in-fact has signed, this Agreement shall, on the Purchase Date
immediately following acceptance of such person's most recent Subscription,
contribute to the capital of the Company cash in an amount equal to one-third of
the amount as to which such person's Subscription has been accepted in respect
of such Purchase Date (or, in the case of the first Purchase Date, such greater
amount as may be required by the amount of the Interim Investments, as such term
is defined in the Memorandum), plus, in the case of Subscriptions accepted
subsequent to the first Purchase Date, that fraction of the Remaining Balance
already called from other Members, and thereupon such person shall become a
Member or, if already a Member, such person's interest in the Company shall be
increased accordingly. In either case, a new Capital Account shall be
established for such person in respect of the new Capital Contribution. The
Manager may, but need not, purchase Interests (but shall be a Member whether or
not it purchases any Interests).
3.2 OTHER CONTRIBUTIONS. Any remaining balance ("Remaining
Balance") in respect of Subscriptions or Interests purchased as contemplated by
Section 3.1 hereof shall be contributed upon subsequent calls therefor by the
Manager, which may be made in whole or from time to time in part upon five (5)
days' written notice to the Members from whom a Remaining Balance is owed, with
such call to be made pro rata from each Member with a Remaining Balance based on
the Remaining Balances of all Members. The amount contributed shall be credited
to the Capital Account or Accounts to which the contribution relates. No person
shall be permitted to make any Capital Contribution except as permitted pursuant
to the provisions of this Agreement. In addition, should any Nonmanager Member
cease to be a Sutro Employee for any reason whatsoever, then, upon such
termination, any right or obligation to contribute any then Remaining Balance
shall automatically terminate, and such Person shall not be permitted or
entitled to make any further Capital Contributions.
3.3 CERTAIN RESTRICTIONS UPON INTEREST SALES. The Company shall
not issue or sell an Interest in any case where that issuance or sale would
cause the Company or the Master Company to fail to qualify for the exemption
from the definition of "investment company" provided by Section 3(c)(1) of the
Investment Company Act of 1940, as amended (the "1940 Act"). Subscriptions shall
not be accepted from any Person who the Manager does not reasonably believe to
be an "accredited investor," as such term is defined in Rule 501 promulgated
under the Securities Act.
3.4 NO INTEREST. No Member shall be entitled to receive any
interest on his or her Capital Contributions.
3.5 FAILURE TO MAKE CONTRIBUTIONS. If a Member does not timely
contribute capital when required, that Member shall be in default under this
Agreement. In such event, the Manager shall send the defaulting Member written
notice of such default, giving him or her five (5) days from the date such
notice is given to contribute the entire amount of his or her then required
Capital Contribution. If the defaulting Member does not contribute his or her
required capital to the Company within said five (5)-day period, then,
thereafter, for purposes of calculating allocations and distributions to which
the Member will be entitled pursuant to Article VI hereof, such Member's
Percentage Interest shall be calculated as though there had been made only
one-half (1/2) of the Capital Contributions actually made by the Member at or
before the time of said default.
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Each Member acknowledges and agrees that (i) a default by any Member in
making a required Capital Contribution will result in the Company and the
non-defaulting Members incurring certain costs and other damages in an amount
that would be extremely difficult or impractical to ascertain and (ii) the
remedy described in this Section 3.6 bears a reasonable relationship to the
damages which the Members estimate may be suffered by the Company and the
non-defaulting Members by reason of the failure of a defaulting Member to make
any required Capital Contribution and the election of the above described remedy
is not unreasonable under the circumstances existing as of the date hereof.
ARTICLE IV
MEMBERS
4.1 LIMITATIONS ON LIABILITY OF MEMBERS. The debts, obligations
and liabilities of the Company, whether arising in contract, tort or otherwise,
shall be solely the debts, obligations and liabilities of the Company, and no
Member of the Company shall be obligated personally for any such debt,
obligation or liability of the Company solely by reason of being a Member or by
reason of such Member's acts or omissions in connection with the conduct of the
business of the Company.
4.2 LIABILITY OF MEMBERS TO THE COMPANY.
A. LIABILITY OF MEMBERS TO THE COMPANY. A Member is liable to
the Company: (i) for the difference between his or its contribution to capital
as actually made and that is stated in the Articles, this Agreement,
Subscription or other document executed by the Member as having been made by the
Member; and (ii) for any unpaid Capital Contribution which he, she or it agreed
in the Articles, this Agreement, or any Subscription or other document executed
by the Member to make in the future at the time and on the conditions stated in
the Articles, Agreement, Subscription or other document evidencing such
agreement. No Member shall be excused from an obligation to the Company to
perform any promise to contribute money, property or to perform services because
of death, disability, dissolution or any other reason.
B. MEMBER AS TRUSTEE FOR THE COMPANY. A Member holds as
trustee for the Company (i) specific property stated in the Articles, Agreement,
Subscription or other document executed by the Member as contributed by such
Member, but which was not contributed or which has been wrongfully or
erroneously returned; and (ii) money or other property wrongfully paid or
conveyed to such Member on account of his or its Capital Contribution.
C. WAIVER OF LIABILITY OF MEMBER. The liabilities of a Member
as set out in this Section 4.2 can be waived or compromised only by the consent
of all Members; but a waiver or compromise shall only affect the right of a
creditor of the Company to the extent permitted by applicable law.
4.3 ADMISSION OF ADDITIONAL MEMBERS. The Manager may admit to the
Company additional Members, from time to time, only as expressly provided in
this Agreement, including pursuant to Sections 3.1 and Article VII hereof, and
neither the Manager nor the
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Members shall be permitted to admit new Members, except as otherwise expressly
provided in this Agreement.
4.4 WITHDRAWALS OR RESIGNATIONS. Except as otherwise provided in
this Section 4.4 no Member may withdraw or resign from the Company or demand a
return or withdrawal of any part of its Capital Account or Capital Contribution.
A. WITHDRAWAL OF MEMBER. Except as otherwise provided in
this Section 4.4, no Member shall be permitted to withdraw from the Company
without the approval of the Manager, which approval may be withheld if the
Manager does not believe that such withdrawal is in the best interests of the
other Members, whether because of the cash position of the Company, the
undesirability of liquidating any of the investments of the Company, or
otherwise. The following provisions shall govern with respect to any withdrawals
approved by the Manager:
(i) No such withdrawal shall be made except as
of the last day of a Fiscal Year;
(ii) Partial withdrawals shall not be permitted
and a Member desiring to withdraw must withdraw his or her entire interest in
the Company;
(iii) The Member desiring to withdraw must notify
the Manager in writing at least sixty (60) days prior to the close of the Fiscal
Year in which such Member wishes to effect his or her withdrawal; and
(iv) The Manager may, if necessary to accommodate
a request for withdrawal by a Member, attempt to obtain a purchaser of the whole
or a part of such Member's Interest.
B. LIQUIDATING SHARE. In the event any Member shall
withdraw in accordance with the provisions of this Section 4.4, there shall be
paid to such Member or his or her legal representative within 180 days after the
last day of the Fiscal Year in which the effective date of withdrawal occurs, an
amount equal to such Member's positive Capital Account balance as to the
Interest or portion thereof involved, calculated as of the effective date of
withdrawal. No interest shall accrue on any Interest between the date of
withdrawal and the date of payment.
4.5 TRANSACTIONS WITH THE COMPANY. Subject to any limitations set
forth in this Agreement and with the prior approval of the Manager, a Member may
lend money to and transact other business with the Company. Subject to other
applicable law, such Member has the same rights and obligations with respect
thereto as a Person who is not a Member.
4.6 REMUNERATION TO MEMBERS. Except as otherwise specifically
provided in this Agreement, no Member is entitled to remuneration for acting in
the Company business.
4.7 MEMBERS ARE NOT AGENTS. Pursuant to Section 5.1, the
management of the Company is vested in the Manager. The Members shall have no
power to participate in the management of the Company except as expressly
authorized by this Agreement or the Articles and except as expressly required by
the Act. No Member, acting solely in the
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capacity of a Member, is an agent of the Company nor does any Member, unless
expressly and duly authorized in writing to do so by the Manager, have any power
or authority to bind or act on behalf of the Company in any way, to pledge its
credit, to execute any instrument on its behalf or to render it liable for any
purpose.
4.8 VOTING RIGHTS. Except as expressly provided in this Agreement
or the Articles, Members shall have no voting, approval or consent rights.
4.9 MEETINGS OF MEMBERS.
A. DATE, TIME AND PLACE OF MEETINGS OF MEMBERS;
SECRETARY. Meetings of Members may be held at such date, time and place within
or without the State of Delaware as the Manager may fix from time to time. No
regular meetings of Members are required. At any Members' meeting, the Manager
shall appoint a person to preside at the meeting and a person to act as
secretary of the meeting. The secretary of the meeting shall prepare minutes of
the meeting which shall be placed in the minute books of the Company.
B. POWER TO CALL MEETINGS. Meetings of the Members may
be called by the Manager, or upon written demand of Members holding more than
ten percent (10%) of the Percentage Interests, for the purpose of addressing any
matters on which the Members may vote.
C. NOTICE OF MEETING. Written notice of a meeting of
Members shall be sent or otherwise given to each Member not less than ten (10)
nor more than sixty (60) days before the date of the meeting. The notice shall
specify the place, date and hour of the meeting and the general nature of the
business to be transacted. No other business may be transacted at this meeting.
Upon written request to the Manager by any person entitled to call a meeting of
Members, the Manager shall immediately cause notice to be given to the Members
entitled to vote that a meeting will be held at a time requested by the person
calling the meeting, not less than ten (10) days nor more than sixty (60) days
after the receipt of the request. If the notice is not given within twenty (20)
days after the receipt of the request, the person entitled to call the meeting
may give the notice.
D. MANNER OF GIVING NOTICE; AFFIDAVIT OF NOTICE. Notice
of any meeting of Members shall be given either personally or by first-class
mail or telegraphic or other written communication, charges prepaid, addressed
to the Member at the address of that Member appearing on the books of the
Company or given by the Member to the Company for the purpose of notice. If no
such address appears on the Company's books or is given, notice shall be deemed
to have been given if sent to that Member by first-class mail or telegraphic or
other written communication to the Company's principal executive office, or if
published at least once in a newspaper of general circulation in the county
where that office is located. Notice shall be deemed to have been given at the
time when delivered personally or deposited in the mail or sent by telegram or
other means of written communication.
If any notice addressed to a Member at the address of
that Member appearing on the books of the Company is returned to the Company by
the United States Postal Service marked to indicate that the United States
Postal Service is unable to deliver
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the notice to the Member at that address, all future notices or reports shall be
deemed to have been duly given without further mailing if these shall be
available to the Member on written demand of the Member at the principal
executive office of the Company for a period of one year from the date of the
giving of the notice.
An affidavit of the mailing or other means of giving
any notice of any meeting shall be executed by the Manager and shall be filed
and maintained in the minute book of the Company.
E. VALIDITY OF ACTION. Any action approved at a meeting,
other than by unanimous approval of those entitled to vote, shall be valid only
if the general nature of the proposal so approved was stated in the notice of
meeting or in any written waiver of notice.
F. QUORUM. The presence in person or by proxy of a
Majority Interest shall constitute a quorum at a meeting of Members.
G. ADJOURNED MEETING; NOTICE. Any Members' meeting,
whether or not a quorum is present, may be adjourned from time to time by the
vote of the majority of the Membership Interests represented at that meeting,
either in person or by proxy, but in the absence of a quorum, no other business
may be transacted at that meeting. When any meeting of Members is adjourned to
another time or place, notice need not be given of the adjourned meeting if the
time and place are announced at a meeting at which the adjournment is taken,
unless a new record date for the adjourned meeting is subsequently fixed, or
unless the adjournment is for more than forty-five (45) days from the date set
for the original meeting, in which case the Manager shall set a new record date.
At any adjourned meeting the Company may transact any business which might have
been transacted at the original meeting.
H. WAIVER OF NOTICE OR CONSENT. The actions taken at any
meeting of Members however called and noticed, and wherever held, have the same
validity as if taken at a meeting duly held after regular call and notice, if a
quorum is present either in person or by proxy, and if, either before or after
the meeting, each of the Members entitled to vote, who was not present in person
or by proxy, signs a written waiver of notice or consents to the holding of the
meeting or approves the minutes of the meeting. All such waivers, consents or
approvals shall be filed with the Company records or made a part of the minutes
of the meeting.
Attendance of a person at a meeting shall constitute
a waiver of notice of that meeting, except when the person objects, at the
beginning of the meeting, to the transaction of any business because the meeting
is not lawfully called or convened, and except that attendance at a meeting is
not a waiver of any right to object to the consideration of matters not included
in the notice of the meeting if that objection is expressly made at the meeting.
Neither the business to be transacted nor the purpose of any meeting of Members
need be specified in any written waiver of notice except as provided in
Paragraph 4.10E.
I. ACTION BY WRITTEN CONSENT WITHOUT A MEETING. Any
action that may be taken at a meeting of Members may be taken without a meeting,
if a consent in writing
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setting forth the action so taken, is signed and delivered to the Company within
sixty (60) days of the record date for that action by Members having not less
than the minimum number of votes that would be necessary to authorize or take
that action at a meeting at which all Members entitled to vote on that action at
a meeting were present and voted. All such consents shall be filed with the
Manager or the secretary, if any, of the Company and shall be maintained in the
Company records. Any Member giving a written consent, or the Member's proxy
holders, may revoke the consent by a writing received by the Manager or
secretary, if any, of the Company before written consents of the number of votes
required to authorize the proposed action have been filed.
Unless the consents of all Members entitled to vote
have been solicited in writing, (i) notice of any Member approval of an
amendment to the Articles or this Agreement, a dissolution of the Company, or a
merger of the Company, without a meeting by less than unanimous written consent,
shall be given at least ten (10) days before the consummation of the action
authorized by such approval, and (ii) prompt notice shall be given of the taking
of any other action approved by Members without a meeting by less than unanimous
written consent, to those Members entitled to vote who have not consented in
writing.
J. TELEPHONIC PARTICIPATION BY MEMBER AT MEETINGS.
Members may participate in any Members' meeting through the use of any means of
conference telephones or similar communications equipment as long as all Members
participating can hear one another. A Member so participating is deemed to be
present in person at the meeting.
K. RECORD DATE. In order that the Company may determine
the Members of record entitled to notices of any meeting or to vote, or entitled
to receive any distribution or to exercise any rights in respect of any
distribution or to exercise any rights in respect of any other lawful action,
the Manager, or Members representing more than ten percent (10%) of the
Percentage Interests may fix, in advance, a record date, that is not more than
sixty (60) days nor less than ten (10) days prior to the date of the meeting and
not more than sixty (60) days prior to any other action. If no record date is
fixed:
(i) The record date for determining Members
entitled to notice of or to vote at a meeting of Members shall be at the close
of business on the business day next preceding the day on which notice is given
or, if notice is waived, at the close of business on the business day next
preceding the day on which the meeting is held.
(ii) The record date for determining Members
entitled to give consent to Company action in writing without a meeting shall be
the day on which the first written consent is given.
(iii) The record date for determining Members for
any other purpose shall be at the close of business on the day on which the
Manager adopts the resolution relating thereto, or the sixtieth (60th) day prior
to the date of the other action, whichever is later.
(iv) The determination of Members of record
entitled to notice of or to vote at a meeting of Members shall apply to any
adjournment of the meeting unless the
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Manager or the Members who called the meeting fix a new record date for the
adjourned meeting, but the Manager or the Members who called the meeting shall
fix a new record date if the meeting is adjourned for more than forty-five (45)
days from the date set for the original meeting.
L. PROXIES. Every Member entitled to vote on any matter
shall have the right to do so either in person or by one or more agents
authorized by a written proxy signed by the person and filed with the Manager or
secretary, if any, of the Company. A proxy shall be deemed signed if the
Member's name is placed on the proxy (whether by manual signature, typewriting,
telegraphic transmission, electronic transmission or otherwise) by the Member or
the Member's attorney in fact. A validly executed proxy which does not state
that it is irrevocable shall continue in full force and effect unless (i)
revoked by the person executing it, before the vote pursuant to that proxy, by a
writing delivered to the Company stating that the proxy is revoked, or by a
subsequent proxy executed by, or attendance at the meeting and voting in person
by, the person executing the proxy; or (ii) written notice of the death or
incapacity of the maker of that proxy is received by the Company before the vote
pursuant to that proxy is counted.
4.10 CERTIFICATE OF MEMBERSHIP INTEREST. Unless the Manager
otherwise elects, a Membership Interest shall not be represented by a
certificate of membership.
ARTICLE V
MANAGEMENT AND CONTROL OF THE COMPANY
5.1 MANAGEMENT OF THE COMPANY BY MANAGER. The business, property
and affairs of the Company shall be managed exclusively by the Manager. Except
for situations in which the approval of the Members is expressly required by the
Articles or this Agreement, the Manager shall have full, complete and exclusive
authority, power, and discretion to manage and control the business, property
and affairs of the Company, to make all decisions regarding those matters and to
perform any and all other acts or activities customary or incident to the
management of the Company's business, property and affairs. The number of
Managers shall be one (1).
5.2 RESIGNATION AND REMOVAL OF MANAGERS. No Manager may resign as
Manager at any time without the consent of a Majority Interest of the Members
other than the departing Manager. A Manager may be removed at any time, with
Cause (but may not be removed without Cause), by the unanimous vote of all of
the Members (other than the Member who is to be removed as Manager) at a meeting
called expressly for that purpose, or by the written consent of all of the
Members (other than the Member who is to be removed as Manager). Removal as
Manager shall not affect the Manager's rights as a Member or constitute a
withdrawal of a Manager as a Member. For purpose of this Section, "Cause" shall
mean fraud, willful misconduct or embezzlement.
5.3 POWERS OF MANAGER.
A. POWERS OF MANAGER. Without limiting the generality of
Section 5.1, but subject to Paragraph 5.3B and to the express limitations set
forth elsewhere in this Agreement, the Manager shall have all necessary powers
to manage and carry out the
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purposes, business, property, and affairs of the Company.
B. LIMITATIONS ON POWER OF MANAGER. Notwithstanding any
other provisions of this Agreement, the Manager shall not have authority
hereunder to cause the Company to engage in the following transactions without
first obtaining the affirmative vote or written consent of a Majority Interest
(or such larger percentage as is specified in this Agreement), the concurrence
of the Manager (except where expressly not required) and (except the case of
removal of the Manager) the concurrence of any Member materially and adversely
affected by the proposed amendment:
(i) The merger of the Company with another
limited liability company or limited partnership or corporation, general
partnership or other Person;
(ii) The establishment of different classes of
Members;
(iii) An alteration of the primary purpose or
business of the Company as set forth in Section 2.5;
(iv) Any act which would make it impossible to
carry on the ordinary business of the Company;
(v) To engage in any other transaction described
in this Agreement that requires the vote, consent, or approval of the Members;
5.4 PERFORMANCE OF DUTIES; LIABILITY OF MANAGER. The Manager shall
not be liable to the Company or to any Member for any loss or damage sustained
by the Company or any Member, unless the loss or damage shall have been the
result of fraud, deceit, gross negligence, reckless or intentional misconduct,
or a knowing violation of law by the Manager, and provided that the Manager
shall have acted in good faith and in a manner it reasonably believed to be in
the best interests of the Company and its Members. A Manager who so per forms
the duties of Manager shall not have any liability by reason of being or having
been a Manager of the Company. Notwithstanding the foregoing, it is understood
and agreed that the Federal securities laws impose liabilities under certain
circumstances on persons who act in good faith, and, therefore, nothing herein
shall in any way be deemed to constitute a waiver or limitation of any rights
which a Member may have under any Federal securities laws.
In performing its duties, the Manager shall be entitled to
rely on information, opinions, reports, or statements, including financial
statements and other financial data, of the following persons or groups unless
the Manager has knowledge concerning the matter in question that would cause
such reliance to be unwarranted and provided that the Manager acts in good faith
and after reasonable inquiry when the need therefor is indicated by the
circumstances:
(a) One or more employees or other agents of the Company
or of a portfolio company of the Company or Master Company whom the Manager
reasonably believes to be reliable and competent in the matters presented; or
(b) Any attorney, independent accountant, or other person
as to matters
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which the Manager reasonably believes to be within such person's professional or
expert competence.
5.5 PAYMENTS TO MANAGER. Except as specified in this Agreement or
referred to in the Memorandum, no Manager or Affiliate of a Manager is entitled
to remuneration for services rendered or goods provided to the Company. The
Company shall reimburse the Manager for all expenses incurred by the Manager in
conducting the Company's business, and all direct disbursements made and
obligations incurred on behalf of the Company, including the Company's due
diligence trading, custodial, borrowing, legal, accounting, documentation,
reporting, meeting and auditing expenses, and other items of a general overhead
and administrative nature which are customarily incurred by persons engaged in
the business of the Company; provided, however, that overhead items pertaining
to the operations of the Manager, including salaries to its employees, rent,
office expenses and similar costs and expenses, shall not be reimbursable by the
Company, and it is specifically understood and agreed that all expenses incurred
in connection with the organization of the Company or the preparation of the
Memorandum in excess of Twenty-Five Thousand Dollars ($25,000) shall not be
reimbursed and shall be the sole responsibility of the Manager. In addition, the
Manager shall be entitled to receive payment of an administrative fee in an
amount equal to one percent (1.00%) of the Capital Accounts of each Nonmanager
Member as at the end of each Company Fiscal Year, which amount shall be
calculated, debited to the Capital Accounts of the Nonmanaging Members and paid
in cash or by check to the Manager as soon as practicable following Fiscal Year
end. If any Company Fiscal Year is less than a complete year, then the Manager
will be entitled to payment of a proportionate share of such fee in respect of
the period in question; however, there shall be deducted from the fee otherwise
payable an aggregate amount equal to the amount by which the fair market value
of the Company's pro rata share (based on relative commitments to contribute
capital to the Master Company (as of the Company's admission to the Master
Company)) of the Interim Investments (as such term is defined in the Memorandum)
exceeds their original cost to Sutro (with fair market value calculated (as
provided in Paragraph 1.1(f) hereof) as of the Company's admission to the Master
Company).
5.6 LIMITED LIABILITY. No person who is a Manager of the Company
shall be personally liable under any judgement of a court, or in any other
manner, for any debt, obligation, or liability of the Company, whether that
liability or obligation arises in contract, tort, or otherwise, solely by reason
of being a Manager.
5.7 INTERESTS HELD BY MANAGER. Except as otherwise provided in
this Agreement, Interests held by the Manager, if any, shall entitle the Manager
to all the rights of any other holder of Interests, including without limitation
the economic, voting, information and inspection rights of a Member.
ARTICLE VI
ALLOCATIONS OF PROFITS AND LOSSES; DISTRIBUTIONS
6.1 CAPITAL ACCOUNTS. Individual Capital Accounts shall be
maintained in accordance with Section 1.8.
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6.2 ALLOCATIONS. Subject to the provisions below regarding special
allocations and subject to Section 5.5 with respect to the administrative fee
provided for therein, Profits and Losses shall be allocated to the Members for
each Fiscal Period as of the first day of such Fiscal Period as follows:
A. ALLOCATIONS. Profits and Losses shall be allocated to
the Members for each period described as follows:
1. PROFITS AND LOSSES. Profits and Losses for
each Fiscal Period shall be allocated to the Members in proportion to their
respective Percentage Interests as of the first day of such Fiscal Period.
2. RECAPTURE. Anything herein to the contrary
notwithstanding, any recapture under applicable tax laws shall be allocated to
the Members in the same proportions as the item generating the recapture shall
have been allocated.
B. SPECIAL CAPITAL ACCOUNT ALLOCATIONS. Notwithstanding
the allocation provisions of Section 6.2A, the following special allocations
shall be made in allocating Profits and Losses:
1. SECTION 704 ALLOCATIONS. Any special
allocations necessary to comply with the requirements set forth in Section 704
of the Code and the corresponding Regulations, including the qualified income
offset and minimum gain chargeback provisions contained therein, shall be made.
2. TAX ALLOCATIONS.
(a) Subject to clause 6.3B(2)(b) below,
in each Fiscal Year, items of income, deduction, gain, loss or credit that are
recognized for income tax purposes shall be allocated among the Members in such
manner as to reflect equitably amounts credited to or debited against the
Capital Account of each Member, whether in such Fiscal Year or in prior Fiscal
Years. To this end, the Company shall establish and maintain records that shall
show the extent to which the Capital Account of each Member shall, as of the
last day of each Fiscal Year, be comprised of amounts that have not been
reflected in the taxable income of such Member. To the extent deemed by the
Manager to be feasible and equitable, taxable income and gains in each Fiscal
Year shall be allocated among the Members who have enjoyed the related credits,
and items of deduction, loss and credit in each Fiscal Year shall be allocated
among the Members who have borne the burden of the related debits.
(b) Notwithstanding any of the foregoing
provisions to the contrary, if a Member withdraws capital during a Fiscal Year,
allocations of taxable income and loss may, in the exclusive discretion of the
Manager, be made as follows:
i. Taxable income may be
allocated first, to each Member who shall have withdrawn all or part of such
Member's Capital Account in that Fiscal Year, to the extent that such withdrawal
exceeds such member's adjusted tax basis in such Member's interest in the
Company immediately prior to such withdrawal. If more than one Capital Account
shall have been so withdrawn in full or in part, such allocations,
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if made, shall be made to the extent of and in proportion to such differences;
ii. Taxable loss may first be
allocated to each member who shall have withdrawn all of such Member's Capital
Account in that Fiscal Year, to the extent that such Member's adjusted tax basis
in such Member's interest in the Company exceeds that Capital Account
immediately prior to such withdrawal. If more than one Capital Account has been
so withdrawn, such allocations of taxable loss, if made, shall be made to the
extent of and in proportion to such differences; and
iii. Thereafter, taxable income
and loss shall be allocated as provided in clause 6.3B(2)(a) above.
(c) The Manager, in its exclusive discretion,
may cause the Company to make the election to adjust the basis of the Company
property under Code Section 754. In any year in which the Code Section 754
election is in effect, this clause 6.3B(2) shall be null and void. Any elections
or other decisions relating to such allocations shall be made by the Manager in
any manner that reasonably reflects the purpose and intention of this Agreement.
Allocations pursuant to this Paragraph 6.3B(2) are solely for purposes of
Federal, state and local taxes and shall not affect, or in any way be taken into
account in computing, any Capital Account or share of Profits, Losses or other
items of any Member, or distributions to any Member, pursuant to any provision
of this Agreement.
3. OTHER ALLOCATION RULES.
(1) Generally, all Profits and Losses
shall be allocated among the Members as provided in Section 6.2A and this
Section 6.3B. If Members are admitted to the Company on different dates during
any Fiscal Year, the Profits or Losses allocated among the Members for each such
Fiscal Year shall be allocated in proportion to their respective Capital
Accounts from time to time during such Fiscal Year in accordance with Code
Section 706, using any convention permitted by law and selected by the Manager.
(2) For purposes of determining the
Profits, Losses or any other items allocable to any period, Profits, Losses and
any such other items shall be determined on a daily, monthly or other basis, as
determined by the Manager using any permissible method under Code Section 706
and the Regulations thereunder.
(3) Notwithstanding any of the foregoing
provisions to the contrary, if taxable gain to be allocated includes income
resulting from the sale or disposition of Company property or property of a
limited partnership or joint venture in which the
Company owns an interest that is treated as ordinary income, such gain so
treated as ordinary income shall be allocated to and reported by each Member in
proportion to allocations to that Member of the items that gave rise to such
ordinary income, and the Company shall keep records of such allocations. In the
event of the subsequent admission of any new Member, any item that would
constitute "unrealized receivables" under Code Section 751 and the Regulations
thereunder shall not be shared by the newly admitted Members, but rather shall
remain allocated to existing Members.
4. PROVISIONAL ALLOCATION. If any amount
claimed by the Company
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to constitute a deductible expense in any Fiscal Year is treated by any Federal,
state or local taxing authority as a payment made to a Member in such Member's
capacity as a member of the Company for income tax purposes, with regard to such
authority, items of income and gain of the Company for such Fiscal Year shall
first be allocated to such member to the extent of such payment.
6.3 DISTRIBUTIONS IN GENERAL. All distributions will be made to
all Members in proportion to their Percentage Interests. The making of
distributions described in this Section 6.3 shall be within the sole and
absolute discretion of the Manager, except that net cash proceeds generated from
the sale or other disposition of investments in portfolio companies will not be
reinvested by the Company; instead, they will be distributed to Members, except
that the Manager may retain in the Company such amounts as it deems prudent as
reserves to meet current or future Company expenses or liabilities and to make
tax distributions as described below, and except that "restricted securities"
will generally not be distributed until they become publicly tradeable by reason
of registration or under Rule 144 of the Securities Act of 1933, as amended, or
until the Company is dissolved. To the extent that there is any amount due to
Sutro from a Member who is a Borrower under Section 3.5, each distribution to
such Borrower pursuant to this Section 6.3 shall be applied in payment of such
obligation of such Borrower. The Manager shall endeavor, but shall not be
required, to distribute cash to the Members in an amount estimated by the
Manager to be equal to their Federal and state income tax liabilities arising
from investment in the Company (assuming California taxpayers and applying the
maximum Federal and state then in effect).
6.4 RESTRICTION ON DISTRIBUTIONS.
A. LIMITATION. No distribution shall be made if, after
giving effect to the distribution, all liabilities of the Company, other than
liabilities to Members on account of their Membership Interests and liabilities
for which the recourse of creditors is limited to specified property of the
Company, exceed the fair value of the assets of the Company, except that the
fair value of property that is subject to a liability for which the recourse of
creditors is limited shall be included in the assets of the Company only to the
extent that the fair value of that property exceeds that liability.
B. LIABILITY FOR RETURN. A Member who receives a
distribution in violation of Paragraph 6.4A and who knew at the time of the
distribution that the distribution violated Paragraph 6.4A shall be liable to
the Company for the amount of the distribution. A Member who receives a
distribution in violation of Paragraph 6.4A and who did not know at the time of
the distribution that the distribution violated Paragraph 6.4A shall not be
liable for the amount of the distribution. Subject to Paragraph 6.4C, this
Paragraph 6.4B shall not affect any obligation or liability of a Member under
this Agreement or applicable law for the amount of a distribution.
C. LIMITATION ON LIABILITY. A Member who receives a
distribution from the Company shall have no liability for the amount of the
distribution after the expiration of three (3) years from the date of the
distribution unless an action to recover the distribution from such Member is
commenced prior to the expiration of the said 3-year period and an adjudication
of liability against such Member is made in the said action.
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6.5 RETURNED DISTRIBUTIONS. The amount of any distribution
returned to the Company by a Member or Economic Interest owner or paid by a
Member or Economic Interest owner for the account of the Company or to a
creditor of the Company shall be added to the account or accounts from which it
was subtracted when it was distributed to the Member or Economic Interest owner.
6.6 OBLIGATIONS OF MEMBERS TO REPORT ALLOCATIONS. The Members are
aware of the income tax consequences of the allocations made by this Article VI
and hereby agree to be bound by the provisions of this Article VI in reporting
their shares of Company income and loss for income tax purposes.
ARTICLE VII
TRANSFER AND ASSIGNMENT OF INTERESTS
7.1 TRANSFER AND ASSIGNMENT OF INTERESTS. No Member shall be
entitled to transfer, assign, convey, sell, encumber or in any way alienate all
or any part of his or her Membership Interest (collectively, "transfer") except
with the prior written consent of the Manager, which consent may be given or
withheld, conditioned or delayed (as allowed by this Agreement or the Act), as
the Manager may determine in its sole and absolute discretion. Transfers in
violation of this Article VII shall only be effective to the extent set forth in
Section 7.7. After the consummation of any transfer of any part of a Membership
Interest, the Membership Interest so transferred shall continue to be subject to
the terms and provisions of this Agreement and any further transfers shall be
required to comply with all the terms and provisions of this Agreement.
7.2 FURTHER RESTRICTIONS ON TRANSFER OF INTERESTS. In addition to
other restrictions found in this Agreement, no Member shall transfer, assign,
convey, sell, encumber or in any way alienate all or any part of his or her
Membership Interest: (i) without compliance with all Federal and state
securities law, (ii) if it would cause the Company or the Master Company to fail
to qualify for the exemption from the definition of "investment company"
provided by Section 3(c)(1) of the 1940 Act, (iii) if it would cause the Company
to be treated as a publicly traded partnership ("PTP") taxable as a corporation
under Code Section 7704, or (iv) if the Membership Interest to be transferred,
when added to the total of all other Membership Interests transferred in the
preceding twelve (12) consecutive months prior thereto, would cause the tax
termination of the Company under Code Section 708(b)(1)(B).
7.3 SUBSTITUTION OF MEMBERS. An Assignee of a Membership Interest
shall have the right to become a substitute Member only if (i) the requirements
of Sections 7.1 and 7.2 relating to consent of the Manager and securities and
tax requirements hereof are met, (ii) the Assignee executes an instrument
satisfactory to the Manager accepting and adopting the terms and provisions of
this Agreement, and (iii) the Assignee pays any reasonable expenses in
connection with his or her admission as a new Member. The admission of an
Assignee as a substitute Member shall not result in the release of the Member
who assigned the Membership Interest from any liability that such Member may
have to the Company.
7.4 PERMITTED TRANSFERS. The Economic Interest of any Member may
be
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transferred subject to compliance with Sections 7.2 and 7.3, but without the
prior written consent of the Manager as required by Section 7.1, by the Member
(i) by inter vivos gift to any spouse, parent, sibling, in-law, child or
grandchild of the Member, (ii) to a trust for the benefit of the Member or such
spouse, parent, sibling, in-law, child or grandchild of the Member or by inter
vivos gift to a trust revocable during the Member's lifetime but for the benefit
of any Person, or (iii) by testamentary transfer to any Person.
7.5 EFFECTIVE DATE OF PERMITTED TRANSFERS. Any permitted transfer
of all or any portion of a Membership Interest or an Economic Interest shall be
effective as of the last day of the calendar quarter following the date upon
which the requirements of Sections 7.1, 7.2 and 7.3 have been met. Any
transferee of a Membership Interest shall take such Interest subject to the
restrictions on transfer imposed by this Agreement.
7.6 RIGHTS OF LEGAL REPRESENTATIVES. If a Member who is an
individual dies or is adjudged by a court of competent jurisdiction to be
incompetent to manage the Member's person or property, the Member's executor,
administrator, guardian, conservator, or other legal representative may exercise
all of the Member's rights for the purpose of settling the Member's estate or
administering the Member's property, including any power the Member has under
the Articles or this Agreement to give an assignee the right to become a Member.
If a Member is a corporation, trust, or other entity and is dissolved or
terminated, the powers of that Member may be exercised by his or her legal
representative or successor.
7.7 NO EFFECT TO TRANSFERS IN VIOLATION OF AGREEMENT. Upon any
transfer of a Membership Interest in violation of this Article VII, the
transferee shall have no right to vote or participate in the management of the
business, property and affairs of the Company or to exercise any rights of a
Member. Such transferee shall only be entitled to become an Assignee and
thereafter shall only receive the share of one or more of the Company's Profits,
Losses and distributions of the Company's assets to which the transferor of such
Economic Interest would otherwise be entitled. Notwithstanding the immediately
preceding sentences, if, in the determination of the Manager, a transfer in
violation of this Article VII would cause the Company to be treated as a PTP
taxable as a corporation or cause the tax termination of the Company under Code
Section 708(b)(1)(B), the transfer shall be null and void and the purported
transferee shall not become either a Member or an Assignee.
ARTICLE VIII
CONSEQUENCES OF DISSOLUTION EVENTS
Upon the occurrence of a Dissolution Event as to the Manager, the
Company shall dissolve unless the remaining Members ("Remaining Members")
holding a majority of the Percentage Interests which all Remaining Members hold
consent within ninety (90) days of the Dissolution Event to the continuation of
the business of the Company and to the election of a new Manager.
ARTICLE IX
ACCOUNTING, RECORDS, REPORTING BY MEMBERS
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9.1 BOOKS AND RECORDS. The books and records of the Company shall
be kept, and the financial position and the results of its operations recorded,
in accordance with the accounting methods followed for Federal income tax
purposes. The books and records of the Company shall reflect all the Company
transactions and shall be appropriate and adequate for the Company's business.
The Company shall maintain at its principal office all of the following:
(a) A current list of the full name and last known
business or residence address of each Member and Assignee set forth in
alphabetical order, together with the Capital Contributions, Capital Account and
Percentage Interest of each Member and Assignee;
(b) A current list of the full name and business or
residence address of each Manager;
(c) A copy of the Articles and any and all amendments
thereto together with executed copies of any powers of attorney pursuant to
which the Articles or any amendments thereto have been executed;
(d) Copies of the Company's Federal, state, and local
income tax or information returns and reports, if any, for the six (6) most
recent taxable years;
(e) A copy of this Agreement and any and all amendments
thereto together with executed copies of any powers of attorney pursuant to
which this Agreement or any amendments thereto have been executed;
(f) Copies of the financial statements of the Company, if
any, for the six (6) most recent Fiscal Years; and
(g) The Company's books and records as they relate to the
internal affairs of the Company for at least the current and past four (4)
Fiscal Years.
9.2 DELIVERY TO MEMBERS AND INSPECTION.
A. DELIVERY OF INFORMATION. Upon the request of any
Member or Assignee for purposes reasonably related to the interest of that
Person as a Member or Assignee, the Manager shall promptly deliver to the
requesting Member or Assignee, at the expense of the Company, a copy of the
information required to be maintained under Paragraphs 9.1(a), (b) and (d), and
a copy of this Agreement.
B. INSPECTION AND COPYING. Each Member, Manager and
Assignee has the right, upon reasonable request for purposes reasonably related
to the interest of the Person as Member, Manager or Assignee, to:
(i) inspect and copy during normal business hours any of
the Company records described in Paragraphs 9.1(a) through 9.1(g); and
(ii) obtain from the Manager, promptly after their
becoming available, a copy of the Company's Federal, state, and local income tax
or information
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returns for each Fiscal Year.
C. RIGHT TO REQUEST. Any request, inspection or copying
by a Member or Assignee under this Section 9.2 may be made by that Person or
that Person's agent or attorney.
D. COPIES OF AMENDMENTS. The Manager shall promptly
furnish to a Member a copy of any amendment to the Articles or this Agreement
executed by the Manager pursuant to a power of attorney from the Member.
9.3 ANNUAL STATEMENTS.
A. DELIVERY OF STATEMENTS. Within 180 days after the
close of each Fiscal Year, the Manager will distribute financial statements of
the Company (including a balance sheet, statements of income and expense,
Members' equity and changes in financial position) as at the end of and for the
year then ended, accompanied by an audit report thereon prepared by certified
public accountants. Members will also receive an annual written review of the
performance of the Company's portfolio companies.
B. TAX INFORMATION. The Manager shall provide the
Members with all tax information necessary for the preparation of their Federal,
state and local income tax returns within 120 days after the close of each
Fiscal Year.
9.4 COMPANY ACCOUNTS. The Manager shall maintain the funds of the
Company in such accounts, if any, as it deems appropriate.
9.5 ACCOUNTING DECISIONS AND RELIANCE ON OTHERS. All decisions as
to accounting matters, except as otherwise specifically set forth herein, shall
be made by the Manager. The Manager may rely upon the advice of the Manager's
accountants as to whether such decisions are in accordance with accounting
methods followed for Federal income tax purposes.
9.6 TAX MATTERS FOR THE COMPANY HANDLED BY MANAGER AND TAX MATTERS
PARTNER. The Manager shall from time to time cause the Company to make such tax
elections as the Manager deems to be in the best interests of the Company and
the Members. The Tax Matters Partner shall represent the Company (at the
Company's expense) in connection with all examinations of the Company's affairs
by tax authorities, including resulting judicial and administrative proceedings,
and shall expend the Company funds for professional services and costs
associated therewith. The Tax Matters Partner shall oversee the Company tax
affairs in the overall best interests of the Company. If for any reason the Tax
Matters Partner can
no longer serve in that capacity or ceases to be a Member or Manager, as the
case may be, the Manager may designate another Member to be Tax Matters Partner.
ARTICLE X
DISSOLUTION AND WINDING UP
10.1 DISSOLUTION. The Company shall be dissolved, its assets shall
be disposed of,
24
<PAGE> 30
and its affairs wound up on the first to occur of the following:
(a) The entry of a decree of judicial dissolution;
(b) The vote of the Manager or the vote of a Majority
Interest and the concurrence of the Manager; or
(c) The occurrence of a Dissolution Event and the failure
of the Remaining Members to consent in accordance with Article VIII to continue
the business of the Company within ninety (90) days after the occurrence of such
event.
10.2 CERTIFICATE OF DISSOLUTION. As soon as possible following the
occurrence of any of the events specified in Section 10.1, the Manager who has
not wrongfully dissolved the Company or, if none, the Members, shall execute any
required Certificate of Dissolution in such form, if any, as shall be prescribed
by the Delaware Secretary of State and file the Certificate as required by the
Act.
10.3 WINDING UP. Upon the occurrence of any event specified in
Section 10.1, the Company shall continue solely for the purpose of winding up
its affairs in an orderly manner, liquidating its assets, and satisfying the
claims of its creditors. The Manager who has not wrongfully dissolved the
Company or, if none, the Members, shall be responsible for overseeing the
winding up and liquidation of Company, shall take full account of the
liabilities of Company and assets, shall either cause its assets to be sold or
distributed, and if sold shall cause the proceeds therefrom, to the extent
sufficient therefor, to be applied and distributed as provided in Section 10.5.
The Persons winding up the affairs of the Company shall give written notice of
the commencement of winding up by mail to all known creditors and claimants
whose addresses appear on the records of the Company. The Manager or Members
winding up the affairs of the Company shall not be entitled to any compensation
for such services.
10.4 DISTRIBUTIONS IN KIND. Any non-cash asset distributed to one
or more Members shall first be valued to determine the Profit or Loss that would
have resulted if such asset were sold for such value, such Profit or Loss shall
then be allocated pursuant to Article VI, and the Members' Capital Accounts
shall be adjusted to reflect such allocations. The amount distributed and
charged to the Capital Account of each Member receiving an interest in such
distributed asset shall be the value of such interest (net of any liability
secured by such asset that such Member assumes or takes subject to).
10.5 ORDER OF PAYMENT UPON DISSOLUTION. After determining that all
known debts and liabilities of the Company, including, without limitation, debts
and liabilities to Members who are creditors of the Company, have been paid or
adequately provided for, the remaining assets shall be distributed to the
Members in accordance with their positive Capital Account balances, after taking
into account allocations for the Company's taxable year during which liquidation
occurs. Such liquidating distributions shall be made by the end of the Company's
taxable year in which the Company is liquidated, or, if later, within ninety
(90) days after the date of such liquidation.
10.6 LIMITATIONS ON PAYMENTS MADE IN DISSOLUTION. Except as
otherwise specifically provided in this Agreement, each Member shall only be
entitled to look solely at
25
<PAGE> 31
the assets of the Company for the return of his or her positive Capital Account
balance and shall have no recourse for his or her Capital Contribution and/or
share of Profits (upon dissolution or otherwise) against the Manager or any
other Member.
10.7 CERTIFICATE OF CANCELLATION. The Manager or Members who filed
the Certificate of Dissolution shall cause to be filed in the office of, and on
a form prescribed by, the Delaware Secretary of State, a Certificate of
Cancellation of the Articles upon the completion of the winding up of the
affairs of the Company.
ARTICLE XI
INDEMNIFICATION
11.1 INDEMNIFICATION. The Manager may authorize the Company to pay
expenses incurred by, or to satisfy a judgement or fine rendered or levied
against, a present or former Manager, an employee of a Manager or a former or
present employee of the Company in an action brought by a third party against
such person (whether or not this Company is joined as a party defendant) to
impose a liability or penalty on such person for an act alleged to have been
committed by such person while a Manager, employee of such Manager or former or
present employee of the Company, provided that (i) the person to be indemnified
was acting in good faith within what he reasonably believed to be the scope of
his employment or authority and for a purpose which he reasonably believed to be
in the furtherance of the purpose and best interests of the Company or the
Members, and (ii) the action or failure to act in which respect of which
indemnification is sought does not constitute gross negligence, willful
misconduct or violation of applicable law. Payments authorized hereunder include
amounts paid and expenses incurred in settling any such action or threatened
action. This provision does not apply to any action instituted or maintained in
the right of this Company or by a Member. The indemnification authorized by this
Article XI shall be made from assets of the Company and no Member shall be
personally liable to an indemnitee.
11.2 SUCCESSORS AND ASSIGNS; LIMITATIONS. This Article XI shall
inure to the benefit of the Manager, its shareholders, partners, employees and
agents, the employees and agents of the Company, and their respective heirs,
executors, administrators, successors and assigns. The Federal securities laws
impose liabilities under certain circumstances on persons who act in good faith,
and, therefore, nothing herein shall in any way constitute a waiver or
limitation of any rights which a Member may have under any Federal securities
laws.
ARTICLE XII
COMPETING ACTIVITIES
The Manager need not devote all of its business time to the affairs of
the Company, but shall devote only so much of its time and attention as it shall
deem necessary and advisable. Each of the parties hereto acknowledges and agrees
that any of the Members may engage in or possess an interest in other business
ventures of any nature and description independently or with others, and neither
the Company nor the Members shall have any right by virtue of this Agreement in
or to such independent ventures or to the
26
<PAGE> 32
income or profits derived therefrom. No Member shall be accountable to the
Company for any investment or business opportunity which a Member hereafter
becomes aware of by reason of the affairs of the Company. The Members and each
of them hereby waive any and all rights which they or any of them have now or
may have in the future by reason of the doctrine of partnership or corporate
opportunity in connection with the affairs of the Company. The fact that any
Member, or any Affiliate of any Member, or a member of his or her family, is
employed by, or is directly or indirectly interested in or connected with, any
person, firm or corporation employed or engaged by the Company to render or
perform a service, or from whom the Company may make any purchase, or to whom
the Company may make any sale, or from or to whom the Company may obtain or make
any loan or enter into any lease or other arrangement, shall not prohibit the
Company from engaging in any transaction with such person, firm or corporation,
or create any additional duty of legal justification by such Member or such
person, firm or corporation beyond that of an unrelated party, and neither the
Company nor any other Member shall have any right in or to any revenues or
profits derived from such transaction by such Partner, Affiliate, person, firm
or corporation. Neither the Company nor any Member shall have any right in or to
any such independent venture or investment or the revenues or profits derived
therefrom. The above references to Members include Members who are Managers.
ARTICLE XIII
MISCELLANEOUS
13.1 COUNSEL TO THE COMPANY. Counsel to the Company may also be
counsel to any Manager or any Affiliate of a Manager. The Manager may execute on
behalf of the Company and the Members any consent to the representation of the
Company that counsel may request pursuant to the California Rules of
Professional Conduct or similar rules in any other jurisdiction ("Rules"). The
Company has initially selected Buchalter, Nemer, Fields & Younger ("Company
Counsel") as legal counsel to the Company. Each Member acknowledges that Company
Counsel does not represent any Nonmanager Member in the absence of a clear and
explicit written agreement to such effect between the Nonmanager Member and
Company Counsel, and that in the absence of any such agreement Company Counsel
shall owe no duties directly to a Nonmanager Member. Notwithstanding any
adversity that may develop, in the event any dispute or controversy arises
between any Members and the Company, or between any Members or the Company, on
the one hand, and a Manager (or Affiliate of a Manager) that Company Counsel
represents, on the other hand, then each Member agrees that Company Counsel may
represent either the Company or such Manager (or his or her Affiliate), or both,
in any such dispute or controversy to the extent permitted by the Rules, and
each Member hereby consents to such representation. Each Member further
acknowledges that: (a) Company Counsel has represented the interests of Sutro
and its Affiliates in connection with the formation of the Company and the
preparation and negotiation of this Agreement, (b) while communications with
Company Counsel concerning the formation of the Company, its Members and
Managers may be confidential with respect to third parties, no Member has any
expectation that such communications are confidential with respect to Sutro, and
(c) Company Counsel has heretofore represented and will continue to represent
Affiliates of Sutro in connection with other matters, including their investment
activities, which may be competitive with those of the Company.
27
<PAGE> 33
13.2 COMPLETE AGREEMENT. This Agreement and the Subscription
Agreement and the Articles constitute the complete and exclusive statement of
agreement among the Members and Manager with respect to the subject matter
herein and therein and replace and supersede all prior written and oral
agreements or statements by and among the Members and Manager or any of them. No
representation, statement, condition or warranty not contained in this Agreement
or the Articles will be binding on the Members or Manager or have any force or
effect whatsoever. To the extent that any provision of the Articles conflicts
with any provision of this Agreement, the Articles shall control.
13.3 BINDING EFFECT. Subject to the provisions of this Agreement
relating to transferability, this Agreement will be binding upon and inure to
the benefit of the Members, and their respective successors and assigns.
13.4 PARTIES IN INTEREST. Except as expressly provided in the Act,
nothing in this Agreement shall confer any rights or remedies under or by reason
of this Agreement on any Persons other than the Members and Managers and their
respective successors and assigns nor shall anything in this Agreement relieve
or discharge the obligation or liability of any third person to any party to
this Agreement, nor shall any provision give any third person any right of
subrogation or action over or against any party to this Agreement.
13.5 PRONOUNS; STATUTORY REFERENCES. All pronouns and all
variations thereof shall be deemed to refer to the masculine, feminine, or
neuter, singular or plural, as the context in which they are used may require.
Any reference to the Code, the Regulations, the Act or other statutes or laws
will include all amendments, modifications, or replacements of the specific
sections and provisions concerned.
13.6 HEADINGS. All headings herein are inserted only for
convenience and ease of reference and are not to be considered in the
construction or interpretation of any provision of this Agreement.
13.7 INTERPRETATION. In the event any claim is made by any Member
relating to any conflict, omission or ambiguity in this Agreement, no
presumption or burden of proof or persuasion shall be implied by virtue of the
fact that this Agreement was prepared by or at the request of a particular
Member or his or her counsel.
13.8 REFERENCES TO THIS AGREEMENT. Numbered or lettered articles,
sections and subsections herein contained refer to articles, sections and
subsections of this Agreement unless otherwise expressly stated.
13.9 JURISDICTION. Each Member hereby consents to the exclusive
jurisdiction of the state and Federal courts sitting in the State of California
in any action on a claim arising out of, under or in connection with this
Agreement or the transactions contemplated by this Agreement. Each Member
further agrees that personal jurisdiction over him or her may be effected by
service of process by registered or certified mail addressed as provided in
Section 13.13 of this Agreement, and that when so made shall be as if served
upon him or her personally within the State of California.
13.10 EXHIBITS. All Exhibits attached to this Agreement are
incorporated and shall be treated as if set forth herein.
28
<PAGE> 34
13.11 SEVERABILITY. If any provision of this Agreement or the
application of such provision to any person or circumstance shall be held
invalid, the remainder of this Agreement or the application of such provision to
persons or circumstances other than those to which it is held invalid shall not
be affected thereby.
13.12 ADDITIONAL DOCUMENTS AND ACTS. Each Member agrees to execute
and deliver such additional documents and instruments and to perform such
additional acts as may be necessary or appropriate to effectuate, carry out and
perform all of the terms, provisions, and conditions of this Agreement and the
transactions contemplated hereby.
13.13 NOTICES. Any notice to be given or to be served upon the
Company or any party hereto in connection with this Agreement must be in writing
(which may include facsimile) and will be deemed to have been given and received
when delivered to the address specified by the party to receive the notice. Such
notices will be given to a Member or Manager at the address specified in Exhibit
A hereto. Any party may, at any time by giving five (5) days' prior written
notice to the other parties, designate any other address in substitution of the
foregoing address to which such notice will be given.
13.14 AMENDMENTS. This Agreement may be amended only upon the
written consent thereto of the Manager and a Majority Interest of the Nonmanager
Members, except that the Manager may amend this Agreement without the consent of
or notice to any of the Members to (a) cure any ambiguity, correct or supplement
any provision in the Agreement which may be inconsistent with any other
provision in this Agreement, or make any other provisions with respect to
matters or questions arising under the Agreement which will not be inconsistent
with the intent of the Agreement; (b) delete or add any provision of the
Agreement required to be so deleted or added by the Securities and Exchange
Commission or by a state securities law administrator or similar such official,
which addition or deletion is deemed by such agency or official to be for the
benefit or protection of the Members; (c) reflect the withdrawal, expulsion,
addition or substitution of Members; (d) reflect the proposal, promulgation or
amendment of Regulations under Code Section 704, if, in the opinion of the
Manager, the amendment does not have a material adverse effect on the Members;
(e) elect for the Company to be bound by any successor statute to the Act if, in
the opinion of the Manager, the amendment does not have a material adverse
effect on the Members; (f) conform the Agreement to changes in the Act or
interpretations thereof which, in the discretion of the Manager, it believes
appropriate, necessary or desirable, if, in its reasonable opinion, such
amendment does not have a materially adverse effect on the Members or the
Company; (g) change the name of the Company; and (h) make any change which, in
the discretion of the Manager, is advisable to qualify or to continue the
qualification of the Company as a limited liability company or that is necessary
or advisable, in the discretion of the Manager, so that the Company will not be
treated as an association taxable as a corporation for Federal income tax
purposes. Any amendments made pursuant to this Section 13.14 may by its terms be
made effective as of the date of this Agreement.
13.15 RELIANCE ON AUTHORITY OF PERSON SIGNING AGREEMENT. If a Member
is not a natural person, neither the Company nor any Member will (a) be required
to determine the authority of the individual signing this Agreement to make any
commitment or undertaking on behalf of such entity or to determine any fact or
circumstance bearing upon the
29
<PAGE> 35
existence of the authority of such individual or (b) be responsible for the
application or distribution of proceeds paid or credited to individuals signing
this Agreement on behalf of such entity.
13.16 NO INTEREST IN COMPANY PROPERTY; WAIVER OF ACTION FOR
PARTITION. No Member or Assignee has any interest in specific property of the
Company. Without limiting the foregoing, each Member and Assignee irrevocably
waives during the term of the Company any right that he or she may have to
maintain any action for partition with respect to the property of the Company.
13.17 MULTIPLE COUNTERPARTS. This Agreement may be executed in two
or more coun terparts, each of which shall be deemed an original, but all of
which shall constitute one and the same instrument.
13.18 ATTORNEY FEES; ARBITRATION. In the event that any dispute
between the Company and the Members or among the Members should result in
litigation, including arbitration, the prevailing party in such dispute shall be
entitled to recover from the other party all reasonable fees, costs and expenses
of enforcing any right of the prevailing party, including without limitation,
reasonable attorneys' fees and expenses, all of which shall be deemed to have
accrued upon the commencement of such action and shall be paid whether or not
such action is prosecuted to judgement. Any judgement or order entered in such
action shall contain a specific provision providing for the recovery of attorney
fees and costs incurred in enforcing such judgement and an award of
pre-judgement interest from the date of the breach at the maximum rate of
interest allowed by law. For the purposes of this Section: (a) attorney fees
shall include, without limitation, fees incurred in the following: (1)
post-judgement motions; (2) contempt proceedings; (3) garnishment, levy, and
debtor and third party examinations; (4) discovery; and (5) bankruptcy
litigation and (b) prevailing party shall mean the party who is determined in
the proceeding to have prevailed or who prevails by dismissal, default or
otherwise. Any controversy or dispute arising out of this Agreement,
interpretation of any of the provisions hereof, or the actions of the Manager or
Members hereunder shall be submitted to arbitration before the National
Association of Securities Dealers, Inc. ("NASD") under the rules then obtaining
of the NASD. If the NASD refused to accept jurisdiction of the matter, then the
dispute shall be submitted to arbitration before the New York Stock Exchange
under the rules then obtaining of said Exchange. Any such arbitration shall be
held in San Francisco, California, and judgment upon any award thus obtained may
be entered in any court having jurisdiction thereof. In any such arbitration
each party to the arbitration shall bear its own expenses, including expenses of
attorneys, financial experts and other witnesses; and any arbitration fees and
expenses of the arbitrators shall be divided equally between the disputing
parties.
13.19 REMEDIES CUMULATIVE. The remedies under this Agreement are
cumulative and shall not exclude any other remedies to which any person may be
lawfully entitled.
IN WITNESS WHEREOF, this Operating Agreement has been executed on the
date first above written.
MANAGER
SUTRO VENTURE MANAGEMENT, INC.,
30
<PAGE> 36
a Delaware corporation
By: _______________________________
OTHER MEMBERS
By: Sutro Venture Management, Inc.,
a Delaware corporation
Attorney-in-Fact
By: _______________________________
31
<PAGE> 37
[THIS PAGE IS INTENTIONALLY LEFT BLANK]
32
<PAGE> 1
Exhibit 10.35
AMENDMENT TO CLEARING AGREEMENT
DATED SEPTEMBER 8TH, 1995
WHEREAS, Prudential Securities Incorporated ("PSI"), John Hancock Clearing
Corporation ("JHCC"), Tucker Anthony Incorporated ("TA"), and Sutro & Co.
Incorporated ("Sutro") have entered into an agreement dated September 8, 1995,
as amended, pursuant to which PSI agreed to, among other things, clear
transactions and carry accounts on a fully disclosed basis for the customers of
JHCC and its affiliated companies. TA and Sutro (collectively, the
"Correspondents" and each an indirect wholly-owned subsidiary of Freedom
Securities Corporation ["Freedom"]), as well as the Correspondents' proprietary
accounts (the "Agreement"); and
WHEREAS, pursuant to an Agreement and Plan of Merger dated March 9, 1998
(the "Merger"), Freedom has agreed to acquire Cleary Gull Reiland & McDevitt,
Incorporated ("Cleary"), a registered broker-dealer and investment adviser; and
WHEREAS, upon consummation of the Merger, Cleary will become a subsidiary
of Freedom and affiliate of the Correspondents; and
WHEREAS, Cleary desires PSI to provide it with the same clearing and
carrying services that PSI now provides to the Correspondents on the same terms
as those set forth in the Agreement;
NOW, THEREFORE, in consideration of the promises and mutual covenants
contained herein, each of the parties agree as follows:
1. The Agreement shall be amended effective upon the consummation of the
Merger so that Cleary shall be defined as a Correspondent under the Agreement
and PSI shall be obligated to render the same services to Cleary under the
terms of the Agreement that PSI now renders to the existing Correspondents as
defined under the Agreement.
2. Effective with the consummation of the Merger, Cleary shall have the
same duties and obligations to PSI under the terms of the Agreement that the
existing Correspondents now have to PSI.
3. In the event the Merger shall not be consummated, Cleary shall not
become a party to the Agreement, the terms of the Agreement shall not be
amended and the duties and obligations of the existing parties to the Agreement
shall not change.
4. The terms and conditions herein constitute the entire agreement among
the parties relating to the subject-matter hereof but in no other respect does
this amendment operate to change or affect the rights and obligations of the
parties to the Agreement.
Dated as of the 23rd day of April, 1998.
PRUDENTIAL SECURITIES CLEARY GULL REILAND &
INCORPORATED McDEVITT, INC.
/s/ Daniel Cavanaugh /s/ Martin G. Pembroke
- ---------------------------- ----------------------------
By: Daniel Cavanaugh By: Martin G. Pembroke
Its: Its: Chief Financial Officer
<PAGE> 1
Exhibit 21
Subsidiaries of the Registrant
Freedom Securities Holding Corporation - Massachusetts
Freedom Capital Management Corporation - Massachusetts
Freedom Distributors Corporation - Massachusetts
Freedom Trust Company - New Hampshire
The Sutro Group - Nevada
Sutro and Co. Incorporated - Nevada
Sutro Real Estate Corporation - California
Sutro Leasing Corporation - California
Sutro Equipment Leasing Corporation - California
Sutro Investment Partners, Inc. - California
Sutro Specialists, Inc. - California
Sutro Agency Corporation - California
Computer Systems Design, Inc. - California
Tucker Anthony Holding Corporation - Massachusetts
TADCO Alpha, Inc. - New York
TADCO Bravo, Inc. - New York
T.A. of Delaware, Inc. - Delaware
Tucker Anthony Leasing Corporation - Massachusetts
Tucker Anthony Realty Corporation - Massachusetts
Tucker Anthony Incorporated - Massachusetts
Gabriele, Hueglin & Cashman, Inc. - New York
GH&C Advertising Agency, Inc. - New York
Tucker Anthony Insurance, Inc. - Massachusetts
Tucker Anthony Insurance Agency of Maine, Inc. - Maine
Tucker Anthony Agency of N.Y., Inc. - New York
Tucker Anthony Insurance Agency of N.H., Inc. - New Hampshire
Freedom Clearing Corporation - Massachusetts
Freedom Services Corporation - Delaware
Freedom Specialist, Inc. - Delaware
Tocqueville Asset Management L.P. - New York
Cleary Gull & Reiland Inc.
<PAGE> 1
Exhibit 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statements
on Form S-8 (File Nos. 333-49205, 333-64779 and 333-69273) of our report dated
January 25, 1999, with respect to the consolidated financial statements of
Freedom Securities Corporation for the years ended December 31, 1998 and 1997,
one month ended December 31, 1996 and for Freedom Securities Holding Corporation
("Predecessor Company") for the eleven months ended November 29, 1996 included
in the Freedom Securities Corporation Report on Form 10-K for the year ended
December 31, 1998.
/s/ ERNST & YOUNG, LLP
New York, New York
March 30, 1999
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<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 11,292
<RECEIVABLES> 120,030
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0
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