<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 21, 1997
REGISTRATION NO. 333-32375
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- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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AMENDMENT NO. 3
FORM S-1/A
REGISTRATION STATEMENT UNDER
THE SECURITIES ACT OF 1933
------------------------
FAROUDJA, INC.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C> <C>
DELAWARE 3651 77-0444978
(State or other jurisdiction (Primary Standard Industrial (I.R.S. Employer
of Classification Code Number) Identification
incorporation or organization) Number)
</TABLE>
750 PALOMAR AVENUE, SUNNYVALE, CALIFORNIA 94086
(408) 735-1492
(Address, including zip code, and telephone number, including
area code, of registrant's principal executive offices)
MICHAEL J. MOONE
PRESIDENT AND CHIEF EXECUTIVE OFFICER
FAROUDJA, INC.
750 PALOMAR AVENUE
SUNNYVALE, CALIFORNIA 94086
(408) 735-1492
(Name, address, including zip code, and telephone number, including area code of
agent for service)
------------------------
COPIES TO:
MARK A. BONENFANT PATRICK J. SCHULTHEIS
Buchalter, Nemer, Fields & Younger Wilson Sonsini Goodrich & Rosati
a Professional Corporation Professional Corporation
601 South Figueroa Street, Suite 2400 650 Page Mill Road
Los Angeles, California 90017 Palo Alto, California 94304
(213) 891-0700 (415) 493-9300
------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
AS SOON AS PRACTICABLE AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE.
------------------------
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. / /
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / / ______________
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / / ______________
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION,
ACTING PURSUANT TO SAID SECTION 8(a), MAY DETERMINE.
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<PAGE>
INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A
REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY
OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES
EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE
SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES
IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR
TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE.
<PAGE>
SUBJECT TO COMPLETION, DATED OCTOBER 21, 1997
[LOGO]
3,000,000 SHARES
COMMON STOCK
All of the 3,000,000 shares of Common Stock offered hereby are being offered
by Faroudja, Inc. ("Faroudja" or the "Company"). Prior to this Offering, there
has been no public market for the Common Stock of the Company. It is currently
estimated that the initial public offering price will be between $8.00 and
$10.00 per share. See "Underwriting" for information relating to the method of
determining the initial public offering price. The Common Stock has been
approved for quotation on the Nasdaq National Market under the symbol "FDJA."
-------------------
THE COMMON STOCK OFFERED HEREBY INVOLVES A HIGH DEGREE OF RISK.
SEE "RISK FACTORS" BEGINNING AT PAGE 6.
-----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
UNDERWRITING
PRICE TO DISCOUNTS AND PROCEEDS TO
PUBLIC COMMISSIONS (1) COMPANY (2)
<S> <C> <C> <C>
Per Share............................. $ $ $
Total (3)............................. $ $ $
</TABLE>
(1) The Company and the Selling Stockholder have agreed to indemnify the
Underwriters against certain liabilities, including liabilities under the
Securities Act of 1933, as amended. See "Underwriting."
(2) Before deducting expenses payable by the Company, estimated at $750,000.
(3) One of the Company's stockholders has granted the Underwriters a 30-day
option to purchase up to an additional 450,000 shares of Common Stock solely
to cover over-allotments, if any. See "Principal and Selling Stockholders"
and "Underwriting." If such option is exercised in full, the total Price to
Public, Underwriting Discounts and Commissions and Proceeds to Selling
Stockholder will be $ , $ and $ , respectively.
-------------------
The Common Stock is offered by the Underwriters as stated herein, subject to
receipt and acceptance by them and subject to their right to reject any order in
whole or in part. It is expected that delivery of such shares will be made
through the offices of BancAmerica Robertson Stephens, San Francisco,
California, on or about , 1997.
BANCAMERICA ROBERTSON STEPHENS VOLPE BROWN WHELAN & COMPANY
The date of this Prospectus is , 1997
<PAGE>
Description of Front Cover Spread
1. Heading that states "Faroudja. The quality standard for digital video
solutions."
2. Graphic presentation indicating how Faroudja current products and Faroudja
future products are utilized from the origination and production of video
signals to the reception and presentation of the video signal to a viewer
3. Picture of a Faroudja "system"
4. Picture of Faroudja board level product.
5. Picture of a Faroudja integrated circuit.
6. Picture of S3 trademark to represent Faroudja licensing.
7. Text:
"Faroudja designs, develops and markets video image enhancement products
that significantly improve images to achieve cinema-like quality.
Faroudja's technology, experience and reputation for providing sophisticated
video processing products will enable it to address opportunities in the
emerging Digital Television (DTV)/High Definition Television (HDTV)
broadcast environment and in the converging Personal Computer (PC) and TV
markets.
Description of Inside Front Cover
1. Actual photograph of a standard television image.
2. Actual photograph of same television image with Faroudja line processing,
color decoding and detail enhancement technology.
3. TEXT:
Through more than 25 years of product development and technological
advances, Faroudja and its predecessors have established a reputation
for excellence in video signal processing and video image enhancement in
the high end home theater, industrial and broadcast markets.
4. Faroudja Picture Plus trademark.
5. 25 year logo.
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS THAT
STABILIZE, MAINTAIN, OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK,
INCLUDING BY ENTERING STABILIZING BIDS, EFFECTING SYNDICATE COVERING
TRANSACTIONS OR IMPOSING PENALTY BIDS. FOR A DESCRIPTION OF THESE ACTIVITIES,
SEE "UNDERWRITING."
IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS MAY ENGAGE IN PASSIVE
MARKET MAKING TRANSACTIONS IN THE COMMON STOCK ON THE NASDAQ NATIONAL MARKET IN
ACCORDANCE WITH RULE 103 OF REGULATION M. SEE "UNDERWRITING."
<PAGE>
NO DEALER, SALES REPRESENTATIVE, OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THIS
OFFERING OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY OR ANY UNDERWRITER. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, ANY
SECURITIES OTHER THAN THE REGISTERED SECURITIES TO WHICH IT RELATES OR AN OFFER
TO, OR SOLICITATION OF, ANY PERSON IN ANY JURISDICTION WHERE SUCH OFFER OR
SOLICITATION WOULD BE UNLAWFUL. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY
SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT
THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR
THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY TIME SUBSEQUENT TO
THE DATE HEREOF.
UNTIL , 1997 (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL
DEALERS EFFECTING TRANSACTIONS IN THE REGISTERED SECURITIES, WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS DELIVERY REQUIREMENT IS IN ADDITION TO THE OBLIGATION OF DEALERS TO DELIVER
A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD
ALLOTMENTS OR SUBSCRIPTIONS.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
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<S> <C>
Summary........................................................................................ 4
Risk Factors................................................................................... 6
Use of Proceeds................................................................................ 17
Dividend Policy................................................................................ 17
Capitalization................................................................................. 18
Dilution....................................................................................... 19
Selected Consolidated Financial Data........................................................... 20
Management's Discussion and Analysis of Financial Condition and Results of Operations.......... 22
Business....................................................................................... 31
Management..................................................................................... 44
Certain Transactions........................................................................... 55
Principal and Selling Stockholders............................................................. 58
Description of Capital Stock................................................................... 60
Shares Eligible for Future Sale................................................................ 64
Underwriting................................................................................... 66
Legal Matters.................................................................................. 68
Experts........................................................................................ 68
Available Information.......................................................................... 68
Index to Consolidated Financial Statements..................................................... F-1
</TABLE>
------------------------
The Company intends to furnish its stockholders with annual reports
containing audited consolidated financial statements examined by an independent
public accounting firm and quarterly reports for the first three quarters of
each year containing interim unaudited financial information. Upon completion of
the Offering contemplated hereby, the Company will be subject to the
informational requirements of the Securities and Exchange Act of 1934, and in
accordance therewith, will be filing reports and other information with the
Securities and Exchange Commission.
FAROUDJA, PICTURE PLUS and PRESENTATION PLUS are trademarks of the Company.
All other trademarks or tradenames referred to in the Prospectus are the
property of their respective owners. Digital Light Processing-TM- is a trademark
of Texas Instruments Incorporated.
The Company was incorporated in the State of Delaware on December 26, 1996.
The Company's principal executive offices are located at 750 Palomar Avenue,
Sunnyvale, California 94086 and its telephone number is (408) 735-1492. All
references to the "Company" shall mean Faroudja, Inc. and its predecessors and
subsidiaries, unless the context otherwise requires.
3
<PAGE>
SUMMARY
THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED
INFORMATION AND CONSOLIDATED FINANCIAL STATEMENTS AND NOTES THERETO APPEARING
ELSEWHERE IN THIS PROSPECTUS. PROSPECTIVE INVESTORS SHOULD CONSIDER CAREFULLY
THE INFORMATION DISCUSSED UNDER "RISK FACTORS." THIS PROSPECTUS CONTAINS
FORWARD-LOOKING STATEMENTS BASED UPON CURRENT EXPECTATIONS THAT INVOLVE RISKS
AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS AND THE TIMING OF CERTAIN EVENTS
COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING
STATEMENTS AS A RESULT OF CERTAIN FACTORS, INCLUDING THOSE SET FORTH UNDER "RISK
FACTORS" AND ELSEWHERE IN THIS PROSPECTUS.
THE COMPANY
Faroudja designs, develops and markets a range of video image enhancement
products that significantly improve displayed images to achieve cinema-like
quality. Through more than 25 years of product development and technological
advances, the Company and its predecessors have established a reputation for
excellence in video signal processing and video image enhancement in the
high-end home theater, industrial and broadcast markets. The Company believes
that its technology, experience and reputation in these markets will enable it
to address opportunities in the emerging digital television ("DTV") and digital
high definition television ("HDTV") broadcast environment and to facilitate the
convergence of the personal computer ("PC") and the television ("TV").
Video images can currently be displayed on a variety of media, including
color TVs, projection systems and PCs. Historically, there has been a
substantial difference in the quality of these various media. TV signals are
produced in accordance with the NTSC standard, which was originally developed in
the 1940s for black and white programs. This standard was last modified in the
1950s to make possible the compatible transmission of black and white and color
programs. The technical compromises required to achieve compatibility introduced
image degrading imperfections, which are increasingly visible as screen sizes
become larger. Over the last decade, consumer interest in home theaters and
large screen TVs has increased dramatically, fueled by decreasing equipment
prices and the advent of cable TV, direct broadcast satellite, laser discs, VCRs
and most recently digital video discs ("DVD").
The Company's products for the TV market substantially reduce the
imperfections inherent in analog NTSC signals and dramatically improve displayed
images, giving the observer a far richer viewing experience. The Company's
technology improves picture quality by removing artifacts and noise, detecting
and compensating for motion, enhancing resolution and multiplying the number of
lines displayed on the TV screen.
Faroudja intends to capitalize on its experience and core technologies to
address the problems of standards conversion and upscaling anticipated in the
emerging DTV/HDTV broadcast equipment market. The Federal Communications
Commission ("FCC") recently established standards for DTV broadcasting in the
U.S. and has targeted the eventual phase out of analog (NTSC) broadcasting by
the year 2006. Faroudja is developing products that it believes will assist
broadcasters in responding to evolving regulatory and market requirements by
allowing them to continue to use a significant portion of their current
infrastructure, thereby reducing capital costs associated with the transition
from analog to digital transmission.
The Company believes that the use of the PC as an entertainment device in
the future will depend in large part on the PC's ability to display TV images.
The two media use different display formats--TV signals use an interlaced format
while PCs use a progressive scanning format. The Company's technology
significantly reduces the image imperfections caused by the
interlace/progressive conversion, which will enable the display of high quality
TV pictures on PC screens. The Company and S3 Incorporated ("S3"), a leading
supplier of advanced graphics accelerators for multimedia computer systems, are
working jointly, pursuant to a recent license agreement, to develop integrated
circuits incorporating the Company's video processing technology for use in PCs.
The Company intends to establish additional relationships with companies
whose technology, products and product strategies complement those of the
Company. The Company markets its products for the TV market through a network of
home theater, industrial and commercial dealers as well as OEM customers. For
the broadcast market, the Company utilizes its direct sales force. The Company
intends to expand its international sales and marketing activities in order to
increase export sales.
The Company began operations in 1971 through two related companies, Faroudja
Laboratories, Inc. ("FLI") and later Faroudja Research Enterprises, Inc.
("FRE"). The Company was incorporated in December 1996 under the laws of the
state of Delaware to succeed to the business of FLI and FRE.
4
<PAGE>
THE OFFERING
<TABLE>
<CAPTION>
Common Stock offered by the Company.......... 3,000,000 shares
<S> <C>
Common Stock outstanding after the
Offering................................... 11,751,895 shares(1)
Use of Proceeds.............................. For general corporate purposes, including
working capital and research and development.
See "Use of Proceeds."
Proposed Nasdaq National Market symbol....... FDJA
</TABLE>
SUMMARY CONSOLIDATED FINANCIAL DATA
(in thousands, except per share data)
<TABLE>
<CAPTION>
NINE MONTHS
YEAR ENDED DECEMBER 31, ENDED SEPTEMBER 30,
----------------------------------------------------- --------------------
1992 1993 1994 1995 1996 1996 1997
--------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Total revenues.................... $ 3,437 $ 5,684 $ 8,065 $ 11,954 $ 13,126 $ 9,252 $ 12,876
Gross profit...................... 1,298 3,557 5,067 7,739 8,329 5,913 8,924
Operating income (loss)........... (448) 1,206 1,859 4,006 2,115 1,602 1,269
Net income (loss)................. $ (393) $ 1,251 $ 1,929 $ 4,009 $ 1,511 $ 1,193 $ 925
Net income per share.............. $ 0.10
Shares used in per share
calculation(2).................. 9,694
PRO FORMA DATA(3):
Pro forma adjustments............. $ (701) $ (939) $ (192) $ (192)
Pro forma net income.............. 1,228 3,070 1,319 1,001
Pro forma net income per share.... $ 0.15 $ 0.38 $ 0.15 $ 0.11
Shares used in per share
calculation(2).................. 7,979 7,998 9,012 8,942
</TABLE>
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
------------------------
AS
ACTUAL ADJUSTED(4)
--------- -------------
<S> <C> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and short-term investments..................................... $ 7,206 $ 31,566
Working capital....................................................................... 11,225 35,585
Total assets.......................................................................... 16,739 41,099
Total long-term debt.................................................................. -- --
Total stockholders' equity............................................................ 13,417 37,777
</TABLE>
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(1) Based on shares outstanding as of September 30, 1997. Excludes (i) 1,637,090
shares of Common Stock issuable upon exercise of stock options outstanding
as of September 30, 1997, (ii) an aggregate of 805,530 shares of Common
Stock reserved for future issuance pursuant to the Company's stock option
and stock purchase plans, (iii) 165,152 shares of Common Stock issuable upon
exercise of outstanding warrants and (iv) 29,240 shares of Common Stock
issuable to S3 pursuant to certain anti-dilution rights which the Company
granted to S3 under a Stock Purchase Agreement, assuming an Offering price
of $9.00 per share. See "Capitalization," "Management--Stock Plans,"
"Certain Transactions," "Description of Capital Stock" and Note 6 of Notes
to Consolidated Financial Statements.
(2) See Note 1 of Notes to Consolidated Financial Statements for an explanation
of the basis used to calculate net income per share.
(3) Reflects the pro forma effect of the Company being treated as a C
Corporation rather than an S Corporation for federal and state income tax
purposes, effective January 1, 1994. See "Certain Transactions--Subchapter S
Distributions."
(4) Adjusted to give effect to the sale and issuance of 3,000,000 shares of
Common Stock offered by the Company hereby at an assumed initial public
offering price of $9.00 per share and receipt of the estimated net proceeds
therefrom. See "Use of Proceeds" and "Capitalization."
5
<PAGE>
RISK FACTORS
AN INVESTMENT IN THE SHARES OF COMMON STOCK OFFERED BY THIS PROSPECTUS
INVOLVES A HIGH DEGREE OF RISK. PROSPECTIVE PURCHASERS OF THE COMMON STOCK
OFFERED HEREBY SHOULD CAREFULLY REVIEW THE FOLLOWING RISK FACTORS AS WELL AS THE
OTHER INFORMATION SET FORTH IN THIS PROSPECTUS. THIS PROSPECTUS CONTAINS
FORWARD-LOOKING STATEMENTS BASED UPON CURRENT EXPECTATIONS THAT INVOLVE RISKS
AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS AND THE TIMING OF CERTAIN EVENTS
COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING
STATEMENTS AS A RESULT OF CERTAIN FACTORS, INCLUDING THOSE SET FORTH IN THE
FOLLOWING RISK FACTORS AND ELSEWHERE IN THIS PROSPECTUS.
POTENTIAL FLUCTUATIONS IN FUTURE OPERATING RESULTS; SEASONALITY
The Company's operating results have varied in the past and are likely to
vary significantly in the future from period to period as a result of a number
of factors, including the volume and timing of orders received during the
period, fluctuations in the amount and timing of license and royalty revenues,
the timing of new product introductions by the Company and its competitors,
demand for and market acceptance of the Company's products, product line
maturation, the impact of price competition on the Company's average selling
prices, delays encountered by the Company's strategic partners, the availability
and pricing of components for the Company's products, changes in product or
distribution channel mix, product returns or price protection charges from
customers (price protection is currently afforded to one of the Company's
customers (see "Business--Sales and Marketing")) and the unexpected loss of key
customers. Many of these factors are beyond the Company's control. For example,
in 1996, the Company experienced an unexpected decline in sales of its broadcast
products resulting from a major customer which developed internally products
previously purchased from the Company. In addition, due to the short product
life cycles that characterize the markets for the Company's products, the
Company's failure to introduce new, competitive products consistently and in a
timely manner could materially adversely affect operating results for one or
more product cycles. The Company recently entered into a license agreement with
S3 pursuant to which the Company may receive royalties and may receive quarterly
prepaid license fees to maintain exclusivity. S3 is under no obligation to
market any products or to make the payments necessary to maintain its exclusive
license rights. There can be no assurance that the Company will receive any
further payments pursuant to this agreement, and the amount of any such payments
cannot be predicted. As a result, license and royalty revenues may be higher or
lower than expected in any given quarter. S3 is a key customer of the Company, a
licensee of the Company's technology and a potential competitor of the Company.
See "--Distribution Risks; Diversification of Sales Channels," "--Dependence on
Strategic Relationships," "Business--Strategic Relationships" and "Certain
Transactions--License Agreement with S3" for further information relating to the
relationship between the Company and S3.
Gross margins may vary from period to period as a result of a number of
factors, including the mix of products sold, new product introductions,
fluctuations in the receipt of license and royalty revenues, and the mix of
distribution channels. The Company's gross margins may also be adversely
affected by shortages in the availability of key components for the Company's
products. To maintain favorable margin levels on product sales, the Company must
introduce new products, must introduce enhanced versions of its products, and
must continue its cost reduction efforts. The Company anticipates that it will
incur lower overall gross margins in future periods as it introduces lower
margin products for consumer markets.
Customers generally order on an as-needed basis and, accordingly, the
Company has historically operated with a relatively small backlog.
Notwithstanding the difficulty in forecasting future sales and the relatively
small level of backlog at any given time, the Company generally must plan
production, order components and undertake its development, sales and marketing
activities and other commitments months in advance of orders for its products.
Accordingly, any shortfall in revenues in a given quarter may adversely impact
the Company's operating results due to an inability to adjust expenses during
the quarter to offset any reduced level of revenues for the quarter.
The Company currently derives a substantial portion of its total revenues
from the sale of a relatively small number of high priced products. The
Company's backlog at the beginning of a quarter typically does not include
6
<PAGE>
all sales required to achieve the Company's sales objectives for that quarter.
Consequently, the Company's total revenues and operating results for a quarter
depend upon the Company obtaining orders for products to be shipped in the same
quarter. In addition, from time to time, a significant portion of the Company's
sales have been derived from sales of multiple products to a limited number of
customers. The volume and timing of orders received during a quarter are
difficult to forecast. As a result of the Company's typical sales cycle, a
disproportionate percentage of the Company's total revenues in any quarter may
be generated in the last month of a quarter. As a result, a shortfall in sales
in any quarter as compared to expectations may not be identifiable until the end
of the quarter. A delay in shipment near the end of a particular quarter, due,
for example, to an unanticipated shipment rescheduling, to cancellations by
customers or to unexpected manufacturing difficulties experienced by the Company
or its suppliers may cause total revenues in a particular quarter to fall
significantly below the Company's expectations and may thus materially adversely
affect the Company's operating results for such quarter. The Company's industry
is subject to a high degree of seasonality, and demand for the Company's
products has historically been highest in the third and fourth quarters of each
calendar year. As a result, sales are typically highest in these quarters and
may be lower in following quarters.
RISKS ASSOCIATED WITH NEW MARKETS AND APPLICATIONS; MARKET ACCEPTANCE
Substantially all of the Company's revenues in 1996 were derived from sales
of products that address the high-end home theater and industrial TV markets.
Certain of the Company's current products and certain of its planned future
products generally address markets that are not now and may never become
substantial commercial markets. The Company's future growth will depend, in
large part, on the Company's ability to identify new markets for its products
and to apply its video enhancement technology to evolving markets and
applications that require superior visual images. There can be no assurance that
these markets will become substantial commercial markets or that they will
evolve in such a manner that the Company's products achieve market acceptance.
For example, one of the products the Company manufactures for the TV market is
the DV1000, a DVD player. However, a significant market for DVD players has not
yet developed. The Company also intends to exploit what it believes will be the
convergence of the TV and PC markets. There can be no assurance that the TV and
PC markets will converge, that this new market will present substantial
commercial opportunities, or that the Company's products will adequately address
this market in a timely manner. The Company has experienced, and expects to
continue to experience, technological and pricing constraints that may preclude
the development of products that address emerging markets. There can be no
assurance that the Company or its original equipment manufacturer ("OEM")
customers will continue their existing product development efforts, or, if
continued, that such efforts will be successful, that markets will develop in a
timely manner, or at all, for any of the Company's or such customers' products,
or that the Company's and its customers' products will not be superseded by
other technology or products.
RISKS ASSOCIATED WITH CHANGING TV STANDARDS
The Company is developing products that are designed to conform with certain
current industry broadcast standards. However, there can be no assurance that
manufacturers will continue to follow these standards or that competing
standards will not emerge which will be preferred by manufacturers or consumers.
The acceptance of the Company's products also depends in part upon third-party
content providers developing and marketing content for end user systems, such as
video and audio playback systems, in a format compatible with the Company's
products. There can be no assurance that these or other factors beyond the
Company's control will not adversely affect the development of markets for the
Company's products.
The FCC has required broadcasters to begin broadcasting digital signals in
May 1999, targeting the phase out of the current analog signals by the year
2006. There is considerable uncertainty among broadcasters and providers of
broadcast, reception and display equipment as to how DTV will be implemented, as
to how broadly and rapidly DTV will be deployed, and as to when, if ever, analog
TV will be discontinued. There can be no assurance that the market for the
Company's products will continue following the introduction of DTV or if
competing standards or technologies emerge that are preferred by manufacturers
and consumers. In addition,
7
<PAGE>
there can be no assurance that DTV and related products will gain market
acceptance or that third-party content providers will develop and market content
for end user systems using a digital format or a format compatible with the
Company's products. There can be no assurance that such factors beyond the
Company's control will not adversely affect the development of markets for the
Company's products.
DEPENDENCE ON NEW PRODUCT DEVELOPMENT AND RISK OF TECHNOLOGICAL CHANGE
The markets for the Company's products are characterized by evolving
industry standards, rapid technological change, frequent new product
introductions and short product life cycles. The Company's future success will
depend, in large part, on its ability to continue to enhance its existing
products and to develop new products and features to meet changing customer
requirements and evolving industry standards. The Company anticipates that sales
from its line multiplier product lines will experience limited growth, or may
decline, in future periods as the Company's technology migrates to board and
chip level products. The percentage of revenues derived from sales of the
Company's line multiplier product lines was 80% and 76.5% during fiscal 1996 and
the nine months ended September 30, 1997, respectively. The Company expects that
more than one-half of its total revenues in 1998 will be derived from license
and royalty revenues and sales of recently introduced products, as well as
products which the Company is developing. The success of new products depends on
a number of factors, including proper selection and timely introduction of
planned new products, successful and timely completion of product development,
accurate estimation of demand for new products, market acceptance of new
products of the Company and its OEM customers, the Company's ability to offer
new products at competitive prices, the availability of adequate staffing to
produce and sell such new products, and competition from products introduced by
competitors. Certain of these factors are outside the control of the Company.
See "-- Risks Associated with New Markets and Applications; Market Acceptance."
For example, to date sales of the Company's DVD players have been minimal, and
initial sales of the Company's rear projection TV system are not expected until
the fourth quarter of 1997. Sales of the Company's board level products, and
future license and royalty revenues, depend in part upon the ability of the
Company's OEM customers and licensees to successfully develop and market
products incorporating the Company's products or technology. The Company's
products intended for the digital broadcast market are not expected to be field
tested until the fourth quarter of 1997 and are not expected to be available for
sale until 1998. There can be no assurance that the Company's broadcast
products, assuming timely development and satisfactory completion of field
tests, will be accepted by the broadcast market. There can be no assurance as to
the amount of royalties, if any, to be paid to the Company under the S3
agreement because S3 is under no obligation to maintain its exclusive license
with the Company or to develop products incorporating the Company's technology
under the agreement.
The incorporation of the Company's products into its OEM customers' product
designs often requires significant expenditures by the Company, which
expenditures may precede volume sales of the Company's products, if any, by one
year or more. The introduction of new or enhanced products also requires the
Company to manage the transition from older products in order to minimize
disruption in customer ordering patterns, to avoid excessive levels of older
product inventories and to ensure that adequate supplies of new products can be
delivered to meet customer demand.
There can be no assurance that the Company will identify new product
opportunities, will successfully develop and bring to market new products, will
achieve design wins or will respond effectively to technological changes or
product announcements by others, or that the Company's new products will achieve
market acceptance. A failure in any of these areas would have a material adverse
effect on the Company's business, financial condition and operating results.
DISTRIBUTION RISKS; DIVERSIFICATION OF SALES CHANNELS
The Company sells its products domestically and internationally through
distributors and dealers, as well as to OEM customers, and the Company's success
depends on the continued efforts of its network of direct and indirect
distributors and dealers. The Company's key distribution and OEM customers are
S3, Ampro Corp. ("Ampro"), Hughes-JVC Technology Corporation ("Hughes/JVC"), NEC
Technologies, Inc. USA ("NEC"),
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Cinema Pro Corporation dba Runco International ("Runco") and Vidikron of
America, Inc. ("Vidikron"). The loss of, or reduction in sales to, any of the
Company's key customers could have a material adverse affect on the Company's
operating results. The short life cycles of the Company's products and the
difficulty in predicting future sales increase the risk that new product
introductions, price reductions by the Company or its competitors or other
factors affecting the video imaging industry could result in significant product
returns. In addition, there can be no assurance that new product introductions
by competitors or other market factors will not require the Company to reduce
prices in a manner or at a time which has a material adverse impact upon the
Company's business, financial condition and operating results.
An integral element of the Company's strategy is to enhance and diversify
its international and domestic distribution channels. The Company has
distribution relationships with Ampro, Hughes/JVC, NEC, Runco and Vidikron.
However, none of such distributors is obligated to purchase the Company's
products. The Company's ability to achieve revenue growth in the future will
depend in large part on its success in recruiting and training sufficient sales
personnel, distributors and resellers. Certain of the Company's existing
distributors currently distribute, or may in the future distribute, the product
lines of the Company's competitors. There can be no assurance that the Company
will be able to attract, train and retain a sufficient number of its existing or
future third-party distributors or direct sales personnel or that such
third-party distributors will recommend, or continue to recommend, the Company's
products or devote sufficient resources to market and provide the necessary
customer support for such products. All of these factors could have a material
adverse effect on the Company's business, financial condition and operating
results.
COMPETITION
The markets in which the Company competes are intensely competitive and are
characterized by rapid technological change, rapid product obsolescence and
price competition. The Company expects competition to increase in the future
from existing competitors and from other companies that may enter the Company's
existing or future markets with products or technologies which may be less
costly or provide higher performance or more desirable features than the
Company's products. The Company's existing and potential competitors include
several large domestic and international companies that have substantially
greater financial, manufacturing, technical, marketing, distribution and other
resources than the Company. In the TV market for video processors, the Company's
principal competitors are DWIN Electronics, Inc. ("DWIN"), Extron Electronics
("Extron"), NEC, Snell & Wilcox Inc. ("Snell & Wilcox"), Sony Corporation
("Sony") and Yamashita Engineering Manufacturing, Inc. ("YEM"). In the market
for broadcast products, the Company's principal competitors are Extron, Leitch,
Incorporated ("Leitch"), Matsushita Consumer Electronics Co. ("Matsushita"),
Snell & Wilcox, Sony Broadcast Products, Incorporated ("Sony Broadcast") and
Vistek Electronics, Ltd. ("Vistek").
As the Company's products penetrate broader markets and as these markets
become commercial markets, the Company expects to face competition from
diversified electronic and semiconductor companies.
Certain of the Company's principal competitors maintain their own
manufacturing facilities, including semiconductor foundries, and may therefore
benefit from certain capacity, cost and technical advantages. Since the Company
does not operate its own semiconductor manufacturing, assembly or test
facilities, it may not be able to reduce its costs as rapidly as companies that
operate their own facilities. The failure of the Company to introduce lower cost
versions of its products in a timely manner or to successfully manage its
manufacturing, assembly and testing relationships would have a material adverse
effect on its business, operating results and financial condition.
The Company believes that its ability to compete successfully in the rapidly
evolving markets for high performance video technology depends on a number of
factors, including protection of its proprietary technology and information, the
price, quality and performance of the Company's and its competitors products,
the timing and success of new product introductions by the Company, its
customers and its competitors, the emergence of new industry standards, the
Company's ability to obtain and locate adequate foundry capacity, the number and
nature of the Company's competitors in a given market and general market and
economic
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conditions. There can be no assurance that the Company will compete successfully
in the future with respect to these or any other competitive factors. See
"--Limited Protection of Proprietary Rights; Risk of Third Party Infringement."
DEPENDENCE ON STRATEGIC RELATIONSHIPS
The Company expects that a significant portion of its annual revenues and
profits in the future will depend on strategic relationships. In particular,
under the license agreement with S3, the Company depends on S3 to develop and
market products incorporating the Company's technology for use in PCs.
Similarly, the Company depends on Runco and Vidikron to sell products which
incorporate the Company's technology, and a failure by these companies to make
such sales will adversely affect the Company's total revenues in the future. The
Company and Texas Instruments Incorporated ("TI") have entered into an agreement
pursuant to which TI has engaged the Company to develop improvements for the TI
Digital Light Processing-TM- based projector systems ("DLP"). TI may, but is not
required to, incorporate the results of such development in its DLPs. If TI
chooses to incorporate such improvements, it will enter into a royalty agreement
with the Company for the sale of DLPs incorporating the Company's technology.
There can be no assurance that any of the Company's strategic relationships will
result in the introduction of new products incorporating the Company's
technology or will result in substantial revenues for the Company. In the event
that the Company's strategic relationships fail to result in substantial
revenues to the Company, the Company's business, financial condition and
operating results will be materially adversely affected.
The Company has licensed, and intends to continue to license, its
technologies and intellectual property to others. The Company also offers for
sale board level or chip level products developed by or for the Company, which
implement certain of the Company's technologies. The Company's licensees and OEM
customers may be larger and have greater market recognition and financial,
technological, engineering, manufacturing and distribution capabilities than the
Company. In addition, such licensees and OEM customers may use such technologies
and subsystems either alone or in combination with other technologies to develop
products which could compete with the Company's technologies and products. At
present, the Company believes that S3 and General Instrument Corporation ("GI")
are licensees which could compete with certain of the Company's technologies and
products. While the Company may sell board level or chip level products and may
receive royalties from licensees, there can be no assurance that the
technologies and products offered by such licensees and OEM customers will not
compete directly with those of the Company, have performance, cost or other
advantages over those of the Company or have an adverse impact on the sales or
other licensing activities of the Company.
MANAGEMENT OF GROWTH
Since 1993, the Company has experienced, and expects to continue to
experience, a significant expansion in its overall level of business and
operations, including research and development, marketing, technical support and
sales and distribution. This growth has placed, and is expected to continue to
place, significant strain on the Company's management, operating and financial
resources resulting in new and increased responsibilities for management
personnel. There can be no assurance that the Company's management, personnel,
systems, procedures and controls will be adequate to support the Company's
existing and future operations. The Company's ability to effectively manage its
recent growth and any future growth will require the Company to expand its
operating, manufacturing and financial procedures and controls, to improve
coordination among different operating functions, to replace or upgrade its
management information systems and telecommunications systems, and to continue
to hire additional personnel, particularly in the areas of engineering and sales
and marketing. There can be no assurance that the Company will be able to manage
these activities and implement these additional systems and controls
successfully, and any failure to do so could have a material adverse effect upon
the Company's business, financial condition and operating results.
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RELIANCE ON INDEPENDENT FOUNDRIES AND MANUFACTURERS
The Company currently relies on independent foundries to manufacture,
assemble and test all of its semiconductor components and products. The
Company's primary foundries are SGS-Thomson Microelectronics, Inc.
("SGS-Thomson"), Micro Devices Technology, Inc. ("MDT") and TEMIC North America,
Inc. ("TEMIC"). These independent foundries fabricate products for other
companies and may also manufacture products of their own design. The Company
currently purchases products from all of its foundries pursuant to individually
negotiated purchase orders. The Company does not have a long-term supply
contract with any of these foundries, and, therefore, none of them is obligated
to supply products to the Company for any specific period, in any specific
quantity or at any specified price, except as may be provided in a particular
purchase order.
The Company's reliance on independent foundries involves a number of risks,
including the inability to obtain adequate capacity, unavailability of or
interruption of access to certain process technologies, reduced control over
delivery schedules, quality assurance, manufacturing yields and cost, and
potential misappropriation of the Company's intellectual property. From time to
time, the semiconductor industry has experienced severe capacity constraints,
and this pattern is expected to continue. The Company obtains foundry capacity
through forecasts that are generated in advance of expected delivery dates, and
the Company places purchase orders up to six months prior to scheduled delivery.
The Company's ability to obtain the foundry capacity necessary to meet the
demand for its products is based in part on its ability to accurately forecast
demand. If the Company fails to accurately forecast its future demand, the
Company may be unable to obtain adequate supplies of integrated circuits on a
timely basis. There can be no assurance that the Company will be able to
accurately forecast the demand for its products or obtain sufficient foundry
capacity in the future. In addition, the Company's obligation to place purchase
orders in advance of delivery subjects the Company to inventory risks, including
the risk of obsolescence.
While the Company has not experienced any material disruptions in supply to
date, there can be no assurance that manufacturing problems will not occur in
the future. In the event that any of the Company's foundries are unable or
unwilling to produce sufficient supplies of the Company's products in required
volumes at acceptable costs, the Company will be required to reallocate
production among its other existing foundries or to identify and qualify
acceptable alternative foundries. This qualification process could take six
months or longer, and no assurance can be given that any additional source would
become available to the Company or would be in a position to satisfy the
Company's production requirements on a timely basis. The loss of any of the
Company's foundries as a supplier, the inability of the Company in a period of
increased demand for its products to expand supply or the Company's inability to
obtain timely and adequate deliveries from its current or future suppliers could
reduce or delay shipments of the Company's products. Any of these developments
could damage relationships with the Company's current and prospective customers
and could have a material adverse effect on the Company's business, financial
condition and operating results.
The Company subcontracts the manufacturing of its broadcast and TV products
pursuant to individually negotiated purchase orders. Bestronics, Inc.
("Bestronics") assembles more than 80% of the Company's circuit boards and DC
Electronics, Inc. ("DC Electronics") builds all of the Company's wire and cable
harnesses. The Company does not have any long term agreements with its
subcontractors and contract manufacturers, including SGS-Thomson, MDT and TEMIC.
The Company's reliance on third-party manufacturers limits its control over
delivery schedules, quality assurance and product cost. Disruptions in the
provision of services by the Company's assemblers or other circumstances that
would require the Company to seek alternative sources of assembly could lead to
supply constraints or delays in the delivery of the Company's products. In
addition, the need for high quality assurance by the Company may increase costs
paid by the Company to third parties for manufacturing and assembly of the
Company's products. These constraints or delays could damage relationships with
current and prospective customers and could have a material adverse effect on
the Company's business, financial condition and operating results.
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LIMITED PROTECTION OF PROPRIETARY RIGHTS; RISK OF THIRD PARTY INFRINGEMENT
The Company's future success depends in part upon its ability to protect its
proprietary technology and information. The Company seeks to protect its
intellectual property rights and to limit access to its proprietary information
through a combination of patents, trademarks, copyrights, trade secrets, and
nondisclosure and licensing arrangements, all of which afford only limited
protection. Yves Faroudja, the Company's founder and Chief Technical Officer,
personally holds or was assigned 35 U.S. and 8 foreign patents, and 7 U.S. and
22 foreign patent applications, which have been licensed to the Company, and on
which the Company depends for the enhancement of its current products and the
development of future products. Mr. Faroudja has granted the Company a
perpetual, royalty-free license to use patented and unpatented technologies
developed by him prior to January 20, 1997. See "Certain Transactions--Yves
Faroudja License Agreement." There can be no assurance that patents will issue
from any pending applications or that any claims allowed from pending
applications will be of sufficient scope or strength, or be issued in all
countries where the Company's products can be sold, to provide meaningful
protection or any commercial advantage to the Company. Also, competitors of the
Company may be able to design around the licensed patents. The laws of certain
foreign countries in which the Company's products are or may be developed,
manufactured or sold, including various countries in Asia, may not protect the
Company's products or intellectual property rights to the same extent as the
laws of the United States, and thus, may increase the likelihood of piracy of
the Company's technology and products. There can be no assurance that the steps
taken by the Company to protect its intellectual property rights will be
adequate to prevent misappropriation of its technology or that the Company's
competitors will not independently develop technologies that are substantially
equivalent or superior to the Company's technology.
There can be no assurance that the Company's intellectual property rights,
if challenged, will be upheld as valid, will be adequate to prevent
misappropriation of its technology or will prevent the development of
competitive products. Additionally, there can be no assurance that the Company
will be able to license or obtain patents or other intellectual property
protection in the future.
Substantially all of the intellectual property used by the Company is
licensed to the Company by Yves Faroudja. See "Certain Transactions--Yves
Faroudja License Agreement." The Company faces certain risks because the Company
is a licensee and not the owner of such intellectual property rights. Under his
agreement with the Company, Mr. Faroudja retains the non-exclusive right to
license his patents and technologies to third parties for use outside the
Company's field of use. Mr. Faroudja previously granted licenses in the
Company's field of use to approximately 20 other companies covering various
applications such as video recorders and players, color TV cameras, broadcast
encoders and video compression and decompression equipment. In the event that
preexisting licenses granted to third parties relate to the Company's field of
use, the Company would not be able to exclude such third parties from making,
using, selling, or importing devices or practicing methods, covered by such
patents or technologies. Notwithstanding the particular terms of the license
agreement with Mr. Faroudja, the Company faces the risk that he may attempt to
terminate the granted licenses and that such an attempt may be successful or
that the response to such attempt may consume substantial financial and
personnel resources. In the event the Company's resources are so consumed, such
consumption may have a material adverse effect on the Company's business,
financial condition and operating results. See "Business--Proprietary Rights and
Licenses" and "Certain Transactions--Yves Faroudja License Agreement."
The video image enhancement and related industries are characterized by
vigorous protection and pursuit of intellectual property rights or positions,
which have resulted in significant and often protracted and expensive
litigation. Although to date the Company has received no notification of alleged
infringement of other companies' intellectual property rights, the Company may
from time to time be subject to proceedings alleging infringement by the Company
of intellectual property rights owned by third parties. If necessary or
desirable, the Company may seek licenses under such intellectual property
rights. However, there can be no assurance that such licenses will be offered or
that the terms of any offered license will be acceptable to the Company. The
failure to obtain such a license from a third party for technology used by the
Company could cause the Company to incur substantial liabilities and to suspend
or cease the manufacture of products requiring such technology.
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The Company may initiate claims or litigation against third parties for
infringement of the Company's proprietary rights or to establish the validity of
the Company's proprietary rights. For example, in January 1997 and May 1997, the
Company filed actions against DWIN and Snell & Wilcox, respectively, seeking
relief and damages for the infringement of US Patent Number 4,876,596, which was
issued on October 24, 1989, is owned by Yves Faroudja and is licensed to the
Company. DWIN and Snell & Wilcox have raised defenses and counterclaims that the
patent is invalid and that it has not been infringed. See
"Business--Litigation."
Litigation by or against the Company could result in significant expense to
the Company and could divert the efforts of the Company's technical and
management personnel, whether or not such litigation results in a favorable
determination for the Company and such diversion may have a material adverse
effect on the Company's business, financial condition and operating results. In
addition, such litigation could result in the assertion of counter claims
against the Company. In the event of an adverse result in any such litigation,
the Company could be required to pay substantial damages, attorney fees, costs
and expenses, to cease infringing a third-party's intellectual property rights
(including, marketing, using, selling and importing infringing products, and
employing infringing methods or processes), to expend significant resources to
develop non-infringing technology, or to obtain licenses to the technology
allegedly infringed. There can be no assurance that the Company would be
successful in such development or that any such license would be available on
reasonable terms, or at all, and any such development or license could require
expenditures by the Company of substantial time and other resources. In the
event that any third party makes a successful intellectual property claim
against the Company or its customers, the Company's business, financial
condition and operating results could be materially adversely affected. See
"Business--Proprietary Rights and Licenses."
RISKS ASSOCIATED WITH EXPORT SALES AND OPERATIONS
For the year ended December 31, 1996, and for the nine months ended
September 30, 1997, export sales accounted for approximately 15.3% and 11.3%,
respectively, of the Company's total revenues. The Company intends to
substantially expand its export sales efforts. However, there can be no
assurance that the Company will be successful in increasing export sales. Export
sales to international customers entail a number of risks which include
unexpected changes in, or impositions of, legislative or regulatory
requirements, delays resulting from difficulty in obtaining export licenses for
certain technology, tariffs, quotas and other trade barriers and restrictions,
longer payment cycles, greater difficulty in accounts receivable collection,
potentially adverse taxes, currency exchange fluctuations, the burdens of
complying with a variety of foreign laws and other factors beyond the Company's
control. The Company would also be subject to general geopolitical risks in
connection with international operations, such as political, social and economic
instability, potential hostilities and changes in diplomatic and trade
relationships. Although the Company has not to date experienced any material
adverse effect on its operations as a result of such regulatory, geopolitical
and other factors, there can be no assurance that such factors will not
adversely affect the Company's operations in the future or require the Company
to modify its current business practices. In addition, the laws of certain
foreign countries in which the Company's products are or may be developed,
manufactured or sold, including various countries in Asia, may not protect the
Company's products or intellectual property rights to the same extent as do the
laws of the United States and thus make the possibility of piracy of the
Company's technology and products more likely. There can be no assurance that
one or more of the foregoing factors will not have a material adverse effect on
the Company's business, financial condition and operating results or require the
Company to modify its current business practices. See "Business--Sales and
Marketing."
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DEPENDENCE ON SENIOR MANAGEMENT AND OTHER KEY EMPLOYEES; NEW MANAGEMENT
PERSONNEL
The Company's future success will depend to a significant extent upon the
continued service of members of senior management and other key employees of the
Company, particularly Yves Faroudja, the Company's founder and Chief Technical
Officer, and Michael Moone, the Company's President and Chief Executive Officer.
The loss of the service of any of these individuals could have a material
adverse effect on the Company. The Company does not maintain key man life
insurance on any of its employees. The Company believes that its future success
will depend to a significant extent upon its ability to attract, train and
retain highly skilled technical, management, sales, marketing and consulting
personnel. Competition for such personnel is intense, and the Company expects
that such competition will continue for the foreseeable future. The Company has
from time to time experienced difficulty in locating candidates with appropriate
qualifications. There can be no assurance that the Company will be successful in
attracting or retaining such personnel, and the failure to attract or retain
such personnel could have a material adverse effect on the Company's business,
financial condition and operating results. See "Management--Executive Officers
and Directors."
The Company has recently effected significant changes in its management team
and key employees. In particular the Company's Chief Executive Officer, its
Chief Financial Officer and its Vice President--Engineering joined the Company
in June 1996, December 1996 and May 1996, respectively. Further, the Company
hired its General Counsel and Vice President--Business Development and its Vice
President--Sales and Marketing in June 1997. The Company's headcount has grown
from 39 at December 31, 1995, to 66 at September 30, 1997. There can be no
assurance that the Company's new management team can successfully manage the
Company's rapidly evolving business, and failure to do so would have a material
adverse effect upon the Company's business, financial condition and operating
results. See "--Management of Growth."
NEED FOR ADDITIONAL CAPITAL TO FINANCE GROWTH AND CAPITAL REQUIREMENTS
While the Company expects that the proceeds from this Offering, its existing
cash balances and the amounts, if any, generated from operations will be
sufficient to meet its cash requirements for at least the next 12 months, the
Company is operating in a rapidly changing industry. There can be no assurance
that the Company will not seek to exploit business opportunities that will
require it to raise additional capital from equity or debt sources to finance
its growth and capital requirements. In particular, the development and
marketing of new products could require a significant commitment of resources,
which could in turn require the Company to obtain additional financing earlier
than otherwise expected. There can be no assurance that the Company will be able
to raise such capital on acceptable terms, if at all. If the Company is unable
to obtain such additional capital, the Company may be required to reduce the
scope of its planned product development and marketing, which could have a
material adverse effect on the Company's business, financial condition and
operating results. See "Use of Proceeds" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
BROAD MANAGEMENT DISCRETION OVER USE OF PROCEEDS
The Company intends to use the net proceeds of the Offering for general
corporate purposes, including an increase in the Company's research and
development activities, an expansion of its internal sales, marketing and
distribution operations and an increase in working capital. A significant
portion of the net proceeds to the Company from this Offering have not been
designated for specific uses. Accordingly, management of the Company will have
broad discretion with respect to the use of these funds. See "Use of Proceeds."
CONTROL BY MANAGEMENT AND EXISTING STOCKHOLDERS
Upon the consummation of this Offering, the current officers, directors and
major stockholders of the Company will own or control approximately 73.6% of the
outstanding shares of Common Stock (including outstanding options and warrants
to purchase Common Stock). Accordingly, these stockholders, if they were to act
as a group, would be able to control the Company's Board of Directors, increase
the authorized capital and
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otherwise control the policies of the Company. The control of such stockholders
could delay or prevent a change in control of the Company, impede a merger,
consolidation, takeover or other business combination involving the Company, or
discourage a potential acquiror from making a tender offer or otherwise
attempting to obtain control of the Company. See "Management," "Principal and
Selling Stockholders" and "Description of Capital Stock."
POTENTIAL ANTI-TAKEOVER EFFECTS OF CHARTER DOCUMENTS AND DELAWARE LAW
The Company's Certificate of Incorporation and By-Laws contain various
provisions, including a classified Board of Directors, and Delaware law contains
certain provisions that could delay or impede the removal of incumbent directors
and could make more difficult a merger, tender offer or proxy contest involving
the Company, even if such events would be beneficial to the interests of the
stockholders of the Company. Such provisions could limit the price that certain
investors might be willing to pay in the future for shares of the Company's
Common Stock. In addition, the Company may issue shares of Preferred Stock
without stockholder approval on such terms as the Board of Directors may
determine. The rights of the holders of Common Stock will be subject to, and may
be adversely affected by, the rights of the holders of any Preferred Stock that
may be issued in the future. Moreover, although the ability to issue Preferred
Stock may provide flexibility in connection with possible acquisitions and other
corporate purposes, such issuance may make it more difficult for a third party
to acquire, or may discourage a third party from acquiring, a majority of the
voting stock of the Company. The Company has no current plans to issue any
shares of Preferred Stock. The Company may in the future adopt other measures
that may have the effect of delaying, deferring or preventing a change in
control of the Company. Certain of such measures may be adopted without any
further vote or action by the stockholders, although the Company has no present
plans to adopt any such measures. See "Description of Capital Stock."
NO PRIOR PUBLIC MARKET; POTENTIAL LIMITED TRADING MARKET; POSSIBLE VOLATILITY OF
STOCK PRICE
Prior to this Offering, there has been no public market for the Company's
Common Stock and there can be no assurance that an active public market for the
Common Stock will develop or be sustained after this Offering or that the market
price of the Common Stock will not decline below the initial public offering
price. The initial price to the public for the Common Stock offered hereby will
be determined by negotiation between the Company and the Representatives.
Factors such as announcements of developments related to the Company's business,
announcements of technological innovations or new products or enhancements by
the Company or its competitors, sales of the Company's Common Stock into the
public market, developments in the Company's relationships with its customers,
distributors and suppliers, shortfalls or changes in total revenues, gross
margin, earnings or other financial results from analysts' expectations,
regulatory developments, fluctuations in results of operations and general
conditions in the Company's market or the market served by the Company's
customers or the economy could cause the price of the Company's Common Stock to
fluctuate, perhaps substantially. In addition, in recent years the stock market
in general, and the market for shares of small capitalization and technology
stocks in particular, have experienced extreme price and volume fluctuations,
which have often been unrelated or disproportionate to the operating performance
of affected companies. Many technology companies have recently experienced
historic highs in the market price of their Common Stock. There can be no
assurance that the market price of the Company's Common Stock will not decline
substantially from the initial public offering price, or otherwise experience
significant fluctuations in the future, including fluctuations that are
unrelated to the Company's performance.
SHARES ELIGIBLE FOR FUTURE SALE
Sales of substantial amounts of Common Stock (including shares issued upon
the exercise of outstanding options) in the public market after this Offering
could materially adversely affect the market price of the Common Stock. Such
sales might also make it more difficult for the Company to sell equity
securities or equity related securities in the future at a time and price that
the Company deems appropriate. In addition to the 3,000,000 shares of Common
Stock offered hereby, as of the date of this Prospectus there will be 8,751,895
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shares of Common Stock outstanding, all of which are "restricted" shares under
the Securities Act of 1933, as amended (the "Securities Act"). Approximately
3,000,000 shares will be available for sale in the public market on the date of
this Prospectus and approximately 8,207,380 shares will be available for sale in
the public market 180 days after the date of this Prospectus upon expiration of
certain lockup agreements with the Underwriters or the Company and pursuant to
Rules 144, 144(k) or 701 promulgated under the Securities Act, subject in some
cases to certain volume and other resale restrictions pursuant to Rule 144. In
addition, the Company is required to register for re-sale 180 days after the
date of this Prospectus an aggregate of 8,200,000 shares of Common Stock. Of
these shares, 6,150,000 are held by Adelson Investors, LLC ("Adelson"), Faroudja
Images Investors, LLC and Images Partners, L.P. ("Images"). See "Certain
Transactions--1996 Financing." The Company intends to register on a registration
statement on Form S-8, within 90 days after the date of this Offering, a total
of 2,442,620 shares of Common Stock for issuance pursuant to the Company's 1995
Stock Option Plan (the "1995 Option Plan"), 1997 Performance Stock Option Plan
(the "1997 Option Plan"), 1997 Directors Stock Option Plan (the "Directors
Plan") and the 1997 Employee Stock Purchase Plan ("Purchase Plan"). BancAmerica
Robertson Stephens in its sole discretion and at any time without notice can
release all or any portion of the securities subject to lock-up agreements. See
"Shares Eligible for Future Sale."
DILUTION
Investors purchasing shares in this Offering will incur immediate and
substantial dilution in net tangible book value of $5.81 per share, based upon
an assumed initial public offering price of $9.00 per share. To the extent that
outstanding options to purchase the Company's Common Stock are exercised, there
will be further dilution to the new public investors. See "Dilution."
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<PAGE>
USE OF PROCEEDS
The net proceeds to the Company from the sale of 3,000,000 shares of Common
Stock offered by the Company hereby are estimated to be approximately $24.4
million, assuming an initial public offering price of $9.00 per share and after
deducting the estimated underwriting discounts and commissions and the estimated
offering expenses payable by the Company.
The Company intends to use the net proceeds of this Offering for general
corporate purposes. The Company anticipates that net proceeds will be used for
additions to working capital, an increase of research and development activities
through the hiring of additional personnel and the acquisition of test equipment
and design tools, and an expansion of the Company's internal sales, marketing
and distribution operations, with a particular emphasis on international
markets. The Company has not determined the amount of net proceeds to be applied
to each of the foregoing. The Company may also use a portion of the net proceeds
for the acquisition of technologies, businesses or products that are
complementary to those of the Company, although no such acquisitions are planned
or are being negotiated as of the date of this Prospectus, and no portion of the
net proceeds has been allocated for any specific acquisition. See "Risk
Factors--Broad Management Discretion Over Use of Proceeds" and "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources." Pending such uses, the Company
will invest the net proceeds of this Offering in short-term, interest-bearing
investment grade securities.
DIVIDEND POLICY
The Company has never declared or paid cash dividends on its capital stock.
The Company currently expects to retain any future earnings for use in the
operation and expansion of its business and does not anticipate paying any cash
dividends in the foreseeable future. The Company's revolving credit facility
restricts the payment of dividends without the consent of the bank.
From its inception through March 1996, the Company was treated for federal
income tax purposes as an S Corporation under Subchapter S of the Internal
Revenue Code of 1986, as amended (the "Code"). In connection with its status as
an S Corporation, the Company distributed a portion of its earnings to its
stockholders. As a result, the Company's earnings from its inception through
March 1996 (the "Termination Date") were for federal income tax purposes taxed
directly to the Company's stockholders, at their individual federal income tax
rate, rather than to the Company. Subsequent to the Termination Date, the
Company was no longer treated as an S Corporation and, accordingly, has been
subject to federal and state income taxes on its earnings after March 1996.
17
<PAGE>
CAPITALIZATION
The following table sets forth the capitalization of the Company (i) as of
September 30, 1997 and (ii) as adjusted to give effect to the sale and issuance
of 3,000,000 shares of Common Stock offered by the Company at an assumed initial
public offering price of $9.00 per share (after deducting the estimated
underwriting discounts and commissions and the estimated offering expenses
payable by the Company). See "Use of Proceeds."
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
----------------------
ACTUAL AS ADJUSTED
--------- -----------
(IN THOUSANDS)
<S> <C> <C>
Long-term debt............................................................................ $ -- $ --
--------- -----------
Stockholders' equity:
Preferred Stock, $.001 par value; 5,000,000 shares authorized; none issued and
outstanding, actual and as adjusted................................................... -- --
Common Stock, $.001 par value; 50,000,000 shares authorized; 8,751,895 shares issued and
outstanding actual; 11,751,895 shares issued and outstanding, as adjusted(1).......... 9 12
Additional paid-in capital.............................................................. 13,393 37,713
Deferred compensation................................................................... (255) (255)
Retained earnings....................................................................... 270 270
--------- -----------
Total stockholders' equity............................................................ 13,417 37,777
--------- -----------
Total capitalization...................................................................... $ 13,417 $ 37,777
--------- -----------
--------- -----------
</TABLE>
- ------------------------
(1) Based on shares outstanding as of September 30, 1997. Excludes (i) 1,637,090
shares of Common Stock issuable upon exercise of stock options outstanding
and (ii) an aggregate of 805,530 shares of Common Stock reserved for future
issuance pursuant to the Company's stock option and stock purchase plans,
(iii) 165,152 shares of Common Stock issuable upon exercise of outstanding
warrants and (iv) 29,240 shares of Common Stock issuable to S3 pursuant to
certain anti-dilution rights which the Company granted to S3 under a Stock
Purchase Agreement, assuming an Offering price of $9.00 per share. See
"Management-- Stock Plans," "Certain Transactions" and Note 6 of Notes to
Consolidated Financial Statements.
18
<PAGE>
DILUTION
The net tangible book value of the Company as of September 30, 1997 was
approximately $13.1 million or $1.50 per share of Common Stock. "Net tangible
book value" per share represents the amount of total tangible assets less total
liabilities, divided by the number of shares of Common Stock outstanding. After
giving effect to the receipt of the net proceeds from the sale of 3,000,000
shares of Common Stock offered by the Company hereby (after deducting the
estimated underwriting discounts and commissions and the estimated offering
expenses payable by the Company), the Company's net tangible book value as of
September 30, 1997 would have been approximately $37.5 million or $3.19 per
share of Common Stock. This represents an immediate increase in net tangible
book value of $1.69 per share to existing stockholders and an immediate dilution
of $5.81 per share to new investors. The following table illustrates this per
share dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price...................... $ 9.00
Net tangible book value per share as of September 30,
1997................................................... $ 1.50
Increase attributable to new investors................... 1.69
As adjusted net tangible book value per share after
Offering................................................. 3.19
---------
Dilution to new investors.................................. $ 5.81
---------
---------
</TABLE>
The following table summarizes, on a pro forma basis as of September 30,
1997, the difference between the number of shares of Common Stock purchased from
the Company, the total consideration paid and the average price per share paid
by existing stockholders and by new public investors purchasing shares in this
Offering (before deducting underwriting discounts and commissions and estimated
offering expenses payable by the Company).
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION AVERAGE
------------------------- -------------------------- PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
------------ ----------- ------------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Existing stockholders............. 8,751,895 74.5% $ 12,710,080 32.0% $ 1.45
New investors..................... 3,000,000 25.5 27,000,000 68.0 9.00
------------ ----- ------------- -----
Total........................... 11,751,895 100.0% $ 39,710,080 100.0%
------------ ----- ------------- -----
------------ ----- ------------- -----
</TABLE>
The foregoing computations assume no exercise of stock options or warrants
after September 30, 1997. As of September 30, 1997, there were outstanding
options under the 1995 Option Plan to purchase 1,213,560 shares of Common Stock
at a weighted average exercise price of $3.42 per share, outstanding options
under the 1997 Option Plan to purchase 377,925 shares of Common Stock at a
weighted average exercise price of $7.79 per share, outstanding options under
the Directors Plan to purchase 45,605 shares of Common Stock at a weighted
average exercise price of $3.91 per share, and outstanding warrants to purchase
165,152 shares of Common Stock at a weighted average exercise price of $4.60 per
share. Assuming the exercise of all outstanding options and warrants, the per
share dilution to new investors would be $5.64. In addition, as of September 30,
1997, 805,530 shares of Common Stock were reserved for future issuance under the
Company's stock option and stock purchase plans. To the extent that any shares
available for issuance upon exercise of outstanding options, warrants or
reserved for future issuance under the Company's stock option plans are issued,
there will be further dilution to new public investors. See "Capitalization,"
"Management--Stock Plans," "Description of Capital Stock" and Note 6 of Notes to
Consolidated Financial Statements.
19
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated balance sheet data as of December 31,
1993 and 1994, and the selected consolidated statement of operations data for
the year ended December 31, 1993, have been derived from consolidated financial
statements not included herein, which were audited by Ernst & Young LLP,
independent auditors. The selected consolidated statement of operations data for
each of the three years in the period ended December 31, 1996, and the related
consolidated balance sheet data as of December 31, 1995 and 1996, are derived
from the consolidated financial statements of the Company which have been
audited by Ernst & Young LLP, independent auditors, and are included elsewhere
in this Prospectus. The data should be read in conjunction with such
consolidated financial statements. The selected consolidated balance sheet data
at December 31, 1992 and the selected consolidated statement of operations data
for the year ended December 31, 1992 have been derived from unaudited
consolidated financial statements not included herein. The selected consolidated
balance sheet data at September 30, 1997 and the selected statement of
operations data for the nine month periods ended September 30, 1996 and 1997
have been derived from unaudited consolidated financial statements included
elsewhere in this Prospectus. The unaudited consolidated financial statements
include, in the opinion of management, all adjustments, consisting only of
normal recurring adjustments, that management considers necessary for a fair
statement of the results for those periods. The operating results for the nine
months ended September 30, 1997 are not necessarily indicative of results that
may be expected for the year ending December 31, 1997 or any other interim
period or future fiscal year.
<TABLE>
<CAPTION>
NINE MONTHS
ENDED SEPTEMBER 30,
YEAR ENDED DECEMBER 31,
----------------------------------------------------- --------------------
1992 1993 1994 1995 1996 1996 1997
--------- --------- --------- --------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues:
Product sales............................... $ 3,437 $ 5,684 $ 8,065 $ 11,954 $ 12,626 $ 9,252 $ 11,626
License and royalty revenues................ -- -- -- -- 500 -- 1,250
--------- --------- --------- --------- --------- --------- ---------
Total revenues............................ 3,437 5,684 8,065 11,954 13,126 9,252 12,876
Cost of product sales......................... 2,139 2,127 2,998 4,215 4,797 3,339 3,951
--------- --------- --------- --------- --------- --------- ---------
Gross profit.................................. 1,298 3,557 5,067 7,739 8,329 5,913 8,924
Operating expenses:
Research and development.................... 811 869 1,277 1,484 2,464 1,676 2,977
Sales and marketing......................... 354 525 778 1,070 2,127 1,502 2,862
General and administrative.................. 581 957 1,153 1,179 1,623 1,132 1,504
Financing expense........................... -- -- -- -- -- -- 312
--------- --------- --------- --------- --------- --------- ---------
Total operating expenses.................. 1,746 2,351 3,208 3,733 6,214 4,310 7,655
--------- --------- --------- --------- --------- --------- ---------
Operating income (loss)....................... (448) 1,206 1,859 4,006 2,115 1,603 1,269
Other income:
Interest income............................. 60 39 69 82 83 65 176
Other, net.................................. -- 20 14 5 -- -- 47
--------- --------- --------- --------- --------- --------- ---------
Income (loss) before provision for income
taxes....................................... (388) 1,265 1,942 4,093 2,198 1,668 1,492
Provision for income taxes.................... 5 14 13 84 687 475 567
--------- --------- --------- --------- --------- --------- ---------
Net income (loss)............................. $ (393) $ 1,251 $ 1,929 $ 4,009 $ 1,511 $ 1,193 $ 925
--------- --------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- --------- ---------
Net income per share(1)....................... $ 0.10
---------
---------
Shares used in per share calculation.......... 9,694
---------
---------
</TABLE>
20
<PAGE>
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31, NINE MONTHS
------------------------------- ENDED SEPTEMBER 30,
1994 1995 1996 1996
--------- --------- --------- ---------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
PRO FORMA DATA (UNAUDITED)(2):
Historical income before provision for income taxes...... $ 1,942 $ 4,093 $ 2,198 $ 1,668
Pro forma provision for income taxes..................... 714 1,023 879 667
--------- --------- --------- ------
Pro forma net income..................................... $ 1,228 $ 3,070 $ 1,319 $ 1,001
--------- --------- --------- ------
--------- --------- --------- ------
Pro forma net income per share(1)........................ $ 0.15 $ 0.38 $ 0.15 $ 0.11
--------- --------- --------- ------
--------- --------- --------- ------
Shares used in per share calculation..................... 7,979 7,998 9,012 8,942
--------- --------- --------- ------
--------- --------- --------- ------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------- SEPTEMBER 30,
1992 1993 1994 1995 1996 1997
--------- --------- --------- --------- --------- -------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and short-term
investments..................................... $ 1,215 $ 1,455 $ 1,064 $ 2,759 $ 3,083 $ 7,206
Working capital................................... 1,824 2,599 2,223 4,744 5,861 11,225
Total assets...................................... 2,797 3,652 3,434 6,734 9,604 16,739
Total long-term debt.............................. 457 996 -- -- -- --
Stockholders' equity.............................. 1,882 2,166 2,826 5,515 7,245 13,417
</TABLE>
- ------------------------
(1) See Note 1 of Notes to Consolidated Financial Statements for an explanation
of the basis used to calculate net income per share.
(2) Reflects the pro forma effect of the Company being treated as a C
Corporation rather than an S Corporation for federal and state income tax
purposes, effective January 1, 1994. See "Certain Transactions--Subchapter S
Distributions."
21
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THE FOLLOWING MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS CONTAINS FORWARD-LOOKING STATEMENTS BASED UPON CURRENT
EXPECTATIONS THAT INVOLVE RISKS AND UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS
AND THE TIMING OF CERTAIN EVENTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED
IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN FACTORS, INCLUDING
THOSE SET FORTH UNDER "RISK FACTORS" AND ELSEWHERE IN THIS PROSPECTUS.
OVERVIEW
The Company began operations in 1971 through two related companies, FLI and
later FRE. The Company was incorporated in December 1996 under the laws of the
state of Delaware to succeed to the business of FLI and FRE.
From inception to 1988 the Company specialized in the development,
manufacturing and sale of products to the broadcast industry. In 1988 the
Company introduced its initial product for the high-end home theater market, a
line multiplier. In 1996 and the first nine months of 1997, sales of products
for the home theater and industrial markets comprised approximately 80% and 86%,
respectively, of the Company's total revenues. As the Company emphasized product
development for the home theater and industrial markets, sales of existing
broadcast products have declined.
The Company's total revenues increased sequentially on an annual basis from
1992 through 1996, primarily as a result of the introduction of a number of new
products for the home theater and industrial markets. Sales growth in 1996 was
limited from the prior year in part because of the diversion of management time
while the Company obtained external financing. Additionally, the Company
experienced an unexpected decline in sales of the Company's broadcast products
as a major customer began to develop products internally. In 1996, the Company
established an in-house very large scale integration ("VLSI") design department
to develop high performance application specific integrated circuits ("ASIC") to
enhance video image quality in the Company's traditional home theater market as
well as for use in the TV and PC industries. Net income declined in 1996 from
the prior year primarily as a result of increased research and development
expenses, as well as expenses relating to the expansion of the sales and
marketing staff and a provision for income taxes resulting from the termination
of the Company's status as an S Corporation in March 1996.
To maintain favorable margin levels on product sales, the Company must
introduce new products, must introduce enhanced versions of its products, and
must continue its cost reduction efforts. The Company anticipates that it will
incur lower overall gross margins in future periods as it introduces lower
margin products for consumer markets. The Company intends to increase both
engineering and sales and marketing efforts in the design, development and sale
of board and chip level products while continuing the sale of stand alone
products for the high-end home theater, industrial and broadcast markets. As a
percentage of sales, sales and marketing expenses, general and administrative
expenses and research and development expenses are expected to increase in 1997
over 1996. Accordingly, the Company expects net income to slightly decline in
1997 compared to 1996. The Company expects these expenses to increase on an
absolute dollar basis. Consequently, without a corresponding increase in
revenues, net income will be adversely impacted.
In March 1997, the Company entered into a license agreement with S3, a
leading supplier of advanced graphics accelerators for use in mainstream
multimedia PC systems. Under the terms of the agreement, the Company and S3 are
working jointly to develop integrated circuits using the Company's video
processing technologies and S3's graphics accelerator technology for use in PCs.
The Company has granted S3 a worldwide license to certain technology, including
line doubling, detail enhancement, cross-color suppression, motion tracking and
compensation, and digital compression filtering technology. Portions of such
license are exclusive for certain markets for a period of five years provided
that performance criteria, including minimum license fees, are satisfied. The
Company is obligated to negotiate with S3 to extend this five year period. The
Company is to receive certain per unit royalties for products sold incorporating
the Company's technology. In addition to other
22
<PAGE>
performance criteria, S3 must make minimum royalty payments to maintain
exclusivity. If royalties on product sales do not reach prescribed minimum
levels, S3 may maintain exclusivity by prepaying royalties to prescribed levels,
but there is no requirement for it to do so. S3 expects to ship products that
incorporate the Company's technology in 1998. There can be no assurance that S3
and the Company will develop products as a result of the agreement or that
future royalties will be received by the Company. In June 1997, the Company sold
a total of 526,316 shares of its Common Stock to S3 for an aggregate purchase
price of $5.0 million. The number of shares held by S3 may be subject to
adjustment based on the price to the public of the shares sold in this Offering.
S3 is also entitled to certain registration rights. See "Certain
Transactions--License Agreement with S3."
In March 1996, (i) the Company issued 1,043,105 shares of Common Stock for
an aggregate purchase price of $4.0 million to a predecessor of Faroudja Images
Investors, LLC ("Investors LLC"), Images and Adelson (Adelson, Investors LLC and
Images are collectively referred to herein as the "Investor Group"), of which
213,642 shares were issued to Adelson, 682,153 shares were issued to Investors
LLC and 147,310 shares were issued to Images, (ii) the Investor Group purchased
a total of 3,569,395 shares of Common Stock from Yves and Isabell Faroudja for
an aggregate purchase price of $14.0 million, of which 731,062 shares were
purchased by Adelson, 2,334,253 shares were purchased by Investors LLC and
504,080 shares were purchased by Images, and (iii) Yves and Isabell Faroudja
granted the Investor Group an option to purchase 1,537,500 shares of the
Company's Common Stock for an aggregate purchase price of $6.0 million or $3.90
per share (the "Faroudja Option"), of which Adelson had an option to purchase
486,875 shares of Common Stock for $1.9 million, Investors LLC had an option to
purchase 666,250 shares of Common Stock for $2.6 million and Images had an
option to purchase 384,375 shares of Common Stock for $1.5 million. The Faroudja
Option was exercised by the Investor Group on September 5, 1997.
The Company's operating results have varied in the past and are likely to
vary significantly in the future from period to period as a result of a number
of factors, including the volume and timing of orders received during the
period, fluctuations in the amount and timing of license and royalty revenues,
the timing of new product introductions by the Company and its competitors,
demand for and market acceptance of the Company's products, product line
maturation, the impact of price competition on the Company's average selling
prices, delays encountered by the Company's strategic partners, the availability
and pricing of components for the Company's products, changes in product or
distribution channel mix and product returns or price protection charges from
customers (price protection is currently afforded to one of the Company's
customers (see "Business--Sales and Marketing")). Many of these factors are
beyond the Company's control. In addition, due to the short product life cycles
that characterize the markets for the Company's products, the Company's failure
to introduce new, competitive products consistently and in a timely manner could
materially adversely affect operating results for one or more product cycles.
See "Risk Factors--Potential Fluctuations in Future Operating Results;
Seasonality."
23
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth certain items from the Company's consolidated
statements of operations expressed as a percentage of total revenues for the
periods indicated.
<TABLE>
<CAPTION>
NINE MONTHS
ENDED SEPTEMBER 30,
YEAR ENDED DECEMBER 31,
------------------------------- --------------------
1994 1995 1996 1996 1997
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Revenues:
Product sales.................................................. 100.0% 100.0% 96.2% 100.0% 90.3%
License and royalty revenues................................... -- -- 3.8 -- 9.7
--------- --------- --------- --------- ---------
Total revenues............................................... 100.0 100.0 100.0 100.0 100.0
Cost of product sales............................................ 37.2 35.3 36.5 36.1 30.7
--------- --------- --------- --------- ---------
Gross margin..................................................... 62.8 64.7 63.5 63.9 69.3
Operating expenses:
Research and development....................................... 15.8 12.3 18.8 18.1 23.1
Sales and marketing............................................ 9.7 9.0 16.2 16.2 22.3
General and administrative..................................... 14.3 9.9 12.4 12.3 11.7
Financing expense.............................................. -- -- -- -- 2.4
--------- --------- --------- --------- ---------
Total operating expenses..................................... 39.8 31.2 47.4 46.6 59.5
--------- --------- --------- --------- ---------
Operating income................................................. 23.0 33.5 16.1 17.3 9.8
Other income:
Interest income................................................ 0.9 0.7 0.6 0.7 1.4
Other, net..................................................... 0.2 -- -- -- 0.4
--------- --------- --------- --------- ---------
Income before provision for income taxes......................... 24.1 34.2 16.7 18.0 11.6
Provision for income taxes....................................... 0.2 0.7 5.2 5.1 4.4
--------- --------- --------- --------- ---------
Net income....................................................... 23.9% 33.5% 11.5% 12.9% 7.2%
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
FISCAL 1994, 1995 AND 1996
TOTAL REVENUES. Total revenues increased 48.2% and 9.8%, respectively, for
1995 and 1996 from their respective prior years. The increase in 1995 was due
primarily to shipments of the VP400 NTSC line quadrupler, which was introduced
in 1995, and to increased customer acceptance of the Company's other consumer
products. The increase in 1996 was primarily due to the introduction of the
LD200 NTSC line doubler for the home theater market, increased shipments of the
DFD-U PAL/NTSC digital decoder, which was first introduced in 1995 for the
direct broadcast satellite market, fees on the license of the Company's
technology for ASIC products for the PC market and the expansion of the home
theater dealer network. These factors were partially offset by a reduction in
sales in 1996 of the CFD decoder for the broadcast market resulting from a sharp
decline in sales to this product's primary customer, which began developing its
own products internally. Sales to GI, accounted for 19.3% of total revenues in
1994. Sales to Hughes/JVC accounted for 12.1% of total revenues in 1995. Sales
to Vidikron accounted for 10.5% of total revenues in 1996.
Export sales, consisting primarily of VP400 and LD200 products shipped to
dealers and distributors in Asia and Europe, represented 16.9%, 13.2% and 15.3%
of total revenues in 1994, 1995 and 1996, respectively. All export sales are
denominated in U.S. dollars. The Company intends to pursue efforts to increase
its export sales in the future; however, there can be no assurance that any
growth in export sales will be achieved. Export sales are subject to a number of
risks. See "Risk Factors--Risks Associated with Export Sales and Operations."
24
<PAGE>
The Company's future success will depend, in large part, on its ability to
continue to enhance its existing products and to develop new products and
features to meet changing customer requirements and evolving industry standards.
The Company anticipates that sales from its line multiplier product line will
experience limited growth, or may decline, in future periods. The Company
expects that approximately one-half of its total revenues in 1998 will be
derived from license and royalty revenues and from sales of new products. See
"Risk Factors--Dependence on New Product Development and Risk of Technological
Change."
GROSS PROFIT. Gross profit as a percentage of total revenues was 62.8% in
1994, 64.7% in 1995 and 63.5% in 1996. The increase in gross margin in 1995
compared to 1994 was primarily due to the introduction of new higher margin
products and product cost reduction efforts. The decline in gross margin in 1996
resulted from an increased proportion of sales to distributors and OEMs, who
typically receive higher discounts than dealers, increased dealer discounts, the
introduction of a new, lower margin product line and increased manufacturing
costs and expenses. The Company anticipates that it will incur lower overall
gross margins in future periods as it introduces lower margin products for high
volume markets. See "Risk Factors--Potential Fluctuations in Future Operating
Results; Seasonality."
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased from $1.3 million in 1994 to $1.5 million in 1995 and to $2.5 million
in 1996. The increase in 1995 from the prior year was primarily due to fees
incurred by the Company for the development of ASIC components used in the full
range of the Company's products. Research and development expenses as a
percentage of total revenues declined from 15.8% in 1994 to 12.3% in 1995
primarily because of increased total revenue growth. Research and development
expenses increased as a percentage of total revenues to 18.8% in 1996 due to the
establishment in 1996 of a VLSI design department. The Company increased its
engineering and management personnel, and increased equipment depreciation, to
enable the ongoing development of its high performance VLSI design capability.
The Company intends to increase its engineering efforts in the design and
development of board and chip level products, and therefore expects that
research and development expenses will continue to increase in absolute dollars.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased from
$778,000 in 1994 to $1.1 million in 1995 and to $2.1 million in 1996. The
increase in 1995 from the prior year was primarily due to the Company's
increased participation at trade shows. Sales and marketing expenses as a
percentage of total revenues decreased from 9.7% in 1994 to 9.0% in 1995 because
of the growth in total revenues. Sales and marketing expenses increased as a
percentage of total revenues to 16.2% in 1996 from the prior year primarily due
to increases in the Company's sales and marketing staff, including the addition
of sales executives and the development of a network of regional managers. The
Company intends to increase its sales and marketing efforts, and intends to
increase its international market presence. Accordingly, sales and marketing
expenses are expected to increase in absolute dollars in the future.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
were $1.2 million in 1994 and 1995 and increased to $1.6 million in 1996. Due to
the growth in total revenues, general and administrative expenses as a
percentage of total revenues decreased from 14.3% in 1994 to 9.9% in 1995.
General and administrative expenses increased as a percentage of total revenues
to 12.4% in 1996, primarily due to additions to the Company's general and
administrative staff, including the hiring of a new chief executive officer, and
an increase in professional fees. The Company anticipates that it will incur a
significant increase in general and administrative expenses in future periods
associated with legal, accounting and other expenses of being a public company.
OTHER INCOME. Interest and other income was $83,000 in 1994, $87,000 in
1995 and $83,000 in 1996. The amount of the securities investments has been
approximately equivalent during the periods.
PROVISION FOR INCOME TAXES. The Company's FLI subsidiary was an S
Corporation from inception until March 1996. As an S Corporation, FLI earnings
were taxed directly to its stockholders, and FLI's tax provision through March
1996 consisted solely of a California franchise fee. FRE was a C Corporation
since its inception.
25
<PAGE>
FRE had significant losses and its tax provision consisted of alternative
minimum taxes. The Company has incurred minimal foreign taxes. The pro forma
provision for income taxes, calculated assuming FLI's S Corporation status
terminated January 1, 1996, reflects an effective tax rate for the year ended
December 31, 1996 of 40%. The Company anticipates implementing certain tax
planning strategies to reduce the effective tax rate in future periods.
NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997
TOTAL REVENUES. Total revenues increased from $9.3 million in the nine
months ended September 30, 1996 to $12.9 million in the nine months ended
September 30, 1997. The growth in total revenues in the first nine months of
1997 was due primarily to increased shipments of products for the home theater,
shipments of the new VP100 decoder and DVD Player, and $1.3 million of license
and royalty revenues. These factors offset a reduction in sales to the broadcast
market. Revenues from Vidikron accounted for 9.8% of total revenues in the nine
months ended September 30, 1996. Revenues from S3 and Vidikron accounted for
11.1% and 11.2% respectively, of total revenues in the nine months ended
September 30, 1997. Export sales, consisting primarily of VP400 and LD200
products shipped to dealers and distributors in Asia and Europe, represented
11.3% of total revenues in the nine months ended September 30, 1997. See "Risk
Factors--Risks Associated with Export Sales and Operations."
GROSS PROFIT. Gross profit as a percentage of total revenues was 63.9% in
the nine months ended September 30, 1996 and 69.3% in the nine months ended
September 30, 1997. The increase in gross margin was primarily due to license
and royalty revenues and product cost reduction efforts.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased from $1.7 million in the nine months ended September 30, 1996 to $3.0
million in the nine months ended September 30, 1997. The increase was primarily
due to the establishment of a VLSI design department. Consequently, research and
development expenses as a percentage of total revenues increased from 18.1% in
the nine months ended September 30, 1996 to 23.1% in the nine months ended
September 30, 1997.
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased from
$1.5 million in the nine months ended September 30, 1996 to $2.9 million in the
nine months ended September 30, 1997. The increase was primarily due to
increases in the Company's sales and marketing staff and increased participation
in trade shows. The Company hired sales executives and developed a network of
regional managers beginning in 1996 and developed a network of sales
representatives in 1997. Consequently, sales and marketing expenses as a
percentage of total revenues increased from 16.2% in the nine months ended
September 30, 1996 to 22.2% in the nine months ended September 30, 1997.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased from $1.1 million in the nine months ended September 30, 1996 to $1.5
million in the nine months ended September 30, 1997. This increase was due to
additions to the Company's administrative staff, including the hiring of a new
chief executive officer, chief financial officer and general counsel. Due to the
growth in total revenues, general and administrative expenses as a percentage of
total revenues decreased from 12.2% in the nine months ended September 30, 1996
to 11.7% in the nine months ended September 30, 1997.
FINANCING EXPENSE. The Company incurred $312,000 of expenses related to
financing activities in the first quarter of 1997.
OTHER INCOME. Interest and other income increased from $65,000 in the nine
months ended September 30, 1996 to $223,000 in the nine months ended September
30, 1997 as the Company incurred a net realized gain of $83,000 on
available-for-sale securities and additional interest on the proceeds of the
equity investment by S3.
26
<PAGE>
PROVISION FOR INCOME TAXES. The Company's effective tax rate for the nine
months ended September 30, 1997, was 38%. The provision for income taxes for the
nine months ended September 30, 1997, is based on the estimated annual effective
tax rate for the year.
QUARTERLY RESULTS OF OPERATIONS
The following table sets forth certain unaudited quarterly financial
information for the seven quarters ended September 30, 1997. The Company
believes that all necessary adjustments, consisting only of normal recurring
adjustments, have been included in the amounts stated below to present fairly
the selected quarterly information when read in conjunction with the
Consolidated Financial Statements and the Notes thereto included elsewhere
herein. The operating results for any quarter are not necessarily indicative of
results for any subsequent period or for the entire fiscal year.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31, JUNE 30,
1996 1996 1996 1996 1997 1997
----------- ----------- ----------- ----------- ----------- -----------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Revenues:
Product sales........................... $ 2,837 $ 2,753 $ 3,662 $ 3,374 $ 2,835 $ 4,029
License and royalty revenues............ -- -- -- 500 750 250
----------- ----------- ----------- ----------- ----------- -----------
Total revenues........................ 2,837 2,753 3,662 3,874 3,585 4,279
Cost of product sales..................... 1,071 996 1,272 1,458 999 1,287
----------- ----------- ----------- ----------- ----------- -----------
Gross profit.............................. 1,766 1,757 2,390 2,416 2,586 2,992
Operating expenses:
Research and development................ 455 535 686 788 899 941
Sales and marketing..................... 356 524 622 625 678 1,115
General and administrative.............. 261 403 468 491 392 474
Financing expense....................... -- -- -- -- 312 --
----------- ----------- ----------- ----------- ----------- -----------
Total operating expenses.............. 1,072 1,462 1,776 1,904 2,281 2,530
----------- ----------- ----------- ----------- ----------- -----------
Operating income.......................... 694 295 614 512 305 462
Other income (loss)....................... 19 19 27 18 97 (2)
----------- ----------- ----------- ----------- ----------- -----------
Income before provision for income
taxes................................... 713 314 641 530 402 460
Provision for income taxes................ 93 126 256 212 153 175
----------- ----------- ----------- ----------- ----------- -----------
Net income................................ $ 620 $ 188 $ 385 $ 318 $ 249 $ 285
----------- ----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- ----------- -----------
<CAPTION>
SEPT. 30,
1997
-----------
<S> <C>
Revenues:
Product sales........................... 4,762
License and royalty revenues............ 250
-----------
Total revenues........................ 5,012
Cost of product sales..................... 1,666
-----------
Gross profit.............................. 3,346
Operating expenses:
Research and development................ 1,137
Sales and marketing..................... 1,069
General and administrative.............. 638
Financing expense....................... --
-----------
Total operating expenses.............. 2,844
-----------
Operating income.......................... 502
Other income (loss)....................... 128
-----------
Income before provision for income
taxes................................... 630
Provision for income taxes................ 239
-----------
Net income................................ $ 391
-----------
-----------
</TABLE>
27
<PAGE>
The following table sets forth certain unaudited financial information as a
percentage of total revenues for the quarter represented.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31, JUNE 30,
1996 1996 1996 1996 1997 1997
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Revenues:
Product sales........................... 100.0% 100.0% 100.0% 87.1% 79.1% 94.2%
License and royalty revenues............ -- -- -- 12.9 20.9 5.8
----- ----- ----- ----- ----- -----
Total revenues........................ 100.0 100.0 100.0 100.0 100.0 100.0
Cost of product sales..................... 37.8 36.2 34.7 37.6 27.9 30.0
----- ----- ----- ----- ----- -----
Gross margin.............................. 62.2 63.8 65.3 62.4 72.1 70.0
Operating expenses:
Research and development................ 16.0 19.4 18.7 20.3 25.1 22.0
Sales and marketing..................... 12.5 19.0 17.0 16.1 18.9 26.1
General and administrative.............. 9.2 14.7 12.8 12.7 10.9 11.1
Financing expense....................... -- -- -- -- 8.7 --
----- ----- ----- ----- ----- -----
Total operating expenses.............. 37.7 53.1 48.5 49.1 63.6 59.2
----- ----- ----- ----- ----- -----
Operating income.......................... 24.5 10.7 16.8 13.3 8.5 10.8
Other income (loss)....................... 0.7 0.7 0.7 0.4 2.7 --
----- ----- ----- ----- ----- -----
Income before provision for income
taxes................................... 25.2 11.4 17.5 13.7 11.2 10.8
Provision for income taxes................ 3.3 4.6 7.0 5.5 4.3 4.1
----- ----- ----- ----- ----- -----
Net income................................ 21.9% 6.8% 10.5% 8.2% 6.9% 6.7%
----- ----- ----- ----- ----- -----
----- ----- ----- ----- ----- -----
<CAPTION>
SEPT. 30,
1997
-----------
<S> <C>
Revenues:
Product sales........................... 95.0%
License and royalty revenues............ 5.0
-----
Total revenues........................ 100.0
Cost of product sales..................... 33.2
-----
Gross margin.............................. 66.8
Operating expenses:
Research and development................ 22.7
Sales and marketing..................... 21.4
General and administrative.............. 12.7
Financing expense....................... --
-----
Total operating expenses.............. 56.8
-----
Operating income.......................... 10.0
Other income (loss)....................... 2.6
-----
Income before provision for income
taxes................................... 12.6
Provision for income taxes................ 4.8
-----
Net income................................ 7.8%
-----
-----
</TABLE>
The Company's industry is subject to a high degree of seasonality, and
demand for the Company's products is highest in the third and fourth quarters of
each calendar year. As a result, sales are typically highest in these quarters
and may be lower in succeeding quarters.
The decrease in total revenues in the first quarter of 1997 as compared to
the fourth quarter of 1996 was due to seasonal factors and decreased sales of
the Company's broadcast products, which were partially offset by $750,000 of
license and royalty revenues. The increase in total revenues in the second and
third quarters of 1997 from prior quarters was due to sales to new customers
under co-branding agreements, an enlarged dealer network and sales of the new
VP100 decoder and DV1000 DVD player.
The Company's gross margin in the fourth quarter of 1996 was adversely
affected by inventory write-downs and manufacturing consulting and other
manufacturing expenses. These factors were partially offset by $500,000 of
license and royalty revenues. The increase in gross margin in the first quarter
of 1997 as compared to the fourth quarter of 1996 was due to $750,000 of license
and royalty revenues. The decline in gross margin percentage during the second
and third quarters of 1997 as compared to the first quarter of 1997 was due
primarily to the decline in license and royalty revenues to $250,000, and sales
of the lower margin VP100 and DV1000.
The sequential increase in quarterly research and development expenses in
1996 and for the nine months ended September 30, 1997 was primarily due to the
establishment and expansion of the Company's VLSI department. The increase in
quarterly sales and marketing expenses in 1996 and in the nine months ended
September 30, 1997 was due to the expansion of the sales and marketing staff,
increased marketing activities, and the establishment of a network of sales
representatives in 1997.
28
<PAGE>
The Company realized $97,000 of other income in the first quarter of 1997
primarily due to the realization of gains on available-for-sale securities.
The Company's operating results have varied in the past and are likely to
vary significantly in the future from period to period as a result of a number
of factors. See "Risk Factors--Potential Fluctuations in Future Operating
Results; Seasonality" for a discussion of factors that could have a material
adverse effect on the Company's quarterly results.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically funded its capital requirements from its cash
flow from operations. Funding requirements in the past have been primarily
related to the growth in accounts receivable, inventories and capital equipment.
OPERATING ACTIVITIES. In 1994, net cash provided by operating activities
was $1.7 million, primarily composed of (i) $1.9 million of net income, (ii)
$172,000 of depreciation and amortization and (iii) a $165,000 increase in
accrued compensation and benefits. These were partially offset by (i) a $359,000
increase in accounts receivable, (ii) a $119,000 decrease in accounts payable
and (iii) a $100,000 decrease in other accrued liabilities.
In 1995, net cash provided by operating activities was $3.4 million,
primarily composed of (i) $4.0 million of net income, (ii) $224,000 of
depreciation and amortization, (iii) a $417,000 increase in accounts payable and
(iv) a $118,000 increase in accrued compensation and benefits. These were
partially offset by (i) a $793,000 increase in inventory and (ii) a $642,000
increase in accounts receivable.
In 1996, net cash provided by operating activities was $1.3 million,
primarily composed of (i) $1.5 million of net income, (ii) $422,000 of
depreciation and amortization, (iii) a $128,000 increase in accounts payable,
(iv) a $186,000 increase in accrued compensation and benefits, (v) a $258,000
increase in other liabilities and (vi) $500,000 of deferred revenues. These were
partially offset by a (i) a $96,000 increase in inventory, (ii) a $1.2 million
increase in accounts receivable primarily attributable to $1.0 million due from
a licensing customer from an agreement completed in December, 1996 and (iii) an
increase in deferred tax assets of $462,000.
For the nine months ended September 30, 1996, net cash provided by operating
activities was $1.1 million, primarily composed of (i) $1,193,000 of net income,
(ii) a $187,000 increase in accrued liabilities and (iii) $257,000 of
depreciation and amortization. These were offset by a $117,000 increase in
inventory and a $385,000 increase in accounts receivable.
For the nine months ended September 30, 1997, net cash used by operating
activities was $201,000, primarily composed of (i) $925,000 of net income, (ii)
$231,000 of depreciation and amortization, (iii) a $196,000 increase in other
accrued liabilities, (iv) a $487,000 increase in accrued compensation and (v) a
$252,000 increase in income taxes payable. These were offset by (i) a $500,000
decrease in deferred revenues, (ii) a $951,000 increase in inventory, (iii) a
$183,000 increase in deferred tax assets, (iv) a $518,000 increase in other
current assets and (v) a $552,000 increase in accounts receivable.
INVESTING ACTIVITIES. Capital equipment purchases in the nine months ended
September 30, 1996 and 1997 were $611,000 and $753,000, respectively, and in
1994, 1995 and 1996 were $212,000, $392,000 and $967,000, respectively,
primarily for computer hardware and software used in research and development,
engineering test equipment and furniture and fixtures.
FINANCING ACTIVITIES. In June 1997, the Company received $5.0 million from
a private placement of 526,316 shares of Common Stock with S3. See "Certain
Transactions--License Agreement with S3" and "--1996 Financing." The Company
issued $4.0 million of Common Stock in 1996. In connection with its status as a
Subchapter S Corporation, the Company distributed $1.5 million, $1.4 million and
$4.0 million to stockholders in 1994, 1995 and 1996 respectively. In 1994, the
Company repaid a $420,000 loan from a related party.
29
<PAGE>
LIQUIDITY. At September 30, 1997, the Company's principal source of
liquidity consisted of cash, cash equivalents and short-term investments
totaling $7.2 million, and a bank credit facility for $2.5 million. The
Company's working capital at September 30, 1997 was $11.2 million. In April
1997, the Company established a revolving line of credit with a bank. Borrowings
are collateralized by substantially all tangible assets, are limited to defined
percentages of eligible accounts receivable, and the Company must satisfy
certain financial covenants. In June 1997, the line of credit, which expires May
1998, was increased to $2.0 million. The Company also obtained a three year
equipment line of credit of up to $500,000 available through December 1997.
The Company's future capital requirements are expected to include (i)
supporting the expansion of the research and development and sales and marketing
departments, (ii) funding the acquisition of capital equipment, primarily for
research and development and consisting of such items as engineering equipment,
computers and furniture, and (iii) funding the growth of working capital items
such as receivables and inventory.
The Company may investigate means to acquire greater control over
semiconductor production, whether by joint venture, prepayments, equity
investments in or loans to wafer suppliers. In addition, as part of its business
strategy, the Company occasionally evaluates potential acquisitions of
businesses, products and technologies. Accordingly, a portion of its available
cash may be used for the acquisition of complementary products, technologies or
businesses or to assure foundry capacity. Such potential transactions may
require substantial capital resources, which may require the Company to seek
additional debt or equity financing. There can be no assurance that the Company
will consummate any such transactions.
The Company believes that its current cash, cash equivalents and short-term
investments and the anticipated net proceeds from this Offering will be
sufficient to support the Company's planned activities through at least the next
twelve months.
30
<PAGE>
BUSINESS
OVERVIEW
Faroudja designs, develops and markets a range of video image enhancement
products that significantly improve displayed images to achieve cinema-like
quality. Through more than 25 years of product development and technological
advances, the Company and its predecessors have established a reputation for
excellence in video processing and video signal image enhancement in the
high-end home theater, industrial and broadcast markets. The Company believes
that its technology, experience and reputation in these markets will enable it
to address opportunities in the emerging DTV and HDTV broadcast environment and
to facilitate the convergence of the PC and the TV.
The Company began operations in 1971 through two related companies, FLI and
later FRE. The Company was incorporated in December 1996 under the laws of the
state of Delaware to succeed to the business of FLI and FRE. Thereafter, FRE was
merged into FLI with FLI surviving the merger and FLI was subsequently merged
into a newly-formed wholly-owned subsidiary of the Company. Prior to March 1996,
FRE and FLI were each owned 100% by two individuals (the "Founders"). In March
1996, the Investor Group acquired a 56.25% ownership interest in both entities
through the purchase of shares held by the Founders for $14 million and newly
issued FLI shares for $4 million. The Investor Group also acquired the Faroudja
Option from the Founders to acquire an additional 1,537,500 shares held by the
Founders for a total of $6 million or $3.90 per share. Such option was exercised
by the Investor Group on September 5, 1997. See "Certain Transactions-- 1996
Financing" and Note 1 of Notes to Consolidated Financial Statements.
INDUSTRY BACKGROUND
Video images are pervasive in today's society as sources of entertainment
and information. Since the introduction of motion pictures, cinema has evolved
from low resolution black and white pictures (such as the Charlie Chaplin movies
of the 1920s) to spectacular color movie productions (such as JURASSIC PARK).
Today, images are displayed on a variety of electronic media including color
TVs, projection systems and PCs. Historically, there has been a substantial
difference in the quality of these various media, ranging from low quality TV
pictures to very high quality cinema pictures. This difference resulted from a
host of technical issues related to the capture, transmission and display of
video images. Current technologies make it possible to replicate cinema quality
on TVs, projection systems and PCs.
With U.S. households owning approximately 250 million television sets, TV is
the dominant medium for viewing video images. While TV is an integral part of
modern life, it is optimized around image production, transmission and display
technology created more than 40 years ago. TV signals are produced in accordance
with the NTSC standard developed in the 1940s for black and white programs. This
standard was last modified in the 1950s to make possible the compatible
transmission of black and white and color programs. Technical compromises
required to achieve compatibility introduce image degrading imperfections, known
as artifacts. Additionally, analog transmission introduces noise in the TV
image. While always present, these imperfections are less evident on TV screens
smaller than 25 inches in size than on larger screens. Over the last decade,
consumer interest in larger screen TVs has increased dramatically, fueled by
decreasing equipment prices and an ever expanding universe of movies, sporting
events and other programming available via cable TV, video cassette, direct
broadcast satellite, laser disc and, most recently, DVD. As TV screen sizes have
increased, impairments in the image, such as low resolution, artifacts and
noise, have become more readily apparent. The
- ------------------------
* NTSC is the current analog television system named for the National
Television Systems Committee, the industry group that developed the
monochrome (black and white) television standard in 1940-41 and the color
television standard in the 1950s. NTSC was developed in the United States
for 60 Hz, 525 line transmissions. PAL is the acronym for Phase Alternating
Line which was developed in Europe for 50 Hz, 625 line transmissions. PAL
uses many of the same coding techniques developed for NTSC resulting in
similar image imperfections.
31
<PAGE>
better quality images produced by DVDs, digital satellite transmission and high
resolution computer monitors have made viewers more discriminating and have
elevated their image quality expectations.
The Company believes that this trend will accelerate with the announced
introduction of HDTV by some broadcasters in late 1998. HDTV images are expected
to incorporate cinema-like image quality in a wider screen format. The FCC
recently established standards for DTV broadcasting in the United States and
adopted rules mandating the gradual introduction of DTV broadcasting. The FCC
has targeted the eventual phase-out of analog (NTSC) broadcasting by the year
2006. Current analog broadcasting equipment is not compatible with the new DTV
standards. In order to transmit digital signals in accordance with the new DTV
standards, broadcasters will need to acquire new equipment, including digital
transmission equipment, at costs estimated to be as high as $10 million per
station. Broadcasters are seeking to reduce the costs of transitioning from
analog to digital broadcasting through strategies which will allow them to
continue to use much of their existing equipment.
Advances in microprocessors, the availability of low cost memory and
storage, high quality displays, sophisticated software and the emergence of the
World Wide Web have fueled the growth in multimedia applications on the PC. The
PC is increasingly being used to view video stored on hard disk, CD-ROM, DVD and
laser disc, and video over the Internet. The Company believes that the use of
the PC as an entertainment device in the future will depend in large part on the
PC's ability to display TV images. Since TV signals use an interlaced format
while PCs use a progressive scanning display format, a TV signal must be
converted before being displayed on a PC. Until now, the interlace/progressive
conversion, along with other steps in the conversion of the TV signal, has
caused color distortion, motion artifacts, noise and other imperfections, which
have resulted in poor video quality on the PC. Image problems become even more
apparent when TV signals are viewed on a PC, as PC users sit relatively close to
their screens and PC monitors have higher resolution than most TVs.
FAROUDJA SOLUTION
Faroudja designs, develops and markets video image enhancement products that
significantly improve images to achieve a cinema-like quality. The Company
believes that once viewers experience cinema quality displays in their homes and
offices, they will demand it from all video platforms. The Company believes that
its technology, experience and reputation will enable the Company to address
opportunities in the emerging DTV/ HDTV broadcast environment and to facilitate
the PC/TV convergence.
The Company's products for the TV market substantially reduce the
imperfections inherent in analog NTSC signals, which become increasingly
apparent on large screen TV displays. The Company's technology improves picture
quality by removing artifacts and noise, detecting and compensating for motion,
enhancing resolution, and multiplying the number of lines displayed. Faroudja's
product sales for the TV market include sales of stand alone products to home
and industrial consumers and board level products to OEM customers.
Faroudja intends to capitalize on its experience and core technologies to
develop products which support the transition from analog to DTV/HDTV
broadcasting. As broadcasters make significant investments to satisfy regulatory
requirements, the Company believes that product solutions which interface with
additional necessary digital transmission equipment and current studio equipment
will help broadcasters minimize transition costs and maintain flexibility in
responding to evolving regulatory and market requirements. The Company is
developing standards conversion and upscaling products which it believes will
enable broadcasters to use much of the equipment present in their existing
studios to produce programming in various DTV/HDTV video formats.
The Company is also developing products and technology that are intended to
solve the interlacing problem by significantly reducing the noise and artifacts
inherent in the display of high quality TV pictures on PC screens. In March
1997, the Company executed a license agreement with S3, a leading supplier of
advanced graphics accelerators for multimedia computer systems. The Company and
S3 are working jointly to develop integrated circuits that will enable the
display of near cinema quality images on PC screens.
32
<PAGE>
STRATEGY
The Company's objective is to maintain and expand its position as the
industry standard of excellence for video image quality. Key elements of the
Company's strategy to achieve this objective include:
MAINTAIN AND EXTEND TECHNOLOGY LEADERSHIP. The Company intends to build
upon its technology leadership in video image processing by increasing its
investment in research and development. These efforts will focus on developing
patentable technology and innovative products for the TV and broadcast markets.
The Company also intends to leverage its image enhancement expertise in TV into
broadcast and PC products and applications.
PENETRATE BROADER MARKET SEGMENTS. The Company has historically sold
products that addressed the needs of the industrial and high-end home theater
markets. The Company recently introduced a decoder and signal enhancer with
prices and capabilities appealing to broad segments of the consumer markets. The
Company intends to continue to seek opportunities in new and broader market
segments, such as the converging PC and TV markets and the emerging DTV/HDTV
markets.
INCREASE BRAND NAME AWARENESS. The Company has established a reputation for
excellence in video processing and video image enhancement in the commercial
broadcast, industrial and high-end home theater markets. The Company intends to
increase brand name awareness through increased advertising, the marketing of
stand alone image enhancement products and video source players carrying the
Company's trademarks, and co-branding agreements with OEM customers. The
distribution of Company-branded and co-branded products (particularly PC/TV
products) in new and broader market segments is also intended to increase
Faroudja brand awareness.
BUILD AND LEVERAGE STRATEGIC RELATIONSHIPS. The Company intends to
establish and maintain strategic relationships with companies whose technology,
products and product strategies complement those of the Company. Through
selective licensing of its patented technologies, the Company intends to
increase penetration and recognition of its capabilities in markets currently
served and to facilitate migration into new markets. The agreement with S3 and
the potential agreement with TI are examples of attempts to incorporate the
Company's technology into applications outside the Company's historical
products.
EXPAND INTERNATIONAL PRESENCE. The Company intends to expand its
international presence in order to increase its export sales. These efforts will
include establishing a sales force and marketing activities for the European and
Asian markets, expanding the Company's international network of distributors and
dealers, continuing the development of OEM relationships with customers serving
international markets, such as Hughes/JVC, Vidikron, Runco and NEC, and product
development that incorporates various international specifications.
33
<PAGE>
PRODUCTS
Faroudja designs, develops and markets a range of video image enhancement
products for the TV and broadcast markets. The following table sets forth
certain information regarding the Company's current stand alone industrial and
home products:
<TABLE>
<CAPTION>
SUGGESTED
MARKET PRODUCT DESCRIPTION RETAIL PRICE
<S> <C> <C> <C>
TV--Image Enhancement/ VP400A Line quadrupler and video processor for $24,000-$25,500
Line Multiplying VP400AU large screen high resolution video
projection systems.
VP250 Line doubler and video processor for $9,950-$13,500
LD200 large screen high resolution direct
LD200U view, front and rear screen projection
systems.
VP100 Video decoder with detail and color $799
VP100U enhancement.
TV--Source Players DV1000 DVD/CD player with detail and color $5,500
enhancement.
LD1000 Laser disc player with audio $5,500
enhancement.
Broadcast DFD-U Low noise video decoder/frame $12,400-$19,950
synchronizer with video adjustments.
Analog and digital red, green and blue
(RGB) outputs.
CFD Very low noise video decoder with video $6,550
adjustments and analog red, green and
blue (RGB) outputs.
</TABLE>
TV PRODUCTS
LINE QUADRUPLERS (VP400A (NTSC) AND VP400AU (NTSC/PAL)). Faroudja line
quadrupler video processors produce cinema-like images. The processors accept
input from sources formatted for conventional 525-line or 625-line TV standards,
and convert them into line-quadrupled, noticeably artifact-free, high resolution
signals for direct-view or projector TV screens. The processors are precision
instruments employing three complex digital signal processes utilizing patented
technology in the fields of decoding, scan conversion and detail enhancement.
These products substantially reduce color blurring, rainbow patterns, dot crawl
and visible scan lines, and deliver sharp image details.
LINE DOUBLING VIDEO PROCESSORS (VP250 (NTSC/PAL), LD200(NTSC), LD200U
(NTSC/PAL)). The Company's line doubling video processors utilize certain of
the same technologies as the Company's line quadruplers, and deliver similar
results for smaller direct-view or projector TV screens.
VP100 TV ENHANCER (NTSC) AND VP100U (NTSC/PAL). The VP100 and VP100U set
top components apply patented adaptive decoding, detail processing and color
alignment correction for use in standard and large screen S-video compatible
TVs. These products substantially reduce color decoding artifacts and greatly
34
<PAGE>
increase image detail and depth. These products offer consumers a moderately
priced video enhancement technology that plugs directly into the TV unit.
DV1000 HIGH DEFINITION DIGITAL VIDEO DISC AND CD PLAYER. The DV1000 applies
custom circuitry to both video and audio processing to provide significantly
enhanced image detail and depth exceeding what is expected to be available from
standard DVD players.
LD1000 HIGH DEFINITION LASER DISC AND CD PLAYER. The LD1000 applies custom
circuitry for audio enhancement to provide an experience exceeding what is
available from standard laser disc players.
TV product sales as a percentage of total revenues for fiscal 1994, 1995 and
1996 and the nine months ended September 30, 1997 were 67%, 80%, 80% and 85%,
respectively.
BROADCAST PRODUCTS
DFD-U PAL/NTSC DIGITAL DECODER. The DFD-U uses 10-bit processing with
patented decoding and bandwidth expansion circuitry to convert PAL or NTSC
analog signals into the digital component data required for video compression.
Additional circuits include time base correction and full frame synchronization.
The combination results in a significantly artifact-free digital signal that
enables additional channel capacity with reduced noise levels and higher quality
video signals from MPEG video compression engines.
CFD. The CFD decodes NTSC signals into high quality, artifact-free
components prior to the time the signal is transmitted. The output signal is
used in applications such as studio manipulation, display and digital video
compression.
Broadcast product sales as a percentage of total revenues for fiscal 1994,
1995 and 1996 and the nine months ended September 30, 1997 were 33%, 20%, 16%
and 1%, respectively.
OEM PRODUCTS
The Company has designed and developed board level products incorporating
the Company's technologies for the OEM market. To date, sales from board level
products have not been material.
RESEARCH AND DEVELOPMENT; NEW PRODUCTS
The Company's research and development efforts are headed by Yves Faroudja,
the Company's founder and Chief Technology Officer. The Company has devoted, and
expects to continue to devote, significant resources to its research and
development efforts. In 1996, the Company established a VLSI design group to
develop high performance video ASICs. In June 1997, the Company expanded its
VLSI department by establishing a facility in Phoenix, Arizona with five
engineers. As of September 30, 1997, the Company had a staff of 25 full-time and
2 part-time research and development personnel. During 1994, 1995 and 1996 and
the first nine months of 1997, the Company's research and development expenses
were approximately $1.3 million, $1.5 million, $2.5 million and $3.0 million,
respectively. The Company anticipates that its research and development expenses
will increase in absolute dollars for the foreseeable future. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Results of Operations."
The Company has a number of products in development with introduction
planned during the next several years. For the TV market, the Company is
developing an advanced line multiplier and scaling video processor for very
large screen high resolution systems, a video processor for liquid crystal
display ("LCD") and Digital Light Processing-TM- based projector systems ("DLP")
products and a video processor for less sophisticated industrial applications.
The Company is also developing a rear screen projection TV incorporating the
Company's line multiplication and enhancement technology. For the OEM TV
projection market, the Company is developing a board level decoder with video
enhancement features.
For the broadcast market, the Company is developing an upconverter that
utilizes Faroudja technology to deliver HDTV quality video images from NTSC
sources. Field testing is planned for the fourth quarter of 1997
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and, if such testing is successful, the Company expects to begin sales of this
product in the first quarter of 1998. The upconverter is intended to provide
broadcasters with the ability to leverage their existing analog equipment and
systems to produce programming in various DTV/HDTV video formats. The Company is
also developing studio quality NTSC/PAL decoders for broadcast and
postproduction applications.
For the PC/TV market, the Company is in the final stages of developing a
video decoder integrated circuit, which includes synchronization, time base
correction and detail enhancement. The Company is also developing "Presentation
Plus," a line multiplier and scaling video product for high resolution video
computer monitors that incorporates time base correction, image enhancement and
video synchronization.
The Company's other planned research products include expanded development
of line multipliers and compression pre-processors which include noise reduction
to increase compressor efficiency, and the extension of the Company's technology
to low bandwidth use for such applications as teleconferencing and video
telephones.
The markets for the Company's products are characterized by evolving
industry standards, rapid technological change, frequent new product
introductions and short product life cycles. The Company's future success will
depend, in large part, on its ability to continue to enhance its existing
products and to develop new products and features to meet changing customer
requirements and evolving industry standards. The Company anticipates that sales
from its line multiplier product lines will experience limited growth, or may
decline, in future periods. The Company expects that more than one-half of its
total revenues in 1998 will be derived from licensing revenue and sales of
recently introduced products, as well as products which the Company is
developing. The success of new products depends on a number of factors,
including proper selection and timely introduction of planned new products,
successful and timely completion of product development, accurate estimation of
demand for new products, market acceptance of new products of the Company and
its OEM customers, the Company's ability to offer new products at competitive
prices, the availability of adequate staffing to produce and sell such new
products, and competition from products introduced by competitors. Certain of
these factors are outside the control of the Company. See "Risk Factors--Risks
Associated with New Markets and Applications; Market Acceptance." For example,
to date sales of the Company's DVD players have been minimal, and initial sales
of the Company's rear projection TV are not expected until the fourth quarter of
1997. Sales of the Company's board level products, and future license and
royalty revenues, depend in part upon the ability of the Company's OEM customers
and licensees to successfully develop and market products incorporating the
Company's products or technology. The Company's products intended for the
digital broadcast market are not expected to be field tested until the fourth
quarter of 1997 and are not expected to be available for sale until 1998. There
can be no assurance that the Company's broadcast products, assuming timely
development and satisfactory completion of field tests, will be accepted by the
broadcast market. There can be no assurance as to the amount of royalties, if
any, to be paid to the Company under the S3 agreement because S3 is under no
obligation to maintain its exclusive license with the Company or to develop
products incorporating the Company's technology under the agreement.
The incorporation of the Company's products into its OEM customers' product
designs often requires significant expenditures by the Company, which
expenditures may precede volume sales of the Company's products, if any, by one
year or more. The introduction of new or enhanced products also requires the
Company to manage the transition from older products in order to minimize
disruption in customer ordering patterns, to avoid excessive levels of older
product inventories and to ensure that adequate supplies of new products can be
delivered to meet customer demand.
There can be no assurance that the Company will identify new product
opportunities, will successfully develop and bring to market new products, will
achieve design wins or will respond effectively to technological changes or
product announcements by others, or that the Company's new products will achieve
market acceptance. A failure in any of these areas would have a material adverse
effect on the Company's business, financial condition and operating results. See
"Risk Factors--Dependence on New Product Development and Risk of Technological
Change."
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TECHNOLOGY
The Company has significant expertise in a number of technologies relating
to video image enhancement.
ENCODING TECHNOLOGY. A NTSC or PAL signal consists of a luminance signal
and two color-difference signals. In a conventional NTSC or PAL encoder, the
color-difference signals are modulated on a subcarrier and added to the
luminance signal. In this case, the spectrum of both the luminance signal and
the modulated chrominance signal are mixed together, which generates "rainbow
patterns," "dot crawl" and other artifacts in TV receivers. Faroudja's patented
pre-filtered technology is applied to luminance and chrominance signals
separately so that they will not interfere with each other. The two signals are
added together without an overlaid spectrum, which significantly reduces rainbow
patterns and other artifacts.
DECODING TECHNOLOGY. The color section of the NTSC standard was originally
designed with severe bandwidth restrictions. This causes colors in various video
images to "blur" and "smear." These effects are aggravated by storage media,
such as VHS tapes, that further degrade the chroma or color signal. The Faroudja
decoder technology utilizes proprietary circuitry to recreate and correct color
details. This is accomplished by making use of the sharper black and white
transitions to develop a correction signal that is then used to sharpen the
color transitions. As a result, colors are restored with sharp details and video
images retain their original crisp image. Digital adaptive comb filter circuitry
eliminates decoding errors from imperfect separation of the luminance and
chrominance signals and enables the reproduction of sharper, cleaner color
images. The Company's decoder technology has two separate correction circuits
that create color transitions that are clear, sharp and natural by eliminating
dot crawl, a rapid upward movement of colored dots on sharp vertical
transitions, and hanging dots which lie underneath all the colored horizontal
transitions. Dot crawl and hanging dots are easily apparent with large, highly
saturated, stationary graphics such as titles and credits.
LINE MULTIPLIER TECHNOLOGY. The line multiplier technology reduces scan
line visibility resulting from utilizing a 525 line broadcast standard on
today's large screen TVs by changing the interlaced video signal to a
progressively scanned signal. The Company's line multiplier technology detects
motion and interpolates correctly to "fill in the blanks." This technology can
detect the difference between a film image that has been transferred to video or
a video image that emanates from a video camera. After detecting the image type,
the line multiplier technology selects its algorithm to compensate accordingly.
This is critical because today's home theaters are primarily used to show films
that were transferred to video, whether on tape, laser disc or off the air.
DETAIL ENHANCEMENT TECHNOLOGY. The best video sources such as DVD (if
properly recorded) provide good resolution while others such as digital
satellite reception and laser discs often provide acceptable resolution.
However, common sources such as broadcast or VHS tapes are noticeably deficient.
The problem is compounded when scan lines are doubled or quadrupled and when
other signal processing is applied. The resulting picture is free of artifacts
(including visible scan lines) but dull, with loss of definition and a general
blurriness. The Company's proprietary technology increases the visibility of
small image details, whether horizontal or vertical, without introducing ringing
or noise artifacts and without modifying large edge response. The Company's
technology also uses a form of non-linear processing similar to controlled
distortion. This technique expands the bandwidth of large edge signals without
introducing artifacts, such as ringing, in both the horizontal and vertical
domains. The combination of these two techniques results in a line doubled or
quadrupled image that gives a greater feeling of depth.
MOTION COMPENSATION TECHNOLOGY. The inherent scan and frame rate changes
that are required to display the enhanced video image makes motion compensation
necessary in the reconstruction of the enhanced picture. TV images are
transmitted in an interlaced fashion in which the picture is transmitted in two
parts, the first being the even lines of the picture, the second the odd lines.
This creates a time delay of 16 milliseconds between the odd and even lines of
the image. If motion is present, artifacts can be generated in the conversion to
a line doubled or quadrupled image. Also, while TV images are displayed at
approximately 60 frames per second, cinema film sources are displayed at 24
frames per second. To ensure an image noticeably free from artifacts, the motion
of the video has to be taken into account and identification of the source
material as video or film is necessary. The Company's motion and film detection
technology is used in most of its video enhancement products.
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NOISE REDUCTION. All analog video sources contain some degree of picture
noise. This is manifested as low level moving or shimmering artifacts, or an
excessive graininess in the picture. High quality digital sources such as DVDs
have much reduced noise content. Noise reduction processing is required to bring
analog sources, either existing archive material or new material from
traditional cameras, up to digital standards. Small static details in the
picture have to be distinguished from the moving noise artifacts so that correct
discrimination can be accomplished. The Company makes use of its motion
detection and adaptive video filtering technologies to optimize noise reduction
in the video images.
TIME BASE CORRECTION. Video sources which are being transmitted from a
broadcast studio or by a satellite or cable TV head end derive line and frame
scan rates from stable crystal controlled sources which are timing accurate.
Video produced by consumer video cassette recorders, camcorders and, to a lesser
extent, video discs are subject to timing errors, because the playback relies on
the mechanical rotation of the storage medium for timing accuracy. In the case
of VCRs, line lengths may vary causing color decoding and video picture
alignment problems. If a VCR source is to be transmitted in the industry
standard digital D1 format, this line timing variability is not permissible. The
Company's time base correction technology permits its decoders not only to
separate the luminance and chrominance components of the video source but to
re-lock the video to a crystal reference. This stabilizes the picture,
particularly when video is overlaid on other video sources, and makes it
compliant with digital studio transmission standards.
SCALING. As new video standards become available, the need to reformat the
video picture by scaling in both the horizontal and vertical domains becomes
more important. The Company currently produces line doublers and quadruplers
which scale the picture by a factor of two. The Company has under development
products which scale the picture by non-integer ratios. This will be required
for the Company's PC interface products, which will permit the adjustment of the
size of a video image in a window on the PC monitor. This is a completely
variable scaling application. LCD panels or TI's DLP mirror products have finite
numbers of pixels in the display format. At present, 800 horizontal pixels by
600 vertical pixels is a common size and was developed to match computer SVGA
display sizes. In the case of video being interfaced to pixel based displays to
ensure that video artifacts are not developed at the display device, the video
source is scaled to convert the original number of lines to the number of lines
in the display device. Non-integer scaling is employed in this transfer. Scaling
will also be used in the conversion of video between traditional sources and the
new DTV and HDTV formats.
STRATEGIC RELATIONSHIPS
The Company believes that strategic relationships with other manufacturers
will provide opportunities to facilitate the entry of video image enhancement
products into new markets.
In March 1997, the Company entered into a license agreement with S3, a
leading supplier of advanced graphics accelerators for use in mainstream
multimedia PC systems. Under the terms of the agreement, the Company and S3 are
working jointly to develop integrated circuits using the Company's video
processing technologies and S3's advanced graphics accelerator technology for
use in PCs. The Company has granted S3 a worldwide license to certain
technology, including line doubling, detail enhancement, cross-color
suppression, motion tracking and compensation, and digital compression filtering
technology. Portions of such license are exclusive for certain markets for a
period of five years provided that performance criteria are satisfied. The
Company is obligated to negotiate with S3 to extend this five year period. The
Company is to receive certain per unit royalties for products sold incorporating
the Company's technology. In addition to other performance criteria, S3 must
make minimum royalty payments to maintain exclusivity. If royalties on product
sales do not reach prescribed minimum levels, S3 may maintain exclusivity by
prepaying royalties to prescribed levels, but there is no requirement for it to
do so. S3 expects to ship products that incorporate the Company's technology in
1998. There can be no assurance that S3 and the Company will develop products as
a result of the agreement or that future royalties will be received by the
Company.
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In April 1997, the Company entered into a development agreement with TI.
Under the terms of the agreement, the Company and TI are working jointly to
enhance and improve the images displayed by TI's DLP. If TI is satisfied with
the development related to the DLP, TI and the Company may enter into a further
agreement that would provide, among other things, that the Company sell board
level decoder products to TI, and/or license certain of the Company's technology
to TI. However, there can be no assurance that the Company will develop any such
improvements, that TI and the Company will enter into any further agreement or
that the Company will receive any royalty payments from TI. See "Risk
Factors--Dependence on Strategic Relationships" and "Certain
Transactions--License Agreement with S3."
SALES AND MARKETING
Faroudja markets its products for the TV market through a network of home
theater, industrial and commercial dealers as well as OEM customers. As of
September 30, 1997, the Company maintained a sales force of nine persons at its
headquarters in Sunnyvale, California, and six employees in regional offices.
The Company's marketing programs include trade shows, training seminars, public
relations and advertising. Revenues from GI accounted for 19.3% of total
revenues in 1994. Revenues from Hughes/JVC accounted for 12.1% of total revenues
in 1995. Revenues from Vidikron accounted for 10.5% of total revenues in 1996.
Revenues from S3 and Vidikron accounted for 11.1% and 11.2% respectively, of
total revenues in the nine months ended September 30, 1997.
The Company currently distributes its home theater products through
approximately 330 home theater dealers throughout the United States. This
distribution channel is managed by a Company national sales manager, four
regional managers, one field training manager, twelve independent sales
representatives and a customer service department. Through the recent
introduction of new, lower priced products for home theaters and the addition of
independent sales representatives, the Company intends to increase its home
theater dealer network locations in the U.S. over the next twelve months.
The Company services industrial applications, such as corporate board rooms,
executive conference centers and auditoriums, through a network of more than 70
industrial dealers. These dealers typically provide installation, product
integration, on site training and customer support. This network is managed
directly by a national sales manager and four regional managers.
For the broadcast market, the Company has relied, and expects to continue to
rely in the future, on direct sales marketing. The Company has three employees
who sell directly to the broadcast markets.
The Company has OEM relationships with Runco, Vidikron and Ampro. Vidikron
is also integrating the VP100 decoder into certain of its projection systems,
including the new Helios I projector based on TI's DLP. There can be no
assurance that the Company will continue to receive any revenues from any of
these relationships.
The Company has entered into co-branding arrangements with NEC and Runco
pursuant to which NEC and Runco have non-exclusive distribution rights to the
Company's line multiplier products. NEC and Runco are required to purchase a
certain minimum number of units per year to maintain their rights to co-brand
Company products. Under the NEC agreement, the Company has afforded NEC certain
price protections with respect to products listed therein. Specifically, in the
event of a price decrease for any such product, the Company will provide a
credit equal to the decrease for all such products remaining in inventory at
NEC. The Company has also entered into a co-branding arrangement with Ampro for
the development and sale of decoder boards for incorporation into the Ampro
three chip TI DLP product. There can be no assurance that the Company will
continue to receive any revenues from any of these arrangements.
In 1996 and in the nine months ended September 30, 1997, the Company
generated approximately 15.3% and 11.3%, respectively, of its total revenues
from export sales. The decrease in the percentage of total revenues generated
from export sales in the nine months ended September 30, 1997 from the prior
year was primarily due to (i) increased sales to certain U.S. customers which,
the Company believes, in turn exported the Company's
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products and (ii) a reduction in international sales personnel. The Company
intends to expand its international presence in order to increase its export
sales and intends to hire a sales manager in the fourth quarter of 1997 to
handle export sales. Consequently, the Company believes that export sales will
increase as a percentage of total revenues in future periods. The Company has a
non-exclusive worldwide distribution arrangement with Vidikron pursuant to which
Vidikron distributes the Company's line doublers and line quadruplers. Further,
Faroudja has a non-exclusive worldwide distribution arrangement with Hughes/JVC
for the industrial and consumer market. Hughes/JVC distributes Faroudja's line
doublers, quadruplers and broadcast products. In addition, Faroudja has
distributors or dealers in over 35 countries worldwide. Export sales to
international customers entail a number of risks, including unexpected changes
in, or impositions of, legislative or regulatory requirements, delays resulting
from difficulty in obtaining export licenses for certain technology, tariffs,
quotas and other trade barriers and restrictions, longer payment cycles, greater
difficulty in accounts receivable collection, potential adverse taxes, currency
exchange fluctuations, the burdens of complying with a variety of foreign laws
and other factors beyond the Company's control. See "Risk Factors--Risks
Associated with Export Sales and Operations."
The Company's future success will depend, in large part, on the continued
efforts of its network of direct and indirect distributors and dealers. The loss
of, or reduction in sales to any of the Company's key customers could have a
material adverse effect on the Company's operating results. See "Risk
Factors--Distribution Risks; Diversification of Sales Channels."
The Company's business is characterized by short lead times and quick
delivery schedules. As a result, the Company does not believe that backlog at
any given time is a meaningful indication of future sales.
MANUFACTURING
TV AND BROADCAST PRODUCTS. The Company focuses its manufacturing efforts on
producing high quality products in a cost-effective manner. The Company's
manufacturing operations are located in Sunnyvale, California and consist mainly
of materials procurement, final assembly, testing, quality assurance and
shipping of products. The only product assembly performed by the Company is
final assembly, which consists of building chassis and installing circuit boards
and wires and cables. The Company performs testing and quality assurance of all
products at its Sunnyvale facilities and plans to expand its in-house automated
testing efforts as its product volume increases.
The Company subcontracts other manufacturing functions, including the
production of its printed circuit boards. Bestronics assembles more than 80% of
the Company's circuit boards. The Company's reliance on independent printed
circuit board assemblers limits its control over delivery schedules, quality
assurance and product cost. The Company also relies on suppliers for components,
such as DC Electronics which builds all of the Company's wire and cable
harnesses. Disruption in service by any of the Company's subcontractors or the
Company's suppliers could lead to supply constraints or delays in the delivery
of the Company's products. Such supply constraints or delays could have a
material adverse effect on the Company's business, operating results and
financial condition. See "Risk Factors--Reliance on Independent Foundries and
Manufacturers."
WAFER FABRICATION. The Company contracts all of its wafer fabrication,
assembly and testing to independent foundries and contractors, which enables the
Company to focus on its design strengths, minimize fixed costs and capital
expenditures and gain access to advanced manufacturing facilities. As the
Company continues to develop ASIC products, it will continue to contract out its
wafer production. The Company's engineers work closely with the Company's
foundries and subcontractors to increase yields, lower manufacturing costs and
assure quality. The Company's primary foundry is SGS-Thomson. In addition, MDT
and TEMIC have manufactured the Company's integrated circuits since 1993 and
1996, respectively. Most of the Company's devices are currently fabricated using
complementary metal oxide semiconductor ("CMOS") process technology with 0.8
micron feature sizes. New devices that are being designed are in 0.5 micron and
0.35 micron sizes. The Company currently purchases products from all of its
foundries under individually negotiated purchase orders. The Company does not
currently have a long-term supply contract with any of its wafer fabrication
foundries
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and, therefore, none are obligated to supply products to the Company for any
specific period, in any specific quantity or at any specified price, except as
may be provided in a particular purchase order. The Company's reliance on
independent foundries and assembly and testing houses involves a number of
risks. See "Risks Factors--Reliance on Independent Foundries and Manufacturers."
COMPETITION
The markets in which the Company competes are intensely competitive and are
characterized by rapid technological change, rapid product obsolescence and
price competition. The Company expects competition to increase in the future
from existing competitors and from other companies that may enter the Company's
existing or future markets with products or technologies which may be less
costly or provide higher performance or more desirable features than the
Company's products. The Company's existing and potential competitors include
several large domestic and international companies that have substantially
greater financial, manufacturing, technical, marketing, distribution and other
resources than the Company. In the market for TV video processors, the Company's
principal competitors are DWIN, Extron, NEC, Snell & Wilcox, Sony and YEM. In
the market for broadcast products, the Company's principal competitors are
Extron, Leitch, Matsushita, Snell & Wilcox, Sony Broadcast and Vistek. As the
Company's products penetrate broader markets and as these markets become
commercial markets, the Company expects to face competition from diversified
electronic and semiconductor companies.
Certain of the Company's principal competitors maintain their own
manufacturing facilities, including semiconductor foundries, and may therefore
benefit from certain capacity, cost and technical advantages. Since the Company
does not operate its own semiconductor manufacturing, assembly or testing
facilities, it may not be able to reduce its costs as rapidly as companies that
operate their own facilities. The failure of the Company to introduce lower cost
versions of its products in a timely manner or to successfully manage its
manufacturing, assembly and testing relationships would have a material adverse
effect on its business, operating results and financial condition.
The Company believes that its ability to compete successfully in the rapidly
evolving markets for high performance video image enhancement technology depends
on a number of factors, including protection of its proprietary technology and
information, the price, quality and performance of the Company's and its
competitors' products, the timing and success of new product introductions by
the Company, its customers and its competitors, the emergence of new industry
standards, the Company's ability to obtain adequate foundry capacity, the number
and nature of the Company's competitors in a given market and general market and
economic conditions. There can be no assurance that the Company will compete
successfully in the future with respect to these or any other competitive
factors. See "Risk Factors--Competition."
The Company has licensed and intends to continue to license its technologies
and intellectual property. The Company also offers for sale board level or chip
level products, developed by or for the Company, which implement certain of the
Company's technologies. The Company's licensees and OEM customers may be larger
and have greater market recognition and financial, technological, engineering,
manufacturing and distribution capabilities than the Company. In addition, such
licensees and OEM customers may use such technologies and subsystems either
alone or in combination with other technologies to develop products which could
compete with the Company's technologies and products. While the Company may sell
board level or chip level products and receive royalties from such licensees,
there can be no assurance that the technologies and products offered by such
licensees and OEM customers will not compete directly with those of the Company,
have performance, cost or other advantages over those of the Company or have an
adverse impact on the sales or other licensing activities of the Company.
PROPRIETARY RIGHTS AND LICENSES
The Company's future success depends in part upon its ability to protect its
proprietary technology and information. Although the Company relies on a
combination of licensed patents, copyrights, trademarks, trade
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secrets and licensing arrangements with third parties to protect certain of its
intellectual property, the Company believes that factors such as the
technological and creative skills of its personnel and the success of its
ongoing product development efforts are more important in maintaining its
competitive position. The Company generally enters into confidentiality or
license agreements with its employees, distributors, customers and potential
customers and limits access to its proprietary information. Yves Faroudja, the
Company's founder and Chief Technical Officer, personally holds or was assigned
35 U.S. and 8 foreign patents, and 7 U.S. and 22 foreign patent applications,
which have been licensed to the Company, and on which the Company depends for
the enhancement of its current products and the development of future products.
Mr. Faroudja has granted the Company a perpetual, royalty-free, license to use
patented and unpatented technologies developed by him prior to January 20, 1997.
See "Certain Transactions--Yves Faroudja License Agreement." As the Company is a
licensee of such patents and applications, it is subject to risks not generally
faced by other companies which own the intellectual property upon which their
businesses rely. See "Risk Factors--Limited Protection of Proprietary Rights;
Risk of Third Party Infringement." There can be no assurance that patents will
issue from any pending applications or that any claims allowed from pending
applications will be of sufficient scope or strength, or be issued in all
countries where the Company's products can be sold, to provide meaningful
protection or any commercial advantage to the Company. Also, competitors of the
Company may be able to design around the licensed patents. The laws of certain
foreign countries in which the Company's products are or may be developed,
manufactured or sold, including various countries in Asia, may not protect the
Company's products or intellectual property rights to the same extent as the
laws of the United States, and thus, may increase the likelihood of piracy of
the Company's technology and products. There can be no assurance that the steps
taken by the Company to protect its intellectual property rights will be
adequate to prevent misappropriation of its technology or that the Company's
competitors will not independently develop technologies that are substantially
equivalent or superior to the Company's technology.
The video image enhancement and related industries are characterized by
vigorous protection and pursuit of intellectual property rights or positions,
which have resulted in significant and often protracted and expensive
litigation. Although to date the Company has received no notification of alleged
infringement of other companies' intellectual property rights, the Company may
from time to time be subject to proceedings alleging infringement by the Company
of intellectual property rights owned by third parties. If necessary or
desirable, the Company may seek licenses under such intellectual property
rights. However, there can be no assurance that such licenses will be offered or
that the terms of any offered license will be acceptable to the Company. The
failure to obtain such a license from a third party for technology used by the
Company could cause the Company to incur substantial liabilities and to suspend
or cease the manufacture of products requiring such technology. See "Risk
Factors--Limited Protection of Proprietary Rights; Risk of Third Party
Infringement."
The Company may initiate claims or litigation against third parties for
infringement of the Company's proprietary rights or to establish the validity of
the Company's proprietary rights. For example, in January 1997 and May 1997, the
Company filed actions against DWIN and Snell & Wilcox, respectively, seeking
relief and damages for the infringement of US Patent Number 4,876,596 owned by
Yves Faroudja and licensed to the Company. DWIN and Snell & Wilcox have raised
defenses and counterclaims that the patent is invalid and not infringed. See
"Limited Protection of Proprietary Rights; Risk of Third Party Infringement" and
"--Litigation."
Yves Faroudja, the Company and GI are parties to a royalty free, world-wide
license agreement dated May 1, 1996 pursuant to which GI licensed certain
patents to the Company and the Company licensed certain patents to GI relating
to video compression and decompression. As a result of that agreement, GI could
produce products in the field of scan conversion of source material presented to
a compression system competitive with certain present or proposed products of
the Company. See "Certain Transactions--Yves Faroudja License Agreement."
EMPLOYEES
As of September 30, 1997, the Company had 66 full-time and nine part-time
and contract employees, including 25 full-time employees primarily involved in
research and development activities, 15 in marketing and
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sales, 9 in finance and administration and 17 in manufacturing and quality
assurance. Most employees are based at the Company's headquarters in Sunnyvale,
California. The Company's employees are not represented by any collective
bargaining unit with respect to their employment with the Company, and the
Company has never experienced a work stoppage. The Company believes that its
employee relations are good. The Company intends to significantly expand its
employee base in 1997, primarily in research and development and sales and
marketing, and believes that its future success will depend largely on its
ability to attract and retain highly-skilled managerial, sales and marketing
personnel. Competition for such personnel is intense. The Company's future
success will depend to a significant extent upon the continued services of
members of senior management and other key employees of the Company. The loss of
the service of any of these individuals could have a material adverse effect on
the Company. See "Risk Factors--Dependence on Senior Management and Other Key
Employees; New Management Personnel."
FACILITIES
The Company's headquarters is located in approximately 20,000 square feet of
space in Sunnyvale, California pursuant to a lease which expires September 30,
2003. In 1997, the Company also entered into a lease for approximately 10,000
square feet to expand its headquarters in Sunnyvale, California which expires in
September 2003 and for approximately 2,000 square feet for a research and
development facility in Phoenix, Arizona which expires in June 1999. The
aggregate annual gross rent for the Company's facilities was approximately
$172,000 in 1996 and the Company estimates that this amount will increase to
approximately $230,000 in 1997 and $436,000 in 1998.
LITIGATION
In January 1997 and May 1997, the Company filed actions against DWIN and
Snell & Wilcox, respectively, seeking relief and damages for the infringement of
US Patent Number 4,876,596, which was issued on October 24, 1989, is owned by
Yves Faroudja and is licensed to the Company. DWIN and Snell & Wilcox have
raised defenses and counterclaims that the patent is invalid and not infringed.
The actions against DWIN and Snell & Wilcox were filed in the United States
District Court, Northern District of California--San Jose Division as Civil
Action No. C-97 20010 SW (PVT) and Civil Action No. C-97 20422 SW (PVT),
respectively. The Company is seeking an injunction and unspecified monetary
damages against both DWIN and Snell & Wilcox. DWIN and Snell & Wilcox have filed
counterclaims seeking declaratory judgements that all of the claims of the
patents are invalid and/or that US Patent Number 4,876,596 has not been
infringed. They are also seeking recovery of their respective attorneys' fees
and costs. Discovery has commenced in both matters. The Company's management
believes that a finding that all of the claims of the patent are invalid or that
the patent has not been infringed in one or both actions would not have a
material adverse effect on the Company because the Company's products and
business are protected by a variety of patents and the Company will remain
competitive even in the absence of the protection afforded by the patent which
is the subject of these litigation matters.
43
<PAGE>
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The following table sets forth certain information concerning the Company's
executive officers and directors as of the date of this Prospectus:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------------------------ --- ---------------------------------------------------------------
<S> <C> <C>
Michael J. Moone.......................... 51 President, Chief Executive Officer and Director
Yves C. Faroudja(3)....................... 63 Chief Technical Officer, Chairman of the Executive Committee,
Secretary and Director
Michael C. Hoberg......................... 45 Vice President--Finance and Chief Financial Officer
Donald S. Butler.......................... 51 Vice President--Engineering
Kenneth S. Boschwitz...................... 43 Vice President--Business Development and General Counsel
Thomas A. Harvey.......................... 49 Vice President--Sales and Marketing
William J. Turner(1)...................... 54 Chairman of the Board of Directors
Kevin B. Kimberlin(2)..................... 44 Director
Matthew D. Miller(3)...................... 50 Director
William N. Sick, Jr.(1)................... 62 Director
Stuart D. Buchalter(2).................... 60 Director
Merv L. Adelson(3)........................ 67 Director
</TABLE>
- ------------------------
(1) Member of the Compensation Committee
(2) Member of the Audit Committee
(3) Member of the Executive Committee
MICHAEL J. MOONE has served as President, Chief Executive Officer and a
director of the Company since joining the Company in July 1996. From February
1995 to June 1996, Mr. Moone was President, Chief Executive Officer and a
director of Healthrider, Inc., a home fitness equipment supplier. In June 1993,
he co-founded Kid One, Inc., a developer of electronic toys and games, and
served as its Chief Executive Officer and a director through February 1995. In
1985, Mr. Moone founded Merchantec International, a credit card processing
company, and served as its President, Chief Executive Officer and a director
through May 1993. In 1983 he founded Electronic Publishing Systems Inc., a
software development and marketing company and served as its President through
May 1985. From November 1979 to April 1983 he was President of Atari, Inc., a
developer and manufacturer of home video games and a subsidiary of Warner
Communications, Inc. From July 1978 to November 1979, he was Vice President and
General Manager of Milton Bradley Co. ("MBC"), a developer and manufacturer of
toys and games. Previously, he held a number of marketing and general management
positions with MBC. Mr. Moone holds a B.S. in Political Science and Economics
from Xavier University.
YVES C. FAROUDJA is co-founder of the Company and has served as a director
of the Company since its inception in 1971. Mr. Faroudja served as the Company's
President from 1971 to July 1996, has been the Company's Chief Technical Officer
since July 1996 and is currently Chairman of its Executive Committee of the
Board of Directors. Prior to founding the Company, Mr. Faroudja worked as a
research and development engineer at ITT Research Laboratories in France, as a
research scientist at the North Atlantic Treaty Organization in Italy and for
Memorex Corporation, a systems integrator and distributor of computer products,
in the United States. Mr. Faroudja holds a M.S.E.E. from Ecole Superieure
d'Electricite, Paris.
44
<PAGE>
MICHAEL C. HOBERG joined the Company in December 1996 as Vice
President--Finance and Chief Financial Officer. From March 1995 to December
1996, Mr. Hoberg was Principal Accounting Officer of DSP Group, Inc. ("DSP"), a
semiconductor company, and from January 1994 to March 1995 he was DSP's
Corporate Controller. From March 1992 to January 1994, Mr. Hoberg served as Vice
President of Finance and Chief Financial Officer at Arix Corporation ("Arix"), a
UNIX superminicomputer manufacturer, and from 1989 to March 1992 was Arix's
Corporate Controller. From 1986 to 1989, Mr. Hoberg was the Controller of the
Therapeutic Products Division of Diasonics, Inc., a manufacturer of therapeutic
medical equipment, and from 1983 to 1986 served as the Chief Financial Officer
of Technics, Inc., a semiconductor equipment manufacturer. Mr. Hoberg holds a
B.B.A. in Accounting from the University of Wisconsin at Madison and is a
Certified Public Accountant.
DONALD S. BUTLER joined the Company in May 1996 as Vice President and
General Manager of the VLSI Division. In October 1996, as Vice
President--Engineering, he assumed responsibility for all engineering functions
other than research and development. Prior to joining the Company, Mr. Butler
was Vice President of Engineering at the Integrated Systems Center of GI, a
manufacturer of satellite and cable TV equipment, a position he held from 1989
to May 1996. From 1974 to 1989, he held several engineering and engineering
management positions within GI's Microelectronics Division. Mr. Butler holds a
B.S. in Electrical Engineering from the University of Strathclyde, Glasgow,
Scotland.
KENNETH S. BOSCHWITZ joined the Company in June 1997 as Vice
President--Business Development and General Counsel. From May 1984 to September
1996, Mr. Boschwitz held various legal and management positions with GI,
including Vice President & General Counsel of GI's Communications Division. From
November 1979 to May 1984, Mr. Boschwitz practiced corporate and securities law
with several private law firms. From August 1977 to November 1979, Mr. Boschwitz
was a Staff Attorney at the Securities and Exchange Commission's Division of
Corporation Finance. Mr. Boschwitz holds a J.D. from Washington College of Law
at The American University and a B.A. from Rutgers College.
THOMAS A. HARVEY joined the Company in June 1997 as Vice President--Sales
and Marketing. From September 1990 to May 1997, Mr. Harvey was Senior Vice
President of the Western Zone Sales Consumer Products Group of Sony Electronics,
Inc. ("Sony Electronics"), a leading electronics supplier. From June 1989 to
August 1990, Mr. Harvey was the President of the Consumer Sales Company division
of Sony Electronics. From August 1987 to May 1989, he was the President of the
Consumer Audio Products group of Sony Electronics. Prior thereto, he held
numerous positions of increasing responsibility with various divisions of Sony
Electronics. Mr. Harvey holds a M.S. in Education and a B.S. in Education from
Northern Illinois University.
WILLIAM J. TURNER has served as Chairman of the Board of Directors of the
Company since December 1995. From November 1989 to the present, Mr. Turner has
been chairman of Turner & Partners, a management and financial consulting
company. In February 1997, Mr. Turner also became a co-founder and co-manager of
Signature Capital, LLC, a venture capital company ("Signature Capital"). From
1983 to 1989, Mr. Turner was the President, Chief Operating Officer and a
director of Automatic Data Processing, a computer and information services firm.
Mr. Turner is currently a director of Federal Home Loan Mortgage Corporation.
Mr. Turner holds a M.A. in Mathematics from the University of Maine and a M.B.A.
from Northeastern University.
KEVIN B. KIMBERLIN has served as a director of the Company since December
1995. Since 1991, Mr. Kimberlin has been Chairman of Spencer Trask Holdings,
Inc., an investment banking firm. Mr. Kimberlin is a co-founder of Ciena
Corporation, Myriad Genetics and The Immune Response Corporation. He has been a
director of The Immune Response Corporation since 1986. Mr. Kimberlin holds a
M.B.A. from Harvard Business School and a B.S. from Indiana University.
MATTHEW D. MILLER has served as a director of the Company since December
1995. Since July 1994, Mr. Miller has served as President of M-Squared Media and
Technology L.L.C., a venture capital investment and consulting firm focusing on
high technology companies ("M-Squared"). From January 1993 to December 1993, Mr.
Miller served as Chairman of the Center for Advanced TV Studies, a non-profit
research and development consortium. From August 1988 to July 1994, he served as
Vice President of Technology at GI, and from March 1984 to August 1988, he was
Vice President of Technology at Viacom Inc. ("Viacom"), a media and
45
<PAGE>
communications company. Before joining Viacom, he served as a technology manager
at both Perkin-Elmer Corporation and RCA Corporation's David Sarnoff Research
Center. Mr. Miller holds a M.A. and a Ph.D. in Physics from Princeton
University, and a B.A. in Physics from Harvard University. He is a director of
Lumisys Inc. and several private technology companies.
WILLIAM N. SICK has served as a director of the Company since December 1995.
Mr. Sick is Chairman and Chief Executive Officer of Business Resources
International, an investment services company he founded in 1989. In February
1997, Mr. Sick became a co-founder and co-manager of Signature Capital. In 1988
and 1989, he served as Chief Executive Officer and a director of American
National Can Company ("ANC"), a packaging company. During this period, he was
also Vice Chairman of Triangle Industries Inc., the owner of ANC. From 1958 to
1987, Mr. Sick was employed by Texas Instruments Incorporated ("TI") where he
served in several management capacities, including five years as President of TI
Semiconductor Group and Executive Vice President and a director of the Company.
Prior to that time, he was President of TI Asia in Tokyo and President of the TI
Europe Division. Mr. Sick is currently Chairman of the Board of Trustees of the
Shedd Aquarium in Chicago and a member of the Board of Governors of Rice
University. Mr. Sick holds a B.A. and a B.S. in Electrical Engineering from Rice
University.
STUART D. BUCHALTER has served as a director of the Company since April
1996. Mr. Buchalter has been of counsel with the law firm of Buchalter, Nemer,
Fields & Younger, a Professional Corporation, since August 1980. From August
1980 to June 1993, he served as Chairman of the Board of Directors and Chief
Executive Officer of Standard Brands Paint Company, a paint retailer and
manufacturer. Mr. Buchalter is a director of Authentic Fitness Corp., an
athletic apparel manufacturer, Earl Scheib, Inc., an automotive painting
company, and City National Corp., the holding company for City National Bank. He
is also Vice-Chairman of the Board of Trustees of Otis College of Art and
Design. Mr. Buchalter holds a L.L.B. from Harvard Law School and a B.A. from the
University of California at Berkeley.
MERV L. ADELSON has served as a director of the Company since September
1996. Mr. Adelson has been Chairman of East-West Capital Associates, Inc., a
private investment banking company, since 1989. Previously, he was Chairman and
Chief Executive Officer of Lorimar Telepictures Corporation, an entertainment
firm. Mr. Adelson has been a director of Time Warner, Inc., a media and
communication corporation, since 1989. Mr. Adelson served as Vice Chairman of
Warner Communications, Inc. from January 1989 through August 1991. Mr. Adelson
is a director of 7th Level, Inc., a video graphics developer. Mr. Adelson has
served as a Managing Member of Adelson Investors, LLC, a private venture capital
fund, since February 1996.
The Company's Certificate of Incorporation provides for a classified Board
of Directors consisting of three classes of directors, each serving staggered
three-year terms. As a result, approximately one-third of the Company's Board of
Directors will be elected each year. Yves Faroudja, Michael Moone and Stuart
Buchalter have been designated Class 1 directors and were reelected at the 1997
Annual Meeting of Stockholders for terms expiring at the 2000 Annual Meeting of
Stockholders. Merv Adelson, Kevin Kimberlin and William Turner have been
designated Class 2 directors with terms expiring at the 1998 Annual Meeting of
Stockholders. William Sick and Matthew Miller have been designated as Class 3
directors with terms expiring at the 1999 Annual Meeting of Stockholders. See
"Description of Capital Stock--Delaware Law and Certain Charter and By-Law
Provisions."
BOARD COMMITTEES
EXECUTIVE COMMITTEE. The Executive Committee of the Board of Directors
reviews and monitors the Company's annual operating and capital expense budgets,
and acts as the Board of Directors' nominating committee with respect to the
selection of independent directors. Merv Adelson, Matthew Miller and Yves
Faroudja are the members of the Executive Committee and Yves Faroudja is its
chairman.
AUDIT COMMITTEE. The Audit Committee of the Board of Directors (i) reviews
the results and scope of the annual audit and other services provided by the
Company's independent auditors, (ii) reviews and evaluates the Company's
internal audit and control functions and (iii) monitors transactions between the
Company and its
46
<PAGE>
employees, officers and directors. Kevin B. Kimberlin and Stuart D. Buchalter
are the members of the Audit Committee.
COMPENSATION COMMITTEE. The Compensation Committee of the Board of
Directors administers the Company's stock option and stock purchase plans and
designates compensation levels for the Company's executive officers and
directors. William J. Turner and William N. Sick, Jr. are the members of the
Compensation Committee.
BOARD COMPENSATION
Directors received no fees for serving on the Board of Directors during 1996
but were reimbursed for all reasonable expenses incurred by them in attending
Board of Directors and Committee meetings. Commencing in August 1997,
non-employee directors will receive an annual retainer of $7,500, payable in
Common Stock on the day after the annual meeting of stockholders. In addition,
each non-employee director will receive $650 for each Board of Directors meeting
attended and $375 for each Committee meeting attended. Non-employee directors
are also eligible to participate in the Directors Plan. See "--Stock Plans--1997
Non-Employee Directors Stock Option Plan." On August 13, 1997 the Company issued
750 shares of its Common Stock to each of Stuart D. Buchalter, Merv Adelson,
William N. Sick, William J. Turner and Kevin B. Kimberlin as their annual
retainer for serving as directors of the Company. Under a consulting agreement
between the Company and Matthew D. Miller, the Company paid Mr. Miller a
consulting fee of $7,000 per month from July 1997 through August 1997, and will
pay Mr. Miller $5,000 per month for the balance of the term of the agreement.
The Company paid Mr. Miller $35,645 and $28,000 in consulting fees during fiscal
1996 and the nine months ended September 30, 1997, respectively. To date, Merv
Adelson has not received any compensation under his consulting agreement with
the Company. See "Certain Transactions--Consulting Agreements."
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
In January 1997, the Compensation Committee of the Board of Directors was
formed, consisting of William N. Sick, Jr. and William J. Turner. No member of
the Compensation Committee was or is an officer or employee of the Company or
any of its subsidiaries. No executive officer of the Company serves as a member
of the Board of Directors or Compensation Committee of any entity which has one
or more executive officers serving as a member of the Company's Board of
Directors or Compensation Committee.
47
<PAGE>
EXECUTIVE COMPENSATION
The following table sets forth all compensation received for services
rendered to the Company and the Company's subsidiaries in all capacities during
the fiscal year ended December 31, 1996 by (i) the Company's Chief Executive
Officer and (ii) the Company's other executive officers whose total compensation
exceeded $100,000 during such fiscal year (together, the "Named Executive
Officers"):
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
ANNUAL COMPENSATION(1) -------------
------------------------------------- SECURITIES
OTHER UNDERLYING
ANNUAL OPTIONS ALL OTHER
NAME AND PRINCIPAL POSITION SALARY ($) BONUS COMPENSATION (#)(2) COMPENSATION(3)
- ----------------------------------------- ---------- ---------- ------------- ------------- ---------------
<S> <C> <C> <C> <C> <C>
Michael J. Moone
President, Chief Executive
Officer and Director(4)................ $ 175,000 $ 150,000 -- 528,932 $ 4,750
Michael C. Hoberg
Vice President--Finance and Chief
Financial Officer(5)................... 135,000 -- -- 75,000 --
Yves C. Faroudja
Chief Technical Officer, Secretary and
Director(6)............................ 198,500 -- -- -- 2,464
Donald S. Butler
Vice President--Engineering(7)......... 200,000 30,512 -- 195,964 --
</TABLE>
- ------------------------
(1) Excludes perquisites and other personal benefits which for each Named
Executive Officer did not exceed the lesser of (i) $50,000 or (ii) 10% of
the total annual salary and bonus for such officer. The bonus for each
executive varies annually based on a variety of factors. Accordingly, the
bonus reported for each executive is the actual amount earned in 1996, not
an annualized amount.
(2) These shares are issuable upon exercise of stock options granted under the
1995 Option Plan.
(3) Represents matching contributions by the Company under its 401(k) plan.
(4) Mr. Moone joined the Company in June 1996, and the amount reported
represents his salary in 1996 on an annual basis. Commencing in January
1997, Mr. Moone's base salary was increased to $250,000. Includes a grant of
options to purchase 456,432 shares under the 1995 Option Plan at an exercise
price of $3.83 and a grant of options to purchase 72,500 shares under the
1995 Option Plan at an exercise price of $3.91. The options vest over four
years.
(5) Mr. Hoberg joined the Company in December 1996, and the amount reported
represents his salary on an annual basis. He is eligible for a discretionary
bonus at the end of the year. Includes a grant of options to purchase 75,000
shares under the 1995 Option Plan at an exercise price of $3.91. The options
vest over four years.
(6) Mr. Faroudja served as the Company's President prior to June 1996, and
currently serves as the Company's Chief Technical Officer, Chairman of the
Executive Committee, Secretary and Director of the Board of Directors. Under
his employment agreement, Mr. Faroudja will receive a salary of up to
$200,000 for each of fiscal 1997 and fiscal 1998 depending on the amount of
time he devotes to the Company.
(7) Mr. Butler joined the Company in May 1996 and received an annualized salary
of $200,000. Commencing in May 1997, Mr. Butler's base salary was increased
to $220,000. He is eligible for a discretionary bonus at the end of the
year. Includes a grant of options to purchase 172,964 shares under the 1995
Option Plan at an exercise price of $3.83 and a grant of options to purchase
23,000 shares under the 1995 Option Plan at an exercise price of $3.91. The
options vest over four years.
48
<PAGE>
Kenneth S. Boschwitz joined the Company in June 1997 as its Vice
President--Business Development and General Counsel, and will receive a
pro-rated annual salary of $150,000 in 1997. He is also eligible for a
discretionary bonus at the end of the year. He was granted options to purchase
80,000 shares under the 1997 Option Plan at an exercise price of $7.50. Mr.
Boschwitz's option vests over four years. If Mr. Boschwitz is terminated without
cause during his first year of employment with the Company, he will receive a
severance of $75,000. Thomas A. Harvey joined the Company in June 1997 as its
Vice President--Sales and Marketing and will receive a pro-rated salary of
$200,000 in 1997. In addition, he received a signing bonus of $50,000 in July
1997 and is eligible for a discretionary bonus at the end of the year. He was
granted options to purchase 100,000 shares under the 1997 Option Plan at an
exercise price of $7.50. Mr. Harvey's options vest over four years. If Mr.
Harvey is terminated without cause during his first year of employment with the
Company, he will receive a severance of $125,000 which will be paid over 12
months.
STOCK OPTION GRANTS
The following table provides information relating to stock options awarded
to each of the Named Executive Officers during the fiscal year ended December
31, 1996.
OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
VALUE AT ASSUMED
INDIVIDUAL GRANTS(1) ANNUAL RATES OF
---------------------------------------------------------- STOCK PRICE
NUMBER OF % OF TOTAL APPRECIATION FOR
SECURITIES OPTIONS EXERCISE OPTION TERM(2)
UNDERLYING GRANTED PRICE PER EXPIRATION ------------------------
NAME OPTIONS GRANTED TO EMPLOYEES SHARE DATE 5% ($) 10% ($)
- -------------------------------- --------------- --------------- ----------- ----------- ---------- ------------
<S> <C> <C> <C> <C> <C> <C>
Michael J. Moone................ 345,928 27.42% $ 3.83 06/24/06 $ 833,226 $ 2,111,556
Michael J. Moone................ 110,504 8.76 3.83 07/08/06 266,167 674,520
Michael J. Moone................ 72,500 5.75 3.91 12/31/06 178,276 451,786
Michael C. Hoberg............... 75,000 5.95 3.91 12/31/06 184,423 467,365
Donald S. Butler................ 172,964(3) 13.71 3.83 05/06/06 416,613 1,055,778
Donald S. Butler................ 23,000(3) 1.82 3.91 12/31/06 56,557 143,325
</TABLE>
- ------------------------
(1) Each of these options was granted pursuant to the 1995 Option Plan. These
options were granted at an exercise price equal to the fair market value of
the Company's Common Stock as determined by the Board of Directors of the
Company on the date of grant, and vest over a four year period at the rate
of 25% of the shares on the first anniversary of the date of grant and
1/48th of the shares each month thereafter. The term of each option is ten
years.
(2) Potential gains are net of the exercise price but before taxes associated
with the exercise. The 5% and 10% assumed annual rates of compounded stock
appreciation are mandated by the rules of the Securities and Exchange
Commission and do not represent the Company's estimate or projection of the
future Common Stock price. Actual gains, if any, on stock option exercises
are dependent on the future financial performance of the Company, overall
market conditions and the option holders' continued employment through the
vesting period.
(3) Mr. Butler entered into an agreement with the Company on March 6, 1996,
pursuant to which Mr. Butler will receive a bonus of $1.08 per each option
upon exercise of such options, up to an aggregate of 138,370 options, or
$150,000.
49
<PAGE>
AGGREGATE OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
There were no stock options exercised by Named Executive Officers during the
year ended December 31, 1996. The following table sets forth certain information
regarding stock options held as of December 31, 1996 by the Named Executive
Officers.
<TABLE>
<CAPTION>
FISCAL YEAR-END OPTION VALUES
--------------------------------------------------------------
NUMBER OF SECURITIES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
OPTIONS AT DECEMBER 31, 1996 IN-THE-MONEY OPTIONS
(#) DECEMBER 31, 1996 ($)
------------------------------ ------------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- --------------------------------- --------------- ------------- --------------- -------------
<S> <C> <C> <C> <C>
Michael J. Moone................. -- 456,432 -- $ 36,515
Michael J. Moone................. -- 72,500(2) -- --
Michael C. Hoberg................ -- 75,000(2) -- --
Donald S. Butler................. -- 172,964 -- 13,837
Donald S. Butler................. -- 23,000(2) -- --
</TABLE>
- ------------------------
(1) Calculated by determining the difference between the exercise price of such
option and the fair market value of the Company's Common Stock at December
31, 1996, multiplied by the total number of shares subject to the option.
(2) These options were granted at an exercise price of $3.91 per share.
The Board of Directors determined that the fair value of the Common Stock at
December 31, 1996 was $3.91 per share, after taking into consideration the
purchase price of $3.83 per share paid by the Investor Group in March 1996 and
assessing operations as of that date.
STOCK PLANS
1997 NON-EMPLOYEE DIRECTORS STOCK OPTION PLAN. The Directors Plan provides
for the grant of nonqualified stock options to non-employee directors of the
Company. The Directors Plan was adopted by the Company's Board of Directors in
December 1996 and approved by its stockholders in January 1997, at which time
100,000 shares of Common Stock were authorized for issuance thereunder. Under
the Directors Plan, each non-employee director is eligible to receive options
exercisable for the Company's Common Stock. As of September 30, 1997, there were
options to purchase 45,605 shares of Common Stock outstanding under the
Directors Plan, none of which have been exercised. Unless terminated sooner the
Directors Plan will terminate in 2007.
Options granted under the Directors Plan shall be exercisable in whole or in
part at all times during the period beginning on the date of grant until the
earlier of (i) ten years from the date of grant, and (ii) one year from the date
on which a grantee ceases to be a non-employee director, subject to certain
vesting requirements which may be imposed by the committee designated by the
Board of Directors to administer the Directors Plan or by the Board of Directors
if no such committee has been designated. No director option granted under the
Directors Plan is transferable by the optionee except by will or by the laws of
descent or distribution, and each director option is exercisable during the
lifetime of the optionee only by such optionee. The exercise price of each
director option is equal to the fair market value of the Common Stock on the
date of grant. In the event of a merger of the Company with or into another
corporation, or the sale of substantially all of the assets of the Company, the
Directors Plan shall terminate and each director option issued thereunder shall
become fully exercisable.
1995 STOCK OPTION PLAN. On August 1, 1995, the Company's Board of Directors
and its stockholders approved the 1995 Option Plan to succeed the 1993 Stock
Option Plan. The 1995 Option Plan was amended on August 19, 1996, February 11,
1997, April 30, 1997 and June 13, 1997. The 1995 Option Plan provides for the
grant to employees of the Company of incentive stock options within the meaning
of Section 422 of the Code, and for the grant of nonstatutory stock options to
employees and consultants of the Company. A total of 1,225,000 shares of Common
Stock have been reserved for issuance under the 1995 Option Plan. As of
September 30, 1997, 1,213,560 shares were subject to outstanding options, and
7,380 shares had been issued upon exercise of
50
<PAGE>
stock options granted under the 1995 Option Plan. The exercise price of all
incentive stock options granted under the 1995 Option Plan must be at least
equal to the fair market value of the Common Stock on the date of grant. The
exercise price of all nonstatutory stock options granted under the 1995 Option
Plan must be at least 85% of the fair market value of the Common Stock on the
date of grant. With respect to any participant who owns stock possessing more
than 10% of the voting power of all classes of stock of the Company, the
exercise price of any incentive or nonstatutory stock option granted must equal
at least 110% of the fair market per share value on the grant date and the
maximum term of the option may not exceed five years. The term of all other
options granted under the 1995 Option Plan may not exceed ten years. Options
granted under the 1995 Option Plan are not transferable by the optionee except
by will or by the laws of descent or distribution, and are exercisable during
the lifetime of the optionee only by such optionee. As of September 30, 1997,
options to purchase 1,213,560 shares of Common Stock were outstanding. No
additional options to purchase Common Stock will be issued under the 1995 Option
Plan.
The 1995 Option Plan is administered by the Board of Directors, or a
committee designated by the Board of Directors, which, among other things,
selects the optionees and interprets and implements the 1995 Option Plan. Most
options vest over three or four years. The 1995 Option Plan may be amended at
any time by the Board of Directors, although certain amendments require
stockholder approval.
In the event of a merger of the Company with or into another corporation, or
the sale of substantially all of the assets of the Company, the 1995 Option Plan
shall terminate and each option issued thereunder shall become fully
exercisable.
1997 PERFORMANCE STOCK OPTION PLAN. In January 1997, the Company's Board of
Directors adopted and its stockholders approved the 1997 Option Plan to succeed
the 1995 Option Plan. The 1997 Option Plan was amended on June 13, 1997. The
1997 Option Plan provides for the granting to employees (including officers and
employee directors) of incentive stock options within the meaning of Section 422
of the Code, and for the granting to employees (including officers and employee
directors) and consultants of nonstatutory stock options. Unless terminated
sooner, the 1997 Option Plan will terminate automatically in 2007. The Board of
Directors has authority to amend, suspend or terminate the 1997 Option Plan,
provided that no such action may affect any share of Common Stock previously
issued and sold or any option previously granted under the 1997 Option Plan. A
total of 725,000 shares of Common Stock have been reserved for issuance under
the 1997 Option Plan. As of September 30, 1997, there were options to purchase
377,925 shares of Common Stock outstanding under the 1997 Option Plan, none of
which have been exercised.
The 1997 Option Plan may be administered by the Board of Directors or a
committee designated by the Board (the "Administrator"), which committee is
required to be constituted to comply with Section 16(b) of the Securities
Exchange Act of 1934, as amended, and applicable laws. The Administrator has the
power to determine the terms of the options granted, including the exercise
price, the number of shares subject to the option and the exercisability
thereof, and the form of consideration payable upon exercise. Options granted
under the 1997 Option Plan are not transferable except by will or by the laws of
descent and distribution and may only be exercised by the holder of such options
or by the holder's legal representative. Options granted under the 1997 Option
Plan must be exercised within three months of the end of the optionee's status
as an employee or consultant of the Company, or within twelve months after such
optionee's termination by death or disability, but in no event later than the
expiration of the option term. The exercise price of all nonstatutory stock
options granted under the 1997 Option Plan shall be determined by the
Administrator. With respect to any participant who owns stock possessing more
than 10% of the voting power of all classes of the Company's outstanding capital
stock (a "10% Stockholder"), the exercise price of any stock option granted to
such participant must equal at least 110% of the fair market value per share on
the date of grant. The exercise price of incentive stock options for all other
employees shall be no less than 100% of the fair market value per share on the
date of grant and the exercise price of nonstatutory stock options shall be no
less than 85% of the fair market value per share on the date of grant. The
maximum term of an option granted under the 1997 Option Plan may not exceed ten
years from the date of grant (five years in the case of an incentive stock
option granted to a 10% Stockholder).
51
<PAGE>
In the event of a merger of the Company with or into another corporation, or
the sale of substantially all of the assets of the Company, the 1997 Option Plan
shall terminate and each option issued thereunder shall become fully
exercisable.
1997 EMPLOYEE STOCK PURCHASE PLAN. The Purchase Plan was approved by the
Company's Board of Directors and stockholders in January 1997 and amended on
August 12, 1997 and September 30, 1997. The Purchase Plan is intended to qualify
as an "employee stock purchase plan" under Section 423 of the Code. An aggregate
of 400,000 shares of the Company's Common Stock are reserved for offering under
the Purchase Plan and are available for purchase thereunder, subject to
adjustment in the event of a stock split, stock dividend or other similar change
in the Common Stock or the capital structure of the Company. Employees are
eligible to participate if they are regularly employed by the Company for at
least 20 hours per week and more than five months per calendar year. As of the
date of this Prospectus no shares of the Company's Common Stock have been
purchased pursuant to the Purchase Plan.
Under the Purchase Plan, offering periods will commence on the first trading
day on or after August 1 and February 1 of each year and terminate on the last
trading day in periods ending 24 months later, except that the first offering
period shall begin on the effective date of this Offering and end on the last
trading day in the period ending August 1, 1999. Payroll deductions may be from
1% to 10% (in whole percentage increments) of a participant's compensation. The
per share price at which shares of Common Stock are to be purchased pursuant to
the Purchase Plan is an amount equal to 85% of the fair market value (as
defined) of a share of Common Stock on the first day of any offering period or
on an exercise date, whichever is lower. On the enrollment date of each offering
period, eligible employees are granted an option to purchase every six months
(an exercise date) during such offering period up to a number of shares of
Common Stock determined by dividing such employee's payroll deductions
accumulated prior to such exercise date by the applicable purchase price. In no
event shall an employee be permitted to purchase during each purchase period
more than a number of shares determined by dividing $12,500 by the fair market
value of a share of Common Stock on the enrollment date. In the event the fair
market value at the end of a purchase period is less than the fair market value
at the beginning of the offering period, the participants will be withdrawn from
the current offering period following exercise and will automatically be
re-enrolled in a new offering period. The new offering period will use the lower
fair market value as of the first date of the new offering period to determine
the purchase price for future purchase periods.
In the event of a sale of substantially all of the assets of the Company or
a merger of the Company with or into another corporation, the Purchase Plan
provides that each option under the Purchase Plan be assumed or an equivalent
option substituted by the successor corporation, unless the Board of Directors
decides to shorten the offering period or to cancel each outstanding option and
refund all sums collected from participants during the offering period then in
progress. Unless terminated sooner, the Purchase Plan will terminate ten years
from its effective date. The Board of Directors has authority to amend or
terminate the Purchase Plan, provided, however, no such action may adversely
affect the rights of any participant.
401(k) PLAN. The Company has adopted the Faroudja Laboratories 401(k) Plan
(the "401(k) Plan"), which is intended to qualify under Section 401(k) of the
Code. All employees of the Company and its subsidiaries who have attained 21
years of age and have met the plan's service requirements, including employment
with the Company for at least 1 year, are eligible to participate in the 401(k)
Plan. Each eligible employee may contribute to the 401(k) Plan, through payroll
deductions, up to $9,500 (adjusted annually after 1995 for cost-of-living
increases), subject to statutory limitations imposed by the Internal Revenue
Service. The Company has the discretion to match employee contributions under
the 401(k) Plan. Under Section 401(k) of the Code, contributions by employees or
by the Company to the 401(k) Plan, and income earned on plan contributions, are
not taxable to employees until withdrawn from the 401(k) Plan, and contributions
by the Company will be deductible by the Company when made. On April 19, 1996,
the 401(k) Plan was amended by the Board of Directors of the Company. Pursuant
to such amendment and effective as of January 1, 1996, the Company matches 50%
of employee contributions under the 401(k) Plan, matching contributions made by
the Company vest over 4 years, and the waiting period before which employees
become eligible to participate in the 401(k) Plan was decreased to 1 month.
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EMPLOYMENT AGREEMENTS
In March 1996, the Company entered into an employment agreement with Yves C.
Faroudja for a term of two years, pursuant to which Mr. Faroudja is to serve as
Chief Technical Officer of the Company at an annual base salary of $100,000 for
the first year and $66,600 for the second year. Mr. Faroudja is required to
devote at least one-half of his time to the Company during the first year of the
agreement and at least one-third of his time to the Company during the second
year of the agreement. Mr. Faroudja may not engage in any other business
activities that interfere with the performance of his duties under his agreement
with the Company, and the agreement contains a covenant not to compete. Mr.
Faroudja is not currently employed by another company. Mr. Faroudja's annual
base salary will increase proportionately if Mr. Faroudja contributes more than
one-half of his time to the Company during the first year and/or more than
one-third of his time to the Company during the second year of his employment
with the Company, with a maximum annual base salary during the first and second
years of $200,000 for each year. Mr. Faroudja is entitled under the agreement to
participate in all insurance and benefit plans generally available to the
employees of the Company. If Mr. Faroudja is terminated without cause (as
defined in the agreement), Mr. Faroudja will be entitled to receive his annual
base salary and continuation of his benefits through the term of the agreement.
If Mr. Faroudja is terminated for any other reason, he will be entitled only to
his accrued and annual unpaid base salary.
On July 8, 1996, the Company entered into an employment agreement with
Michael J. Moone for a term of four years, pursuant to which Mr. Moone is to
serve as President, Chief Executive Officer and a director of the Company at an
annual base salary of $175,000. Effective January 1, 1997, Mr. Moone's annual
base salary was increased to $250,000. Mr. Moone is entitled to receive an
annual bonus of up to 100% of his annual base salary at the discretion of the
Board of Directors. Mr. Moone is entitled to participate in all insurance and
benefit plans generally available to the employees of the Company. Mr. Moone was
granted options under the 1995 Option Plan to purchase 456,432 shares at an
exercise price of $3.83 per share and 72,500 shares at an exercise price of
$3.91 per share. If Mr. Moone's employment is terminated for any reason, he is
entitled to his accrued and unpaid annual base salary and bonus. However, if Mr.
Moone dies and the Company has not obtained life insurance for the benefit of
Mr. Moone's estate, the Company is required to pay his estate three month's
annual base salary and bonus.
LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS
The Company believes that the provisions in its Certificate of Incorporation
and By-Laws and the separate indemnification agreements outlined below are
necessary to attract and retain qualified persons as directors and officers.
The Company's Certificate of Incorporation limits the liability of directors
to the maximum extent permitted by Delaware law. Delaware law provides that
directors of a company will not be personally liable for monetary damages for
breach of their fiduciary duties as directors except for liability (i) for any
breach of their duty of loyalty to the company or its stockholders, (ii) for
acts or omissions not in good faith or which involve intentional misconduct or a
knowing violation of law, (iii) for unlawful payments or dividends or unlawful
stock repurchases or redemptions as provided in Section 174 of the Delaware
General Corporation Law, or (iv) for any transaction from which the director
derived an improper personal benefit.
The Company's By-Laws provide that the Company shall indemnify its officers
and directors and may indemnify its employees and other agents to the fullest
extent permitted under Delaware Law, including in those circumstances where
indemnification would otherwise be discretionary. The Company believes that
indemnification under its By-Laws covers at least negligence and gross
negligence on the part of indemnified parties. The By-Laws authorize the use of
indemnification agreements, and the Company has entered into indemnification
agreements with each of its directors that are in some respects broader than the
specific indemnification provisions contained in Delaware Law. The
indemnification agreements may require the Company, among other things, to
indemnify such directors against certain liabilities that may arise by reason of
their status or service as directors (other than liabilities arising from
willful misconduct of a culpable nature) and to advance expenses reasonably
expected to be incurred in defending any proceeding against them for which
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<PAGE>
they would receive indemnification. The Company has obtained directors and
officers liability insurance with respect to certain matters, including matters
arising under the Securities Act.
At present, there is no pending litigation or proceeding involving any
director, officer, employee or agent of the Company where indemnification will
be required or permitted. The Company is not aware of any threatened litigation
or proceeding which may result in a claim for such indemnification.
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CERTAIN TRANSACTIONS
1996 FINANCING
In March 1996, (i) the Company issued 1,043,105 shares of Common Stock for
an aggregate purchase price of $4.0 million to the Investor Group, of which
213,642 shares were issued to Adelson, 682,153 shares were issued to Investors
LLC and 147,310 shares were issued to Images, (ii) the Investor Group purchased
a total of 3,569,395 shares of Common Stock from Yves and Isabell Faroudja for
an aggregate purchase price of $14.0 million, of which 731,062 shares were
purchased by Adelson, 2,334,253 shares were purchased by Investors LLC and
504,080 shares were purchased by Images, and (iii) Yves and Isabell Faroudja
granted the Investor Group the Faroudja Option to purchase 1,537,500 shares of
the Company's Common Stock for an aggregate purchase price of $6.0 million or
$3.90 per share, of which Adelson had an option to purchase 486,875 shares of
Common Stock for $1.9 million, Investors LLC had an option to purchase 666,250
shares of Common Stock for $2.6 million and Images had an option to purchase
384,375 shares of Common Stock for $1.5 million. The Faroudja Option was
exercised by the Investor Group on September 5, 1997. The transactions described
in (i) and (ii) above are collectively referred to herein as the "Equity
Purchase."
Kevin Kimberlin, a director of the Company, is a general partner of, and has
a beneficial interest in the shares held by, Images. Kevin Kimberlin Partners,
L.P. provided a secured loan of $1.0 million to Investors LLC to assist in the
exercise of that portion of the Faroudja Option that Investors LLC holds. Mr.
Kimberlin is the general partner of Kevin Kimberlin Partners, L.P. Spencer Trask
Securities, Incorporated organized Investors LLC and served as the placement
agent for the Equity Purchase, receiving a fee of $2.1 million. ST Partners,
L.P., of which Kevin Kimberlin is the general partner, is the majority
shareholder of Spencer Trask Holdings, Incorporated, the sole shareholder of
Spencer Trask Securities, Incorporated.
Merv Adelson and Stuart Buchalter, directors of the Company, are,
respectively, the managing member and an officer of Adelson.
As part of the Equity Purchase, the Investor Group received certain
registration rights which provide that 180 days following the completion of an
initial public offering, the Company must file a registration statement under
the Securities Act, to register the shares held by members of the Investor
Group. Under this agreement the Company must pay for all of the expenses
incurred with the registration other than selling commissions and discounts. See
"Description of Capital Stock--Registration Rights."
SUBCHAPTER S DISTRIBUTIONS
One of the Company's predecessor entities, FLI, elected to be taxed as an S
Corporation. Yves Faroudja and Isabell Faroudja, as stockholders of such
predecessor entity, received for 1994, 1995 and 1996 aggregate S Corporation
distributions of $1.5 million, $1.4 million and $4.0 million, respectively.
YVES FAROUDJA LICENSE AGREEMENT
On January 20, 1997 (the "Effective Date"), the Company entered into a
license agreement (the "License Agreement") with Yves Faroudja with respect to
all intellectual property, including all rights in inventions, works of
authorship and designs owned by Mr. Faroudja prior to the Effective Date
(collectively, the "Faroudja Technology"), pursuant to which (1) Mr. Faroudja
granted to the Company a worldwide, perpetual, royalty-free, sublicensable
license to exploit the Faroudja Technology and (2) Yves Faroudja assigned to the
Company his rights to all intellectual property, including all rights in
inventions, works of authorship and designs, first owned by him during the
period commencing on the Effective Date and ending on the date (the "Termination
Date") Yves Faroudja ceases to be an employee of the Company. The Company's
license to the Faroudja Technology in the field of data processing for
electronically displaying images to the human eye (the "Company Field") is
exclusive subject to licenses previously granted by Mr. Faroudja. Mr. Faroudja
has retained the non-exclusive, nontransferrable rights to exploit the Faroudja
Technology outside of the Company Field. Prior to entering into the License
Agreement, Mr. Faroudja had granted licenses to the Faroudja Technology to
approximately 20 other companies including NEC for various applications such as
video recorders and players, color TV cameras, broadcast encoders, and video
compression and decompression equipment. Although these licenses are within
55
<PAGE>
the Company Field, the Company believes that such licenses relate to products
and technologies outside of the Company's present and proposed areas of
activity. Yves Faroudja, the Company and GI are parties to a royalty free,
world-wide license agreement dated May 1, 1996 pursuant to which GI licensed
certain patents to the Company and the Company licensed certain patents to GI
relating to video compression and decompression. As a result of that agreement,
GI could produce products in the field of scan conversion of source material
presented to a compression system competitive with certain present or proposed
products of the Company. The Company does not believe that the license with GI
or the other licenses referenced above will materially assist these licensees in
producing products competitive with present or proposed products of the Company,
either because the items of Faroudja Technology licensed to the respective
licensees do not represent the current state of the art of such technology
practised by the Company or do not represent all elements of the technology
necessary for the respective licensees to produce products which compete with
the Company's products. During the term of his employment agreement with the
Company, Mr. Faroudja is prohibited from exploiting non-exclusive rights to the
Faroudja Technology in a manner which is competitive with the Company. After the
term of that employment agreement, in the event that Mr. Faroudja or the Company
choose to exploit their non-exclusive rights outside the Company Field
separately, the activities of Mr. Faroudja may compete with the activities of
the Company. The Company enjoys certain other rights pursuant to the License
Agreement, including the rights (1) to control the preparation, filing, and
prosecution of additional patent applications covering the licensed intellectual
property prior to the Termination Date and (2) to bring actions against third
parties that apparently infringe the licensed intellectual property and to
retain the recovery, if any, from such actions, except that if the Company
elects not to enforce an action against an infringer of its intellectual
property whose infringement occurs outside the Company Field, Yves Faroudja may,
beginning nine months after the Company's receipt of notice of an infringing
action, institute an action against such infringer.
As consideration for the License Agreement, Yves Faroudja was granted a
warrant to purchase 100,000 shares of Common Stock at an exercise price of $7.50
per share. The warrant vests as to 1/36th of the total shares for each full
month after January 20, 1997 provided that Yves Faroudja is then either (i)
employed by the Company (as a full or part-time employee), or (ii) acting as a
member of the Board of Directors of the Company. Certain registration rights and
anti-dilution provisions are provided to Yves Faroudja as contained therein.
CONSULTING AGREEMENTS
In September 1994, the Company entered into a six month consulting services
agreement with M-Squared, pursuant to which M-Squared agreed to render
consulting services to the Company in connection with (i) providing advice on
strategic alternatives for the Company, (ii) the preparation of the Company's
business plan, and (iii) other specific projects related to the intellectual
property of the Company. Matthew Miller, a director of the Company, is president
and the sole member of M-Squared. Pursuant to this agreement, (i) the Company
paid M-Squared $50,000 for consulting services, and (ii) Mr. Faroudja is
obligated to pay Mr. Miller the aggregate sum of $120,000, representing 2% of
the exercise price for the Faroudja Option, contingent upon the exercise of such
options.
In July 1997, the Company entered into a consulting services agreement with
Matthew D. Miller, which agreement supersedes all prior existing arrangements
among M-Squared, Mr. Miller and the Company. Pursuant to this agreement, Mr.
Miller agreed to advise the Company on strategic, technology and communications
matters and will provide such assistance and advice related to such matters as
the Company may request. This agreement is for a term of one year, is renewable
upon the mutual consent of Mr. Miller and the Company's Board of Directors and
may be cancelled on four weeks notice if the Company's Board of Directors is not
satisfied with Mr. Miller's performance. Under the agreement, the Company paid
Mr. Miller a consulting fee of $7,000 per month from July 1997 through August
1997, and will pay Mr. Miller $5,000 per month for the balance of the term of
the agreement. Mr. Miller may also receive a performance-based year-end bonus
which shall be determined by the Company's Board of Directors in its sole
discretion. The Company issued to Mr. Miller an option to purchase 50,000 shares
of Common Stock at an exercise price of $9.50 per share (the "Miller Option")
under the agreement. The Miller Option has a term of three years and vests as to
1/24th of the option shares each month during the first year after the date of
grant and as to an additional 1/2 of the option shares one year after the date
of grant.
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<PAGE>
In December 1996, the Company entered into a three year consulting agreement
("Adelson Consulting Agreement") with Merv Adelson, a director of the Company,
pursuant to which Mr. Adelson agreed to provide certain consulting services in
the analysis and implementation of potential strategic alliances ("Proposed
Strategic Alliances") in the specific field of TV signal enhancement for TV,
cable TV, satellite TV and DVDs, including, but not limited to (i) providing the
Company with a list of possible corporate investors, partners, customers,
buyers, lenders and joint ventures ("Proposed Strategic Alliance Partners"),
(ii) coordinating and making approaches to Proposed Strategic Alliance Partners,
and (iv) assisting in the negotiation of the principal forms of Proposed
Strategic Alliances and preparation of all contracts, documents, approvals and
related matters necessary to consummate a Proposed Strategic Alliance with a
Proposed Strategic Alliance Partner. The Company has agreed to compensate Mr.
Adelson for any strategic alliance or combination of strategic alliances during
the term of the agreement in which the Company receives consideration (as
defined in the agreement) of at least $5 million, through the issuance of a
three year warrant to Adelson for the purchase of 65,152 shares of Common Stock
with an exercise price of $0.15 per share ("Adelson Contingent Warrant"). During
the term of the Consulting Agreement, the Company also agreed to use its best
efforts to cause the election to the Board of Directors of Mr. Adelson (or a
designee of Mr. Adelson reasonably acceptable to the Board of Directors) and an
additional designee of Mr. Adelson reasonably acceptable to the Board of
Directors. Mr. Buchalter serves on the Board of Directors as Mr. Adelson's
designee.
LICENSE AGREEMENT WITH S3
In March 1997, the Company entered into a license agreement with S3, a
leading supplier of advanced graphics accelerators for use in mainstream
multimedia PC systems. Under the terms of the agreement, the Company and S3 are
working jointly to develop integrated circuits incorporating the Company's video
processing technologies for use in PCs. The Company granted to S3 a worldwide
license to certain technology, including line doubling, detail enhancement,
cross-color suppression, motion tracking and compensation, and digital
compression filtering technology. Portions of such license are exclusive for
certain markets for a period of five years provided that performance criteria,
including minimum license fees are satisfied. The Company is obligated to
negotiate with S3 to extend the five year period. See "Business--Strategic
Relationships." No director, officer or affiliate of S3 is an affiliate of the
Company.
On June 30, 1997, the Company issued 526,316 shares of Common Stock to S3
for an aggregate purchase price of $5.0 million. Under the terms of the Stock
Purchase Agreement and an Investor's Rights Agreement, S3 is entitled to certain
anti-dilution and registration rights as described therein. The Stock Purchase
Agreement provides that S3 shall receive additional shares if the Offering price
is less than $9.50 per share. The Stock Purchase Agreement provides that if the
Offering price does not exceed $9.00 per share, the Company will issue to S3
(without payment of further consideration), that number of shares of Common
Stock that equals the difference between (i) $5 million divided by the Offering
price, and (ii) 526,316, the aggregate number of shares issused to S3 under the
Stock Purchase Agreement. Assuming an Offering price of $9.00, S3 will be
entitled to 29,240 additional shares of Common Stock. Moreover, S3 may send an
observer to attend meetings of the Company's Board of Directors and committees
thereof and, in this respect, S3 is entitled to receive copies of all notices,
minutes, consents and other materials that the Company provides to its
directors, except that the Company may exclude the observer from a meeting of
the Board of Directors or portion thereof if (i) such meeting concerns the
relationship between the Company and S3 or (ii) if such attendance would result
in disclosure of trade secrets to S3 or would adversely affect the
attorney-client privilege between the Company and its counsel. See "Description
of Capital Stock--Registration Rights."
The Company believes that all of the transactions set forth above were made
on terms no less favorable to the Company than could have been obtained from
unaffiliated third parties. All future transactions, including loans, between
the Company and its officers, directors, principal stockholders and their
affiliates will be approved by a majority of the Board of Directors, including a
majority of the independent and disinterested outside directors, and will
continue to be on terms no less favorable to the Company than could be obtained
from unaffiliated third parties.
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PRINCIPAL AND SELLING STOCKHOLDERS
The following table sets forth certain information known to the Company with
respect to beneficial ownership of the Company's Common Stock as of September
30, 1997 and as adjusted to reflect the sale of shares offered hereby by the
Company for (i) each person known by the Company to own beneficially more than
5% of the outstanding shares of Common Stock, (ii) each of the Company's
directors, (iii) each Named Executive Officer, (iv) all executive officers and
directors as a group and (v) the stockholder (the "Selling Stockholder") that
has granted the Underwriters an over-allotment option. A total of 8,751,895
shares of the Company's Common Stock were issued and outstanding. Except as
indicated in the footnotes to the table, the persons named in the table have
sole voting and investment power with respect to all shares of Common Stock
shown as beneficially owned by them, subject to community property laws where
applicable. Except as otherwise indicated, the address of each of the persons in
this table is as follows: c/o Faroudja, Inc., 750 Palomar Avenue, Sunnyvale,
California, 94086.
<TABLE>
<CAPTION>
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP
BEFORE OFFERING(1) SHARES AFTER OFFERING(1)
----------------------- TO BE -----------------------
BENEFICIAL OWNER SHARES PERCENT SOLD(2) SHARES PERCENT
- ------------------------------------------------------------- ---------- ----------- ------------ ---------- -----------
<S> <C> <C> <C> <C> <C>
Yves C. Faroudja(3).......................................... 2,077,778 23.7% -- 2,077,778 17.6%
Adelson Investors, LLC(4) ................................... 1,431,579 16.4 -- 1,431,579 12.2
10900 Wilshire Boulevard
Los Angeles, CA 90024
Faroudja Images Investors, LLC(5) ........................... 3,682,656 42.1 450,000 3,232,656 27.5
c/o Spencer Trask Securities, Inc.
535 Madison Avenue
New York, New York 10022
Roger K. Baumberger(5)....................................... 3,682,656 42.2 -- 3,232,656 27.5
Images Partners, L.P.(6) .................................... 1,035,765 11.8 -- 1,035,765 8.8
c/o Spencer Trask Securities, Inc.
535 Madison Avenue
New York, New York 10022
Michael J. Moone(7).......................................... 159,351 1.8 -- 159,351 1.3
Michael C. Hoberg(8)......................................... -- -- --
Donald S. Butler(9).......................................... 64,861 * -- 64,861 *
William J. Turner(10)........................................ 750 * -- 750 *
Kevin B. Kimberlin(6)........................................ 1,544,448 17.6 -- 1,544,448 13.1
Matthew D. Miller(11)........................................ 8,333 * -- 8,333 *
William N. Sick, Jr.(12)..................................... 750 * -- 750 *
Merv L. Adelson(4)(13)....................................... 1,432,329 16.4 -- 1,432,329 12.2
Stuart D. Buchalter(14)...................................... 10,197 * -- 10,197 *
S3 Incorporated(15) ......................................... 526,316 6.0 -- 526,316 4.5
2801 Mission College Boulevard
Santa Clara, California 95052
All directors and executive officers as a group (12
persons)(16)............................................... 5,298,797 58.8% -- 5,298,797 44.1%
</TABLE>
- ------------------------
* Less than 1%
(1) Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission and generally includes voting or
investment power with respect to securities. In computing the number of
shares beneficially owned by a person and the percentage ownership of that
person, shares of Common Stock subject to options or warrants held by that
person that are currently exercisable or exercisable within 60 days of
September 30, 1997 are deemed outstanding. Except as indicated by footnote,
and subject to community property laws where applicable, the persons named
in the table have sole voting and investment power with respect to all
shares of Common Stock shown as beneficially owned by them.
(2) Shares to be offered only if the Underwriters' over-allotment option is
exercised. See "Underwriting."
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(3) Mr. Faroudja holds the 2,077,778 shares jointly with Isabell Faroudja, his
wife. Includes 27,778 shares issuable upon exercise of warrants exercisable
within 60 days of September 30, 1997. Does not include rights to receive
warrants to purchase 72,222 shares pursuant to the Yves Faroudja Warrant.
See "Certain Transactions--Yves Faroudja License Agreement."
(4) Mr. Adelson is the Managing Member of Adelson Investors, LLC and exercises
sole voting and investment power over the shares held by that entity. Mr.
Buchalter is an officer of Adelson Investors, LLC and has an interest in the
profits of such firm, but does not exercise voting or investment power over
the shares held by the entity. Does not include rights to receive warrants
to purchase 65,152 shares pursuant to the Adelson Contingent Warrant. See
"Certain Transactions--Consulting Agreements."
(5) Roger K. Baumberger is the manager of Faroudja Images Investors, LLC. Mr.
Baumberger exercises voting and investment power over the shares held by
this entity, but disclaims beneficial ownership. Faroudja Images Investors,
LLC has granted the Underwriters an option to purchase up to 450,000 shares
of Common Stock pursuant to the over-allotment option. If the over-allotment
option is exercised in full, such entities will beneficially own 3,232,656
shares, or approximately 27.5% of the then outstanding Common Stock
following this Offering.
(6) Mr. Kimberlin is a general partner of Images and exercises voting and
investment power over the shares held by this entity. He also has a
beneficial interest in Faroudja Images Investors, LLC.
(7) Includes 159,351 shares issuable upon exercise of stock options exercisable
within 60 days of September 30, 1997. Does not include 369,581 shares
subject to options granted to Mr. Moone, which options will be fully vested
on December 31, 2000. The options vest over four years, 1/4 after the first
year from the date of grant and 1/48 every month thereafter.
(8) Does not include 75,000 shares subject to options granted to Mr. Hoberg,
which options will be fully vested on December 31, 2000. The options vest
over four years, 1/4 after the first year from the date of grant and 1/48
every month thereafter.
(9) Includes 64,861 shares issuable upon exercise of stock options exercisable
within 60 days of September 30, 1997. Does not include 131,103 shares
subject to options granted to Mr. Butler, which options will be fully vested
on December 31, 2000. The options vest over four years, 1/4 after the first
year from the date of grant and 1/48 every month thereafter.
(10) Mr. Turner is a limited partner of Images but he does not exercise voting
or investment power over the shares held by this entity. Mr. Turner also has
a beneficial interest in Faroudja Images Investors, LLC.
(11) Mr. Miller is a limited partner of Images, but he does not have voting or
investment power over the shares held by this entity. Includes 8,333 shares
issuable upon exercise of stock options exercisable within 60 days of
September 30, 1997. Does not include 48,182 shares subject to options
granted to Mr. Miller. Of these options, 6,515 will be fully vested on
December 31, 1999, vesting over three years, 1/3 after the first year from
the date of grant and 1/36 every month thereafter. 41,667 of these options
will be fully vested on July 22, 1998, vesting over one year, 1/24 each
month during the first year from the date of grant and an additional 1/2 one
year after the date of grant.
(12) Mr. Sick is a limited partner of Images, but he does not exercise voting or
investment power over the shares held by this entity. Does not include
26,060 shares subject to options granted to Mr. Sick, which options will be
fully vested on December 31, 1999. The options vest over three years, 1/3
after the first year from the date of grant and 1/36 every month thereafter.
Mr. Sick is the Chairman and Chief Executive Officer of Business Resources
International which has a beneficial interest in Faroudja Images Investors,
LLC.
(13) Does not include 6,515 shares subject to options granted to Mr. Adelson,
which options will be fully vested on December 31, 1999. The options vest
over three years, 1/3 after the first year from the date of grant and 1/36
every month thereafter.
(14) Does not include 6,515 shares subject to options granted to Mr. Buchalter,
which options will be fully vested on December 31, 1999. The options vest
over three years, 1/3 after the first year from the date of grant and 1/36
every month thereafter.
(15) The Stock Purchase Agreement between S3 and the Company provides that S3
shall receive additional shares if the Offering price is less than $9.50.
Assuming an Offering price of $9.00, S3 will be entitled to 29,240
additional shares of Common Stock.
(16) All directors and executive officers as a group hold options and warrants
to purchase 915,178 shares of the Company, which options and warrants will
not have vested within 60 days of September 30, 1997, and options and
warrants to purchase 260,323 shares of the Company, which options and
warrants will vest within 60 days of September 30, 1997.
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DESCRIPTION OF CAPITAL STOCK
GENERAL
Upon the completion of this Offering, the Company will be authorized to
issue 50,000,000 shares of Common Stock, par value $0.001 per share, and
5,000,000 shares of undesignated Preferred Stock, par value $0.001 per share.
COMMON STOCK
As of September 30, 1997, there were 8,751,895 shares of Common Stock
outstanding. As of September 30, 1997, options and warrants to purchase an
aggregate of 1,802,242 shares of Common Stock were also outstanding. See
"Management--Stock Plans."
Holders of Common Stock are entitled to receive such dividends as may from
time to time be declared by the Board of Directors of the Company out of funds
legally available therefor. Holders of Common Stock are entitled to one vote per
share on all matters on which the holders of Common Stock are entitled to vote
and do not have any cumulative voting rights. Holders of Common Stock have no
preemptive, conversion, redemption or sinking fund rights. In the event of a
liquidation, dissolution or winding-up of the Company, holders of Common Stock
are entitled to share equally and ratably in the assets of the Company, if any,
remaining after the payment of all debts and liabilities of the Company and the
liquidation preference of any outstanding Preferred Stock. The outstanding
shares of Common Stock are, and the shares of Common Stock offered by the
Company hereby when issued will be, fully paid and nonassessable. The rights,
preferences and privileges of holders of Common Stock are subject to any series
of Preferred Stock which the Company may issue in the future.
PREFERRED STOCK
The Company's Certificate of Incorporation permits the Company's Board of
Directors, without further vote or action by the stockholders, to issue shares
of the Preferred Stock in one or more series and to determine the designations,
preferences, voting powers, qualifications and special or relative rights or
privileges of the shares of each such series, including the dividend rights,
dividend rate, conversion rights, voting rights, terms of redemption (including
sinking fund provisions), redemption price or prices, liquidation preferences
and the number of shares constituting any series or the designations of such
series. These rights and privileges could limit the voting power of holders of
Common Stock and restrict their rights to receive dividends or liquidation
proceeds.
The Company has granted the Board of Directors authority to issue Preferred
Stock and to determine its rights and preferences, including the right to
eliminate delays associated with a stockholder vote on specific issuances. The
Company believes that this power to issue Preferred Stock will provide
flexibility in connection with possible corporate transactions. It could also
have the effect, however, of making it more difficult for a third party to
acquire, or of discouraging a third party from attempting to acquire, control of
the Company. The Board of Directors could also utilize shares of Preferred Stock
in order to adopt a stockholders' rights plan which would have the effect of
further discouraging or delaying a takeover of the Company. The Company has no
present plans to issue any shares of Preferred Stock. See "Risk
Factors--Potential Anti-Takeover Effects of Charter Documents and Delaware Law."
WARRANTS
Yves Faroudja was granted a warrant to purchase 100,000 shares of Common
Stock at an exercise price of $7.50 per share. The warrant vests as to 1/36th of
the total shares for each full month after January 20, 1997 provided that Yves
Faroudja is then either (i) employed by the Company (as a full or part-time
employee), or (ii) acting as a member of the Board of Directors of the Company.
The warrant expires on January 20, 2002. Certain registration rights and
anti-dilution provisions are provided to Yves Faroudja as contained therein.
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Adelson was granted a warrant to purchase 65,152 shares of Common Stock at
an exercise price of $0.15 per share. This Adelson Contingent Warrant expires on
December 31, 1999 and is fully exercisable prior to February 9, 1999, if the
Company receives consideration (as defined in the Adelson Consulting Agreement)
of at least $5 million from a strategic alliance or combination of strategic
alliances during the term of the Adelson Consulting Agreement. See "Certain
Transactions--Consulting Agreements." Certain registration rights are provided
to Adelson as contained therein.
REGISTRATION RIGHTS
Under the terms of the registration rights agreements entered into by each
of Adelson Investors, LLC, Images, Roger K. Baumberger as Liquidating Trustee of
Faroudja Images, Inc. and Faroudja Images Investors LLC (collectively the
"Holders" and individually referred to as a "Holder") and the Company, if the
Company registers its securities under the Securities Act prior to March 8, 1999
("Initial Registration"), the Company shall prepare and file, not later than 180
days after the closing date of such Initial Registration, a registration
statement under the Securities Act to permit resales of up to 4,612,500 shares
of Common Stock owned by the Holders; provided, however, that a Holder may elect
to exclude such Holder's shares of Common Stock from such registration. In
addition, if the Company does not register its securities prior to March 8,
1999, a majority of the Holders can demand that the Company file a registration
statement under the Securities Act to permit resales of up to 4,612,500 shares
of Common Stock owned by the Holders. However, the Holders may require the
Company on not more than one occasion to file a registration statement under the
Securities Act with respect to their shares.
Under the terms of the registration and stockholders' rights agreements
entered into by and among Yves Faroudja and Isabell Faroudja, Adelson Investors,
LLC, Images, Faroudja Images Investors LLC and the Company, if the Company
registers its securities under the Securities Act during the five-year period
commencing six months after the Initial Registration and any of the stockholders
of the Company are permitted to sell stock in such registered public offering,
Yves Faroudja and Isabell Faroudja, or any successor who purchases such shares
(including purchasers of the Faroudja Option), shall have the right to include
in such registration up to 3,587,500 shares of Common Stock that they own,
subject to certain limitations. Additionally, if any officers or directors are
permitted to sell any shares of Common Stock in the Initial Registration, Yves
Faroudja and Isabell Faroudja, or any successor who purchases such shares
(including purchasers of the Faroudja Option), will have the right to sell up to
3,587,500 shares of Common Stock that they own on the same basis.
Under the terms of the investor's rights agreements entered into by and
between S3 and the Company, if S3 owns at least 100,000 shares of Common Stock,
at any time after 12 months after the effective date of the Initial
Registration, S3 shall have the right to require the Company to file, not more
than twice, a registration statement under the Securities Act to permit resales
of up to 526,316 shares of Common Stock that it owns, subject to certain
limitations, and S3 shall have the right to require the Company to file a
registration statement not more than once on Form S-3 under the Securities Act
to permit resales of up to 526,316 shares of Common Stock that it owns, subject
to certain limitations. Further, if at any time after 12 months after the
Initial Registration the Company registers any of its Common Stock under the
Securities Act, S3 shall have the right to sell all of its 526,316 shares of
Common Stock pursuant to such registration, subject to certain limitations.
Also, under this agreement, there are indemnification provisions pursuant to
which the Company has agreed to indemnify S3 and the Company's underwriters.
DELAWARE LAW AND CERTAIN CHARTER AND BY-LAW PROVISIONS
Upon the consummation of the Offering made hereby, the Company will be
subject to the provisions of Section 203 of the Delaware General Corporation
Law. In general, Section 203 prohibits certain publicly-held Delaware
corporations from engaging in a "business combination" with an "interested
stockholder" for a period of three years after the date of the transaction in
which the person or entity became an interested stockholder, unless, among other
exceptions, (i) prior to the date the interested stockholder attained such
status the Board of Directors approved either the business combination or the
transaction which resulted in the stockholder
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becoming an interested stockholder, (ii) the holder of two-thirds of the
outstanding voting stock not owned by the interested stockholder approved the
business combination, or (iii) the interested stockholder acquired 85% or more
of the outstanding voting stock of the corporation in the same transaction that
makes it an interested stockholder (excluding shares owned by persons who are
both officers and directors of the corporation, and shares held by certain
employee stock ownership plans). For purposes of Section 203, a "business
combination" is defined broadly to include mergers, asset sales and other
transactions resulting in a financial benefit to the interested stockholder.
Subject to certain exceptions, an "interested stockholder" is a person or entity
who, together with affiliates and associates, owns, or within the three
immediately preceding years of a business combination did own, 15% or more of
the corporation's outstanding voting stock.
The Company's Certificate of Incorporation limits the liability of directors
to the maximum extent permitted by the Delaware General Corporation Law.
Delaware law provides that the directors of a corporation will not be personally
liable to such corporation or its stockholders for monetary damages for breach
of fiduciary duties as directors, except for liability (i) for any breach of
their duty of loyalty to the corporation or its stockholders; (ii) for acts or
omissions not in good faith or which involve intentional misconduct or a knowing
violation of law; (iii) for unlawful payments of dividends or unlawful stock
repurchases or redemptions as provided in Section 174 of the Delaware General
Corporation Law; or (iv) for any transaction from which the director derives an
improper personal benefit. The Company's Certificate of Incorporation and
By-Laws provide that the Company shall indemnify its directors and officers to
the fullest extent permitted by Delaware law and permit the Company to advance
expenses to such directors and officers to defend any action for which rights of
indemnification are provided in the By-Laws. The Company believes that these
provisions will assist the Company in attracting and retaining qualified
individuals to serve as directors and officers.
The Company's Board of Directors is classified into three classes, with the
initial terms of each class expiring at the 1997, 1998 and 1999 annual
stockholders' meetings, respectively. After the expiration of each initial term,
the directors in each class will be elected for three year terms. See
"Management." The Board of Directors is authorized to create new directorships
and to fill such positions so created. After the classification of the Board of
Directors, the Board of Directors will be permitted to specify to which class
such new position is assigned and the person filling such position will serve
for the term applicable to that class. The Board of Directors (or its remaining
members (even though less than a quorum)) is also empowered to fill vacancies on
the Board of Directors occurring for any reason for the remainder of the term of
the class of directors in which the vacancy occurred. The Company's Certificate
of Incorporation provides that directors may be removed with cause by the vote
of the holders of at least 66.66% of the voting power of the outstanding stock
of the Company. The likely effect of these provisions is that they will increase
the time required for the stockholders to change the composition of the Board of
Directors. For example, in general, at least two annual meetings of the
stockholders will be necessary for stockholders to effect a change in a majority
of the members of the Board of Directors.
The Company's By-Laws provide that for nominations for the Board of
Directors or for other business to be properly brought by a stockholder before a
meeting of stockholders, the stockholder must first have given timely notice
thereof in writing to the Secretary of the Company. To be timely, a
stockholder's notice generally must be delivered not less than 60 days nor more
than 90 days prior to the annual meeting. If the meeting is not an annual
meeting, the notice must generally be delivered not more than ninety days prior
to the special meeting and not later than the later of 60 days prior to the
special meeting or ten days following the day on which public announcement of
the meeting is first made by the Company. The notice must contain, among other
things, certain information about the stockholder delivering the notice and, as
applicable, background about the nominee or a description of the proposed
business to be brought before the meeting.
The Company's Certificate of Incorporation and By-Laws provide that any
action required or permitted to be taken by the stockholders of the Company
shall be taken only at a duly called annual or special meeting of the
stockholders and may not be taken by written consent. Special meetings may only
be called by the Board of Directors, the Chairman of the Board of Directors or
the President of the Company. These provisions could have the effect of
delaying, until the next annual stockholders' meeting, stockholder actions which
are favored by the holders of a majority of the outstanding voting securities of
the Company. These provisions may also discourage
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another person or entity from making a tender offer for the Company's Common
Stock, because such person or entity, even if it acquired a majority of the
outstanding voting securities of the Company, would be able to take action as a
stockholder (such as electing new directors or approving a merger) only at a
duly called stockholders' meeting, and not by written consent.
The affirmative vote of the holders of at least 66.66% of the outstanding
voting stock of the Company is required to amend or repeal any of the foregoing
provisions in the Company's Restated Certificate of Incorporation, and to reduce
the number of authorized shares of Common Stock and Preferred Stock. Such 66.66%
vote is also required to amend or repeal the Company's By-Laws. The By-Laws may
also be amended or repealed by a majority vote of the Board of Directors. Such
66.66% stockholder vote would be in addition to any separate class vote that
might in the future be required pursuant to the terms of any Preferred Stock
that might be outstanding at the time any such amendments are submitted to the
stockholders.
OTHER ATTRIBUTES OF THE STOCK OF THE COMPANY
The Company is a corporation organized under the laws of Delaware and
generally the laws of the state of incorporation govern the corporate operations
of a corporation and the right of its stockholders. Certain provisions of the
California Corporations Code become applicable to a corporation incorporated
outside of California, however, if (i) the corporation transacts intrastate
business in California and the average of its California property, payroll and
sales factors (as defined in the California Revenue and Taxation Code) with
respect to it is more than 50% during its latest fiscal year, (ii) more than
one-half of its outstanding voting securities are held of record by persons
having addresses in California and (iii) the corporation is not otherwise
exempt. An exemption is provided if the corporation has outstanding securities
(x) listed on the New York Stock Exchange or the American Stock Exchange or (y)
qualified for trading as a national market security on the National Association
of Securities Dealers Automated Quotation System if such corporation has at
least 800 holders of its equity securities as of the record date of its most
recent annual meeting of stockholders (a "Listed Corporation").
Since approximately 50% of the Company's activities occur in California,
certain provisions of California corporate law may apply to the Company, as
described above.
Except as discussed herein, provisions of California law which could be
applicable to the Company if the Company meets these tests and is not exempt
include, without limitation, those provisions relating to the stockholders'
right to remove a director without cause (under California law, no director may
be removed without cause when the votes cast against removal would be sufficient
to elect the director if voted cumulatively), provide for a classified Board of
Directors (only a Listed Corporation may have a classified Board of Directors
under California law), call special meetings (under California law, the holders
of shares entitled to cast not less than 10 percent of the votes at the meeting
may call such a meeting; however, under Delaware law, stockholders may not call
a special meeting unless provided for in the certificate of incorporation or the
by-laws), cumulative votes in elections of directors (cumulative voting is
mandatory under California law), and the Company's ability to indemnify its
officers, directors and employees (which is more limited in California than in
Delaware). Notwithstanding the foregoing, a corporation may provide for a
classified Board of Directors, eliminate cumulative voting or both, if it is a
Listed Corporation.
LISTING
The Company has made an application for listing the Company's Common Stock
on The Nasdaq National Market, subject to completion of the Offering, under the
symbol FDJA.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the Company's Common Stock is U.S.
Stock Transfer Corporation.
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SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of this Offering, the Company will have 11,751,895 shares of
Common Stock outstanding assuming no exercise of stock options and warrants
outstanding as of September 30, 1997. Of this amount, the 3,000,000 shares
offered hereby will be freely tradeable without restriction or further
registration under the Securities Act, unless such shares are purchased by
"affiliates" of the Company as that term is defined in Rule 144 under the
Securities Act. No additional shares will be available for sale in the public
market on the date of this Prospectus and approximately 8,207,380 additional
shares will be available for sale in the public market following the expiration
of 180-day lockup agreements with the Representatives of the Underwriters or the
Company, subject in some cases to compliance with the volume and other
limitations of Rule 144.
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated) who has beneficially owned shares for at least one
year is entitled to sell within any three-month period commencing 90 days after
the date of this Prospectus a number of shares that does not exceed the greater
of (i) 1% of the then outstanding shares of Common Stock or (ii) the average
weekly trading volume during the four calendar weeks preceding such sale,
subject to the filing of a Form 144 with respect to such sale. Sales under Rule
144 are also subject to certain manner of sale provisions and notice
requirements and to the availability of current public information about the
Company. A person (or persons whose shares are aggregated) who is not deemed to
have been an "affiliate" of the Company at any time during the 90 days
immediately preceding the sale and who has beneficially owned his or her shares
for at least two years is entitled to sell such shares pursuant to Rule 144(k)
without regard to the limitations described above. Therefore, unless otherwise
restricted, "144(k)" shares may be sold immediately upon completion of this
Offering. Persons deemed to be "affiliates" must always sell pursuant to Rule
144, even after the applicable holding periods have been satisfied. The Company
is unable to estimate the number of shares that will be sold under Rule 144,
since this will depend on the market price for the Common Stock of the Company,
the personal circumstances of the sellers and other factors.
The Company, certain stockholders of the Company, and all executive officers
and directors of the Company have agreed that they will not directly or
indirectly, offer, sell, contract to sell, grant any option to purchase or
otherwise dispose of any shares of Common Stock or any securities convertible
into or exercisable or exchangeable for such Common Stock or, in any manner,
transfer all or a portion of the economic consequences associated with the
ownership of the Common Stock, without the prior written consent of BancAmerica
Robertson Stephens, for a period of 180 days from the date of this Prospectus
(the "Lockup Period"), except that the Company may, without such consent, grant
options and sell shares pursuant to the 1995 Option Plan, the 1997 Option Plan,
the Directors Plan and the Purchase Plan. BancAmerica Robertson Stephens may, in
its sole discretion and at any time without notice, release all or any portion
of the securities subject to lock-up agreements ("Lock-Up Agreements").
BancAmerica Robertson Stephens currently has no plans to release any of the
securities subject to Lock-Up Agreements.
Any employee or consultant to the Company who purchased his or her shares
pursuant to a written compensatory plan or contract is entitled to rely on the
resale provisions of Rule 701, which permit nonaffiliates to sell their Rule 701
shares without having to comply with the public information, holding period,
volume limitation or notice provisions of Rule 144 and permit "affiliates" to
sell their Rule 701 shares without having to comply with the Rule 144 holding
period restrictions, in each case, subject to the contractual lock-up
restrictions described above, commencing 90 days after the date of this
Prospectus.
As of September 30, 1997, options to purchase a total of 1,213,560 shares of
Common Stock pursuant to the 1995 Option Plan were outstanding. As of September
30, 1997, options to purchase a total of 45,605 shares of Common Stock pursuant
to the Directors Plan were outstanding. As of September 30, 1997, options to
purchase a total of 377,925 shares of Common Stock pursuant to the 1997 Option
Plan were outstanding. An additional 351,135, 54,395 and 400,000 shares of
Common Stock are available for future option grants under the 1997 Option Plan,
the Directors Plan, and the Purchase Plan, respectively. No more options will be
granted under the 1995 Option Plan, even though 4,060 shares of Common Stock
remain reserved under the 1995 Option Plan. See "Management--Stock Plans."
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The Company intends to file a registration statement on Form S-8 under the
Securities Act to register shares of Common Stock reserved for issuance under
the 1995 Stock Plan, the 1997 Stock Plan, the Directors Plan and the Purchase
Plan within 90 days after the date of this Offering, thus permitting the resale
of shares issued pursuant to such plans by nonaffiliates in the public market
without restriction under the Securities Act.
Prior to this Offering, there has been no market for the Common Stock of the
Company. Therefore, future sales of substantial amounts of Common Stock in the
public market could materially adversely affect market prices prevailing from
time to time. Furthermore, since only a limited number of shares will be
available for sale shortly after this Offering because of certain contractual
and legal restrictions on resale (as described above), sales of a substantial
amount of Common Stock in the public market after the restrictions lapse could
materially adversely affect the prevailing market price and the ability of the
Company to raise equity capital in the future.
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UNDERWRITING
The Underwriters named below, acting through their representatives,
BancAmerica Robertson Stephens and Volpe Brown Whelan and Company, LLC (the
"Representatives"), have severally agreed, subject to the terms and conditions
of the Underwriting Agreement, to purchase from the Company the number of shares
of Common Stock set forth opposite their names below. The Underwriters are
committed to purchase and pay for all such shares if any are purchased.
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITER SHARES
- ---------------------------------------------------------------------------------- ----------
<S> <C>
BancAmerica Robertson Stephens....................................................
Volpe Brown Whelan & Company, LLC.................................................
----------
Total........................................................................... 3,000,000
----------
----------
</TABLE>
The Company has been advised by the Representatives that the Underwriters
propose to offer the shares of Common Stock to the public at the initial public
offering price set forth on the cover page of this Prospectus and to certain
dealers at such price less a concession not in excess of $ per share of which
$ may be reallowed to other dealers. After the initial public offering, the
public offering price, concession and reallowance to dealers may be reduced by
the Representatives. No such reduction shall change the amount of proceeds to be
received by the Company as set forth on the cover page of this Prospectus.
The Selling Stockholder has granted to the Underwriters an option,
exercisable during the 30-day period after the date of this Prospectus, to
purchase up to 450,000 additional shares of Common Stock at the same price per
share as the Company will receive for the 3,000,000 shares that the Underwriters
have agreed to purchase. To the extent that the Underwriters exercise such
option, each of the Underwriters will have a firm commitment to purchase
approximately the same percentage of such additional shares that the number of
shares of Common Stock to be purchased by it shown in the above table represents
as a percentage of the 3,000,000 shares offered hereby. If purchased, such
additional shares will be sold by the Underwriters on the same terms as those on
which the 3,000,000 shares are being sold.
The Underwriting Agreement contains certain covenants of indemnity among the
Underwriters, the Company and the Selling Stockholder against certain
liabilities, including liabilities under the Securities Act.
Each executive officer and director of the Company and the holders of
approximately 8,751,895 shares of Common Stock of the Company have agreed with
the Underwriters for a period of 180 days from the date of this Prospectus,
subject to certain limited exceptions, not to offer to sell, contract to sell,
or otherwise sell, dispose of, loan, pledge or grant any rights with respect to
any shares of Common Stock, any options or warrants to purchase any shares of
Common Stock, or any securities convertible into or exchangeable for shares of
Common Stock now owned or hereafter acquired directly by such holders or with
respect to which they have or hereafter acquire the power of disposition,
without the prior written consent of BancAmerica Robertson Stephens which may,
in its sole discretion for any reason and at any time or from time to time,
without notice, release all or any portion of the securities subject to Lock-Up
Agreements. If the Lock-Up Agreements are waived, the Company would issue a
press release announcing any such waiver. In addition, the Company has agreed
that during the lock-up period, the Company will not, without the prior written
consent of BancAmerica Robertson Stephens, subject to certain exceptions, issue,
sell, contract to sell or otherwise dispose of any shares of Common Stock, any
options or warrants to purchase any shares of Common Stock or any securities
convertible into, exercisable for or exchangeable for shares of Common Stock
other than the issuance of Common Stock upon the exercise of outstanding options
and under the existing employee stock purchase plan and the Company's issuance
of options under existing employee stock option plans.
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Prior to this Offering, there has been no public market for the Common Stock
of the Company. Consequently, the initial public offering price for the Common
Stock offered hereby was determined by negotiations among the Company and the
Representatives. Among the factors considered in such negotiations were
prevailing market conditions, certain financial information of the Company,
market valuations of other companies that the Company and the Representatives
believe to be comparable to the Company, estimates of the business potential of
the Company, the present state of the Company's development and other factors
deemed relevant.
Until the distribution of the Common Stock is completed, the rules of the
Securities and Exchange Commission (the "Commission") may limit the ability of
the Underwriters and certain selling group members to bid for and purchase the
Common Stock. As an exception to these rules, the Representatives are permitted
to engage in certain transactions that stabilize the price of the Common Stock.
Such transactions consist of bids or purchases for the purpose of pegging,
fixing or maintaining the price of the Common Stock.
If the Underwriters create a short position in the Common Stock in
connection with the Offering (i.e., if they sell more Common Stock than are set
forth on the cover page of this Prospectus) the Representatives may reduce that
short position by purchasing Common Stock in the open market. The
Representatives may also elect to reduce any short position by exercising all or
part of the over-allotment option described above.
The Representatives may also impose a penalty bid on certain Underwriters
and selling group members. This means that if the Representatives purchase
Common Stock in the open market to reduce the Underwriters' short position or to
stabilize the price of the Common Stock, they may reclaim the amount of the
selling concession from the Underwriters and selling group members who sold
those shares as part of the Offering.
In general, purchases of a security for the purpose of stabilization or to
reduce a short position could cause the price of the security to be higher than
it might be in the absence of such purchases. The imposition of a penalty bid
might also have an effect on the price of a security to the extent that it
discourages resales of the security.
Neither the Company nor any of the Underwriters makes any representation or
prediction as to the direction or magnitude of any effect that the transactions
described above might have on the price of the Common Stock. In addition,
neither the Company nor any of the Underwriters makes any representation that
the Representatives will engage in such transactions or that such transactions,
once commenced, will not be discontinued without notice.
The Representatives have informed the Company that neither they, nor any
other member of the National Association of Securities Dealers, Inc.
participating in the distribution of this Offering, will make sales of the
Common Stock offered hereby to accounts over which they exercise discretionary
authority without the prior specific written approval of the customer.
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LEGAL MATTERS
The validity of the Common Stock offered hereby will be passed upon for the
Company by Buchalter, Nemer, Fields & Younger, a Professional Corporation, Los
Angeles, California. Certain legal matters relating to this Offering will be
passed upon for the Underwriters by Wilson Sonsini Goodrich & Rosati,
Professional Corporation, Palo Alto, California. Stuart D. Buchalter, of counsel
to Buchalter, Nemer, Fields & Younger, is one of the Company's directors and
beneficially owns 10,197 shares of Common Stock and options to purchase 6,515
shares of Common Stock granted pursuant to the Directors Plan.
EXPERTS
The consolidated financial statements of the Company as of December 31, 1995
and 1996 and for the years ended December 31, 1994, 1995 and 1996, appearing in
this Prospectus and Registration Statement have been audited by Ernst & Young
LLP, independent auditors, as set forth in their report thereon appearing
elsewhere herein, and are included in reliance upon such report given upon the
authority of such firm as experts in accounting and auditing.
AVAILABLE INFORMATION
The Company has filed with the Commission in Washington, D.C. a Registration
Statement on Form S-1 (the "Registration Statement") under the Securities Act
with respect to the shares offered hereby. As used herein, the term
"Registration Statement" means the initial Registration Statement and any and
all amendments thereto. This Prospectus does not contain all of the information
set forth in the Registration Statement and the exhibits and schedules thereto.
For further information with respect to the Company and the Shares, reference is
hereby made to such Registration Statement and the exhibits and schedules
thereto. Statements contained in this Prospectus as to the contents of any
contract or other document are not necessarily complete and in each instance,
reference is made to the copy of such contract or documents filed as an exhibit
to the Registration Statement, each such statement being qualified in all
respects by such reference. The Registration Statement, including the exhibits
and schedules thereto, may be inspected and copied at the public reference
facilities maintained by the Commission at 450 Fifth Street, N.W., Room 1024,
Washington, D.C. 20549 and at certain regional offices of the Commission located
at Seven World Trade Center, 13th Floor, New York, New York 10048 and Northwest
Atrium Center, 500 Madison Street, Suite 1400, Chicago, Illinois 60661. Copies
of such materials can be obtained from the Public Reference Section of the
Commission at 450 Fifth Street, N.W., Room 1025, Washington, D.C. 20549, at
prescribed rates. The Commission maintains a World Wide Web site at
http://www.sec.gov that contains reports, proxy and information statements and
other information regarding registrants that filed electronically with the
Commission. Information concerning the Company is also available for inspection
at the offices of the Nasdaq National Market, Reports Section, 1735 "K" Street,
N.W., Washington, D.C. 20006.
Upon completion of this Offering, the Company will be subject to the
informational requirements of the Securities Exchange Act of 1934 and, in
accordance therewith, will file reports with the Commission. The Company intends
to furnish to its stockholders annual reports containing audited financial
statements of the Company audited by its independent accountants and quarterly
reports containing unaudited condensed financial statements for each of the
first three quarters of the fiscal year.
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FAROUDJA, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Report of Ernst & Young LLP, Independent Auditors..................................... F-2
Consolidated Balance Sheets........................................................... F-3
Consolidated Statements of Income..................................................... F-4
Consolidated Statement of Stockholders' Equity........................................ F-5
Consolidated Statements of Cash Flows................................................. F-6
Notes to Consolidated Financial Statements............................................ F-7
</TABLE>
F-1
<PAGE>
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Faroudja, Inc.
We have audited the accompanying consolidated balance sheets of Faroudja,
Inc. as of December 31, 1995 and 1996, and the related consolidated statements
of income, stockholders' equity and cash flows for each of the three years in
the period ended December 31, 1996. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Faroudja, Inc.
at December 31, 1995 and 1996, and the consolidated results of its operations
and its cash flows for each of the three years in the period ended December 31,
1996, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
San Jose, California
July 18, 1997, except for Note 12
as to which the date is July 22, 1997
F-2
<PAGE>
FAROUDJA, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------
1995 1996
------------ ------------ SEPTEMBER 30,
1997
-------------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................................ $ 1,522,756 $ 1,215,591 $ 6,934,266
Short-term investments............................................... 1,235,960 1,867,896 272,227
Trade accounts receivable, less allowance for doubtful accounts of
$10,000 in 1995, $110,000 in 1996, and $199,000 in 1997............ 1,573,866 2,767,331 3,319,400
Inventories.......................................................... 1,587,070 1,683,550 2,634,408
Deferred tax assets.................................................. -- 461,519 644,234
Other current assets................................................. 43,252 224,426 742,131
------------ ------------ -------------
Total current assets................................................... 5,962,904 8,220,313 14,546,666
Property and equipment, net............................................ 771,053 1,383,807 1,911,230
Other assets........................................................... -- -- 280,971
------------ ------------ -------------
$ 6,733,957 $ 9,604,120 $16,738,867
------------ ------------ -------------
------------ ------------ -------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable..................................................... $ 601,206 $ 729,320 $ 1,256,563
Accrued compensation and benefits.................................... 485,936 671,863 1,158,746
Income taxes payable................................................. 48,593 116,602 368,978
Other accrued liabilities............................................ 83,069 341,444 537,418
Deferred revenue..................................................... -- 500,000 --
------------ ------------ -------------
Total current liabilities.............................................. 1,218,804 2,359,229 3,321,705
Commitments
Stockholders' equity:
Preferred Stock--$0.001 par value; 2,000,000 shares authorized
(5,000,000 at September 30, 1997), none issued and outstanding..... -- -- --
Common Stock--$0.001 par value; 18,000,000 shares authorized
(50,000,000 at September 30, 1997); 7,156,895, 8,200,000, and
8,751,895 shares issued and outstanding in 1995, 1996, and 1997,
respectively....................................................... 3,611,023 8,200 8,752
Additional paid-in capital........................................... -- 7,824,823 13,393,026
Unrealized gains on available-for-sale securities, net of tax
effect............................................................. 34,885 66,737 --
Deferred compensation................................................ -- -- (254,532 )
Retained earnings (deficit).......................................... 1,869,245 (654,869) 269,916
------------ ------------ -------------
Total stockholders' equity............................................. 5,515,153 7,244,891 13,417,162
------------ ------------ -------------
$ 6,733,957 $ 9,604,120 $ 16,738,867
------------ ------------ -------------
------------ ------------ -------------
</TABLE>
See accompanying notes.
F-3
<PAGE>
FAROUDJA, INC.
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, NINE MONTHS ENDED SEPTEMBER
------------------------------------------ 30,
1994 1995 1996 ---------------------------
------------ ------------- ------------- 1996
------------
(UNAUDITED) 1997
-------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues:
Product sales......................... $ 8,064,603 $ 11,953,658 $ 12,626,183 $ 9,251,948 $ 11,625,514
License and royalty revenues.......... -- -- 500,000 -- 1,250,000
------------ ------------- ------------- ------------ -------------
Total revenues.......................... 8,064,603 11,953,658 13,126,183 9,251,948 12,875,514
Cost of product sales................... 2,998,262 4,214,753 4,797,516 3,339,039 3,951,075
------------ ------------- ------------- ------------ -------------
Gross profit............................ 5,066,341 7,738,905 8,328,667 5,912,909 8,924,439
Operating expenses:
Research and development.............. 1,277,053 1,483,388 2,463,838 1,675,787 2,976,670
Sales and marketing................... 777,643 1,070,045 2,126,686 1,502,388 2,862,497
General and administrative............ 1,152,968 1,178,990 1,623,453 1,132,348 1,504,752
Financing expense..................... -- -- -- -- 311,572
------------ ------------- ------------- ------------ -------------
Total operating expenses................ 3,207,664 3,732,423 6,213,977 4,310,523 7,655,491
------------ ------------- ------------- ------------ -------------
Operating income........................ 1,858,677 4,006,482 2,114,690 1,602,386 1,268,948
Other income:
Interest income....................... 69,118 81,746 83,179 65,359 175,807
Other, net............................ 14,391 4,986 -- 46,812
------------ ------------- ------------- ------------ -------------
Income before provision for income
taxes................................. 1,942,186 4,093,214 2,197,869 1,667,745 1,491,567
Provision for income taxes.............. 13,450 83,981 687,054 474,985 566,782
------------ ------------- ------------- ------------ -------------
Net income.............................. $ 1,928,736 $ 4,009,233 $ 1,510,815 $ 1,192,760 $ 924,785
------------ ------------- ------------- ------------ -------------
------------ ------------- ------------- ------------ -------------
Pro forma data (unaudited):
Historical income before provision for
income taxes........................ $ 1,942,186 $ 4,093,214 $ 2,197,869 $ 1,667,745
Pro forma provision for income
taxes............................... 714,155 1,023,188 879,148 667,192
------------ ------------- ------------- ------------
Pro forma net income.................... $ 1,228,031 $ 3,070,026 $ 1,318,721 $ 1,000,553
------------ ------------- ------------- ------------
------------ ------------- ------------- ------------
Per share data:
Net income per share.................. $ 0.10
-------------
-------------
Pro forma net income per share
(unaudited)......................... $ 0.15 $ 0.38 $ 0.15 $ 0.11
------------ ------------- ------------- ------------
------------ ------------- ------------- ------------
Shares used in per share
computations........................ 7,978,926 7,998,146 9,011,961 8,941,682 9,693,620
------------ ------------- ------------- ------------ -------------
------------ ------------- ------------- ------------ -------------
</TABLE>
See accompanying notes.
F-4
<PAGE>
FAROUDJA, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
UNREALIZED
GAINS ON
COMMON STOCK ADDITIONAL AVAILABLE- RETAINED TOTAL
---------------------- PAID-IN FOR-SALE DEFERRED EARNINGS STOCKHOLDERS'
SHARES AMOUNTS CAPITAL SECURITIES COMPENSATION (DEFICIT) EQUITY
--------- ----------- ----------- ------------- ------------ ----------- -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31,
1993........................ 7,156,895 $ 3,611,023 $ -- $ -- $ -- $(1,228,778) $ 2,382,245
Net income.................... -- -- -- -- -- 1,928,736 1,928,736
Distribution to
stockholders................ -- -- -- -- -- (1,484,946) (1,484,946)
--------- ----------- ----------- ------------- ------------ ----------- -------------
Balance at December 31,
1994........................ 7,156,895 3,611,023 -- -- -- (784,988) 2,826,035
Net income.................... -- -- -- -- -- 4,009,233 4,009,233
Unrealized gain on
available-for-sale
securities.................. -- -- -- 34,885 -- -- 34,885
Distribution to
stockholders................ -- -- -- -- -- (1,355,000) (1,355,000)
--------- ----------- ----------- ------------- ------------ ----------- -------------
Balance at December 31,
1995........................ 7,156,895 3,611,023 -- 34,885 -- 1,869,245 5,515,153
Sale of Common Stock.......... 1,043,105 4,000,000 -- -- -- -- 4,000,000
Issuance of warrants to
purchase Common Stock for
future services............. -- -- 222,000 -- -- -- 222,000
Reincorporation in Delaware... -- (7,602,823) 7,602,823 -- -- -- --
Net income.................... -- -- -- -- -- 1,510,815 1,510,815
Change in unrealized gain on
available-for-sale
securities, net of tax...... -- -- -- 31,852 -- -- 31,852
Distributions to
stockholders................ -- -- -- -- -- (4,034,929) (4,034,929)
--------- ----------- ----------- ------------- ------------ ----------- -------------
Balance at December 31,
1996........................ 8,200,000 8,200 7,824,823 66,737 -- (654,869) 7,244,891
Sale of Common Stock, net of
issue costs (unaudited)..... 526,316 526 4,947,674 -- -- -- 4,948,200
Issuance of Common Stock for
services and upon exercise
of options and warrants
(unaudited)................. 25,579 26 99,029 -- -- -- 99,055
Issuance of warrants to
purchase Common Stock for
technology acquired
(unaudited)................. -- -- 250,000 -- -- -- 250,000
Deferred compensation on
employee stock option grants
(unaudited)................. -- -- 271,500 -- (271,500) -- --
Amortization of deferred
compensation (unaudited).... -- -- -- -- 16,968 -- 16,968
Net income (unaudited)........ -- -- -- -- -- 924,785 924,785
Change in unrealized gain on
available for sale
securities, net of tax
(unaudited)................. -- -- -- (66,737) -- -- (66,737)
--------- ----------- ----------- ------------- ------------ ----------- -------------
Balance at September 30, 1997
(unaudited)................. 8,751,895 $ 8,752 $13,393,026 $ -- $(254,532) $ 269,916 $13,417,162
--------- ----------- ----------- ------------- ------------ ----------- -------------
--------- ----------- ----------- ------------- ------------ ----------- -------------
</TABLE>
See accompanying notes.
F-5
<PAGE>
FAROUDJA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEAR ENDED DECEMBER 31, SEPTEMBER 30,
---------------------------------- -----------------------
1994 1995 1996 1996 1997
---------- ---------- ---------- ---------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income............................... $1,928,736 $4,009,233 $1,510,815 $1,192,760 $ 924,785
Adjustments to reconcile net income to
net cash provided by (used in)
operating activities:
Depreciation and amortization.......... 172,412 223,988 422,376 256,880 231,061
Loss on disposal of equipment.......... -- -- -- -- 17,204
Gain on sales of short-term
investments.......................... -- -- -- -- (83,456)
Changes in operating assets and
liabilities:
Trade accounts receivable.............. (358,639) (642,490) (1,193,465) (385,326) (552,069)
Inventories............................ 50,111 (793,149) (96,480) (116,945) (950,858)
Deferred tax assets.................... -- -- (461,519) -- (182,715)
Other current assets................... (8,173) (1,513) (27,174) (35,147) (517,705)
Accounts payable....................... (118,969) 417,306 128,114 (12,530) 527,243
Accrued compensation and benefits...... 165,192 118,135 185,927 (21,235) 486,883
Income taxes payable................... (5,012) 46,574 68,009 (4,806) 252,376
Other accrued liabilities.............. (99,825) 29,058 258,375 187,139 195,974
Deferred revenue....................... -- -- 500,000 -- (500,000)
---------- ---------- ---------- ---------- -----------
Net cash provided by (used in) operating
activities............................. 1,725,833 3,407,142 1,294,978 1,060,790 (151,277)
---------- ---------- ---------- ---------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Intangible assets........................ -- -- -- -- (50,000)
Purchases of equipment................... (211,920) (391,907) (967,130) (610,938) (752,555)
Proceeds from sale of equipment.......... -- -- -- -- 12,864
Purchases of short-term investments...... (200,000) (1,751,075) (1,061,000) (559,454) --
Sales of short-term investments.......... -- -- -- -- 1,612,388
Maturities of short-term investments..... -- 750,000 460,916 -- --
---------- ---------- ---------- ---------- -----------
Net cash provided by (used in) investing
activities............................. (411,920) (1,392,982) (1,567,214) (1,170,392) 822,697
---------- ---------- ---------- ---------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Issuance of Common Stock................. -- -- 4,000,000 4,000,000 5,047,255
Repayment of loan payable................ (420,000) -- -- -- --
Distribution to stockholders............. (1,484,946) (1,355,000) (4,034,929) (4,024,570) --
---------- ---------- ---------- ---------- -----------
Net cash provided by (used in) financing
activities............................. (1,904,946) (1,355,000) (34,929) (24,570) 5,047,255
---------- ---------- ---------- ---------- -----------
Increase (decrease) in cash and cash
equivalents............................ (591,033) 659,160 (307,165) (134,172) 5,718,675
Cash and cash equivalents at beginning of
period................................. 1,454,629 863,596 1,522,756 1,522,756 1,215,591
---------- ---------- ---------- ---------- -----------
Cash and cash equivalents at end of
period................................. $ 863,596 $1,522,756 $1,215,591 $1,388,584 $6,934,266
---------- ---------- ---------- ---------- -----------
---------- ---------- ---------- ---------- -----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION
Cash paid during the period for income
taxes.................................. $ 17,531 $ 32,157 $1,116,656 $ 200,000 $ 465,119
---------- ---------- ---------- ---------- -----------
---------- ---------- ---------- ---------- -----------
SUPPLEMENTAL DISCLOSURES OF NONCASH
FINANCING ACTIVITIES
Issuance of warrants to acquire Common
Stock for future services.............. $ -- $ -- $ 222,000 $ 222,000 $ --
---------- ---------- ---------- ---------- -----------
---------- ---------- ---------- ---------- -----------
Issuance of warrants to acquire Common
Stock for technology acquired.......... $ -- $ -- $ -- $ -- $ 250,000
---------- ---------- ---------- ---------- -----------
---------- ---------- ---------- ---------- -----------
</TABLE>
See accompanying notes.
F-6
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
1. SIGNIFICANT ACCOUNTING POLICIES
BUSINESS AND BASIS OF PRESENTATION
Faroudja, Inc. (the "Company") designs, develops and sells a range of video
image enhancement products and technology for the home television, professional
broadcast and personal computer markets. Although traditional business has been
directed to sales of complete subsystem units, the Company has recently expanded
its activities to include the design and development of board and chip level
products for applications in the television as well as the personal computer
markets.
The accompanying financial statements reflect the operations of Faroudja
Laboratories, Inc. ("FLI") and Faroudja Research Enterprises, Inc. ("FRE"), both
of which were California corporations. FLI and FRE, which were owned by common
stockholders, were merged in December 1996, with FLI surviving the merger.
Subsequently, in order to effect a reverse stock split and a reincorporation in
Delaware, FLI merged with a wholly owned subsidiary of a newly formed Delaware
corporation, Faroudja, Inc. In this transaction, the FLI stockholders received
0.69185 shares of the Company's Common Stock for each share of FLI Common Stock
held by them. All outstanding stock options and warrants to purchase FLI Common
Stock were assumed by the Company at the same exchange ratio. The effect of this
exchange on Common Stock, stock options and warrants has been reflected in the
accompanying financial statements on a retroactive basis. All intercompany
balances and transactions between the Company and FLI have been eliminated.
On December 30, 1996, FLI and FRE were merged through the exchange of
0.21258 shares of FLI Common Stock for each outstanding share of FRE Common
Stock. As the outstanding shares of both entities were held in the same
percentage by identical stockholders prior to the merger, this transaction was
accounted for as if it were a pooling-of-interests. Accordingly, the financial
statements have been retroactively restated to give effect to this transaction
as of the beginning of the earliest period presented.
Prior to March 1996, FRE and FLI were each owned 100% by two individuals
(the "Founders"). In March 1996, new investors acquired a 56.25% ownership
interest in both entities through the purchase of shares held by the Founders
($14,000,000) and newly issued FLI shares ($4,000,000). Simultaneous with this
transaction, the Founders received a distribution from FLI in the amount of
$4,000,000. The new investors also acquired an option from the Founders to
acquire an additional 1,537,500 shares held by the Founders for a total of
$6,000,000. Such option expires upon the earlier of (i) upon the close of an
initial public offering by the Company or (ii) September 5, 1997. Prior to the
March 1996 transaction, FLI had elected to be treated as an S Corporation for
income tax purposes. FRE was a C Corporation for income tax purposes.
INTERIM FINANCIAL INFORMATION
The financial information at September 30, 1997 and for the nine months
ended September 30, 1996 and 1997 is unaudited, but, in the opinion of
management, has been prepared on the same basis as the annual financial
statements and includes all adjustments (consisting only of normal recurring
adjustments) that the Company considers necessary for a fair presentation of the
financial position at such date and the operating results and cash flows for
such periods. Results for the interim period are not necessarily indicative of
the results to be expected for the entire year.
F-7
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from these estimates.
SOURCES OF SUPPLY
The Company currently relies on a limited number of independent foundries to
manufacture, assemble and test all of its semiconductor components and products.
In addition, the Company subcontracts the manufacturing of its broadcast and
television products with two principal suppliers. While alternate sources of
supply exist, in the event of the discontinuance of any of the above supplier
relationships, the Company would be required to locate and qualify new
suppliers, which could take up to several months.
CASH EQUIVALENTS
The Company considers all highly liquid investments with a maturity of three
months or less, when purchased, to be cash equivalents. Cash equivalents consist
primarily of bank deposits, money market account, and, in 1995, a U.S. Treasury
Bill.
SHORT-TERM INVESTMENTS
The Company accounts for its short-term investments in accordance with
Statement of Financial Accounting Standards No. 115, "Accounting for Certain
Investments in Debt and Equity Securities" ("SFAS 115").
Under SFAS 115, all affected debt and equity securities must be stated at
fair value and classified as held-to-maturity, trading or available-for-sale.
Management determines the appropriate classification of securities at the time
of purchase and reevaluates such designation as of each balance sheet date.
At December 31, 1995 and 1996 and September 30, 1997, all debt and equity
securities were designated as available-for-sale. Available-for-sale securities
are carried at fair value, with unrealized gains and losses reported net of tax
as a separate component of stockholders' equity. Realized gains and losses and
declines in value judged to be other-than-temporary, if any, on
available-for-sale securities are included in other income. The cost of
securities sold is based on the specific identification method. Interest on
securities classified as available-for-sale is included in interest income.
CONCENTRATION OF CREDIT RISK
The Company sells its products primarily through a network of distributors
and through original equipment manufacturing ("OEM") arrangements. The Company
performs ongoing credit evaluations of its customers and generally does not
require collateral. Uncollectible accounts receivable have not been significant
in any period presented.
At December 31, 1995, three customers accounted for 50% of the accounts
receivable balance. At December 31, 1996 two customers accounted for 48% of the
accounts receivable balance. No other single customer accounted for more than
10% of the Company's ending accounts receivable balances.
F-8
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INVENTORIES
Inventories are carried at the lower of cost (determined on a first-in,
first-out basis) or market.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost. Depreciation and amortization
are provided using the straight-line method over the estimated useful lives of
the assets (ranging from three to seven years). Leasehold improvements are
amortized over the shorter of the lease term or the estimated useful life.
REVENUE RECOGNITION
Sales revenue is recognized upon shipment of products to customers. The
Company does not grant rights of return and customarily does not provide price
protection to distributors. Nonrefundable minimum royalties are recognized as
revenue in the period to which they relate.
ADVERTISING COSTS
The Company expenses advertising costs as incurred. Advertising expense
amounted to $165,000, $204,155 and $394,578 in the years ended 1994, 1995 and
1996, respectively.
FINANCING EXPENSE
In 1997, the Company incurred and expensed approximately $312,000 of
expenses related to financing activities.
STOCK-BASED COMPENSATION
As permitted by Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" ("SFAS 123"), the Company has elected
to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees" ("APB 25") and related interpretations in accounting for
its employee and director stock option and purchase plans. Under APB 25, if the
exercise price of the Company's employee stock options is not less than the
market price of the underlying stock on the date of grant, no compensation
expense is recognized.
NET INCOME PER SHARE
Net income per share and pro forma net income per share were calculated by
dividing net income or pro forma net income by the weighted average number of
shares of Common Stock outstanding for the respective periods, adjusted for the
dilutive effect of common stock equivalents, which consist of stock options and
warrants, using the treasury stock method. Pursuant to the requirements of the
Securities and Exchange Commission ("SEC"), Common Stock and common stock
equivalents issued by the Company during the 12 months immediately preceding the
Company's proposed initial public offering have been included in the calculation
as if they were outstanding for all periods presented (using the treasury stock
method for common stock equivalents).
F-9
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128"),
which is required to be adopted on December 31, 1997. At that time, the Company
will be required to change the method currently used to compute earnings per
share and to restate all prior periods. Under the new requirements for
calculating basic earnings per share, the dilutive effect of stock options and
warrants will be excluded. The impact is expected to increase the income per
share amounts reported on the accompanying statements of income for the year
ended December 31, 1996 to $0.15 (including common shares and equivalents
mandated by the SEC as discussed above). There will be no impact on the
nine-months ended September 30, 1997 income per share as reported. The impact of
SFAS 128 on the calculation of fully diluted earnings per share for these years
is not expected to be material.
2. SHORT-TERM INVESTMENTS
The following is a summary of available-for-sale securities at December 31,
1995 and 1996:
<TABLE>
<CAPTION>
UNREALIZED FAIR
GAINS MARKET
COST (LOSSES) VALUE
------------ ----------- ------------
<S> <C> <C> <C>
At December 31, 1995:
Mutual funds--principally emerging growth equities...................... $ 552,331 $ 15,825 $ 568,156
Other mutual funds...................................................... 400,000 16,727 416,727
Certificate of deposit.................................................. 250,000 1,077 251,077
U.S. Treasury Bill...................................................... 198,744 1,256 200,000
------------ ----------- ------------
$ 1,401,075 $ 34,885 $ 1,435,960
------------ ----------- ------------
------------ ----------- ------------
Reported as:
Cash equivalents........................................................ $ 198,744 $ 1,256 $ 200,000
Short-term investments.................................................. 1,202,331 33,629 1,235,960
------------ ----------- ------------
$ 1,401,075 $ 34,885 $ 1,435,960
------------ ----------- ------------
------------ ----------- ------------
At December 31, 1996:
Mutual funds--principally emerging growth equities...................... $ 900,000 $ 107,980 $ 1,007,980
Other mutual funds...................................................... 400,000 (3,084) 396,916
Certificate of deposit.................................................. 263,000 -- 263,000
U.S. Treasury Bill...................................................... 193,973 6,027 200,000
------------ ----------- ------------
$ 1,756,973 $ 110,923 $ 1,867,896
------------ ----------- ------------
------------ ----------- ------------
Reported as:
Short-term investments.................................................. $ 1,756,973 $ 110,923 $ 1,867,896
------------ ----------- ------------
------------ ----------- ------------
</TABLE>
F-10
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
2. SHORT-TERM INVESTMENTS (CONTINUED)
The estimated fair value amounts discussed above have been determined by the
Company using available market information and appropriate valuation
methodologies. Gross unrealized losses were not material and thus have not been
presented separately in the above table.
During the years ended December 31, 1995 and 1996, there were no gross
realized gains or losses. As of December 31, 1996, the average portfolio
duration is approximately three months and the contractual maturity of the
investments does not exceed one year.
3. INVENTORIES
Inventories consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
-------------------------- -------------
1995 1996 1997
------------ ------------ -------------
<S> <C> <C> <C>
Raw materials...................................... $ 596,049 $ 615,865 $ 860,651
Work-in-process.................................... 724,577 630,630 1,405,125
Finished goods..................................... 266,444 437,055 368,632
------------ ------------ -------------
$ 1,587,070 $ 1,683,550 $ 2,634,408
------------ ------------ -------------
------------ ------------ -------------
</TABLE>
4. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
-------------------------- -------------
1995 1996 1997
------------ ------------ -------------
<S> <C> <C> <C>
Machinery and equipment.......................... $ 1,377,953 $ 1,705,845 $ 2,273,611
Purchased computer software...................... -- 492,471 713,244
Office equipment................................. 25,528 25,528 25,528
Furniture and fixtures........................... 160,510 209,448 263,186
Vehicles......................................... 241,802 241,802 84,448
Leasehold improvements........................... 45,679 143,508 181,072
------------ ------------ -------------
1,851,472 2,818,602 3,541,089
Accumulated depreciation......................... (1,080,419) (1,434,795) (1,629,859)
------------ ------------ -------------
$ 771,053 $ 1,383,807 $ 1,911,230
------------ ------------ -------------
------------ ------------ -------------
</TABLE>
5. OPERATING LEASES
The Company leases its main facility under a lease agreement expiring
September 30, 2003. The lease agreement is cancelable at the Company's option
upon four months' notice. Payments are adjusted annually
F-11
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
5. OPERATING LEASES (CONTINUED)
based on changes in the Consumer Price Index. At December 31, 1996, future
estimated minimum payments under this and other leases are approximately as
follows:
<TABLE>
<S> <C>
1997........................................................... $ 176,088
1998........................................................... 176,088
1999........................................................... 176,088
2000........................................................... 176,088
2001........................................................... 176,088
Thereafter..................................................... 308,154
-----------
Total minimum lease payments................................... $1,188,596
-----------
-----------
</TABLE>
Rent expense under operating leases amounted to $167,997, $168,948 and
$185,709 in 1994, 1995 and 1996, respectively.
6. STOCKHOLDERS' EQUITY
WARRANTS
In April 1992, the Company issued three warrants to purchase a total of
14,449 shares of common stock at a price of $3.40 per share to a consultant. The
warrants were exercised in August 1997.
In 1996, the Company issued a warrant to purchase 65,152 shares of common
stock at an exercise price of $0.15 to a limited liability company in which a
member of the Company's Board of Directors has a substantial interest. The
warrant was issued in exchange for services to be performed by the Board of
Directors member. The warrant will be exercisable upon the occurrence of certain
defined events prior to February 1999. The warrant expires on December 31, 1999.
The Company is recognizing $222,000, the value of the warrant, over the related
service period.
In 1997, one of the Founders granted to the Company an exclusive (excluding
certain rights retained by the Founder), worldwide, perpetual, irrevocable and
royalty-free right and license to patents owned by him. The Founder has a
nonexclusive, nontransferable right to the patents for applications and uses
outside of the Company's business as defined in the license agreement. In
exchange for rights granted, the Founder received a warrant to purchase 100,000
shares of Common Stock at $7.50 a share. The warrant vests over a three-year
period and expires in January 2002. The Company is amortizing $250,000, the
value of the warrant, over the estimated useful economic life of the patents.
STOCK OPTION PLANS
In 1995, the Company adopted the 1995 Stock Option Plan (the "1995 Plan"),
which superseded a 1993 stock option plan under which no options had been
granted. A total of 1,700,000 shares of Common Stock were reserved for issuance
under the 1995 Plan. Under the terms of the 1995 Plan, the Board of Directors
may grant options to directors, employees and consultants. Options may be either
incentive stock options or nonstatutory stock options, at the discretion of the
Board of Directors. Incentive stock options may be granted to employees with
exercise prices of no less than the fair value, and nonstatutory options may be
granted to employees, directors, and consultants with exercise prices of no less
than 85% of the fair value, of the common stock on the
F-12
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
6. STOCKHOLDERS' EQUITY (CONTINUED)
date of grant, as determined by the Board of Directors. If, at the time of
grant, the optionee owns stock possessing 10% or more of the voting power of all
classes of stock, the option price shall be at least 110% of the fair value, and
the option shall not be exercised more than five years after the date of grant.
Except as noted above, options expire ten years after the date of grant, or
earlier if employment or service is terminated. Options become exercisable as
determined by the Board of Directors. Options generally vest over three or four
years.
In December 1996, the Board of Directors adopted, and in 1997 the
stockholders approved, the 1997 Non-Employee Directors Stock Option Plan (the
"Directors Plan"). A total of 100,000 shares of Common Stock were reserved for
issuance pursuant to the terms of the Directors Plan, which provides for the
grant of nonqualified stock options to nonemployee directors of the Company. In
January 1997, the Board of Directors adopted, and the stockholders approved, the
1997 Employee Stock Purchase Plan (the "Purchase Plan") and the 1997 Performance
Stock Option Plan (the "1997 Plan"). The 1997 Plan succeeds the 1995 Plan and
has terms similar to that Plan. No additional options will be granted under the
1995 Plan and shares reserved for future option grants thereunder are available
for grant under the terms of the 1997 Plan. In June 1997, the Board of Directors
adopted an amendment to the 1997 Plan increasing the number of shares reserved
for issuance for the 1997 Plan by 250,000 shares, subject to stockholders'
approval. A total of 400,000 shares were reserved for future issuance under the
Purchase Plan. The Purchase Plan permits eligible employees to purchase common
stock through payroll deductions at a price equal to the lower of 85% of the
fair value of the Company's common stock at the beginning or end of the
applicable offering period. No shares have been issued under the Purchase Plan.
During 1996, the Company adopted SFAS 123. In accordance with the Statement,
the Company applies APB 25 in accounting for option grants to employees under
the Plan and, accordingly, does not recognize compensation expense for options
granted to employees at fair value on the date of grant. The effect of applying
the minimum value method of valuing options to options granted in 1995 and 1996
pursuant to SFAS 123 resulted in pro forma net income (after the effect of the
pro forma tax adjustment) of $1,168,364, or $0.13 per share, for the year ended
December 31, 1996. The pro forma impact on reported results for the year ended
December 31, 1995 was not significant and has not been presented herein. The
minimum value method was applied using the following weighted-average
assumptions for 1995 and 1996, respectively: risk-free interest rates of 6.09%,
6.35%; an expected option life of 72 months; and no dividends. Future pro forma
results of operations may be materially different from actual amounts reported.
F-13
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
6. STOCKHOLDERS' EQUITY (CONTINUED)
A summary of the Company's stock option activity, and related information
follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31, NINE MONTHS ENDED
----------------------------------------------- -----------------------
1995 1996 SEPTEMBER 30, 1997
---------------------- ----------------------- -----------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE
--------- ----------- ---------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at January 1............... -- $ -- 180,576 $ 1.16 1,441,988 $ 3.46
Granted................................ 180,576 1.16 1,261,412 3.79 401,470 7.59
Exercised.............................. -- -- -- -- (7,380) 1.68
Canceled............................... -- -- -- -- (198,988) 3.75
--------- ----- ---------- ----- ---------- -----
Outstanding at end of period........... 180,576 $ 1.16 1,441,988 $ 3.46 1,637,090 $ 5.37
--------- ----- ---------- ----- ---------- -----
--------- ----- ---------- ----- ---------- -----
Weighted-average fair value of options
granted during the period............ .36 .23
</TABLE>
DECEMBER 31, 1996
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
- --------------------------------------------------------------------------------- OPTIONS EXERCISABLE
WEIGHTED- ------------------------
AVERAGE WEIGHTED- WEIGHTED-
REMAINING AVERAGE AVERAGE
NUMBER OF CONTRACTUAL EXERCISE NUMBER OF EXERCISE
RANGE OF EXERCISE PRICES OPTIONS LIFE PRICE OPTIONS PRICE
- ------------------------------------------ --------- ------------- ----------- ----------- -----------
(IN YEARS)
<S> <C> <C> <C> <C> <C>
$1.16..................................... 180,576 8.75 $ 1.16 95,165 $ 1.16
$2.02..................................... 41,512 9.08 2.02 -- --
$3.83-$3.91............................... 1,219,900 9.58 3.85 -- --
--------- -----------
1,441,988 9.50 3.46 95,165 1.16
--------- -----------
--------- -----------
</TABLE>
At December 31, 1995, options to purchase 51,024 shares of Common Stock were
exercisable at a weighted-average exercise price of $1.16 per share.
Pursuant to APB 25, for certain options granted in June 1997, the Company
recognized as deferred compensation expense the excess of the deemed value for
financial reporting purposes of the common stock issuable upon the exercise of
such options over the aggregate exercise price of such options. The total
deferred compensation expense of $271,500 is being amortized over the vesting
period of such options.
F-14
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
6. STOCKHOLDERS' EQUITY (CONTINUED)
RESERVED SHARES
As of December 31, 1996 and September 30, 1997, the Company has reserved
shares of common stock for future issuance as follows:
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1996 1997
------------- -------------
<S> <C> <C>
Warrants........................................................ 79,601 165,152
Stock purchase plan............................................. -- 400,000
Stock option plans:
Outstanding options........................................... 1,441,988 1,637,090
Reserved for future grants.................................... 358,012 405,530
------------- -------------
1,879,601 2,607,772
------------- -------------
------------- -------------
</TABLE>
7. LICENSE AGREEMENT
In March 1997, the Company entered into a license agreement with S3
Incorporated ("S3"), a leading supplier of advanced graphics accelerators for
use in mainstream multimedia PC systems. Under the terms of the agreement, the
Company and S3 are working jointly to develop integrated circuits incorporating
the Company's video processing technologies for use in PCs. The Company granted
to S3 a worldwide license to certain technology, including line doubling, detail
enhancement, cross-color suppression, motion tracking and compensation, and
digital compression filtering technology. Portions of such license are exclusive
for certain markets for a period of five years provided that performance
criteria, including minimum license fees are satisfied. The Company is obligated
to negotiate with S3 to extend the five year period. The Company is to receive
certain per unit royalties for products sold incorporating the Company's
technology. If royalties on product sales do not reach the minimum levels
necessary to maintain exclusivity, S3 may elect to pay the required minimum
amount. Such payments may be offset against future royalties otherwise due.
In December 1996, S3 paid the Company $1 million, $500,000 of which was
refundable if a definitive license agreement between the parties was not
consummated. Accordingly, the Company recognized $500,000 of license and royalty
revenue in 1996 and the remaining $500,000 of license and royalty revenue in
March 1997.
On June 30, 1997, the Company sold a total of 526,316 shares of its Common
Stock to S3 pursuant to a Stock Purchase Agreement for $4,948,200, net of
expenses associated with the transaction. S3 is entitled to certain
anti-dilution, registration and other rights as set forth in the Stock Purchase
Agreement. This agreement provides that S3 shall receive additional shares if
the Offering price is less than $9.50.
F-15
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
8. INCOME TAXES
The provision for income taxes computed under Statement of Financial
Accounting Standards No. 109, "Accounting for Income Taxes," consists of the
following:
<TABLE>
<CAPTION>
DECEMBER 31, PRO FORMA DECEMBER 31,
------------------------------- -------------------------------
1994 1995 1996 1994 1995 1996
--------- --------- --------- --------- --------- ---------
(UNAUDITED) (UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Federal:
Current...................... $ -- $ 23,000 $ 991,744 $ 571,682 $ 885,687 $1,157,285
Deferred..................... -- -- (439,614) 59,083 5,463 (455,627)
--------- --------- --------- --------- --------- ---------
-- 23,000 552,130 630,765 891,150 701,658
State:
Current...................... 13,450 60,981 201,016 83,390 151,242 247,312
Deferred..................... -- -- (66,092) -- (19,204) (69,822)
--------- --------- --------- --------- --------- ---------
13,450 60,981 134,924 83,390 132,038 177,490
--------- --------- --------- --------- --------- ---------
$ 13,450 $ 83,981 $ 687,054 $ 714,155 $1,023,188 $ 879,148
--------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- ---------
</TABLE>
The following table reconciles the expected federal corporate income tax
expense (computed by multiplying the Company's income before taxes by the
federal statutory rate of 34%) to the Company's income tax expense for the
following periods ended:
<TABLE>
<CAPTION>
DECEMBER 31, PRO FORMA DECEMBER 31,
------------------------------- -------------------------------
1994 1995 1996 1994 1995 1996
--------- --------- --------- --------- --------- ---------
(UNAUDITED) (UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Tax at U.S. Statutory
rate..................... $ 660,343 $1,391,693 $ 747,275 $ 660,343 $1,391,693 $ 747,275
State income taxes, net of
federal benefit.......... 13,450 60,981 78,615 83,390 132,088 106,709
S Corporation earnings
prior to change in tax
status................... (630,765) (868,150) (251,758) -- -- --
Deferred taxes recorded due
to change in tax
status................... -- -- (148,993) -- -- --
Net operating losses
utilized................. (29,578) (500,543) -- (29,578) (500,543) --
Other...................... -- -- 261,915 -- -- 25,164
--------- --------- --------- --------- --------- ---------
$ 13,450 $ 83,981 $ 687,054 $ 714,155 $1,023,188 $ 879,148
--------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- ---------
</TABLE>
The pro forma provisions for income taxes reflect the additional tax expense
which would have been incurred had FLI's status as an S Corporation terminated
on January 1, 1994, exclusive of the effects of the establishment of deferred
tax assets and liabilities at that date.
The provision for income taxes for the nine months ended September 30, 1997
is based on the estimated annual effective tax rate for the year.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant
F-16
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
8. INCOME TAXES (CONTINUED)
components of the Company's deferred tax liabilities and assets as of December
31, 1995 and 1996 are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------
1995 1996
--------- ----------
<S> <C> <C>
Deferred tax assets:
Accrued liabilities..................................................................... $ -- $ 354,284
Other, net.............................................................................. 11,992 208,954
Deferred tax liabilities:
Depreciation of property and equipment.................................................. (11,992) (57,533)
Valuation of investment portfolio....................................................... -- (44,186)
--------- ----------
Net deferred tax assets................................................................... $ -- $ 461,519
--------- ----------
--------- ----------
</TABLE>
Management has concluded that a valuation allowance for deferred tax assets
is not required based on its assessment that current levels of taxable income
and the reversal of taxable temporary differences will be sufficient to realize
the tax benefit.
9. EXPORT SALES AND SIGNIFICANT CUSTOMERS
The Company had export sales by region as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, NINE MONTHS ENDED
---------------------------------------- SEPTEMBER 30,
1994 1995 1996 1997
------------ ------------ ------------ ------------------
<S> <C> <C> <C> <C>
Revenues to customers:
Asia.............................................. $ 878,000 $ 986,000 $ 1,115,000 $ 766,000
Europe............................................ 227,000 263,000 479,000 211,000
Canada............................................ 150,000 138,000 200,000 153,000
Latin America and other........................... 111,000 190,000 220,000 330,000
------------ ------------ ------------ ----------
$ 1,366,000 $ 1,577,000 $ 2,014,000 $ 1,460,000
------------ ------------ ------------ ----------
------------ ------------ ------------ ----------
</TABLE>
In 1994, sales to one customer accounted for 19% of total revenues. In 1995,
sales to one customer accounted for 12% of total revenues. In 1996, sales to one
customer accounted for 11% of total revenues. In the nine months ended September
30, 1997, sales to two customers each accounted for 11% of total revenues.
10. 401(k) PLAN
During 1994, the Company adopted a defined contribution retirement plan
under Internal Revenue Service Code Section 401(k). Employees are eligible,
following one month of employment, to contribute a specified percentage of their
salary, not to exceed the statutory limit, to the plan. The Company matches a
percentage of employee contributions. The Company's contributions were
insignificant during the years ended December 31, 1994, 1995 and 1996.
F-17
<PAGE>
FAROUDJA, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(INFORMATION AT SEPTEMBER 30, 1997 AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1996 AND 1997 IS UNAUDITED)
11. CREDIT FACILITIES
In March 1997, the Company established a revolving line of credit with a
bank for borrowings of up to $1,000,000. In May 1997, the line was increased to
$2,000,000, including secured letters of credit. The line of credit agreement,
which includes certain financial covenants, expires on April 4, 1998. Borrowings
under the line of credit are collaterized by substantially all of the Company's
tangible assets and contract rights. Borrowings are limited to a defined
percentage of eligible accounts receivable. In June 1997, the Company also
established a $500,000 equipment loan facility secured by fixed assets. The
Company can draw against this line to December 1997 and to the extent drawn down
the loan must be fully repaid by December 2000. Borrowings against the line of
credit and the equipment loan bear interest at prime plus 1.5% (10.0% at June
30, 1997). At September 30, 1997, there were no borrowings against either the
line of credit or the fixed asset line, and the aggregate amount available under
the revolving line of credit was $1,886,000.
12. PROPOSED INITIAL PUBLIC OFFERING AND RELATED MATTERS
On July 22, 1997, the Board of Directors of the Company authorized
management to file a registration statement with the Securities and Exchange
Commission for the sale of Common Stock to the public. On the same date the
Board of Directors also approved an increase in the number of authorized shares
of common stock to 50,000,000 and an increase in the number of authorized shares
of Preferred Stock to 5,000,000.
F-18
<PAGE>
Inside Back Cover
1. Diagram with "Faroudja" in the center and lines from "Faroudja to the
following:
"HDTV," "Home Theater," "PCTV," "Digital TV," "Digital Light
Processing-TM-," "High-End Display," "Broadcast," and "DVD."
2. TEXT
FAROUDJA
When high quality video
images are required
<PAGE>
[LOGO]
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The estimated expenses in connection with the Offering are as follows:
<TABLE>
<CAPTION>
EXPENSE AMOUNT
- ---------------------------------------------------------------------------------- ----------
<S> <C>
The Commission's Registration Fee................................................. $ 10,455
NASD Filing Fee................................................................... 3,950
NASDAQ Listing Application........................................................ 1,000
Blue Sky Fees and Expenses........................................................ 5,000
Printing Expenses................................................................. 125,000
Legal Fees and Expenses........................................................... 225,000
Accounting Fees and Expense....................................................... 190,000
Transfer Agent Fees............................................................... 5,000
Miscellaneous Expenses............................................................ 184,595
----------
Total........................................................................... $ 750,000
----------
----------
</TABLE>
ITEM 14. INDEMNIFICATION OF OFFICERS AND DIRECTORS.
The Certificate of Incorporation of the Company eliminates the liability of
the Company's directors for monetary damages arising from a breach of their
fiduciary duties to the Company and its stockholders, to the extent permitted by
the Delaware General Corporation Law. Such limitation of liability does not
affect the availability of equitable remedies such as injunctive relief or
rescission.
The Company's By-Laws provide that the Company shall indemnify its directors
and officers to the fullest extent permitted by applicable law. The Company has
entered into indemnification agreements with its directors and executive
officers containing provisions which are in some respects broader than the
specific indemnification provisions contained in the Delaware General
Corporation Law. Such agreements require the Company, among other things, (i) to
indemnify its officers and directors against certain liabilities that may arise
by reason of their status or service as directors or officers provided such
persons acted in good faith and in a manner reasonably believed to be in the
best interests of the Company and, with respect to any criminal action, had no
cause to believe their conduct was unlawful; (ii) to advance the expenses
actually and reasonably incurred by its officers and directors as a result of
any proceeding against them as to which they could be indemnified; and (iii) to
obtain directors' and officers' insurance if available on reasonable terms.
There is no action or proceeding pending or, to the knowledge of the Company,
threatened which may result in a claim for indemnification by any director,
officer, employee or agent of the Company.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
In March 1996, (i) the Company issued 1,043,105 shares of Common Stock for
an aggregate purchase price of $4 million to the Investor Group, of which
213,642 shares were issued to Adelson, 682,153 shares were issued to Investors
LLC and 147,310 shares were issued to Images, (ii) the Investor Group purchased
a total of 3,569,395 shares of Common Stock from Yves and Isabell Faroudja for
an aggregate purchase price of $14 million, of which 731,062 shares were
purchased by Adelson, 2,334,253 shares were purchased by Investors LLC and
504,080 shares were purchased by Images, and (iii) Yves and Isabell Faroudja
granted the Investor Group the Faroudja Option to purchase 1,537,500 shares of
the Company's Common Stock for an aggregate purchase price of $6 million or
$3.90 per share, of which Adelson had an option to purchase 486,875 shares of
Common Stock for $1.9 million, Investors LLC had an option to purchase 666,250
shares of Common Stock for $2.6 million and Images had an option to purchase
384,375 shares of Common Stock for $1.5 million. The Faroudja
II-1
<PAGE>
Option was exercised by the Investor Group on September 5, 1997. The
transactions described in (i) and (ii) above are collectively referred to herein
as the "Equity Purchase." The Company believes that because the Equity Purchase
and the exercise of the Faroudja Option were made to sophisticated persons
without the means of a general solicitation, these offerings were exempt from
registration under Section 4(2) of the Securities Act, and Regulation D
promulgated thereunder.
As of September 30, 1997 the Company had issued 1,213,560 and 377,925
options under its 1995 Option Plan and its 1997 Option Plan, respectively, to
qualified employees, to purchase the Company's Common Stock. No consideration
was received for such grants, except that 7,380 options under the 1995 Option
Plan were exercised in May, 1997, 4,497 options at an exercise price of $2.02
per share and 2,883 options at an exercise price of $1.16 per share. The Company
believes that the grant of options and their exercise pursuant to the terms of
these plans is exempt from registration under Rule 701 promulgated under the
Securities Act.
On June 30, 1997 the Company issued 526,316 shares of Common Stock to S3 for
$5.0 million. The Company believes that because the offering was made to a
sophisticated investor without the means of a general solicitation, the Company
was exempt from registration under Section 4(2) of the Securities Act.
As of September 30, 1997 the Company had issued 45,605 options to purchase
Common Stock pursuant to its Director Plan to its directors. No consideration
was received for such grants. The Company believes the grant of option and their
exercise under this plan is exempt from registration under Rule 701 promulgated
under the Securities Act.
On August 13, 1997 the Company issued 750 shares of its Common Stock to each
of Stuart D. Buchalter, Merv Adelson, William N. Sick, William J. Turner and
Kevin B. Kimberlin as consideration for their serving as directors of the
Company. The Company believes that because these offerings were made to
sophisticated investors without the means of a general solicitation, the Company
was exempt from registration under Section 4(2) of the Securities Act.
ITEM 16. EXHIBITS
(a) Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- --------- -------------------------------------------------------------------------------------------------------
<C> <S>
1.1* Form of Underwriting Agreement.
3.1* The Company's Restated Certificate of Incorporation, as amended on August 12, 1997.
3.2* The Company's By-Laws.
4.1* Warrants (1-3), dated July 16, 1993, for the purchase of Common Stock issued to John Sie.
4.2* Warrant, dated January 20, 1997, for the purchase of Common Stock issued to Yves Faroudja.
4.3* Warrant, dated December 31, 1996, for the purchase of Common Stock issued to Adelson Investors, LLC.
4.4* Specimen of Common Stock Certificate.
5.1 Opinion of Buchalter, Nemer, Fields & Younger, a Professional Corporation, as to the validity of the
shares of Common Stock offered hereby.
10.1* Consulting Services Agreement, dated September 21, 1994, between the Company and M-Squared and
Technology L.L.C.
10.2* Letter Agreement, dated December 31, 1996, between the Company and Merv L. Adelson for certain
consulting services.
10.3* Letter Agreement, dated November 13, 1995, by and among certain stockholders of the Company listed
therein and Spencer Trask Holdings, Inc.
</TABLE>
II-2
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- --------- -------------------------------------------------------------------------------------------------------
<C> <S>
10.4* Amendment to Letter Agreement, dated February 9, 1996, among certain stockholders of the Company listed
therein and Spencer Trask Holdings, Inc.
10.5 Lease Agreement, dated August 27, 1997, by and among the Company and the Landlords listed therein.
10.6* The Company's 1995 Stock Option Plan, dated August 1, 1995 and amended on August 19, 1996, February 11,
1997, April 30, 1997 and June 13, 1997.
10.7* The Company's 1997 Non-Employee Directors Stock Option Plan, dated January 2, 1997.
10.8* The Company's 1997 Performance Stock Option Plan, dated January 2, 1997 and amended on June 13, 1997.
10.9 The Company's Amended 1997 Employee Stock Purchase Plan, dated Janaury 2, 1997 and amended on August
12, 1997 and September 30, 1997.
10.10* Employment Agreement, dated as of July 8, 1996, between the Company and Michael J. Moone.
10.11* Employment Agreement, dated March 8, 1996, between the Company and Yves C. Faroudja.
10.12* Registration and Shareholders' Rights Agreement, dated March 7, 1997, among the Company and Yves &
Isabell Faroudja and certain Stockholders of the Company.
10.13* Three (3) Registration Rights Agreements, dated December 31, 1996 among the Company and each of Adelson
Investors, LLC, Images Partners, LP and Roger K. Baumberger as Liquidating Trustee for Faroudja
Images, Inc.
10.14* Registration Rights Agreement, dated March 7, 1997 among the Company and Faroudja Images Investors,
LLC.
10.15* Agreement, dated January 20, 1997 among Yves Faroudja and the Company for the transfer of intellectual
property to the Company.
10.16** License Agreement, dated March 31, 1997, between the Company and S3 Incorporated.
10.17* Stock Purchase Agreement, dated June 30, 1997, between the Company and S3 Incorporated.
10.18* Investor's Rights Agreement, dated June 30, 1997, between the Company and S3 Incorporated.
10.19* Business Loan Agreement, dated April 5, 1997, between the Company and Silicon Valley Bank.
10.20* Commercial Guaranty, dated April 5, 1997, by the Company for the benefit of Silicon Valley Bank.
10.21* Commercial Security Agreement, dated April 5, 1997, by the Company for the benefit of Silicon Valley
Bank.
10.22* Promissory Note, dated April 5, 1997, by the Company for the benefit of Silicon Valley Bank.
10.23* Promissory Note, dated June 6, 1997, by the Company for the benefit of Silicon Valley Bank.
10.24* Loan Modification Agreement, dated June 6, 1997, by and between the Company and Silicon Valley Bank.
10.25* Three (3) Amended and Restated Options to Purchase Shares of Common Stock of the Company, dated March
7, 1997 among the Company, Yves Faroudja and Isabell Faroudja, Faroudja Images, Inc. and each of
Adelson Investors, LLC, Faroudja Images Investors, LLC and Images Partners, LP.
10.26* Amended and Restated Option to Purchase Shares of Common Stock of the Company, dated December 31, 1996
among the Company, Yves Faroudja and Isabell Faroudja, Faroudja Images, Inc. and Roger K. Baumberger
as Liquidating Trustee of Faroudja Images, Inc.
10.27* Consulting Services Agreement, dated July 22, 1997, between the Company and Matthew D. Miller.
10.28** License Agreement, dated May 1, 1996 between the Company, Yves Faroudja and General Instrument
Corporation of Delaware.
</TABLE>
II-3
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- --------- -------------------------------------------------------------------------------------------------------
<C> <S>
11.1 Statement of Computation of Net Income per share.
21.1* List of the Subsidiaries of the Company.
23.1 Consent of Ernst & Young LLP, Independent Auditors.
23.2 Consent of Buchalter, Nemer, Fields & Younger, a Professional Corporation (included in Exhibit 5.1).
24.1* Power of Attorney (included on page II-5).
27.1* Financial Data Schedule.
</TABLE>
- ------------------------
* Previously filed
** Confidential treatment has been requested
(b) Financial Statement Schedules
Schedule II -- Valuation and Qualifying Accounts
Schedules not listed above have been omitted because the information
required to be set forth therein is not applicable or is shown in the
Consolidated Financial Statements or Notes thereto.
ITEM 17. UNDERTAKINGS.
17.1 The undersigned registrant hereby undertakes to provide to the
underwriter at the closing specified in the underwriting agreements,
certificates in such denominations and registered in such names as required by
the underwriter to permit prompt delivery to each purchaser.
17.2 Insofar as indemnification for liabilities arising out of the
Securities Act may be permitted to directors, officers and controlling persons
of the registrant pursuant to the foregoing provisions or otherwise, the
registrant has been advised that, in the opinion of the Commission, such
indemnification is against public policy as expressed in the Securities Act and
is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by registrant of expenses
incurred or paid by a director, officer or controlling person of the registrant
in the successful defense in any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
17.3 The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act
of 1933, the information omitted from the form of prospectus filed as part
of this registration statement in reliance upon Rule 430A and contained in a
form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4)
or 497(h) under the Securities Act shall be deemed to be part of this
registration statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act of 1933, each post-effective amendment that contains a form of
prospectus shall be deemed to be a new registration statement relating to
the securities offered therein, and the offering of such securities at that
time shall be deemed to be the initial bona fide offering thereof.
II-4
<PAGE>
SIGNATURES AND POWER OF ATTORNEY
Pursuant to the requirements of the Securities Act of 1933, as amended, the
Registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Sunnyvale,
State of California on this 20th day of October, 1997.
FAROUDJA, INC.
By: /s/ MICHAEL J. MOONE
---------------------------------
Michael J. Moone
PRESIDENT
<TABLE>
<CAPTION>
NAME TITLE DATE
- ------------------------------------------------ ------------------------------------------ -------------------
<C> <S> <C>
/s/ MICHAEL J. MOONE
-------------------------------------- Chief Executive Officer, President and October 20, 1997
Michael J. Moone Director [Principal Executive Officer]
/s/ MICHAEL C. HOBERG Vice President--Finance and Chief
-------------------------------------- Financial Officer [Principal Financial October 20, 1997
Michael C. Hoberg and Accounting Officer]
/s/ YVES C. FAROUDJA* Chief Technical Officer, Director and
-------------------------------------- Chairman of the Executive Committee, October 20, 1997
Yves C. Faroudja Secretary
/s/ MERV L. ADELSON*
-------------------------------------- Director October 20, 1997
Merv L. Adelson
/s/ STUART D. BUCHALTER*
-------------------------------------- Director October 20, 1997
Stuart D. Buchalter
/s/ KEVIN B. KIMBERLIN*
-------------------------------------- Director October 20, 1997
Kevin B. Kimberlin
/s/ MATTHEW D. MILLER*
-------------------------------------- Director October 20, 1997
Matthew D. Miller
/s/ WILLIAM N. SICK*
-------------------------------------- Director October 20, 1997
William N. Sick
/s/ WILLIAM J. TURNER*
-------------------------------------- Director October 20, 1997
William J. Turner
</TABLE>
*By: /s/ MICHAEL C. HOBERG
-------------------------
Michael C. Hoberg
Attorney-in-fact
II-5
<PAGE>
FAROUDJA, INC.
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
ADDITIONS
--------------------------
BALANCE AT CHARGED TO CHARGE TO
BEGINNING OF COSTS AND OTHER BALANCE AT
PERIOD EXPENSES ACCOUNTS DEDUCTIONS(1) END OF PERIOD
------------- ------------- ----------- --------------- ---------------
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1996 deducted from asset
account:
Allowance for doubtful accounts............... $ 10 $ 143 $ -- $ 43 $ 110
--- --- --- --- ---
--- --- --- --- ---
Year ended December 31, 1995 deducted from asset
account:
Allowance for doubtful account................ $ 10 $ -- $ -- $ -- $ 10
--- --- --- --- ---
--- --- --- --- ---
Year ended December 31, 1994 deducted from asset
account:
Allowance for doubtful accounts............... $ 10 $ -- $ -- $ -- $ 10
--- --- --- --- ---
--- --- --- --- ---
</TABLE>
- ------------------------
(1) Uncollectible accounts written off, net of recoveries.
S-1
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- --------- -------------------------------------------------------------------------------------------------------
<C> <S>
1.1* Form of Underwriting Agreement.
3.1* The Company's Restated Certificate of Incorporation, as amended on August 12, 1997.
3.2* The Company's By-Laws.
4.1* Warrants (1-3), dated July 16, 1993, for the purchase of Common Stock issued to John Sie.
4.2* Warrant, dated January 20, 1997, for the purchase of Common Stock issued to Yves Faroudja.
4.3* Warrant, dated December 31, 1996, for the purchase of Common Stock issued to Adelson Investors, LLC.
4.4* Specimen of Common Stock Certificate.
5.1 Opinion of Buchalter, Nemer, Fields & Younger, a Professional Corporation, as to the validity of the
shares of Common Stock offered hereby.
10.1* Consulting Services Agreement, dated September 21, 1994, between the Company and M-Squared and
Technology L.L.C.
10.2* Letter Agreement, dated December 31, 1996, between the Company and Merv L. Adelson for certain
consulting services.
10.3* Letter Agreement, dated November 13, 1995, by and among certain stockholders of the Company listed
therein and Spencer Trask Holdings, Inc.
10.4* Amendment to Letter Agreement, dated February 9, 1996, among certain stockholders of the Company listed
therein and Spencer Trask Holdings, Inc.
10.5 Lease Agreement, dated August 27, 1997, by and among the Company and the Landlords listed therein.
10.6* The Company's 1995 Stock Option Plan, dated August 1, 1995 and amended on August 19, 1996, February 11,
1997, April 30, 1997 and June 13, 1997.
10.7* The Company's 1997 Non-Employee Directors Stock Option Plan, dated January 2, 1997.
10.8* The Company's 1997 Performance Stock Option Plan, dated January 2, 1997 and amended on June 13, 1997.
10.9 The Company's Amended 1997 Employee Stock Purchase Plan, dated Janaury 2, 1997 and amended on August
12, 1997 and September 30, 1997.
10.10* Employment Agreement, dated as of July 8, 1996, between the Company and Michael J. Moone.
10.11* Employment Agreement, dated March 8, 1996, between the Company and Yves C. Faroudja.
10.12* Registration and Shareholders' Rights Agreement, dated March 7, 1997, among the Company and Yves &
Isabell Faroudja and certain Stockholders of the Company.
10.13* Three (3) Registration Rights Agreements, dated December 31, 1996 among the Company and each of Adelson
Investors, LLC, Images Partners, LP and Roger K. Baumberger as Liquidating Trustee for Faroudja
Images, Inc.
10.14* Registration Rights Agreement, dated March 7, 1997 among the Company and Faroudja Images Investors,
LLC.
10.15* Agreement, dated January 20, 1997 among Yves Faroudja and the Company for the transfer of intellectual
property to the Company.
10.16** License Agreement, dated March 31, 1997, between the Company and S3 Incorporated.
10.17* Stock Purchase Agreement, dated June 30, 1997, between the Company and S3 Incorporated.
10.18* Investor's Rights Agreement, dated June 30, 1997, between the Company and S3 Incorporated.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- --------- -------------------------------------------------------------------------------------------------------
<C> <S>
10.19* Business Loan Agreement, dated April 5, 1997, between the Company and Silicon Valley Bank.
10.20* Commercial Guaranty, dated April 5, 1997, by the Company for the benefit of Silicon Valley Bank.
10.21* Commercial Security Agreement, dated April 5, 1997, by the Company for the benefit of Silicon Valley
Bank.
10.22* Promissory Note, dated April 5, 1997, by the Company for the benefit of Silicon Valley Bank.
10.23* Promissory Note, dated June 6, 1997, by the Company for the benefit of Silicon Valley Bank.
10.24* Loan Modification Agreement, dated June 6, 1997, by and between the Company and Silicon Valley Bank.
10.25* Three (3) Amended and Restated Options to Purchase Shares of Common Stock of the Company, dated March
7, 1997 among the Company, Yves Faroudja and Isabell Faroudja, Faroudja Images, Inc. and each of
Adelson Investors, LLC, Faroudja Images Investors, LLC and Images Partners, LP.
10.26* Amended and Restated Option to Purchase Shares of Common Stock of the Company, dated December 31, 1996
among the Company, Yves Faroudja and Isabell Faroudja, Faroudja Images, Inc. and Roger K. Baumberger
as Liquidating Trustee of Faroudja Images, Inc.
10.27* Consulting Services Agreement, dated July 22, 1997, between the Company and Matthew D. Miller.
10.28** License Agreement, dated May 1, 1996 between the Company, Yves Faroudja and General Instrument
Corporation of Delaware.
11.1 Statement of Computation of Net Income per share.
21.1* List of the Subsidiaries of the Company.
23.1 Consent of Ernst & Young LLP, Independent Auditors.
23.2 Consent of Buchalter, Nemer, Fields & Younger, a Professional Corporation (included in Exhibit 5.1).
24.1* Power of Attorney (included on page II-5).
27.1* Financial Data Schedule.
</TABLE>
- ------------------------
* Previously filed
** Confidential treatment has been requested
<PAGE>
[LETTERHEAD OF BUCHALTER, NEMER, FIELDS & YOUNGER]
October 21, 1997
Faroudja, Inc.
750 Palomar Avenue
Sunnyvale, California 94086
Re: Faroudja, Inc. Registration Statement
on Form S-1 (Registration No. 33-32375)
Gentlemen:
We have acted as counsel to Faroudja, Inc., a Delaware corporation (the
"Company"), in connection with the registration of 3,000,000 shares of common
stock, $.001 par value per share (the "Shares") with the Securities and Exchange
Commission (the "Commission") under the Securities Act of 1933, as amended (the
"1933 Act"), pursuant to a registration statement on Form S-1 (No. 33-32375)
(the "Registration Statement"). The Shares are registered on behalf of the
Company and the selling stockholder named in the Registration Statement
("Selling Stockholder").
This opinion is being delivered in accordance with the requirements of Item
601(b)(5)(i) of Regulation S-K under the 1933 Act.
In our capacity as counsel to the Company, we have reviewed such documents
and made such inquiries as we have reasonably deemed necessary to enable us to
render the opinion expressed below. In all such reviews we have made certain
customary assumptions such as the genuineness of all signatures, the
authenticity of all documents submitted to us as originals, the lack of any
undisclosed modifications, waivers, or amendments to any documents reviewed by
us and the conformity to authentic original documents of all documents submitted
to us as conformed or photostatic copies. For purposes of rendering this
opinion, we have investigated such questions of law as we have deemed necessary.
On the basis of the foregoing, and in reliance thereon and subject to the
assumptions, qualifications, exceptions and limitations expressed herein, we are
of the opinion that the Shares are duly authorized, legally issued, fully paid
and non-assessable.
This opinion is limited to the present laws of the State of California and
of the United States of America, and the corporate laws of the State of
Delaware.
We hereby consent to the reference of our opinion and name in the Prospectus
which is part of the Registration Statement, and the inclusion of this opinion
as Exhibit 5.1 to the Registration Statement.
Very truly yours,
/s/ Buchalter, Nemer, Fields &
Younger,
a Professional Corporation
<PAGE>
EXHIBIT 10.5
BLDG: Palomar 3
OWNER: 500
PROP: 273
UNIT: 2
TENANT: 27305
LEASE AGREEMENT
THIS LEASE, made this 27th day of August, 1997 between JOHN ARRILLAGA,
Trustee, or his Successor Trustee, UTA dated 7/20/77 (JOHN ARRILLAGA
SURVIVOR'S TRUST) as amended, and RICHARD T. PEERY, Trustee, or his Successor
Trustee, UTA dated 7/20/77 (RICHARD T. PEERY SEPARATE PROPERTY TRUST) as
amended, hereinafter called Landlord, and FAROUDJA LABORATORIES, INC., a
California corporation, hereinafter called Tenant.
WITNESSETH:
Landlord hereby leases to Tenant and Tenant hereby hires and takes from
Landlord those certain premises (the "Premises") outlined in red on Exhibit
"A", attached hereto and incorporated herein by this reference thereto more
particularly described as follows:
A portion of that certain 20,000 plus/minus square foot, one-story building
located at 733 Palomar Avenue, Sunnyvale, California 94086, consisting of
approximately 10,000 plus/minus square feet of space. Said Premises is more
particularly shown within the area outlined in Red on Exhibit A attached
hereto. The entire parcel, of which the Premises is a part, is shown within
the area outlined in green on Exhibit A attached. The Premises shall be
improved as shown on Exhibit B to be attached hereto, and is leased on an
"as-is" basis, in its present condition, and in the configuration as shown in
Red on Exhibit B to be attached hereto.
The word "Premises" as used throughout this lease is hereby defined to
include the nonexclusive use of landscaped areas, sidewalks and driveways in
front of or adjacent to the Premises, and the nonexclusive use of the area
directly underneath or over such sidewalks and driveways. The gross leasable
area of the building shall be measured from outside of exterior walls to
outside of exterior walls, and shall include any atriums, covered entrances
or egresses and covered loading areas.
Said letting and hiring is upon and subject to the terms, covenants and
conditions hereinafter set forth and Tenant covenants as a material part of
the consideration for this Lease to perform and observe each and all of said
terms, covenants and conditions. This lease is made upon the conditions of
such performance and observance.
1. USE Tenant shall use the Premises only in conformance with applicable
governmental laws, regulations, rules and ordinances for the purpose of
general office, light manufacturing, research and development, and storage
and other uses necessary for Tenant to conduct Tenant's business, provided
that such uses shall be in accordance with all applicable governmental laws
and ordinances, and for no other purpose. Tenant shall not do or permit to
be done in or about the Premises nor bring or keep or permit to be brought or
kept in or about the Premises anything which is prohibited by or will in any
way increase the existing rate of (or otherwise affect) fire or any insurance
covering the Premises or any part thereof, or any of its contents, or will
cause a cancellation of any insurance covering the Premises or any part
thereof, or any of its contents. Tenant shall not do or permit to be done
anything in, on or about the Premises which will in any way obstruct or
interfere with the rights of other tenants or occupants of the Premises or
neighboring premises or injure or annoy them, or use or allow the Premises to
be used for any improper, immoral, unlawful or objectionable purpose, nor
shall Tenant cause, maintain or permit any nuisance in, on or about the
Premises. No sale by auction shall be permitted on the Premises. Tenant shall
not place any loads upon the floors, walls, or ceiling which endanger the
structure, or place any harmful fluids or other materials in the drainage
system of the building, or overload existing electrical or other mechanical
systems. No waste materials or refuse shall be dumped upon or permitted to
remain upon any part of the Premises or outside of the building in which the
Premises are a part, except in trash containers placed inside exterior
enclosures designated by Landlord for that purpose or inside of the building
proper where designated by Landlord. No materials, supplies, equipment,
finished products or semifinished products, raw materials or articles of any
nature shall be stored upon or permitted to remain outside the Premises.
Tenant shall not place anything or allow anything to be placed near the glass
of any window, door partition or wall which may appear unsightly from outside
the Premises. No loudspeaker or other device, system or apparatus which can
be heard outside the Premises shall be used in or at the Premises without the
prior written consent of Landlord. Tenant shall not commit or suffer to be
committed any waste in or upon the Premises. Tenant shall indemnify, defend
and hold Landlord harmless against any loss, expense, damage, reasonable
attorneys' fees, or liability arising out of failure of Tenant to comply with
any applicable law. Tenant shall comply with any covenant, condition, or
restriction ("CC&R's") affecting the Premises. The provisions of
this paragraph are for the benefit of Landlord only and shall not be construed
to be for the benefit of any tenant or occupant of the Premises.
2. TERM*
A. The term of this Lease shall be for a period of FIVE (5) years
ELEVEN (11) months TWENTY SIX (26) days (unless sooner terminated as
hereinafter provided) and, subject to paragraphs 2B and 3, shall commence on
the 6th day of October, 1997 and end on the 30th day of September, 2003.
B. Possession of the Premises shall be deemed tendered and the term of
the Lease shall commence when the first of the following occurs:
(a) One day after a Certificate of Occupancy is granted by the
proper governmental agency, or, if the governmental agency having
jurisdiction over the area in which the Premises are situated does not issue
certificates of occupancy, then the same number of days after certification
by Landlord's architect or contractor that Landlord's construction work has
been completed; or
(b) Upon the occupancy of the Premises by any of Tenant's operating
personnel; or
(c) When the Tenant Improvements have been substantially completed
for Tenant's use and occupancy, in accordance and compliance with Exhibit B
of this Lease Agreement; or
(d) As other agreed in writing.
* It is agreed in the event said Lease commences on a date other than the
first day of the month the term of the Lease will be extended to account
for the number of days in the partial month. The Basic Rent during the
resulting partial month will be pro-rated (for the number of days in the
partial month) at the Basic Rent rate scheduled for the projected
commencement date as shown in Paragraph 39.
Initials: MH
----------------
Initials: JA, RP
----------------
page 1 of 8
<PAGE>
3. POSSESSION If Landlord, for any reason whatsoever, cannot deliver
possession of said premises to Tenant at the commencement of the said term,
as hereinbefore specified, this Lease shall not be void or voidable; no
obligation of Tenant shall be affected thereby; nor shall Landlord or
Landlord's agents be liable to Tenant for any loss or damage resulting
therefrom; but in that event the commencement and termination dates of the
Lease, and all other dates affected thereby shall be revised to conform to
the date of Landlord's delivery of possession, as specified in Paragraph 2B,
above. The above is, however, subject to the provision that the period of
delay of delivery of the Premises shall not exceed 30 days from the
commencement date herein (except those delays caused by Acts of God,
strikes, war, utilities, governmental bodies, weather, unavailable materials,
and delays beyond Landlord's control shall be excluded in calculating such
period) in which instance Tenant, at its option, may, by written notice to
Landlord, terminate this Lease.
4. RENT
A. BASIC RENT. Tenant agrees to pay to Landlord at such place as
Landlord may designate without deduction, offset, prior notice, or demand,
and Landlord agrees to accept as Basic Rent for the leased Premises the total
sum of ONE MILLION FOUR HUNDRED NINETEEN THOUSAND SIXTEEN AND 13/100 Dollars
($1,419,016.13) in lawful money of the United States of America, payable as
follows:
See Paragraph 39 for Basic Rent Schedule
B. TIME FOR PAYMENT. Full monthly rent is due in advance on the first
day of each calendar month. In the event that the term of this Lease
commences on a date other than the first day of a calendar month, on the date
of commencement of the term hereof Tenant shall pay to Landlord as rent for
the period from such date of commencement to the first day of the next
succeeding calendar month that proportion of the monthly rent hereunder which
the number of days between such date of commencement and the first day of the
next succeeding calendar month bears to thirty (30). In the event that the
term of this Lease for any reason ends on a date other than the last day of a
calendar month, on the first day of the last calendar month of the term
hereof Tenant shall pay to Landlord as rent for the period from said first
day of said last calendar month to and including the last day of the term
hereof that proportion of the monthly rent hereunder which the number of days
between said first day of said last calendar month and the last day of the
term hereof bears to thirty (30).
C. LATE CHARGE. Notwithstanding any other provision of this Lease, if
Tenant is in default in the payment of rental as set forth in this Paragraph 4
when due, or any part thereof, Tenant agrees to pay Landlord, in addition to
the delinquent rental due, a late charge for each rental payment in default
ten (10) days. Said late charge shall equal ten percent (10%) of each rental
payment so in default.
D. ADDITIONAL RENT. Beginning with the commencement date of the term
of this Lease, Tenant shall pay to Landlord or to Landlord's designated agent
in addition to the Basic Rent and as Additional Rent the following:
(a) All Taxes relating to the Premises as set forth in paragraph 9,
and
(b) All insurance premiums relating to the Premises, as set forth
in Paragraph 12, and
(c) All charges, costs and expenses, which Tenant is required to
pay hereunder, together with all interest and penalties, costs and expenses
including reasonable attorneys' fees and legal expenses, that may accrue
thereto in the event of Tenant's failure to pay such amounts, and all
damages, reasonable costs and expenses which Landlord may incur by reason of
default of Tenant or failure on Tenant's part to comply with the terms of
this Lease. In the event of nonpayment by Tenant of Additional Rent,
Landlord shall have all the rights and remedies with respect thereto as
Landlord has for nonpayment of rent.
The Additional Rent due hereunder shall be paid to Landlord or
Landlord's agent (i) within five days for taxes and insurance and within
thirty days for all other Additional Rent items after presentation of invoice
from Landlord or Landlord's agent setting forth such Additional Rent and/or
(ii) at the option of Landlord, Tenant shall pay to Landlord monthly, in
advance, Tenant's prorata share of an amount estimated by Landlord to be
Landlord's approximate average monthly expenditure for such Additional Rent
items, which estimated amount shall be reconciled within 120 days of the end
of each calendar year or more frequently if Landlord elects to do so at
Landlord's sole and absolute discretion as compared to Landlord's actual
expenditure for said Additional Rent items, with Tenant paying to Landlord,
upon demand, any amount of actual expenses expended by Landlord in excess of
said estimated amount, or Landlord crediting to Tenant (providing Tenant is
not in default in the performance of any of the terms, covenants and
conditions of this Lease) any amount of estimated payments made by Tenant in
excess of Landlord's actual expenditures for said Additional Rent items.
The respective obligations of Landlord and Tenant under this paragraph
shall survive the expiration or other termination of the term of this Lease,
and if the term hereof shall expire or shall otherwise terminate on a day
other than the last day of a calendar year, the actual Additional Rent
incurred for the calendar year in which the term hereof expires or otherwise
terminates shall be determined and settled on the basis of the statement of
actual Additional Rent for such calendar year and shall be prorated in the
proportion which the number of days in such calendar year preceding such
expiration or termination bears to 365.
E. FIXED MANAGEMENT FEE. Beginning with the Commencement Date of the
Term of this Lease, Tenant shall pay to Landlord, in addition to the Basic
Rent and Additional Rent, a fixed monthly management fee ("Management Fee")
equal to 2% of the Basic Rent due for each month during the Lease Term.
F. PLACE OF PAYMENT OF RENT AND ADDITIONAL RENT. All Basic Rent
hereunder and all payments hereunder for Additional Rent shall be paid to
Landlord at the office of Landlord at Peery/Arrillaga, File 1504, Box 60000,
San Francisco, CA 94160 or to such other person or to such other place as
Landlord may from time to time designate in writing.
*G. SECURITY DEPOSIT. Concurrently with Tenant's execution of this
Lease, Tenant shall deposit with Landlord the sum of FORTY TWO THOUSAND AND
NO/100 Dollars ($42,000.00). Said sum shall be held by Landlord as a Security
Deposit for the faithful performance by Tenant of all of the terms,
covenants, and conditions of this Lease to be kept and performed by Tenant
during the term hereof. If Tenant defaults with respect to any provision of
this Lease, including, but not limited to, the provisions relating to the
payment of rent and any of the monetary sums due herewith, Landlord may (but
shall not be required to) use, apply or retain all or any part of this
Security Deposit for the payment of any other amount which Landlord may spend
by reason of Tenant's default or to compensate Landlord for
* $21,000.00 Cash due upon Lease execution.
$21,000.00 Promissory Note due October 1, 1998.
Initials: MH
----------------
Initials: JA, RP
----------------
page 2 of 8
<PAGE>
any other loss or damage which Landlord may suffer by reason of Tenant's
default. If any portion of said Deposit is so used or applied, Tenant shall,
within ten (10) days after written demand therefor, deposit cash with
Landlord in the amount sufficient to restore the Security Deposit to its
original amount. Tenant's failure to do so shall be a material breach of this
Lease. Landlord shall not be required to keep this Security Deposit separate
from its general funds, and Tenant shall not be entitled to interest on such
Deposit. If Tenant fully and faithfully performs every provision of this
Lease to be performed by it, the Security Deposit or any balance thereof
shall be returned to Tenant (or at Landlord's option, to the last assignee of
Tenant's interest hereunder) at the expiration of the Lease term and after
Tenant has vacated the Premises. In the event of termination of Landlord's
interest in this Lease, Landlord shall transfer said Deposit to Landlord's
successor in interest whereupon Tenant agrees to release Landlord from
liability for the return of such Deposit or the accounting therefor.
5. ACCEPTANCE AND SURRENDER OF PREMISES By entry hereunder, Tenant accepts
the Premises as being in good and sanitary order, condition and repair and
accepts the building and improvements included in the Premises in their
present condition and without representation or warranty by Landlord as to
the condition of such building or as to the use or occupancy which may be
made thereof. Any exceptions to the foregoing must be by written agreement
executed by Landlord and Tenant. Tenant agrees on the last day of the Lease
term, or on the sooner termination of this Lease, to surrender the Premises
promptly and peaceably to Landlord in good condition and repair (damage by
Acts of God, fire, normal wear and tear excepted), with all interior walls
painted, or cleaned so that they appear freshly painted, and repaired and
replaced, if damaged; all floors cleaned and waxed; all carpets cleaned and
shampooed; all broken, marred or nonconforming accoustical ceiling tiles
replaced; all windows washed; the airconditioning and heating systems
serviced by a reputable and licensed service firm and in good operating
condition and repair; the plumbing and electrical systems and lighting in
good order and repair, including replacement of any burned out or broken
light bulbs or ballasts; the lawn and shrubs in good condition including the
replacement of any dead or damaged plantings; the sidewalk, driveways and
parking areas in good order, condition and repair; together with all
alterations, additions, and improvements which may have been made in, to, or
on the Premises (except moveable trade fixtures installed at the expense of
Tenant) except that Tenant shall ascertain from Landlord within thirty (30)
days before the end of the term of this Lease whether Landlord desires to
have the Premises or any part or parts thereof restored to their condition
and configuration as when the Premises were delivered to Tenant and if
Landlord shall so desire, then Tenant shall restore said Premises or such
part or parts thereof before the end of this Lease at Tenant's sole cost and
expense. Tenant, on or before the end of the term or sooner termination of
this Lease, shall remove all of Tenant's personal property and trade fixtures
from the Premises, and all property not so removed on or before the end of
the term or sooner termination of this Lease shall be deemed abandoned by
Tenant and title to same shall thereupon pass to Landlord without
compensation to Tenant. Landlord may, upon termination of this Lease, remove
all moveable furniture and equipment so abandoned by Tenant, at Tenant's sole
cost, and repair any damage caused by such removal at Tenant's sole cost. If
the Premises be not surrendered at the end of the term or sooner termination
of this Lease, Tenant shall indemnify Landlord against loss or liability
resulting from the delay by Tenant in so surrendering the Premises including,
without limitation, any claims made by any succeeding tenant founded on such
delay. Nothing contained herein shall be construed as an extension of the
term hereof or as a consent of Landlord to any holding over by Tenant. The
voluntary or other surrender of this Lease or the Premises by Tenant or a
mutual cancellation of this Lease shall not work as a merger and, at the
option of Landlord, shall either terminate all or any existing subleases or
subtenancies or operate as an assignment to Landlord of all or any such
subleases or subtenancies.
6. ALTERATIONS AND ADDITIONS Tenant shall not make, or suffer to be made,
any alteration or addition to the Premises, or any part thereof, without the
written consent of Landlord first had and obtained by Tenant (such consent
not to be unreasonably withheld), but at the cost of Tenant, and any addition
to, or alteration of, the Premises, except moveable furniture and trade
fixtures, shall at once become a part of the Premises and belong to Landlord.
Landlord reserves the right to approve all contractors and mechanics proposed
by Tenant to make such alterations and additions. Tenant shall retain title
to all moveable furniture and trade fixtures placed in the Premises. All
heating, lighting, electrical, airconditioning, floor to ceiling
partitioning, drapery, carpeting, and floor installations made by Tenant,
together with all property that has become an integral part of the Premises,
shall not be deemed trade fixtures. Tenant agrees that it will not proceed to
make such alteration or additions, without having obtained consent from
Landlord to do so, and until five (5) days from the receipt of such consent,
in order that Landlord may post appropriate notices to avoid any liability to
contractors or material suppliers for payment for Tenant's improvements.
Tenant will at all times permit such notices to be posted and to remain
posted until the completion of work. Tenant shall, if required by Landlord,
secure at Tenant's own cost and expense, a completion and lien indemnity
bond, satisfactory to Landlord, for such work. Tenant further covenants and
agrees that any mechanic's lien filed against the Premises for work claimed
to have been done for, or materials claimed to have been furnished to Tenant,
will be discharged by Tenant, by bond or otherwise, within ten (10) days
after the filing thereof, at the cost and expense of Tenant. Any exceptions
to the foregoing must be made in writing and executed by both Landlord and
Tenant.
7. TENANT AND MAINTENANCE Tenant shall, at its sole cost and expense, keep
and maintain the Premises (including appurtenances) and every part thereof in
a high standard of maintenance and repair, and in good and sanitary
condition. Tenant's maintenance and repair responsibilities herein referred
to include, but are not limited to, janitorization, plumbing systems within
the non-common areas of the Premises (such as water and drain lines, sinks),
electrical systems within the non-common areas of the Premises (such as
outlets, lighting fixtures, lamps, bulbs, tubes, ballasts), heating and
airconditioning controls within the non-common areas of the Premises (such as
mixing boxes, thermostats, time clocks, supply and return grills), all
interior improvements within the premises including but not limited to: wall
coverings, window coverings, accoustical ceilings, vinyl tile, carpeting,
partitioning, doors (both interior and exterior, including closing
mechanisms, latches, locks), and all other interior improvements of any
nature whatsoever. Tenant agrees to provide carpeted shields under all
rolling chairs or to otherwise be responsible for wear and tear of the carpet
caused by such rolling chairs if such wear and tear exceeds that caused by
normal foot traffic in surrounding areas. Areas of excessive wear shall be
replaced at Tenant's sole expense upon Lease termination.
8. UTILITIES (This Space Intentionally Left Blank)
9. TAXES A. As Additional Rent in accordance with Paragraph 4D of this
Lease, Tenant shall pay to Landlord, or if Landlord so directs, directly to
the Tax Collector, all Real Property Taxes relating to the Premises. In the
event the Premises leased hereunder consist of only a portion of the entire
tax parcel, Tenant shall pay to Landlord Tenant's proportionate share of such
real estate taxes allocated to the leased Premises by square footage or other
reasonable basis as calculated and determined by Landlord. If the tax billing
pertains 100% to the leased Premises, and Landlord chooses to have Tenant pay
said real estate taxes directly to the Tax Collector, then in such event it
shall be the responsibility of Tenant to obtain the tax and assessment bills
and pay, prior to delinquency, the applicable real property taxes and
assessments pertaining to the leased Premises, and failure to receive a bill
for taxes and/or assessments shall not provide a basis for cancellation of or
nonresponsibility for payment of penalties for nonpayment or late payment by
Tenant. The term "Real Property Taxes", as used herein, shall mean (i) all
taxes, assessments, levies and other charges of any kind or nature
whatsoever, general and special, foreseen and unforeseen (including all
installments of principal and interest required to pay any general or special
assessments for public improvements and any increases resulting from
reassessments caused by any change in ownership of the Premises) now or
hereafter imposed by any governmental or quasi-governmental authority or
special district having the direct or indirect power to tax or levy
assessments, which are levied or assessed against, or with respect to the
value, occupancy or use of, all or any portion of the Premises (as now
constructed or as may at any time hereafter be constructed, altered, or
otherwise changed) or Landlord's interest therein; any improvements located
within the Premises (regardless of ownership); the fixtures, equipment and
other property of Landlord, real or personal, that are an integral part of
and located in the Premises; or parking areas, public utilities, or energy
within the Premises; (ii) all charges, levies or fees imposed by reason of
environmental regulation or other governmental control of the Premises; and
(iii) all costs and fees (including
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reasonable attorneys' fees) incurred by Landlord in reasonably contesting any
Real Property Tax and in negotiating with public authorities as to any Real
Property Tax. If at any time during the term of this Lease the taxation or
assessment of the Premises prevailing as of the commencement date of this
Lease shall be altered so that in lieu of or in addition to any Real Property
Tax described above there shall be levied, assessed or imposed (whether by
reason of a change in the method of taxation or assessment, creation of a new
tax or charge, or any other cause) an alternate or additional tax or charge
(i) on the value, use or occupancy of the Premises or Landlord's interest
therein or (ii) on or measured by the gross receipts, income or rentals from
the Premises, on Landlord's business of leasing the Premises, or computed in
any manner with respect to the operation of the Premises, then any such tax
or charge, however designated, shall be included within the meaning of the
term "Real Property Taxes" for purposes of this Lease. If any Real Property
Tax is based upon property or rents unrelated to the Premises, then only that
part of such Real Property Tax that is fairly allocable to the Premises shall
be included within the meaning of the term "Real Property Taxes".
Notwithstanding the foregoing, the term "Real Property Taxes" shall not
include estate, inheritance, gift or franchise taxes of Landlord or the
federal or state net income tax imposed on Landlord's income from all such
sources.
B. TAXES ON TENANT'S PROPERTY Tenant shall be liable for and shall pay
ten days before delinquency, taxes levied against any personal property or
trade fixtures placed by Tenant in or about the Premises. If any such taxes
on Tenant's personal property or trade fixtures are levied against Landlord
or Landlord's property or if the assessed value of the Premises is increased
by the inclusion therein of a value placed upon such personal property or
trade fixtures of Tenant and if Landlord, after written notice to Tenant,
pays the taxes based on such increased assessment, which Landlord shall have
the right to do regardless of the validity thereof, but only under proper
protest if requested by Tenant, Tenant shall upon demand, as the case may be,
repay to Landlord the taxes so levied against Landlord, or the proportion of
such taxes resulting from such increase in the assessment; provided that in
any such event Tenant shall have the right, in the name of Landlord and with
Landlord's full cooperation, to bring suit in any court of competent
jurisdiction to recover the amount of such taxes so paid under protest, and
any amount so recovered shall belong to Tenant.
10. LIABILITY INSURANCE Tenant, at Tenant's expense, agrees to keep in
force during the term of this Lease a policy of commercial general liability
insurance with combined single limit coverage of not less than Two Million
Dollars ($2,000,000) per occurrence for bodily injury and property damage
occurring in, on or about the Premises, including parking and landscaped
areas. Such insurance shall be primary and noncontributory as respects any
insurance carried by Landlord. The policy or policies effecting such
insurance shall name Landlord as additional insureds, and shall insure any
liability of Landlord, contingent or otherwise, as respects acts or omissions
of Tenant, its agents, employees or invitees or otherwise by any conduct or
transactions of any of said persons in or about or concerning the Premises,
including any failure of Tenant to observe or perform any of its obligations
hereunder; shall be used by an insurance company admitted to transact
business in the State of California; and shall provide that the insurance
effected thereby shall not be canceled, except upon thirty (30) days' prior
written notice to Landlord. A certificate of insurance of said policy shall
be delivered to Landlord. If, during the term of this Lease, in the
considered opinion of Landlord's Lender, insurance advisor, or counsel, the
amount of insurance described in this Paragraph 10 is not adequate, Tenant
agrees to increase said coverage to such reasonable amount as Landlord's
Lender, insurance advisor, or counsel shall deem adequate.
11. TENANT'S PERSONAL PROPERTY INSURANCE AND WORKMAN'S COMPENSATION
INSURANCE Tenant shall maintain a policy or policies of fire and property
damage insurance in "all risk" form with a sprinkler leakage endorsement
insuring the personal property, inventory, trade fixtures, and leasehold
improvements within the leased Premises for the full replacement value
thereof. The proceeds from any of such policies shall be used for the repair
or replacement of such items so insured.
Tenant shall also maintain a policy or policies of workman's compensation
insurance and any other employee benefit insurance sufficient to comply with
all laws.
12. PROPERTY INSURANCE Landlord shall purchase and keep in force, and as
Additional Rent and in accordance with Paragraph 4D of this Lease, Tenant
shall pay to Landlord (or Landlord's agent if so directed by Landlord)
Tenant's proportionate share (allocated to the leased Premises by square
footage or other equitable basis as calculated and determined by Landlord) of
the deductibles on insurance claims and the cost of, policy or policies of
insurance covering loss or damage to the Premises (excluding routine
maintenance and repairs and incidental damage or destruction caused by
accidents or vandalism for which Tenant is responsible under Paragraph 7) in
the amount of the full replacement value thereof, providing protection
against those perils included within the classification of "all risks"
insurance and flood and/or earthquake insurance, if available, plus a policy
of rental income insurance in the amount of one hundred (100%) percent of
twelve (12) months Basic Rent, plus sums paid as Additional Rent. If such
insurance cost is increased due to Tenant's use of the Premises, Tenant
agrees to pay to Landlord the full cost of such increase. Tenant shall have
no interest in nor any right to the proceeds of any insurance procured by
Landlord for the Premises.
Landlord and Tenant do each hereby respectively release the other, to the
extent of insurance coverage of the releasing party, from any liability for
loss or damage caused by fire or any of the extended coverage casualties
included in the releasing party's insurance policies, irrespective of the
cause of such fire or casualty; provided, however, that if the insurance
policy of either releasing party prohibits such waiver, then this waiver
shall not take effect until consent to such waiver is obtained. If such
waiver is so prohibited, the insured party affected shall promptly notify the
other party thereof.
13. INDEMNIFICATION Landlord shall not be liable to Tenant and Tenant
hereby waives all claims against Landlord for any injury to or death of any
person or damage to or destruction of property in or about the Premises by or
from any cause whatsoever, including, without limitation, gas, fire, oil,
electricity or leakage of any character from the roof, walls, basement or
other portion of the Premises but excluding, however, the willful misconduct
or negligence of Landlord, its agents, servants, employees, invitees, or
contractors of which negligence Landlord has knowledge and reasonable time to
correct. Except as to injury to persons or damage to property to the extent
arising from the willful misconduct or the negligence of Landlord, its
agents, servants, employees, invitees, or contractors Tenant shall hold
Landlord harmless from and defend Landlord against any and all expenses,
including reasonable attorneys' fees, in connection therewith, arising out of
any injury to or death of any person or damage to or destruction of property
occurring in, on or about the Premises, or any part thereof, from any cause
whatsoever (excluding, however, on-site Hazardous Materials clean up expenses
that are not related to Tenant's Hazardous Materials Activities as defined in
Paragraph 49B).
14. COMPLIANCE Tenant, at its sole cost and expense, shall promptly comply
with all laws, statutes, ordinances and governmental rules, regulations or
requirements now or hereafter in effect; with the requirements of any board
of fire underwriters or other similar body now or hereafter constituted; and
with any direction or occupancy certificate issued pursuant to law by any
public officer; provided, however, that no such failure shall be deemed a
breach of the provisions if Tenant, immediately upon notification, commences
to remedy or rectify said failure. The judgment of any court of competent
jurisdiction or the admission of Tenant in any action against Tenant, whether
Landlord be a party thereto or not, that Tenant has violated any such law,
statute, ordinance or governmental rule, regulation, requirement, direction
or provision, shall be conclusive of that fact as between Landlord and
Tenant. Tenant shall, at its sole cost and expense, comply with any and all
requirements pertaining to said Premises, of any insurance organization or
company, necessary for the maintenance of reasonable fire and public
liability insurance covering requirements pertaining to said Premises, of any
insurance organization or company necessary for the maintenance of reasonable
fire and public liability insurance covering the Premises.
15. LIENS Tenant shall keep the Premises free from any liens arising out of
any work performed, materials furnished or obligation incurred by Tenant. In
the event that Tenant shall not, within ten (10) days following the
imposition of such lien, cause the same to be released of record, Landlord
shall have, in addition to all other remedies provided herein and by law, the
right, but no obligation, to cause the same to be released by such means as
it shall deem proper, including payment of the claim giving rise to such
lien. All sums paid by Landlord for such purpose, and all expenses incurred
by it in connection therewith, shall be payable to Landlord by Tenant on
demand with interest at the prime rate of interest as quoted by the Bank of
America.
16. ASSIGNMENT AND SUBLETTING Tenant shall not assign, transfer, or
hypothecate the leasehold estate under this Lease, or any interest therein,
and shall not sublet the Premises, or any part thereof, or any right or
privilege appurtenant thereto, or suffer any other person or entity to occupy
or use the Premises, or any portion thereof, without, in each case, the prior
written consent of Landlord which consent will not be unreasonably withheld.
As a condition for granting this consent to any assignment, transfer, or
subletting, Landlord shall require Tenant to pay to Landlord, as Additional
Rent, all rents and/or additional consideration due Tenant from its
assignees, transferees, or subtenants in excess of the Rent payable by Tenant
to Landlord hereunder for the assigned, transferred and/or subleased space.
Tenant shall, by thirty (30) days written notice, advise Landlord of its
intent to assign or transfer Tenant's interest in the Lease or sublet the
Premises or any portion thereof for any part of the term hereof. Within
thirty (30) days after receipt of said written notice, Landlord may, in its
sole discretion, elect to terminate this Lease as to the portion of the
Premises described in Tenant's notice on the date specified in Tenant's
notice by giving written notice of such election to terminate. If no such
notice to terminate is given to Tenant within said thirty (30) day period,
Tenant may proceed to locate an acceptable sublessee, assignee, or other
transferee for presentment to Landlord for Landlord's approval, all in
accordance with the terms, covenants, and conditions of this paragraph 16. If
Tenant intends to sublet the entire Premises and Landlord elects to terminate
this Lease, this Lease shall be terminated on the date specified in Tenant's
notice. If, however, this Lease shall terminate pursuant to the foregoing
with respect to less than all the Premises, the rent, as defined and reserved
hereinabove shall be adjusted on a pro rata basis to the number of square
feet retained by Tenant, and this Lease as so amended shall continue in full
force and effect. In the event Tenant is allowed to assign, transfer or
sublet the whole or any part of the Premises, with the prior written
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consent of Landlord, no assignee, transferee or subtenant shall assign or
transfer this Lease, either in whole or in part, or sublet the whole or any
part of the Premises, without also having obtained the prior written consent
of Landlord. A consent of Landlord to one assignment, transfer,
hypothecation, subletting, occupation or use by any other person shall not
release Tenant from any of Tenant's obligations hereunder or be deemed to be
a consent to any subsequent similar or dissimilar assignment, transfer,
hypothecation, subletting, occupation or use by any other person. Any such
assignment, transfer, hypothecation, subletting, occupation or use without
such consent shall be void and shall constitute a breach of this Lease by
Tenant and shall, at the option of Landlord exercised by written notice to
Tenant, terminate this Lease. The leasehold estate under this Lease shall
not, nor shall any interest therein, be assignable for any purpose by
operation of law without the written consent of Landlord. As a condition to
its consent, Landlord shall require Tenant to pay all expenses in connection
with the assignment, and Landlord shall require Tenant's assignee or
transferee (or other assignees or transferees) to assume in writing all of
the obligations under this Lease and for Tenant to remain liable to Landlord
under the Lease. Notwithstanding the above, in no event will Landlord consent
to a sub-sublease. See Paragraph 46.
17. SUBORDINATION AND MORTGAGES In the event Landlord's title or leasehold
interest is now or hereafter encumbered by a deed of trust; upon the interest
of Landlord in the land and buildings in which the demised Premises are
located, to secure a loan from a lender (hereinafter referred to as "Lender")
to Landlord, Tenant shall, at the request of Landlord or Lender, execute in
writing an agreement subordinating its rights under this Lease to the lien of
such deed of trust, or, if so requested, agreeing that the lien of Lender's
deed of trust shall be or remain subject and subordinate to the rights of
Tenant under this Lease. Notwithstanding any such subordination, Tenant's
possession under this Lease shall not be disturbed if Tenant is not in
default and so long as Tenant shall pay all rent and observe and perform all
of the provisions set forth in this Lease.
18. ENTRY BY LANDLORD Landlord reserves, and shall at all reasonable times
after at least 24 hours notice (except in emergencies) have, the right to
enter the Premises to inspect them; to perform any services to be provided by
Landlord hereunder; to make repairs or provide any services to a contiguous
tenant(s); to submit the Premises to prospective purchasers, mortgagers or
tenants; to post notices of nonresponsibility; and to alter, improve or
repair the Premises or other parts of the building, all without abatement of
rent, and may erect scaffolding and other necessary structures in or through
the Premises where reasonably required by the character of the work to be
performed; provided, however that the business of Tenant shall be interfered
with to the least extent that is reasonably practical. Any entry to the
Premises by Landlord for the purposes provided for herein shall not under any
circumstances be construed or deemed to be a forcible or unlawful entry into
or a detainer of the Premises or an eviction, actual or constructive, of
Tenant from the Premises or any portion thereof.
19. BANKRUPTCY AND DEFAULT The commencement of a bankruptcy action or
liquidation action or reorganization action or insolvency action or an
assignment of or by Tenant for the benefit of creditors, or any similar
action undertaken by Tenant, or the insolvency of Tenant, shall, at
Landlord's option, constitute a breach of this Lease by Tenant. If the
trustee or receiver appointed to serve during a bankruptcy, liquidation,
reorganization, insolvency or similar action elects to reject Tenant's
unexpired Lease, the trustee or receiver shall notify Landlord in writing of
its election within thirty (30) days after an order for relief in a
liquidation action or within thirty (30) days after the commencement of any
action.
Within thirty (30) days after court approval of the assumption of this
Lease, the trustee or receiver shall cure (or provide adequate assurance to
the reasonable satisfaction of Landlord that the trustee or receiver shall
cure) any and all previous defaults under the unexpired Lease and shall
compensate Landlord for all actual pecuniary loss and shall provide adequate
assurance of future performance under said Lease to the reasonable
satisfaction of Landlord. Adequate assurance of future performance, as used
herein, includes, but shall not be limited to: (i) assurance of source and
payment of rent, and other consideration due under this Lease; (ii) assurance
that the assumption or assignment of this Lease will not breach substantially
any provision, such as radius, location, use, or exclusivity provision, in
any agreement relating to the above described Premises.
Nothing contained in this section shall affect the existing right of
Landlord to refuse to accept an assignment upon commencement of or in
connection with a bankruptcy, liquidation, reorganization or insolvency
action or an assignment of Tenant for the benefit of creditors or other
similar act. Nothing contained in this Lease shall be construed as giving or
granting or creating an equity in the demised Premises to Tenant. In no event
shall the leasehold estate under this Lease, or any interest therein, be
assigned by voluntary or involuntary bankruptcy proceeding without the prior
written consent of Landlord. In no event shall this Lease or any rights or
privileges hereunder be an asset of Tenant under any bankruptcy, insolvency
or reorganization proceedings.
The failure to perform or honor any covenant, condition or
representation made under this Lease shall constitute a default hereunder by
Tenant upon expiration of the appropriate grace period hereinafter provided.
Tenant shall have a period of five (5) days from the date of written notice
from Landlord within which to cure any default in the payment of rental or
adjustment thereto. Tenant shall have a period of thirty (30) days from the
date of written notice from Landlord within which to cure any other default
under this Lease. Upon an uncured default of this Lease by Tenant, Landlord
shall have the following rights and remedies in addition to any other rights
or remedies available to Landlord at law or in equity:
(a) The rights and remedies provided for by California Civil Code
Section 1951.2, including but not limited to, recovery of the worth at the
time of award of the amount by which the unpaid rent for the balance of the
term after the time of award exceeds the amount of rental loss for the same
period that Tenant proves could be reasonably avoided, as computed pursuant
to subsection (b) of said Section 1951.2. Any proof by Tenant under
subparagraphs (2) and (3) of Section 1951.2 of the California Civil Code of
the amount of rental loss that could be reasonably avoided shall be made in
the following manner: Landlord and Tenant shall each select a licensed real
estate broker in the business of renting property of the same type and use as
the Premises and in the same geographic vicinity. Such two real estate
brokers shall select a third licensed real estate broker, and the three
licensed real estate brokers so selected shall determine the amount of the
rental loss that could be reasonably avoided from the balance of the term of
this Lease after the time of award. The decision of the majority of said
licensed real estate brokers shall be final and binding upon the parties
hereto.
(b) The rights and remedies provided by California Civil Code
Section which allows Landlord to continue the Lease in effect and to enforce
all of its rights and remedies under this Lease, including the right to
recover rent as it becomes due, for so long as Landlord does not terminate
Tenant's right to possession; acts of maintenance or preservation, efforts to
relet the Premises, or the appointment of a receiver upon Landlord's
initiative to protect its interest under this Lease shall not constitute a
termination of Tenant's right to possession.
(c) The right to terminate this Lease by giving notice to Tenant in
accordance with applicable law.
(d) To the extent permitted by law, the right and power, to enter
the Premises and remove therefrom all persons and property, to store such
property in a public warehouse or elsewhere at the cost of and for the
account of Tenant, and to sell such property and apply such proceeds
therefrom pursuant to applicable California law. Landlord, may from time to
time sublet the Premises or any part thereof for such term or terms (which
may extend beyond the term of this Lease) and at such rent and such other
terms as Landlord in its reasonable sole discretion may deem advisable, with
the right to make alterations and repairs to the Premises. Upon each
subletting, (i) Tenant shall be immediately liable to pay Landlord, in
addition to indebtedness other than rent due hereunder, the reasonable cost
of such subletting, including, but not limited to, reasonable attorneys'
fees, and any real estate commissions actually paid, and the cost of such
reasonable alterations and repairs incurred by Landlord and the amount, if
any, by which the rent hereunder for the period of such subletting (to the
extent such period does not exceed the term hereof) exceeds the amount to be
paid as rent for the Premises for such period or (ii) at the option of
Landlord, rents received from such subletting shall be applied first to
payment of indebtedness other than rent due hereunder from Tenant to
Landlord; second, to the payment of any costs of such subletting and of such
alterations and repairs; third to payment of rent due and unpaid hereunder;
and the residue, if any, shall be held by Landlord and applied in payment of
future rent as the same becomes due hereunder. If Tenant has been credited
with any rent to be received by such subletting under option (i) and such
rent shall not be promptly paid to Landlord by the subtenant(s), or if such
rentals received from such subletting under option (ii) during any month be
less than that to be paid during that month by Tenant hereunder, Tenant shall
pay any such deficiency to Landlord. Such deficiency shall be calculated and
paid monthly. No taking possession of the Premises by Landlord, shall be
construed as an election on its part to terminate this Lease unless a written
notice of such intention be given to Tenant. Notwithstanding any such
subletting without termination, Landlord may at any time hereafter elect to
terminate this Lease for such previous breach.
(e) The right to have a receiver appointed for Tenant upon
application by Landlord, to take possession of the Premises and to apply any
rental collected from the Premises and to exercise all other rights and
remedies granted to Landlord pursuant to subparagraph d. above. See Paragraph
47.
20. ABANDONMENT Tenant shall not vacate or abandon the Premises at any time
during the term of this Lease, and if Tenant shall abandon, vacate or
surrender said Premises, or be dispossessed by the process of law, or
otherwise, any personal property belonging to Tenant and left on the Premises
shall be deemed to be abandoned, at the option of Landlord, except such
property as may be mortgaged to Landlord. See Paragraph 48.
21. DESTRUCTION In the event the Premises are destroyed in whole or in part
from any cause, except for routine maintenance and repairs and incidental
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damage and destruction caused from vandalism and accidents for which Tenant
is responsible under Paragraph 7, Landlord may, at its option:
(a) Rebuild or restore Premises to their condition prior to the
damage or destruction, or
(b) Terminate this Lease, (providing that the Premises is damaged to
the extent of 33 1/3% of the replacement cost)
If Landlord does not give Tenant notice in writing within thirty (30)
days from the destruction of the Premises of its election to either rebuild
and restore them, or to terminate this Lease, Landlord shall be deemed to
have elected to rebuild or restore them, in which event Landlord agrees, at
its expense, except for any deductible, which is the responsibility of
Tenant, promptly to rebuild or restore the Premises to their condition prior
to the damage or destruction. Tenant shall be entitled to a reduction in rent
while such repair is being made in the proportion that the area of the
Premises rendered untenantable by such damage bears to the total area of the
Premises. If Landlord initially estimates that the rebuilding or restoration
will exceed 180 days or if Landlord does not complete the rebuilding or
restoration within one hundred eighty (180) days following the date of
destruction (such period of time to be extended for delays caused by the
fault or neglect of Tenant or because of Acts of God, acts of public
agencies, labor disputes, strikes, fires, freight embargos, rainy or stormy
weather, inability to obtain materials, supplies or fuels, acts of
contractors or subcontractors, or delay of the contractors or subcontractors
due to such causes or other contingencies beyond the control of Landlord),
then Tenant shall have the right to terminate this Lease by giving fifteen
(15) days prior written notice to Landlord. Notwithstanding anything herein
to the contrary, Landlord's obligation to rebuild or restore shall be limited
to the building and interior improvements constructed by Landlord as they
existed as of the commencement date of the Lease and shall not include
restoration of Tenant's trade fixtures, equipment, merchandise, or any
improvements, alterations or additions made by Tenant to the Premises, which
Tenant shall forthwith replace or fully repair at Tenant's sole cost and
expense provided this Lease is not cancelled according to the provisions above.
Unless this Lease is terminated pursuant to the foregoing provisions,
this Lease shall remain in full force and effect. Tenant hereby expressly
waives the provisions of Section 1932, Subdivision 2, in Section 1933,
Subdivision 4 of the California Civil Code.
In the event that the building in which the Premises are situated is
damaged or destroyed to the extent of not less than 33 1/3% of the
replacement cost thereof, Landlord may elect to terminate this Lease, whether
the Premises be injured or not. Notwithstanding anything to the contrary
herein, Landlord may terminate this Lease in the event of an uninsured event
or if insurance proceeds are insufficient to cover one hundred percent of the
rebuilding costs net of the deductible.
22. EMINENT DOMAIN If all or any part of the Premises shall be taken by any
public or quasi-public authority under the power of eminent domain or
conveyance in lieu thereof, this Lease shall terminate as to any portion of
the Premises so taken or conveyed on the date when title vests in the
condemnor, and Landlord shall be entitled to any and all payment, income,
rent, award, or any interest therein whatsoever which may be paid or made in
connection with such taking or conveyance, and Tenant shall have no claim
against Landlord or otherwise for the value of any unexpired term of this
Lease. Notwithstanding the foregoing paragraph, any compensation specifically
awarded Tenant for loss of business, Tenant's personal property, moving cost
or loss of goodwill, shall be and remain the property of Tenant.
If any action or proceeding is commenced for such taking of the Premises
or any part thereof, or if Landlord is advised in writing by any entity or
body having the right or power of condemnation of its intention to condemn
the premises or any portion thereof, then Landlord shall have the right to
terminate this Lease by giving Tenant written notice thereof within sixty
(60) days of the date of receipt of said written advice, or commencement of
said action or proceeding, or taking conveyance, which terminate shall take
place as of the first to occur of the last day of the calendar month next
following the month in which such notice is given or the date on which title
to the Premises shall vest in the condemnor.
In the event of such a partial taking or conveyance of the Premises, if
the portion of the Premises taken or conveyed is so substantial that the
Tenant can no longer reasonably conduct its business, Tenant shall have the
privilege of terminating this Lease within sixty (60) days from the date of
such taking or conveyance, upon written notice to Landlord of its intention
so to do, and upon giving of such notice this Lease shall terminate on the
last day of the calendar month next following the month in which such notice
is given, upon payment by Tenant of the rent from the date of such taking or
conveyance to the date of termination.
If a portion of the Premises be taken by condemnation or conveyance in
lieu thereof and neither Landlord nor Tenant shall terminate this Lease as
provided herein, this Lease shall continue in full force and effect as to the
part of the Premises not so taken or conveyed, and the rent herein shall be
apportioned as of the date of such taking or conveyance so that thereafter
the rent to be paid by Tenant shall be in the ratio that the area of the
portion of the Premises not so taken or conveyed bears to the total area of
the Premises prior to such taking.
23. SALE OR CONVEYANCE BY LANDLORD In the event of a sale or conveyance of
the Premises or any interest therein, by any owner of the reversion then
constituting Landlord, the transferor shall thereby be released from any
further liability upon any of the terms, covenants or conditions (express or
implied) herein contained in favor of Tenant, and in such event, insofar as
such transfer is concerned, Tenant agrees to look solely to the
responsibility of the successor in interest of such transferor in and to the
Premises and this Lease. This Lease shall not be affected by any such sale
or conveyance, and Tenant agrees to attorn to the successor in interest of
such transferor, provided that the transferee assumes all of Landlord's
obligations in writing under the Lease.
24. ATTORNMENT TO LENDER OR THIRD PARTY In the event the interest of
Landlord in the land and buildings in which the leased Premises are located
(whether such interest of Landlord is a fee title interest or a leasehold
interest) is encumbered by deed of trust, and such interest is acquired by
the lender or any third party through judicial foreclosure or by exercise of
a power of sale at private trustee's foreclosure sale, Tenant hereby agrees
to attorn to the purchaser at any such foreclosure sale and to recognize such
purchaser as the Landlord under this Lease. In the event the lien of the deed
of trust securing the loan from a Lender to Landlord is prior and paramount
to the Lease, this Lease shall nonetheless continue in full force and effect
for the remainder of the unexpired term hereof, at the same rental herein
reserved and upon all the other terms, conditions and covenants herein
contained.
25. HOLDING OVER Any holding over by Tenant after expiration or other
termination of the term of this Lease with the written consent of Landlord
delivered to Tenant shall not constitute a renewal or extension of the Lease
or give Tenant any rights in or to the leased Premises except as expressly
provided in this Lease. Any holding over after the expiration or other
termination of the term of this Lease, with the consent of Landlord, shall be
construed to be a tenancy from month to month, on the same terms and
conditions herein specified insofar as applicable except that the monthly
Basic Rent shall be increased to an amount equal to one hundred twenty five
(125%) percent of the month Basic Rent required during the last month of the
Lease term.
26. CERTIFICATE OF ESTOPPEL Tenant shall at any time upon not less than ten
(10) days prior written notice from Landlord execute, acknowledge and deliver
to Landlord a statement in writing (i) certifying that this Lease is
unmodified and in full force and effect (or, if modified, stating the nature
of such modification and certifying that this Lease, as so modified, is in
full force and effect) and the date to which the rent and other charges are
paid in advance, if any, and (ii) acknowledging that there are not, to
Tenant's knowledge, any uncured defaults on the part of Landlord hereunder,
or specifying such defaults, if any, are claimed. Any such statement may be
conclusively relied upon by any prospective purchaser or encumbrancer of the
Premises. Tenant's failure to deliver such statement within such time shall
be conclusive upon Tenant that this Lease is in full force and effect,
without modification except as may be represented by Landlord; that there are
no uncured defaults in Landlord's performance, and that not more than one
month's rent has been paid in advance.
27. CONSTRUCTION CHANGES It is understood that the description of the
Premises and the location of ductwork, plumbing and other facilities therein
are subject to such minor changes as Landlord or Landlord's architect
determines to be desirable in the course of construction of the Premises, and
no such changes shall affect this Lease or entitle Tenant to any reduction of
rent hereunder or result in any liability of Landlord to Tenant Landlord does
not guarantee the accuracy of any drawings supplied to Tenant and
verification of the accuracy of such drawings rests with Tenant.
28. RIGHT OF LANDLORD TO PERFORM All terms, covenants and conditions of
this Lease to be performed or observed by Tenant shall be performed or
observed by Tenant at Tenant's sole cost and expense and without any
reduction of rent. If Tenant shall fail to pay any sum of money, or other
rent, required to be paid by it hereunder and such failure shall continue
for five (5) days after written notice by Landlord, or shall fail to perform
any other term or covenant hereunder on its part to be performed, and such
failure shall continue for thirty (30) days after written notice thereof by
Landlord, Landlord, without waiving or releasing Tenant from any obligation
of Tenant hereunder, may, but shall not be obliged to, make any such payment
or perform any such other term or covenant on Tenant's part to be performed.
All sums so paid by Landlord and all necessary costs of such performance by
Landlord together with interest thereon at the rate of the prime rate of
interest per annum as quoted by the Bank of America from the date of such
payment on performance by Landlord, shall be paid (and Tenant covenants to
make such payment) to Landlord on demand by Landlord, and Landlord shall
have (in addition to any other right or remedy of Landlord) the same rights
and remedies in the event of nonpayment by Tenant as in the case of failure by
Tenant in the payment of rent hereunder.
29 ATTORNEYS' FEES
A. In the event that either Landlord or Tenant should bring suit for the
possession of the Premises, for the recovery of any sum due under this Lease,
or because of the breach of any provision of this Lease, or for any other
relief against the other party hereunder, hen all costs and expenses,
including reasonable attorneys' fees,
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incurred by the prevailing party therein shall be paid by the other party,
which obligation on the part of the other party shall be deemed to have
accrued on the date of the commencement of such action and shall be
enforceable whether or not the action is prosecuted to judgment.
B. Should Landlord be named as a defendant in any suit brought against
Tenant in connection with or arising out of Tenant's occupancy hereunder,
Tenant shall pay to Landlord its costs and expenses incurred by such suit,
including a reasonable attorney's fee.
30. WAIVER The waiver by either party of the other party's failure to perform
or observe any term, covenant or condition herein contained to be performed
or observed by such waiving party shall not be deemed to be a waiver of such
term, covenant or condition or of any subsequent failure of the party failing
to perform or observe the same or any other such term, covenant or condition
therein contained, and no custom or practice which may develop between the
parties hereto during the term hereof shall be deemed a waiver of, or in any
way affect, the right of either party to insist upon performance and
observance by the other party in strict accordance with the terms hereof.
31. NOTICES All notices, demands, requests, advices or designations which
may be or are required to be given by either party to the other hereunder
shall be in writing. All notices, demands, requests, advices or designations
by Landlord to Tenant shall be sufficiently given, made or delivered if
personally served on Tenant by leaving the same at the Premises of if sent by
United States certified or registered mail, postage prepaid, addressed to
Tenant at the Premises. All notices, demands, requests, advices or
designations by Tenant to Landlord shall be sent by United States certified
or registered mail, postage prepaid, addressed to Landlord at its offices at
Peery/Arrillaga, 2560 Mission College Blvd., Suite 101, Santa Clara, CA 95054
Each notice, request, demand, advice or designation referred to in this
paragraph shall be deemed received on the date of the personal service or
mailing thereof in the manner herein provided, as the case may be.
32. EXAMINATION OF LEASE Submission of this instrument for examination or
signature by Tenant does not constitute a reservation of or option for a
lease, and this instrument is not effective as a lease or otherwise until its
execution and delivery by both Landlord and Tenant.
33. DEFAULT BY LANDLORD Landlord shall not be in default unless Landlord
fails to perform obligations required of Landlord within a reasonable time,
but in no event earlier than (30) days after written notice by Tenant to
Landlord and to the holder of any first mortgage or deed of trust covering
the Premises whose name and address shall have heretofore been furnished to
Tenant in writing, specifying wherein Landlord has failed to perform such
obligations; provided, however, that if the nature of Landlord's obligations
is such that more than thirty (30) days are required for performance, then
Landlord shall not be in default if Landlord commences performance within
such thirty (30) day period and thereafter diligently prosecutes the same to
completion.
34. CORPORATE AUTHORITY If Tenant is a corporation (or a partnership), each
individual executing this Lease on behalf of said corporation (or
partnership) represents and warrants that he is duly authorized to execute
and deliver this Lease on behalf of said corporation (or partnership) in
accordance with the by-laws of said corporation (or partnership in accordance
with the partnership agreement) and that this Lease is binding upon said
corporation (or partnership) in accordance with its terms. If Tenant is a
corporation, Tenant shall, within thirty (30) days after execution of this
Lease, deliver to Landlord a certified copy of the resolution of the Board of
Directors of said corporation authorizing or ratifying the execution of this
Lease. See Paragraph 52
35. (This Space Intentionally Left Blank)
36. LIMITATION OF LIABILITY In consideration of the benefits accruing
hereunder, Tenant and all successors and assigns covenant and agree that, in
the event of any actual or alleged failure, breach or default hereunder by
Landlord:
(a) the sole and exclusive remedy shall be against Landlord's interest
in the Premises leased herein;
(b) no partner of Landlord shall be sued or named as a party in any
suit or action (except as may be necessary to secure jurisdiction of the
partnership);
(c) no service of process shall be made against any partner of Landlord
(except as may be necessary to secure jurisdiction of the partnership);
(d) no partner of Landlord shall be required to answer or otherwise
plead to any service of process;
(e) no judgment will be taken against any partner of Landlord;
(f) any judgment taken against any partner of Landlord may be vacated
and set aside at any time without hearing;
(g) no writ of execution will ever by levied against the assets of any
partner of Landlord;
(h) these covenants and agreements are enforceable both by Landlord and
also by any partner of Landlord.
Tenant agrees that each of the foregoing covenants and agreements shall be
applicable to any covenant or agreement either expressly contained in this
Lease or imposed by statute or at common law.
37. SIGNS No sign, placard, picture, advertisement, name or notice shall be
inscribed, displayed or printed or affixed on or to any part of the outside
of the Premises or any exterior windows of the Premises without the written
consent of Landlord first had and obtained and Landlord shall have the right
to remove any such sign, placard, picture, advertisement, name or notice
without notice to and at the expense of Tenant. If Tenant is allowed to print
or affix or in any way place a sign in, on, or about the Premises, upon
expiration or other sooner termination of this Lease, Tenant at Tenant's sole
cost and expense shall both remove such sign and repair all damage in such a
manner as to restore all aspects of the appearance of the Premises to the
condition prior to the placement of said sign.
All approved signs or lettering on outside doors shall be printed,
painted, affixed or inscribed at the expense of Tenant by a person approved
of by Landlord.
Tenant shall not place anything or allow anything to be placed near the
glass of any window, door partition or wall which may appear unsightly from
outside the Premises.
38. MISCELLANEOUS AND GENERAL PROVISIONS
A. USE OF BUILDING NAME. Tenant shall not, without the written consent of
Landlord, use the name of the building for any purpose other than as the
address of the business conducted by Tenant in the Premises.
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B. CHOICE OF LAW; SEVERABILITY. This Lease shall in all respects be
governed by and construed in accordance with the laws of the State of
California. If any provision of this Lease shall be invalid, unenforceable or
ineffective for any reason whatsoever, all other provisions hereof shall be
and remain in full force and effect.
C. DEFINITION OF TERMS. The term "Premises" includes the space leased
hereby and any improvements now or hereafter installed therein or attached
thereto. The term "Landlord" or any pronoun used in place thereof includes
the plural as well as the singular and the successors and assigns of
Landlord. The term "Tenant" or any pronoun used in place thereof includes the
plural as well as the singular and individuals, firms, associations,
partnerships and corporations, and their and each of their respective heirs,
executors, administrators, successors and permitted assigns, according to the
context hereof, and the provisions of this Lease shall inure to the benefit
of and bind such heirs, executors, administrators, successors and permitted
assigns.
The term "person" includes the plural as well as the singular and
individuals, firms, associations, partnerships and corporations. Words used
in any gender include other genders. If there be more than one Tenant the
obligations of Tenant hereunder are joint and several. The paragraph headings
of this Lease are for convenience of reference only and shall have no effect
upon the construction or interpretation of any provision hereof.
D. TIME OF ESSENCE. Time is of the essence of this Lease and of each and
all of its provisions.
E. QUITCLAIM. At the expiration or earlier termination of this Lease,
Tenant shall execute, acknowledge and deliver to Landlord, within ten (10)
days after written demand from Landlord to Tenant, any quitclaim deed or
other document required by any reputable title company, licensed to operate
in the State of California, to remove the cloud or encumbrance created by
this Lease from the real property of which Tenant's Premises are a part.
F. INCORPORATION OF PRIOR AGREEMENTS; AMENDMENTS. This instrument along
with any exhibits and attachments hereto constitutes the entire agreement
between Landlord and Tenant relative to the Premises and this agreement and
the exhibits and attachments may be altered, amended or revoked only by an
instrument in writing signed by both Landlord and Tenant. Landlord and Tenant
agree hereby that all prior or contemporaneous oral agreements between and
among themselves and their agents or representatives relative to the leasing
of the Premises are merged in or revoked by this agreement.
G. RECORDING. Neither Landlord nor Tenant shall record this Lease or a
short form memorandum hereof without the consent of the other.
H. AMENDMENTS FOR FINANCING. Tenant further agrees to execute any
amendments required by a lender to enable Landlord to obtain financing, so
long as Tenant's rights hereunder are not substantially affected.
I. ADDITIONAL PARAGRAPHS. Paragraphs 39 through 53 are added hereto and
are included as a part of this lease.
J. CLAUSES, PLATS AND RIDERS. Clauses, plats and riders, if any, signed
by Landlord and Tenant and endorsed on or affixed to this Lease are a part
hereof.
K. DIMINUTION OF LIGHT, AIR OR VIEW. Tenant covenants and agrees that no
diminution or shutting off of light, air or view by any structure which may
be hereafter erected (whether or not by Landlord) shall in any way affect his
Lease, entitle Tenant to any reduction of rent hereunder or result in any
liability of Landlord to Tenant.
IN WITNESS WHEREOF, Landlord and Tenant have executed and delivered this
Lease as of the day and year last written below.
LANDLORD: TENANT:
JOHN ARRILLAGA SURVIVOR'S TRUST FAROUDJA LABORATORIES, INC.
A California corporation
By /s/ John Arrillaga By /s/ Michael Hoberg
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John Arrillaga, Trustee
Date: 10/10/97 Title VP FINANCE
---------------------------------- ------------------------------
RICHARD T. PEERY SEPARATE PROPERTY TRUST
Type or Print Name MICHAEL HOBERG
-----------------
By /s/ Richard T. Peery Date: 10/6/97
---------------------------------- -------------------------------
Richard T. Peery, Trustee
Date: 10/9/97
-------------------------------
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Paragraph 39 through 53 to Lease Agreement dated August 27, 1997, By and
Between the John Arrillaga Survivor's Trust and the Richard T. Peery Separate
Property Trust, as Landlord, and FAROUDJA LABORATORIES, INC., a California
corporation, as Tenant for 10,000 plus/minus Square Feet of Space Located at
733 Palomar Avenue, Sunnyvale, California.
39. BASIC RENT: In accordance with Paragraph 4A herein, the total aggregate
sum of ONE MILLION FOUR HUNDRED NINETEEN THOUSAND SIXTEEN AND 13/100 DOLLARS
($1,419,016.13), shall be payable as follows:
On October 6, 1997, the sum of FIFTEEN THOUSAND FIVE HUNDRED SIXTEEN AND
13/100 DOLLARS ($15,516.13) shall be due, representing the Rental for the
period October 6, 1997 through October 31, 1997.
On November 1, 1997, the sum of EIGHTEEN THOUSAND FIVE HUNDRED AND
NO/100 DOLLARS ($18,500.00) shall be due, and a like sum due on the first day
of each month thereafter, through and including September 1, 1998.
On October 1, 1998, the sum of NINETEEN THOUSAND AND NO/100 DOLLARS
($19,000.00) shall be due, and a like sum due on the first day of each month
thereafter, through and including September 1, 1999.
On October 1, 1999, the sum of NINETEEN THOUSAND FIVE HUNDRED AND NO/100
DOLLARS ($19,500.00) shall be due, and a like sum due on the first day of
each month thereafter, through and including September 1, 2000.
On October 1, 2000, the sum of TWENTY THOUSAND AND NO/100 DOLLARS
($20,000.00) shall be due, and a like sum due on the first day of each month
thereafter, through and including September 1, 2001.
On October 1, 2001, the sum of TWENTY ONE THOUSAND FIVE HUNDRED AND
NO/100 DOLLARS ($21,500.00) shall be due, and a like sum due on the first day
of each month thereafter, through and including September 1, 2002.
On October 1, 2002, the sum of TWENTY ONE THOUSAND AND NO/100 DOLLARS
($21,000.00) shall be due, and a like sum due on the first day of each month
thereafter, through and including September 1, 2003; or until the entire
aggregate sum of ONE MILLION FOUR HUNDRED NINETEEN THOUSAND SIXTEEN AND
13/100 DOLLARS ($1,419,016.13) has been paid.
40. "AS-IS" BASIS: Subject only to Paragraph 53 and to Landlord making the
improvements shown on EXHIBIT B to be attached hereto, it is hereby agreed
that the Premises leased hereunder is leased strictly on an "as-is" basis and
in its present condition, and in the configuration as shown on EXHIBIT B to
be attached hereto, and by reference made a part hereof. Except as noted
herein, it is specifically agreed between the parties that after Landlord
makes the interior improvements as shown on EXHIBIT B, Landlord shall not be
required to make, nor be responsible for any cost, in connection with any
repair, restoration, and/or improvement to the Premises in order for this
Lease to commence, or thereafter, throughout the Term of this Lease.
Notwithstanding anything to the contrary within this Lease, Landlord makes no
warranty or representation of any kind or nature whatsoever as to the
condition or repair of the Premises, nor as to the use or occupancy which may
be made thereof.
41. RULES AND REGULATIONS AND COMMON AREA: Subject to the terms and
conditions of this Lease and such Rules and Regulations as Landlord may from
time to time prescribe, Tenant and Tenant's employees, invitees and customers
shall, in common with other occupants of the Parcel/Building in which the
premises are located, and their respective employees, invitees and customers,
and other entitled to the use thereof, have the non-exclusive right to use
the access roads, parking areas, and facilities provided and designated by
Landlord for the general use and convenience of the occupants of the
Parcel/Building in which the Premises are located, which areas and
facilities are referred to herein as "Common Area". This right shall
terminate upon the
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termination of this Lease. Landlord reserves the right from time to time to
make changes in the shape, size, location, amount and extent of Common Area.
Landlord further reserves the right to promulgate such reasonable rules and
regulations relating to the use of the Common Area, and any part or parts
thereof, as Landlord may deem appropriate for the best interests of the
occupants of the Parcel/Building. Such Rules and Regulations may be amended
by landlord from time to time, with or without advance notice, and all
amendments shall be effective upon delivery of a copy to Tenant. Landlord
shall not be responsible to Tenant for the non-performance by any other
tenant or occupant of the Parcel/Building of any of said Rules and
Regulations.
Landlord shall operate, manage and maintain the Common Area. The manner in
which the Common Area shall be maintained and the expenditures for such
maintenance shall be at the discretion of Landlord.
42. EXPENSES OF OPERATION, MANAGEMENT, AND MAINTENANCE OF THE COMMON AREAS
OF THE PARCEL AND BUILDING IN WHICH THE PREMISES ARE LOCATED: As Additional
Rent and in accordance with Paragraph 4D of this Lease, Tenant shall pay to
Landlord Tenant's proportionate share (calculated on a square footage or
other equitable basis as calculated by landlord) of all expenses of
operation, management, maintenance and repair of the Common Areas of the
Parcel including, but not limited to, license, permit, and inspection fees;
security; utility charges associated with exterior landscaping and lighting
(including water and sewer charges); all charges incurred in the maintenance
and replacement of landscaped areas, lakes, parking lots and paved areas
(including repairs, replacement, resealing and restriping), sidewalks,
driveways, maintenance, repair and replacement of all fixtures and
electrical, mechanical and plumbing systems; supplies, materials, equipment
and tools; the cost of capital expenditures which have the effect of reducing
operating expenses, provided, however, that in the event Landlord makes such
capital improvements, Landlord may amortize its investment in said
improvements (together with interest at the rate of fifteen (15%) percent per
annum on the unamortized balance) as an operating expense in accordance with
standard accounting practices, provided, that such amortization is not at a
rate greater than the anticipated savings in the operating expenses.
As Additional Rent and in accordance with Paragraph 4D of this Lease, Tenant
shall pay its proportionate share (calculated on a square footage or other
equitable basis as calculated by Landlord) of the cost of operation
(including common utilities), management, maintenance, and repair of the
building (including structural and common areas such as lobbies, restrooms,
janitor's closets, hallways, elevators, mechanical and telephone rooms,
stairwells, entrances, spaces above the ceilings and janitorization of said
common areas) in which the Premises are located. The maintenance items herein
referred to include, but are not limited to, all windows, window frames,
plate glass, glazing, truck doors, main plumbing systems of the building (such
as water drain lines, sinks, toilets, faucets, drains, showers and water
fountains), main electrical systems (such as panels and conduits), heating
and airconditioning systems (such as compressors, fans, air handlers, ducts,
boilers, heaters), structural elements and exterior surfaces of the building;
store fronts, roof, downspouts, building common area interiors (such as wall
coverings, window coverings, floor coverings and partitioning), ceilings,
building exterior doors, skylights (if any), automatic fire extinguishing
systems, and elevators (if any); license, permit and inspection fees;
security, supplies, materials, equipment ant tools; the cost of capital
expenditures which have the effect of reducing operating expenses, provided,
however, that in the event Landlord makes such capital improvements, Landlord
may amortize its investment in said improvements (together with interest at
the rate of fifteen (15%) percent per annum on the unamortized balance) as an
operating expense in accordance with standard accounting practices, provided,
that such amortization is not at a rate greater than the anticipated savings
in the operating expenses. Tenant hereby waives all rights hereunder, and
benefits of, subsection 1 of Section 1932 and Sections 1941 and 1942 of the
California Civil Code and under any similar law, statute or ordinance now or
hereafter in effect.
"Additional Rent" as used herein shall not include Landlord's debt
repayments; interest on charges, expenses directly or indirectly incurred by
Landlord for the benefit of any other tenant; cost for the installation of
partitioning or any other tenant improvements; cost of attracting tenants;
depreciation; interest; or executive salaries.
43. UTILITIES OF THE BUILDING IN WHICH THE PREMISES ARE LOCATED: As
Additional Rent and in accordance with Paragraph 4D of this Lease Tenant
shall pay its proportionate share (calculated on a square footage or other
equitable basis as calculated by Landlord) of the cost of all utility charges
such as water, gas, electricity, (telephone, telex and
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other electronic communications service, if applicable) sewer service, waste
pick-up and any other utilities, materials or services furnished directly to
the building in which the Premises are located, including, without
limitation, any temporary or permanent utility surcharge or other exactions
whether or not hereinafter imposed.
Landlord shall not be liable for and Tenant shall not be entitled to any
abatement or reduction of rent by reason of any interruption or failure of
utility services to the Premises when such interruption or failure is caused
by accident, breakage, repair, strikes, lockouts, or other labor disturbances
or labor disputes of any nature, or by any other cause, similar or
dissimilar, beyond the reasonable control of Landlord.
Provided that Tenant is not in default in the performance or observance of
any of the terms, covenants or conditions of this Lease to be performed or
observed by it, Landlord shall furnish to the Premises between the hours of
8:00 am and 6:00 pm, Mondays through Fridays (holidays excepted) and subject
to the rules and regulations of the Common Area hereinbefore referred to,
reasonable quantities of water, gas and electricity suitable for the intended
use of the Premises and heat and airconditioning required in Landlord's
judgment for the comfortable use and occupation of the Premises for such
purposes. Tenant agrees that at all times it will cooperate fully with
Landlord and abide by all regulations and requirements that Landlord may
prescribe for the proper functioning and protection of the building heating,
ventilating and airconditioning systems. Whenever heat generating machines,
equipment, or any other devices (including exhaust fans) are used in the
Premises by Tenant which affect the temperature or otherwise maintained by
the airconditioning system, Landlord shall have the right to install
supplementary airconditioning units in the Premises and the cost thereof,
including the cost of installation and the cost of operation and maintenance
thereof, shall be paid by Tenant to Landlord upon demand by Landlord. Tenant
will not, without the written consent of Landlord, use any apparatus or
device in the Premises (including, without limitation), electronic data
processing machines or machines using current in excess of 110 Volts which
will in any way increase the amount of electricity, gas, water or
airconditioning usually furnished or supplied to premises being used as
general office space, or connect with electric current (except through
existing electrical outlets in the Premises), or with gas or water pipes any
apparatus or device for the purposes of using electric current, gas, or
water. If Tenant shall require water, gas, or electric current in excess of
that usually furnished or supplied to premises being used as general office
space, Tenant shall first obtain the written consent of Landlord, which
consent shall not be unreasonably withheld and Landlord may cause an electric
current, gas or water meter to be installed in the Premises in order to
measure the amount of electric current, gas or water consumed for any such
excess use. The cost of any such meter and of the installation, maintenance
and repair thereof, all charges for such excess water, gas and electric
current consumed (as shown by such meters and at the rates then charged by
the furnishing public utility); and any additional expense incurred by
Landlord in keeping account of electric current, gas, or water so consumed
shall be paid by Tenant, and Tenant agrees to pay Landlord therefor promptly
upon demand by Landlord.
44. PARKING: Tenant shall have the right to the nonexclusive use of thirty
eight (38) parking spaces in the common parking area of the building. Tenant
agrees that Tenant, Tenant's employees, agents, representatives, and/or
invitees shall not use parking spaces in excess of said 38 parking spaces
allocated to Tenant hereunder. Landlord shall have the right, at Landlord's
sole discretion, to specifically designate the location of Tenant's parking
spaces within the common parking area of the building in the event of a
dispute among the tenants occupying the building referred to herein, in which
event Tenant agrees that Tenant, Tenant's employees, agents, representatives
and/or invitees shall not use any parking spaces other than those parking
spaces specifically designated by Landlord for Tenant's use. Said parking
spaces, if specifically designated by Landlord to Tenant, may be relocated by
Landlord at any time, and from time to time. Landlord reserves the right, at
Landlord's sole discretion, to rescind any specific designation of parking
spaces, thereby returning Tenant's parking spaces to the common parking area.
Landlord shall give Tenant written notice of any change in Tenant's parking
spaces. Tenant shall not, at any time, park or permit to be parked, any
trucks or vehicles adjacent to the loading area so as to interfere in any way
with the use of such areas, nor shall Tenant, at any time, park or permit the
parking of Tenant's trucks and other vehicles or the trucks and vehicles of
Tenant's suppliers or others, in any portion of the common areas not
designated by Landlord for such use by Tenant. Tenant shall not park nor
permit to be parked, any inoperative vehicles or equipment on any portion of
the common parking area or other common areas of the building. Tenant agrees
to assume responsibility for compliance by its employees with the parking
provision contained herein. If Tenant or its employees park in other than
designated parking areas, then Landlord may charge Tenant, as an additional
charge, and Tenant agrees to pay Ten Dollars ($10.00) per day for
Initial: MH, JA, RP
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each day or partial day each such vehicle is parking in any area other than
that designated. Tenant hereby authorizes Landlord, at Tenant's sole expense,
to tow away from the building any vehicle belonging to Tenant or Tenant's
employees parked in violation of these provisions, or to attach violation
stickers or notices to such vehicles. Tenant shall use the parking area for
vehicle parking only and shall not use the parking areas for storage.
45. ASSESSMENT CREDITS: The demised property herein may be subject to a
special assessment levied by the City of Sunnyvale as part of an Improvement
District. As a part of said special assessment proceedings (if any),
additional bonds were or may be sold and assessments were or may be levied to
provide for construction contingencies and reserve funds. Interest shall be
earned on such funds created for contingencies and on reserve funds which
will be credited for the benefit of said assessment district. To the extent
surpluses are created in said district through unused contingency funds,
interest earnings or reserve funds, such surpluses shall be deemed the
property of Landlord. Notwithstanding that such surpluses may be credited on
assessments otherwise due against the Leased Premises, Tenant shall pay to
Landlord, as additional rent if, and at the time of any such credit of
surpluses, an amount equal to all such surpluses so credited. For example: if
(i) the property is subject to an annual assessment of $1,000.00, and (ii) a
surplus of $200.00 is credited towards the current year's assessment which
reduces the assessment amount shown on the property tax bill from $1,000.00
to $800.00, Tenant shall, upon receipt of notice from Landlord, pay to
Landlord said $200.00 credit as Additional Rent.
46. ASSIGNMENT AND SUBLETTING (CONTINUED):
A. Notwithstanding anything stated in Paragraph 16 of this Lease,
Landlord hereby agrees to consent to an assignment or sublease to any parent
or subsidiary corporation, or related corporation which Yves and/or Isabelle
Faroudja (or their heirs) have more than fifty-one percent (51%) interest in,
provided however, Tenant shall remain liable for 100% of the terms and
conditions and obligations of Tenant under this Lease. Notwithstanding the
above, Tenant shall be required to (a) give Landlord written notice prior to
such assignment or subletting to any party as described above, and (b)
execute Landlord's consent document prepared by Landlord reflecting the
assignment or subletting.
B. Any and all sublease agreement(s) between Tenant and any and all
subtenant(s) (which agreements must be consented to by Landlord, pursuant to
the requirements of this Lease) shall contain the following language:
"If Landlord and Tenant jointly and voluntarily elect, for any
reason whatsoever, to terminate the Master Lease prior to the scheduled
Master Lease termination date, then this Sublease (if then still in
effect) shall terminate concurrently with the termination of the Master
Lease. Subtenant expressly acknowledges and agrees that (1) the
voluntary termination of the Master Lease by Landlord and Tenant and the
resulting termination of this Sublease shall not give Subtenant any
right or power to make any legal or equitable claim against Landlord,
including without limitation any claim for interference with contract or
interference with prospective economic advantage, and (2) Subtenant
hereby waives any and all rights it may have under law or at equity
against Landlord to challenge such an early termination of the Sublease,
and unconditionally releases and relieves Landlord, and its officers,
directors, employees and agents, from any and all claims, demands,
and/or causes of action whatsoever (collectively, "Claims"), whether
such matters are known or unknown, latent or apparent, suspected or
unsuspected, foreseeable or unforeseeable, which Subtenant may have
arising out of or in connection with any such early termination of this
Sublease. Subtenant knowingly and intentionally waives any and all
protection which is or may be given by Section 1542 of the California
Civil Code which provides as follows: "A general release does not extend
to claims which the creditor does not know or suspect to exist in his
favor at the time of executing the release, which if known by him must
have materially affected his settlement with debtor.
The term of this Sublease is therefore subject to early
termination. Subtenant's initials here below evidence (a) Subtenant's
consideration of and agreement to this early termination provision, (b)
Subtenant's acknowledgement that, in determining the
Initial: MH, JA, RP
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net benefits to be derived by Subtenant under the terms of this Sublease,
Subtenant has anticipated the potential for early termination, and (c)
Subtenant's agreement to the general waiver and release of Claims above.
Initials: Initials: "
----------- -----------
Subtenant Tenant
47. BANKRUPTCY AND DEFAULT: Paragraph 19 is modified to provide that with
respect to non-monetary defaults not involving Tenant's failure to pay Basic
Rent or Additional Rent, Tenant shall not be in default of any non-monetary
obligation if (i) more than thirty (30) days is required to cure such
non-monetary default, and (ii) Tenant commences cure of such default as soon
as reasonably practicable after receiving written notice of such default from
Landlord and thereafter continuously and with due diligence prosecutes such
cure to completion.
48. ABANDONMENT: Paragraph 20 is modified to provide that Tenant shall not
be in default under the Lease if it leaves all or any part of Premises vacant
so long as (i) Tenant is performing all of its other obligations under the
Lease including the obligation to pay Basic Rent and Additional Rent (ii)
Tenant provides on-site security during normal business hours for those parts
of the Premises left vacant, (iii) such vacancy does not materially and
adversely affect the validity or coverage of any policy of insurance carried
by Landlord with respect to the Premises, and (iv) the utilities and heating
and ventilation system are operated and maintained to the extent necessary to
prevent damage to the Premises or its systems.
49. HAZARDOUS MATERIALS: Landlord and Tenant agree as follows with respect
to the existence or use of "Hazardous Materials" (as defined herein) on, in,
under or about the Premises and real property located beneath said Premises
and the common shares of the Parcel, which includes the entire parcel of land
on which the Premises are located as shown in Green on EXHIBIT A attached
hereto (hereinafter collectively referred to as the "Property"):
A. As used herein, the term "Hazardous Materials" shall mean any
material, waste, chemical, mixture or byproduct which is or hereafter is
defined, listed or designated under Environmental Laws (defined below) as a
pollutant, or as a contaminant, or as a toxic or hazardous substance, waste
or material, or any other unwholesome, hazardous, toxic, biohazardous, or
radioactive material, waste, chemical, mixture or byproduct, or which is
listed, regulated or restricted by any Environmental Law (including, without
limitation, petroleum hydrocarbons or any distillates or derivatives or
fractions thereof, polychlorinated biphenyls, or asbestos). As used herein,
the term "Environmental Laws" shall mean any applicable Federal, State of
California or local government law (including common law), statute,
regulation, rule, ordinance, permit, license, order, requirement, agreement,
or approval, or any determination, judgment, directive, or order of any
executive or judicial authority at any level of Federal, State of California
or local government (whether now existing or subsequently adopted or
promulgated) relating to pollution or the protection of the environment,
ecology, natural resources, or public health and safety.
B. Tenant shall obtain Landlord's written consent, which may be
withheld in Landlord's discretion, prior to the occurrence of any Tenant's
Hazardous Materials Activities (defined below); provided, however, that
Landlord's consent shall not be required for normal use in compliance with
applicable Environmental Laws of customary household and office supplies
(Tenant shall first provide Landlord with a list of said materials use), such
as mild cleaners, lubricants and copier toner. As used herein, the term
"Tenant's Hazardous Materials Activities" shall mean any and all use,
handling, generation, storage, disposal, treatment, transportation, release,
discharge, or emission of any Hazardous Materials on, in, beneath, to, from,
at or about the Property, in connection with Tenant's use of the Property, or
by Tenant or by any of Tenant's agents, employees, contractors, vendors,
invitees, visitors or its future subtenants or assignees. Tenant agrees that
any and all Tenant's Hazardous Materials Activities shall be conducted in
strict, full compliance with applicable Environmental Laws at Tenant's
expense, and shall not result in any contamination of the Property or the
environment. Tenant agrees to provide Landlord with prompt written notice of
any spill or release of Hazardous Materials at the Property during the term
of the Lease of which Tenant becomes aware, and further agrees to provide
Landlord with prompt written notice of any violation of Environmental Laws in
connection with Tenant's Hazardous Materials Activities of which Tenant
becomes aware. If Tenant's Hazardous Materials
Initial: MH, JA, RP
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Activities involve Hazardous Materials other than normal use of customary
household and office supplies, Tenant also agrees at Tenant's expense: (i)to
install such Hazardous Materials monitoring, storage and containment devices
as Landlord reasonably deems necessary (Landlord shall have no obligation
to evaluate the need for any such installation or to require any such
installation); (ii) provide Landlord with a written inventory of such
Hazardous Materials, including an update of same each year upon the
anniversary date of the Commencement Date of the Lease ("Anniversary Date");
and (iii) on each Anniversary Date, to retain a qualified environmental
consultant, acceptable to Landlord, to evaluate whether Tenant is in
compliance with all applicable Environmental laws with respect to Tenant's
Hazardous Materials Activities. Tenant, at its expense, shall submit to
Landlord a report from such environmental consultant which discusses the
environmental consultant's findings within two (2) months of each Anniversary
Date. Tenant, at its expense, shall promptly undertake and complete any and all
steps necessary, and in full compliance with applicable Environmental Laws,
to fully correct any and all problems or deficiencies identified by the
environmental consultant, and promptly provide Landlord with documentation of
all such corrections.
C. Prior to termination or expiration of the Lease, Tenant, at its
expense, shall (i) properly remove from the Property all Hazardous Materials
which come to be located at the Property in connection with Tenant's
Hazardous Materials Activities, and (ii) fully comply with and complete all
facility closure requirements of applicable Environmental Laws regarding
Tenant's Hazardous Materials Activities, including but not limited to (x)
properly restoring and repairing the Property to be extent damaged by such
closure activities, and (y) obtaining from the local Fire Department or other
appropriate governmental authority with jurisdiction a written concurrence
that closure has been completed in compliance with applicable Environmental
Laws. Tenant shall promptly provide Landlord with copies of any claims,
notices, work plans, data and reports prepared, received or submitted in
connection with any such closure activities.
D. If Landlord, in its sole discretion, believes that the Property has
become contaminated as a result of Tenant's Hazardous Materials Activities,
Landlord in addition to any other rights it may have under this Lease or
under Environmental Laws or other laws, may enter upon the Property and
conduct inspection, sampling and analysis, including but not limited to
obtaining and analyzing samples of soil and groundwater, for the purpose of
determining the nature and extent of such contamination. Tenant shall
promptly reimburse Landlord for the costs of such an investigation, including
but not limited to reasonable attorneys' fees Landlord incurs with respect to
such investigation, that discloses Hazardous Materials contamination for
which Tenant is liable under this Lease. Except as may be required of Tenant
by applicable Environmental Laws, Tenant shall not perform any sampling,
testing, or drilling to identify the presence of any Hazardous Materials at
the Property, without Landlord's prior written consent which may be withheld
in Landlord's discretion. Tenant shall promptly provide Landlord with copies
of any claims, notices, work plans, data and reports prepared, received or
submitted in connection with any sampling, testing or drilling performed
pursuant to the preceding sentence.
E. Tenant shall indemnify, defend (with legal counsel acceptable to
Landlord, whose consent shall not unreasonably be withheld) and hold harmless
Landlord, its employees, assigns, successors, successors-in-interest, agents
and representatives from and against any and all claims (including but not
limited to third party claims from a private party or a government
authority), liabilities, obligations, losses, causes of action, demands,
governmental proceedings or directives, fines, penalties, expenses, costs
(including but not limited to reasonable attorneys', consultants' and other
experts' fees and costs), and damages, which arise from or related to: (i)
Tenant's Hazardous Materials Activities; (ii) any Hazardous Materials
contamination caused by Tenant prior to the Commencement Date of the Lease;
or (iii) the breach of any obligation of Tenant under this Paragraph 49
(collectively, "Tenant's Environmental Indemnification"). Tenant's
Environmental Indemnification shall include but is not limited to the
obligation to promptly and fully reimburse Landlord for losses in or
reductions to rental income, and diminution in fair market value of the
Property. Tenant's Environmental Indemnification shall further include but is
not limited to the obligation to diligently and properly implement to
completion, at Tenant's expense, any and all environmental investigation,
removal, remediation, monitoring, reporting, closure activities, or other
environmental response action (collectively, "Response Actions"). Tenant
shall promptly provide Landlord with copies of any claims, notices, work
plans, data and reports prepared, received or submitted in connection with
any Response Actions.
It is agreed that the Tenant's responsibilities related to Hazardous
Materials will survive the expiration or termination of this Lease and that
Landlord may obtain specific performance of Tenant's responsibilities under
this Paragraph 49.
Initial: MH, JA, RP
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<PAGE>
50. CONSENT: Whenever the consent of one party to the other is required
hereunder, such consent shall not be unreasonably withheld.
51. AUTHORITY TO EXECUTE: The parties executing this Lease Agreement hereby
warrant and represent that they are properly authorized to execute this Lease
Agreement and bind the parties on behalf of whom they execute this Lease
Agreement and to all of the terms, covenants and conditions of this Lease
Agreement as they relate to the respective parties hereto.
52. LANDLORD'S CORPORATE AUTHORITY: If Landlord is a corporation (or
partnership or trust), each individual executing this Lease on behalf of said
corporation (or partnership or trust) represents and warrants that he is
duly authorized to execute this Lease on behalf of said corporation (or
partnership or trust) in accordance with the bylaws of said corporation (or
partnership in accordance with the partnership agreement, or trust in
accordance with the trust indenture) and that this Lease is binding upon said
corporation (or partnership or trust) in accordance with its terms. If
Landlord is a corporation, Landlord shall in thirty (30) days after execution
of this Lease deliver to Tenant a certified copy of the resolution of the
Board of Directors of said corporation authorizing or ratifying the execution
of this Lease.
53. PUNCH LIST: In addition to and notwithstanding anything to the contrary
in Paragraphs 5 and 40 of this Lease, Tenant shall have thirty (30) days
after the Commencement Date to provide Landlord with a written "punch list"
pertaining to defects in the Building and in the interior improvements
constructed by Landlord for Tenant. As soon as reasonably possible
thereafter, Landlord, or one of Landlord's representatives (if so approved by
Landlord), and Tenant shall conduct a joint walk-through of the Premises (if
Landlord so requires), and inspect such Tenant Improvements, using their best
efforts to agree on the incomplete or defective construction related to the
Tenant Improvements installed by Landlord. After such inspection has been
completed, Landlord shall prepare, and both parties shall sign, a list of all
"punch list" items which the parties reasonably agree are (i) to be corrected
by Landlord (but which shall exclude any damage or defects caused by Tenant,
its employees, agents or parties Tenant has contracted with to work on the
Premises) or (ii) if said defects and/or damaged item(s) are not material,
Landlord may elect, in its sole and absolute discretion, not to repair such
item(s), but to acknowledge in written form the defect and/or damaged
item(s); in which case, notwithstanding anything to the contrary in said
Lease Paragraph 5 ("Acceptance and Surrender"), Tenant shall not be
responsible upon Lease Termination to repair said item(s) so noted by
Landlord. Landlord shall have thirty (30) days thereafter (or longer if
necessary, provided Landlord is diligently pursuing the completion of the
same) to complete, at Landlord's expense, the "punch list" items without the
Commencement Date of the Lease and Tenant's obligation to pay Rental
thereunder being affected. Notwithstanding the foregoing, a crack in the
foundation, or exterior walls or any other defect in the structure or
Building that does not endanger the structural integrity of the building, or
which is not life-threatening, shall not be considered material, nor shall
Landlord be responsible for repair of same. This Paragraph shall be of no
force and effect if Tenant shall fail to give any such notice to Landlord
within thirty (30) days after the Commencement Date of this Lease.
(This Space Left Blank Intentionally)
Initial: MH, JA, RP
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FAROUDJA, INC.
AMENDED 1997 EMPLOYEE STOCK PURCHASE PLAN
The following constitute the provisions of the Amended 1997 Employee Stock
Purchase Plan of Faroudja, Inc. as adopted on January 2, 1997 and as amended on
August 12, 1997 and on September 30, 1997.
1. PURPOSE. The purpose of the Plan is to provide employees of the
Company and its Designated Subsidiaries with an opportunity to purchase Common
Stock of the Company through accumulated payroll deductions. It is the
intention of the Company that the Plan qualify as an "Employee Stock Purchase
Plan" under Section 423 of the Internal Revenue Code of 1986, as amended. The
provisions of the Plan, accordingly, shall be construed so as to extend and
limit participation in a manner consistent with the requirements of that section
of the Code.
2. DEFINITIONS.
(a) "BOARD" shall mean the Board of Directors of Faroudja, Inc., a
Delaware corporation.
(b) "CODE" shall mean the Internal Revenue Code of 1986, as amended.
(c) "COMMON STOCK" shall mean the Common Stock of the Company.
(d) "COMPANY" shall mean Faroudja, Inc. and any Designated Subsidiary
of the Company.
(e) "COMPENSATION" shall mean an employee's basic or regular rate of
compensation, exclusive of payments for overtime, incentive compensation,
incentive payments, bonuses and other compensation.
(f) "DESIGNATED SUBSIDIARIES" shall mean the Subsidiaries which have
been designated by the Board from time to time in its sole discretion as
eligible to participate in the Plan.
(g) "EMPLOYEE" shall mean any individual who is an Employee of the
Company for tax purposes, and whose customary employment with Company is at
least twenty (20) hours per week and more than five (5) months in any calendar
year. For purposes of the Plan, the employment relationship shall be treated as
continuing intact while the individual is on sick leave or other leave of
absence approved by the Company. Where the period of leave exceeds 90 days and
the individual's right to reemployment is not guaranteed either by statute or by
contract, the employment relationship will be deemed to have terminated on the
91st day of such leave.
<PAGE>
(h) "ENROLLMENT DATE" shall mean the first day of each Offering
Period.
(i) "EXERCISE DATE" shall mean the last day of each Purchase Period.
(j) "FAIR MARKET VALUE" shall mean, as of any date, the value of
Common Stock determined as follows:
(1) If the Common Stock is listed on any established stock
exchange or a national market system, including without limitation the Nasdaq
National Market of the National Association of Securities Dealers, Inc.
Automated Quotation ("NASDAQ") System, its Fair Market Value shall be the
closing sale price for the Common Stock (or the mean of the closing bid and
asked prices, if no sales were reported), as quoted on such exchange (or the
exchange with the greatest volume of trading in Common Stock) or system on the
date of such determination, as reported in The Wall Street Journal or such other
source as the Board deems reliable, or;
(2) If the Common Stock is quoted on the NASDAQ System (but not
on the Nasdaq National Market thereof) or is regularly quoted by a recognized
securities dealer but selling prices are not reported, its Fair Market Value
shall be the mean of the closing bid and asked prices for the Common Stock on
the date of such determination, as reported in The Wall Street Journal or such
other source as the Board deems reliable, or;
(3) In the absence of an established market for the Common
Stock, the Fair Market Value thereof shall be determined in good faith by the
Board.
(4) For purposes of the Enrollment Date under the first Offering
Period under the Plan, the Fair Market Value shall be the initial price to the
public as set forth in the final Prospectus included within the Registration
Statement in Form S-1 filed with the Securities and Exchange Commission for the
initial public offering of the Company's Common Stock.
(k) "OFFERING PERIOD" shall mean a period of approximately twenty-
four (24) months during which an option granted pursuant to the Plan may be
exercised, commencing on the first Trading Day on or after August 1 and
February 1 of each year and terminating on the last Trading Day in the periods
ending twenty-four months later, except that the first Offering Period shall
begin on the effective date of the Company's initial public offering of its
Common Stock that is registered with the Securities and Exchange Commission and
shall end on the last Trading Day in the period ending August 1, 1999. The
second Offering Period under the Plan shall commence with the first Trading Day
on or after February 1, 1998. The duration of Offering Periods may be changed
pursuant to Section 4 of this Plan.
(l) "PLAN" shall mean this 1997 Employee Stock Purchase Plan.
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<PAGE>
(m) "PURCHASE PERIOD" shall mean the approximately six month period
commencing on the first day after each prior Exercise Date, except that the
first Purchase Period of any Offering Period shall commence on the Enrollment
Date and end with the next Exercise Date; provided, however, that the first
Purchase Period of the first Offering Period under the Plan shall commence with
the date on which the Company's registration statement on Form S-1 (or any
successor form thereof) is declared effective by the Securities and Exchange
Commission and end on the last Trading Day occurring in the period ending
January 31, 1998.
(n) "PURCHASE PRICE" shall mean an amount equal to 85% of the Fair
Market Value of a share of Common Stock on the Enrollment Date or on the
Exercise Date, whichever is lower.
(o) "RESERVES" shall mean the number of shares of Common Stock
covered by each option under the Plan which have not yet been exercised and the
number of shares of Common Stock which have been authorized for issuance under
the Plan but not yet placed under option.
(p) "SUBSIDIARY" shall mean a corporation, domestic or foreign, of
which not less than 50% of the voting shares are held by the Company or a
Subsidiary, whether or not such corporation now exists or is hereafter organized
or acquired by the Company or a Subsidiary.
(q) "TRADING DAY" shall mean a day on which national stock exchanges
and the NASDAQ System are open for trading.
3. ELIGIBILITY.
(a) Any Employee employed by the Company on a given Enrollment Date
shall be eligible to participate in the Plan.
(b) Any provisions of the Plan to the contrary notwithstanding, no
Employee shall be granted an option under the Plan (i) if, immediately after the
grant, such Employee (and any other person or entity whose stock would be
attributed to such Employee pursuant to Section 424(d) of the Code) would own
capital stock of the Company and/or hold outstanding options to purchase such
stock possessing five percent (5%) or more of the total combined voting power or
value of all classes of the capital stock of the Company or of any Subsidiary,
or (ii) which permits his or her rights to purchase stock under all employee
stock purchase plans of the Company and its subsidiaries accrue at a rate which
exceeds twenty-five thousand dollars ($25,000) worth of stock (determined at the
Fair Market Value of the shares at the time such option is granted) for each
calendar year in which such option is outstanding at any time.
4. OFFERING PERIODS. The Plan shall be implemented by consecutive,
overlapping Offering Periods with a new Offering Period commencing on the first
Trading Day on or
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<PAGE>
after August 1 and February 1 each year, or on such other date as the Board
shall determine, and continuing thereafter until terminated in accordance with
Section 19 hereof; provided, however, that the first Offering Period under the
Plan shall commence with the First Trading Date on or after the date the
Company's registration statement on Form S-1 is declared effective by the
Securities and Exchange Commission and ending on the last Trading Day in the
period ending August 1, 1999. The second Offering Period under the Plan shall
commence with the first Trading Day on or after February 1, 1998. The Board
shall have the power to change the duration of Offering Periods (including the
commencement dates thereof) with respect to future offerings without shareholder
approval if such change is announced at least fifteen (15) days prior to the
scheduled beginning of the first Offering Period to be affected thereafter.
5. PARTICIPATION.
(a) An eligible Employee may become a participant in the Plan by
completing a subscription agreement in the form of Exhibit A to this Plan
authorizing payroll deductions and filing it with the Company's payroll officer
not later than one week prior to the applicable Enrollment Date.
(b) Payroll deductions for a participant shall commence on the first
payroll following the Enrollment Date and shall end on the last payroll in the
Offering Period to which such authorization is applicable, unless sooner
terminated by the participant as provided in Section 10 hereof.
6. PAYROLL DEDUCTIONS.
(a) At the time a participant files his or her subscription
agreement, he or she shall elect to have payroll deductions made on each pay day
during the Offering Period in an amount not exceeding ten percent (10%) of the
Compensation which he or she receives on each pay day during the Offering
Period.
(b) All payroll deductions made for a participant shall be credited
to his or her account under the Plan and will be withheld on whole percentages
only. A participant may not make any additional payments into such account.
(c) A participant may discontinue his or her participation in the
Plan as provided in Section 10 hereof, or may increase or decrease the rate of
his or her payroll deductions during the Offering Period by completing and
filing with the Company a new subscription agreement authorizing a change in
payroll deduction rate. The Board may, in its discretion, limit the number of
participation rate changes during any Offering Period. The change in rate shall
be effective with the first full payroll period following five (5) business days
after the Company's receipt of the new subscription agreement unless the Company
elects to process a given change in participation more quickly. A participant's
subscription agreement shall remain in effect for successive Offering Periods
unless terminated as provided in Section 10 hereof.
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<PAGE>
(d) Notwithstanding the foregoing, to the extent necessary to comply
with Section 423(b)(8) of the Code and Section 3(b) hereof, a participant's
payroll deductions may be decreased to 0% at such time during any Purchase
Period which is scheduled to end during the current calendar year (the "Current
Offering Period") that the aggregate of all payroll deductions which were
previously used to purchase stock under the Plan in a prior Purchase Period
which ended during that calendar year plus all payroll deductions accumulated
with respect to the Current Offering Period equal $21,250. Payroll deductions
shall recommence at the rate provided in such participant's subscription
agreement at the beginning of the first Purchase Period which is scheduled to
end in the following calendar year, unless terminated by the participant as
provided in Section 10 hereof.
(e) At the time the option is exercised, in whole or in part, or at
the time some or all of the Company's Common Stock issued under the Plan is
disposed of, the participant must make adequate provision for the Company's
federal, state, or other tax withholding obligations, if any, which arise upon
the exercise of the option or the disposition of the Common Stock. At any time,
the Company may, but will not be obligated to, withhold from the participant's
compensation the amount necessary for the Company to meet applicable withholding
obligations, including any withholding required to make available to the Company
any tax deductions or benefits attributable to sale or early disposition of
Common Stock by the Employee.
7. GRANT OF OPTION. On the Enrollment Date of each Offering Period, each
eligible Employee participating in such Offering Period shall be granted an
option to purchase on each Exercise Date during such Offering Period (at the
applicable Purchase Price) up to a number of shares of the Company's Common
Stock determined by dividing such Employee's payroll deductions accumulated
prior to such Exercise Date and retained in the Participant's account as of the
Exercise Date by the applicable Purchase Price; provided that such purchase
shall be subject to the limitations set forth in Sections 3(b) and 12 hereof.
Exercise of the option shall occur as provided in Section 8 hereof, unless the
participant has withdrawn pursuant to Section 10 hereof. The Option shall
expire on the last day of the Offering Period. Notwithstanding any other
provision in the Plan to the contrary, in no event shall an eligible Employee be
permitted to purchase during each Purchase Period more than that number of
shares of Common Stock determined by dividing $12,500 by the Fair Market Value
of a share of Common Stock on the Enrollment Date.
8. EXERCISE OF OPTION. Unless a participant withdraws from the Plan as
provided in Section 10 hereof, his or her option for the purchase of shares
shall be exercised automatically on the Exercise Date, and the maximum number of
full shares subject to option shall be purchased for such participant at the
applicable Purchase Price with the accumulated payroll deductions in his or her
account. No fractional shares shall be purchased; any payroll deductions
accumulated in a participant's account which are not sufficient to purchase a
full share shall be retained in the participant's account for the subsequent
Purchase Period or Offering Period, subject to earlier withdrawal by the
participant as provided in Section 10 hereof. Any other monies left over in a
participant's account after the Exercise Date shall be returned to the
Participant. During a participant's
5
<PAGE>
lifetime, a participant's option to purchase shares hereunder is exercisable
only by him or her.
9. DELIVERY. As promptly as practicable after each Exercise Date on
which a purchase of shares occurs, the Company shall arrange the delivery to
each participant, as appropriate, of a certificate representing the shares
purchased upon exercise of his or her option.
10. WITHDRAW; TERMINATION OF EMPLOYMENT.
(a) A participant may withdraw all but not less than all the payroll
deductions credited to his or her account and not yet used to exercise his or
her option under the Plan at any time by giving written notice to the Company in
the form of Exhibit B to this Plan. All of the participant's payroll deductions
credited to his or her account will be paid to such participant promptly after
receipt of notice of withdrawal and such participant's option for the Offering
Period will be automatically terminated, and no further payroll deductions for
the purchase of shares will be made during the Offering Period. If a
participant withdraws from an Offering Period, payroll deductions will not
resume at the beginning of the succeeding Offering Period unless the participant
delivers to the Company a new subscription agreement.
(b) Upon a participant's ceasing to be an Employee (as defined in
Section 2(g) hereof) for any reason, he or she will be deemed to have elected to
withdraw from the Plan and the payroll deductions credited to such participant's
account during the Offering Period but not yet used to exercise the option will
be returned to such participant or, in the case of his or her death, to the
person or persons entitled thereto under Section 14 hereof, and such
participant's option will be automatically terminated. The preceding sentence
notwithstanding, a participant who receives payment in lieu of notice of
termination of employment shall be treated as continuing to be an Employee for
the participant's customary number of hours per week of employment during the
period in which the participant is subject to such payment in lieu of notice.
(c) A participant's withdrawal from an Offering Period will not have
any effect upon his or her eligibility to participate in any similar plan which
may hereafter be adopted by the Company or in succeeding Offering Periods which
commence after the termination of the Offering Period from which the participant
withdraws.
11. INTEREST. No interest shall accrue on the payroll deductions of any
participant in the Plan.
12. STOCK.
(a) The maximum number of shares of the Company's Common Stock which
shall be made available for sale under the Plan shall be 400,000 shares, subject
to adjustment upon changes in capitalization of the Company as provided in
Section 18 hereof.
6
<PAGE>
If on a given Exercise Date the number of shares with respect to which options
are to be exercised exceeds the number of shares then available under the Plan,
the Company shall make a pro rata allocation of the shares remaining available
for purchase in as uniform a manner as shall be practicable and as it shall
determine to be equitable.
(b) The participant will have no interest or voting right in shares
covered by his option until such option has been exercised.
(c) Shares to be delivered to a participant under the Plan will be
registered in the name of the participant or in the name of the participant and
his or her spouse.
13. ADMINISTRATION.
(a) ADMINISTRATIVE BODY. The Plan shall be administered by the Board
or a committee of members of the Board appointed by the Board. The Board or its
committee shall have full and exclusive discretionary authority to construe,
interpret and apply the terms of the Plan, to determine eligibility and to
adjudicate all disputed claims filed under the Plan. Every finding, decision
and determination made by the Board or its committee shall, to the full extent
permitted by law, be final and binding upon all parties.
(b) RULE 16b-3 LIMITATIONS. Notwithstanding the provisions of
Subsection (a) of this Section 13, in the event that Rule 16b-3 promulgated
under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), or
any successor provision ("Rule 16b-3") provides specific requirements for the
administrators of plans of this type, the Plan shall be administered only by
such a body and in such a manner as shall comply with the applicable
requirements of Rule 16b-3. Unless permitted by Rule 16b-3, no discretion
concerning decisions regarding the Plan shall be afforded to any committee or
person that is not "disinterested" as that term is used in Rule 16b-3.
14. DESIGNATED BENEFICIARY.
(a) A participant may file a written designation of a beneficiary who
is to receive any shares and cash, if any, from the participant's account under
the Plan in the event of such participant's death subsequent to an Exercise Date
on which the option is exercised but prior to delivery to such participant of
such shares and cash. In addition, a participant may file a written designation
of a beneficiary who is to receive any cash from the participant's account under
the Plan in the event of such participant's death prior to exercise of the
option. If a participant is married and the designated beneficiary is not the
spouse, spousal consent shall be required for such designation to be effective.
(b) Such designation of beneficiary may be changed by the participant
at any time by written notice. In the event of the death of a participant and
in the absence of a beneficiary validly designated under the Plan who is living
at the time of such participant's death, the Company shall deliver such shares
and/or cash to the executor or administrator of the estate of the participant,
or if no such executor or administrator has been appointed
7
<PAGE>
(to the knowledge of the Company), the Company, in its discretion, may deliver
such shares and/or cash to the spouse or to any one or more dependents or
relatives of the participant, or if no spouse, dependent or relative is known to
the Company, then to such other person as the Company may designate.
15. TRANSFERABILITY. Neither payroll deductions credited to a
participant's account nor any rights with regard to the exercise of an option or
to receive shares under the Plan may be assigned, transferred, pledged or
otherwise disposed of in any way (other than by will, the laws of descent and
distribution or as provided in Section 14 hereof) by the participant. Any such
attempt at assignment, transfer, pledge or other disposition shall be without
effect, except that the Company may treat such act as an election to withdraw
funds from an Offering Period in accordance with Section 10 hereof.
16. USE OF FUNDS. All payroll deductions received or held by the Company
under the Plan may be used by the Company for any corporate purpose, and the
Company shall not be obligated to segregate such payroll deductions.
17. REPORTS. Individual accounts will be maintained for each participant
in the Plan. Statements of account will be given to each participating Employee
at least annually, which statements will set forth the amounts of each payroll
deduction, the Purchase Price, the number of shares purchased and the remaining
cash balance, if any.
18. ADJUSTMENTS UPON CHANGES IN CAPITALIZATION.
(a) CHANGES IN CAPITALIZATION. Subject to any required action by the
shareholders of the Company, the Reserves as well as the price per share of
Common Stock covered by each option under the Plan which has not yet been
exercised shall be proportionately adjusted for any increase or decrease in the
number of issued shares of Common Stock resulting from a stock split, reverse
stock split, stock dividend, combination or reclassification of the Common
Stock, or any other increase or decrease in the number of shares of Common Stock
effected without receipt of consideration by the Company; provided, however,
that conversion of any convertible securities of the Company shall not be deemed
to have been "effected without receipt of consideration". Such adjustment shall
be made by the Board, whose determination in that respect shall be final,
binding and conclusive. Except as expressly provided herein, no issuance by the
Company of shares of stock of any class, or securities convertible into shares
of stock of any class, shall affect, and no adjustment by reason thereof shall
be made with respect to, the number or price of shares of Common Stock subject
to an option.
(b) DISSOLUTION OR LIQUIDATION. In the event of the proposed
dissolution or liquidation of the Company, the Offering Period will terminate
immediately prior to the consummation of such proposed action, unless otherwise
provided by the Board.
(c) MERGER OR ASSET SALE. In the event of a proposed sale of all or
substantially all of the assets of the Company, or the merger of the Company
with or into
8
<PAGE>
another corporation, each option under the Plan shall be assumed or an
equivalent option shall be substituted by such successor corporation or a parent
or subsidiary of such successor corporation, unless the Board determines, in the
exercise of its sole discretion and in lieu of such assumption or substitution,
to shorten the Offering Period then in progress by setting a new Exercise Date
(the "New Exercise Date") or to cancel each outstanding right to purchase and
refund all sums collected from participants during the Offering Period then in
progress. If the Board shortens the Offering Period then in progress in lieu of
assumption or substitution in the event of a merger or sale of assets, the Board
shall notify each participant in writing, at least ten (10) business days prior
to the New Exercise Date, that the Exercise Date for his option has been changed
to the New Exercise Date and that his option will be exercised automatically on
the New Exercise Date, unless prior to such date he has withdrawn from the
Offering Period as provided in Section 10 hereof. For purposes of this
paragraph, an option granted under the Plan shall be deemed to be assumed if,
following the sale of assets or merger, the option confers the right to
purchase, for each share of option stock subject to the option immediately prior
to the sale of assets or merger, the consideration (whether stock, cash or other
securities or property) received in the sale of assets or merger by holders of
Common Stock for each share of Common Stock held on the effective date of the
transaction (and if such holders were offered a choice of consideration, the
type of consideration chosen by the holders of a majority of the outstanding
shares of Common Stock); provided, however, that if such consideration received
in the sale of assets or merger was not solely common stock of the successor
corporation or its parent (as defined in Section 424(e) of the Code), the Board
may, with the consent of the successor corporation, provide for the
consideration to be received upon exercise of the option to be solely common
stock of the successor corporation or its parent equal in fair market value to
the per share consideration received by holders of Common Stock in the sale of
assets or merger.
The Board may, if it so determines in the exercise of its sole discretion,
also make provision for adjusting the Reserves, as well as the price per share
of Common Stock covered by each outstanding option, in the event the Company
effects one or more reorganizations, recapitalizations, rights offerings or
other increases or reductions of shares of its outstanding Common Stock, and in
the event of the Company being consolidated with or merged into any other
corporation.
19. AMENDMENT OR TERMINATION.
(a) The Board of Directors of the Company may at any time and for any
reason terminate or amend the Plan. Except as provided in Section 18 hereof, no
such termination can affect options previously granted, provided that an
Offering Period may be terminated by the Board of Directors on any Exercise Date
if the Board determines that the termination of the Plan is in the best
interests of the Company and its shareholders. Except as provided in Section 18
hereof, no amendment may make any change in any option theretofore granted which
adversely affects the rights of any participant. To the extent necessary to
comply with Rule 16b-3 or under Section 423 of the Code (or any successor
9
<PAGE>
rule or provision or any other applicable law or regulation), the Company shall
obtain shareholder approval in such a manner and to such a degree as required.
(b) Without shareholder consent and without regard to whether any
participant rights may be considered to have been "adversely affected," the
Board (or its committee) shall be entitled to change the Purchase Periods or
Offering Periods, limit the frequency and/or number of changes in the amount
withheld during an Offering Period or Purchase Period, establish the exchange
ratio applicable to amounts withheld in a currency other than U.S. dollars,
permit payroll withholding in excess of the amount designated by a participant
in order to adjust for delays or mistakes in the Company's processing of
properly completed withholding elections, establish reasonable waiting and
adjustment periods and/or accounting and crediting procedures to ensure that
amounts applied toward the purchase of Common Stock for each participant
properly correspond with amounts withheld from the participant's Compensation,
and establish such other limitations or procedures as the Board (or its
committee) determines in its sole discretion advisable which are consistent with
the Plan.
20. NOTICES. All notices or other communications by a participant to the
Company under or in connection with the Plan shall be deemed to have been duly
given when received in the form specified by the Company at the location, or by
the person, designated by the Company for the receipt thereof. Notice to
participants will be deemed given if mailed postage prepaid five (5) days after
mailing addressed to the participant's address reflected on the Company's
payroll records.
21. CONDITIONS UPON ISSUANCE OF SHARES. Shares shall not be issued with
respect to an option unless the exercise of such option and the issuance and
delivery of such shares pursuant thereto shall comply with all applicable
provisions of law, domestic or foreign, including, without limitation, the
Securities Act of 1933, as amended, the Securities Exchange Act of 1934, as
amended, the rules and regulations promulgated thereunder, and the requirements
of any stock exchange upon which the shares may then be listed, and shall be
further subject to the approval of counsel for the Company with respect to such
compliance.
As a condition to the exercise of an option, the Company may require
the person exercising such option to represent and warrant at the time of any
such exercise that the shares are being purchased only for investment and
without any present intention to sell or distribute such shares if, in the
opinion of counsel for the Company, such a representation is required by any of
the aforementioned applicable provisions of law.
22. TERM OF PLAN. The Plan shall become effective upon the earlier to
occur of its adoption by the Board of Directors or its approval by the
shareholders of the Company. It shall continue in effect for a term of ten (10)
years unless sooner terminated under Section 19 hereof.
10
<PAGE>
23. ADDITIONAL RESTRICTIONS OF RULE 16b-3. The terms and conditions of
options granted hereunder to, and the purchase of shares by, persons subject to
Section 16 of the Exchange Act shall comply with the applicable provisions of
Rule 16b-3. This Plan shall be deemed to contain, and such options shall
contain, and the shares issued upon exercise thereof shall be subject to, such
additional conditions and restrictions as may be required by Rule 16b-3 to
qualify for the maximum exemption from Section 16 of the Exchange Act with
respect to Plan transactions.
24. AUTOMATIC TRANSFER TO LOW PRICE OFFERING PERIOD. To the extent
permitted by Rule 16b-3 of the Exchange Act, if the Fair Market Value of the
Common Stock on any Exercise Date in an Offering Period is lower than the Fair
Market Value of the Common Stock on the Enrollment Date of such Offering Period,
then all participants in such Offering Period shall be automatically withdrawn
from such Offering Period immediately after the exercise of their option on such
Exercise Date and automatically re-enrolled in the immediately following
Offering Period as of the first day thereof.
11
<PAGE>
EXHIBIT A
FAROUDJA, INC.
AMENDED 1997 EMPLOYEE STOCK PURCHASE PLAN
SUBSCRIPTION AGREEMENT
_____ Original Application Enrollment Date: _____
_____ Change in Payroll Deduction Rate
_____ Change of Beneficiary(ies)
1. ____________________________ hereby elects to participate in the Faroudja,
Inc. Amended 1997 Employee Stock Purchase Plan (the "Employee Stock
Purchase Plan") and subscribes to purchase shares of the Company's Common
Stock in accordance with this Subscription Agreement and the Employee
Stock Purchase Plan.
2. I hereby authorize payroll deductions from each paycheck in the amount of
____% of my Compensation on each payday (not to exceed 10%) during the
Offering Period in accordance with the Employee Stock Purchase Plan.
(Please note that no fractional percentages are permitted.)
3. I understand that said payroll deductions shall be accumulated for the
purchase of shares of Common Stock at the applicable Purchase Price
determined in accordance with the Employee Stock Purchase Plan. I
understand that if I do not withdraw from an Offering Period, any
accumulated payroll deductions will be used to automatically exercise my
option on each Exercise Date during the Offering Period.
4. I have received a copy of the complete "Amended 1997 Employee Stock
Purchase Plan." I understand that my participation in the Employee Stock
Purchase Plan is in all respects subject to the terms of the Plan. I
understand that the grant of the option by the Company under this
Subscription Agreement is subject to obtaining shareholder approval of
the Employee Stock Purchase Plan.
5. Shares purchased for me under the Employee Stock Purchase Plan should be
issued in the name(s) of (Employee or Employee and Spouse Only):
______________________.
6. I understand that if I dispose of any shares received by me pursuant to the
Plan within 2 years after the Enrollment Date (the first day of the
Offering Period during which I purchased such shares), I will be treated
for federal income tax purposes as having received ordinary income at the
time of such disposition in an amount equal
A-1
<PAGE>
to the excess of the Fair Market Value of the shares at the time such
shares were purchased by me over the price which I paid for the shares. I
HEREBY AGREE TO NOTIFY THE COMPANY IN WRITING WITHIN 30 DAYS AFTER THE DATE
OF ANY DISPOSITION OF SHARES AND I WILL MAKE ADEQUATE PROVISION FOR FEDERAL
STATE OR OTHER TAX WITHHOLDING OBLIGATIONS, IF ANY, WHICH ARISE UPON THE
DISPOSITION OF THE COMMON STOCK. The Company may, but will not be
obligated to, withhold from my compensation the amount necessary to meet
any applicable withholding obligation including any withholding necessary
to make available to the Company any tax deductions or benefits
attributable to sale or early disposition of Common Stock by me. If I
dispose of such shares at any time after the expiration of the 2-year
holding period, I understand that I will be treated for federal income tax
purposes as having received income only at the time of such disposition,
and that such income will be taxed as ordinary income only to the extent of
an amount equal to the lesser of (1) the excess of the Fair Market Value of
the shares at the time of such disposition over the purchase price which I
paid for the shares, or (2) 15% of the Fair Market Value of the shares on
the first day of the Offering Period. The remainder of the gain, if any,
recognized on such disposition will be taxed as capital gain.
7. I hereby agree to be bound by the terms of the Employee Stock Purchase
Plan. The effectiveness of this Subscription Agreement is dependent upon
my eligibility to participate in the Employee Stock Purchase Plan.
A-2
<PAGE>
8. In the event of my death, I hereby designate the following as my
beneficiary(ies) to receive all payments and shares due me under the
Employee Stock Purchase Plan.
NAME: (Please print)
-------------------------------------------------------
(First) (Middle) (Last)
- ---------------------- -------------------------------------------------------
Relationship
-------------------------------------------------------
(Address)
NAME: (Please print)
-------------------------------------------------------
(First) (Middle) (Last)
- ---------------------- -------------------------------------------------------
Relationship
-------------------------------------------------------
(Address)
Employee's Social
Security Number:
------------------------------
Employee's Address:
------------------------------
------------------------------
------------------------------
I UNDERSTAND THAT THIS SUBSCRIPTION AGREEMENT SHALL REMAIN IN EFFECT THROUGHOUT
SUCCESSIVE OFFERING PERIODS UNLESS TERMINATED BY ME.
Dated:
------------- ----------------------------------
Signature of Employee
----------------------------------
Spouse's Signature (If beneficiary
other than spouse)
A-3
<PAGE>
EXHIBIT B
FAROUDJA, INC.
AMENDED 1997 EMPLOYEE STOCK PURCHASE PLAN
NOTICE OF WITHDRAWAL
The undersigned participant in the Offering Period of the Faroudja, Inc.
Amended 1997 Employee Stock Purchase Plan which began on ____________, 19___
(the "Enrollment Date") hereby notifies the Company that he or she hereby
withdraws from the Offering Period. He or she hereby directs the Company to
pay to the undersigned as promptly as practicable all the payroll deductions
credited to his or her account with respect to such Offering Period. The
undersigned understands and agrees that his or her option for such Purchase
Period and/or Offering Period will be automatically terminated. The
undersigned understands further that no further payroll deductions will be
made for the purchase of shares in the current Offering Period and the
undersigned shall be eligible to participate in succeeding Offering Periods
only by delivering to the Company a new Subscription Agreement.
Name and Address of Participant:
--------------------------------
--------------------------------
--------------------------------
Signature:
--------------------------------
Date:
--------------------------
<PAGE>
EXHIBIT 11.1
FAROUDJA, INC.
STATEMENT OF COMPUTATION OF NET INCOME PER SHARE
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1994 1995 1996
------------- ------------- ------------- NINE MONTHS ENDED
SEPTEMBER 30,
--------------------------
1996 1997
------------ ------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Net income............................... N/A N/A N/A N/A $ 924,785
------------
------------
Pro forma net income..................... $ 1,228,031 $ 3,070,026 $ 1,318,721 $ 1,000,553 N/A
------------- ------------- ------------- ------------
------------- ------------- ------------- ------------
Weighted-average shares of Common Stock
outstanding............................ 7,156,895 7,156,895 7,976,892 7,902,522 8,206,554
Dilutive effect of options and
warrants............................... -- 19,220 213,038 208,645 665,035
Shares related to staff accounting
bulletin topic 4D:
Stock options and warrants............. 266,475 266,475 266,475 266,475 266,475
Common stock........................... 555,556 555,556 555,556 555,556 555,556
------------- ------------- ------------- ------------ ------------
Shares used in per share computations.... 7,978,926 7,998,146 9,011,961 8,941,682 9,693,620
------------- ------------- ------------- ------------ ------------
------------- ------------- ------------- ------------ ------------
Net income per share..................... $ 0.10
------------
------------
Pro forma net income per share........... $ 0.15 $ 0.38 $ 0.15 $ 0.11
------------- ------------- ------------- ------------
------------- ------------- ------------- ------------
</TABLE>
<PAGE>
EXHIBIT 23.1
CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
We consent to the reference to our firm under the captions "Selected
Financial Data" and "Experts" and to the use of our report dated July 18, 1997,
except for Note 12 as to which the date is July 22, 1997 in Amendment No. 3 to
the Registration Statement (Form S-1) and related Prospectus of Faroudja, Inc.
for the registration of 3,000,000 shares of its Common Stock.
Our audits also included the financial statement schedule of Faroudja, Inc.
listed in Item 16(b). This schedule is the responsibility of the Company's
management. Our responsibility is to express an opinion based on our audits. In
our opinion, the financial statement schedule referred to above, when considered
in relation to the basic financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
ERNST & YOUNG LLP
San Jose, California
October 20, 1997
