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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 27, 1997
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission File Number 0-23263
EXCEL SWITCHING CORPORATION
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(Exact name of registrant as specified in its charter)
Massachusetts 04-2992806
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
255 Independence Drive
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HYANNIS, MASSACHUSETTS 02601
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(Address of principal executive offices) (Zip code)
(508) 862-3000
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock,
$.01 par value
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES: [X] NO: [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
The aggregate market value of the Registrant's Common Stock, $.01 par value,
held by non-affiliates of the Registrant as of March 6, 1998 was $629,092,888
based on the price of $19.25 on that date as reported on the Nasdaq National
Market. As of March 6, 1998, 32,720,200 shares of the Registrant's Common
Stock, $.01 par value, were issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
(1) Specified portions of the Company's Proxy Statement, which is expected to
be filed within 120 days after the end of the Company's fiscal year, are
incorporated by reference into Part III (Items 10, 11, 12 and 13) of this
Report.
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PART I
ITEM 1. BUSINESS
Information contained in this Report contains forward-looking
statements such as statements of the Company's plans, objectives, expectations
and intentions, that can be identified by the use of forward-looking
terminology, such as "may", "will", "expect", "anticipate", "believe", "plan",
"intend", "could", "estimates", "is being" or "goal" or other variations of
these terms or comparable terminology. Such statements are subject to risks and
uncertainties that could cause actual results to differ materially from those
anticipated. The cautionary statements made in this Report should be read as
being applicable to all forward-looking statements whenever they appear in this
Report. Factors that could cause or contribute to such differences include
those discussed in the risk factors set forth in Item 7 below (the "Risk
Factors") as well as those discussed elsewhere herein.
Excel Switching Corporation ("Excel" or the "Company") is a leading provider
of open switching platforms for telecommunications networks worldwide. The
Company develops, manufactures, markets and supports a family of open,
programmable, carrier-class switches that address the complex enhanced services
and wireless and wireline infrastructure needs of network providers. Excel's
products offer network providers the flexibility to address multiple market
applications and the scalability to deploy a variety of system capacities. The
Company's programmable switching platforms enable network providers to deliver
improved networking functionality at a lower cost than purchasing, upgrading or
reprogramming traditional, closed, central office switches. The Company's
products are currently deployed in telecommunications networks in almost 60
countries throughout the world.
Excel offers a family of programmable switching platforms that are designed
with distributed architecture and open software to maximize performance and
provide multiple levels of programmability and redundancy. Excel's open
switching platforms integrate with a wide variety of host computer systems,
operating systems and application development environments. The Company's
product family scales from approximately 100 to 30,720 ports. Using Excel's
patented Programmable Protocol Language ("PPL"), application developers can
customize the switching software to their unique requirements, allowing them to
introduce new services and applications rapidly. As customer requirements
evolve, the Excel platform can be upgraded without requiring extensive and
complex programming changes to the underlying software.
The Company sells to a variety of customers in the worldwide
telecommunications market. Excel's customers integrate the Company's open,
programmable switching platforms with their product offerings to address a
variety of market applications for network providers, ranging from enhanced
services such as voice messaging, one number services and prepaid debit cards,
to wireless and wireline infrastructure services such as tandem switching,
mobile switching centers and intelligent base station controllers.
INDUSTRY BACKGROUND
Global deregulation and technological advances have led to significant change
in the worldwide telecommunications market. Increased telecommunications service
demand coupled with the advent of new carriers are creating an intensely
competitive environment for network providers. In the United States, competition
exists among the Regional Bell Operating Companies ("RBOCs"), Interexchange
Carriers ("IXCs"), Local Exchange Carriers ("LECs"), Competitive Local Exchange
Carriers ("CLECs"), wireless carriers and cable television broadcasters.
Internationally, established network providers ("PTTs") are facing competition
from emerging alternative wireless and wireline carriers. Increasing competitive
pressures in the United States and internationally are forcing network providers
to lower infrastructure costs, increase network flexibility and offer new and
enhanced services. These challenges require network providers to deploy new
services rapidly and cost-effectively, while protecting their existing
infrastructure investment.
Functionality of the core telecommunications switching infrastructure has not
developed as quickly as network providers demand. Traditional telecommunications
switches are designed for specific uses, and as a result, are time-consuming and
expensive to modify for new applications. These traditional, closed switches do
not provide the scalability, flexibility or cost-effectiveness to address the
requirements of enhanced services or wireless and wireline
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infrastructure. In addition, traditional switches are not compatible among
vendors nor are they easily adaptable to different international network
signaling requirements.
Enhanced Services
The evolving telecommunications environment is increasingly forcing network
providers to differentiate their offerings. As network providers strive to
capture or maintain market share and stimulate usage, they must offer as
standard features many enhanced services that were once offered as premium
applications. Enhanced services include such diverse telephony applications as
voice messaging, one number services, paging, e-mail, fax messaging, unified
messaging, voice recognition dialing, prepaid debit cards and conference
bridging. Once deployed, enhanced services enable network providers to increase
revenues through subscription fees and greater network utilization.
Open, programmable switches address an emerging market for enhanced services
as application developers, OEMs and systems integrators increasingly are able to
develop applications that were once controlled by closed switch vendors. Systems
designed by traditional switch vendors are not easily modified for enhanced
services. Using open, programmable switching platforms, network providers are
able to implement applications cost-effectively today that can scale as customer
demand increases over time, while protecting their existing investment in legacy
switches.
Wireless Infrastructure
Deregulation, increased consumer demand, increased competition for subscribers
and price/performance improvements in service have led to rapid growth in the
wireless infrastructure market. The wireless infrastructure market includes
traditional cellular systems, emerging personal communication services ("PCS"),
wireless local loop and mobile satellite systems. Wireless infrastructure
equipment for these markets needs to address both high and low mobility wireless
networks and accommodate analog and emerging digital standards such as CDMA, GSM
and PCS-1900. Network providers are seeking solutions that will allow them to
meet today's market demands cost-effectively while scaling to meet future
requirements. Network providers also are seeking an alternative to the expensive
and traditional infrastructure of the telephone network to address the local
loop. As widespread replacement or installation of copper wireline remains
prohibitively expensive, the market for wireless systems to provide basic
telephone service has emerged.
Open, programmable switches provide the speed, scalability and cost-
effectiveness that wireless network providers are seeking. Programmable switches
enable wireless network providers to prototype, test and deploy new wireless
services in a rapid timeframe. Open, programmable switches can scale
incrementally as the wireless subscriber base expands or demands more services,
allowing wireless network providers to make cost-effective initial
infrastructure investments. In addition, open, programmable switches enable
wireless network providers to add enhanced services to their networks using the
same infrastructure platform.
Wireline Infrastructure
Traditional switching technology has not kept pace with the new applications
and service requirements generated by the rapid growth and competitive changes
within the global telecommunications markets. New entrants, such as CLECs, long
distance resellers and emerging international network providers, do not wish to
invest in or incur the high operating costs of traditional, inflexible, single-
purpose switching equipment. Many of these new network providers must initially
compete with incumbent RBOCs, LECs, IXCs and PTTs for subscribers based upon
lower prices and improved services. In addition, many existing network providers
are expanding into new markets, such as the RBOCs entering the long distance
market and the IXCs entering the local exchange market. To compete in these new
markets, incumbent providers must add cost-effective switches to their current
networking infrastructure.
Using open, programmable switching platforms, network providers can build
flexible, cost-effective wireline infrastructures which can be adapted to their
specific service requirements. With open, programmable switching platforms,
network providers can scale their networks as they add subscribers and implement
new and enhanced services
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using the same infrastructure. Open, programmable switches have recently been
implemented in tandem switching, one-plus dialing, international call-back
services and international gateway.
Initial Programmable Switching Products
Several companies market switching products aimed at addressing the
limitations of traditional, closed switches. However, the initial switching
products designed to address this opportunity have not satisfied the
requirements of network providers. Initial products positioned as open,
programmable switches have been configurable, but have lacked the
programmability, openness, flexibility and scalability needed to address a wide
range of enhanced services and wireless and wireline infrastructure
requirements. The Company believes that network providers are demanding
telecommunications switches that are truly open and programmable, thereby
enabling them rapidly and cost-effectively to meet their enhanced services and
infrastructure requirements.
THE EXCEL SOLUTION
Excel has developed open, programmable switching platforms that allow network
providers to offer cost-effective, scalable and flexible enhanced services and
wireless and wireline communications with a time-to-market advantage over
conventional switching platforms. The Company's integrated hardware and software
solutions are designed to offer the following benefits:
Open Programmability. The Company's product architecture is designed to be
open at multiple software programming levels, including the protocol, call
control, digital signal processing, resource provisioning and application
levels. Using these programmability features, network providers can rapidly
integrate applications with non-standard and international protocol variations
and offer customized services to their end-users. Excel's switching platforms
offer complete programmability, rather than configurability, from the host
computer. They are designed to be truly open, allowing customers to control
their own applications, and to have the capability to modify any function of
the software within the platform at any level, time or geographic location.
Rapid Time-to-Market. The Company's products are designed to allow
application developers to offer network providers new services more quickly
than with conventional switching platforms. Excel's open programmability
facilitates rapid deployment of these services in domestic and international
markets by integrating rapidly with various signaling protocols and global
network standards.
Flexibility. The Company's switching platforms can be programmed by a
customer to be used for a wide-range of enhanced services and wireless and
wireline infrastructure applications.
Scalability. The distributed and modular nature of Excel's switching
platforms allows network providers to expand their networks easily as the
subscriber base increases. Excel's switching platforms can scale from 512 to
2,048 ports within the individual chassis and total system capacity can be
expanded to 30,720 ports through the use of Excel's patented fiber optic
expansion network, EXNET. In addition, network providers can migrate across
the Company's product family without undertaking expensive and time consuming
modifications to the host platform.
Distributed Architecture. The Company's products are designed with
distributed architecture utilizing its patented Selective Space Switching
technology and a fiber optic expansion network. These designs increase
reliability and allow linear growth in performance as resources are added.
Cost-Effective. Excel's products offer increased capacity, performance and
functionality for a lower initial investment and reduced operational costs
than traditional, closed switches.
Redundancy and Reliability. The Company's carrier-class products are designed
to meet the high redundancy and reliability requirements demanded by network
providers. The redundant features of the Company's products ensure that
critical applications remain operational.
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PRODUCTS AND TECHNOLOGY
Excel's products and technology are contained within the framework of Open
Network Expansion Architecture ("ONE Architecture ") which was introduced in
February 1998. ONE Architecture is Excel's concept that its switching solutions
provide an open, scalable and cost-effective solution for the telecommunication
needs of network providers. ONE Architecture encompasses the existing family of
switching products and related software technologies described below.
PRODUCTS
The Company offers a family of open, programmable switching products for
application developers, OEMs and systems integrators. The Company's product
family consists of four switching products: the LNX, a 2,048 port switching
platform; the CSN, a 1,024 port switching platform; the PCX, a 512 port
switching platform; and the EXS, a 30,720 port switching system. All of the
Company's products can be used in a wide range of enhanced services and wireless
and wireline infrastructure applications.
All of Excel's products share a common software architecture, allowing any
specific application to run on any platform, and are designed with multiple
levels of redundancy. The LNX and CSN switching platforms share a set of common
card components which include network interface line cards such as T1, E1 and J1
interfaces, and service resource cards such as multi-function Digital Signal
Processors, Primary Rate ISDN, SS7 and DASS2. Excel's network interface line
cards provide direct connectivity to, and ease of integration with, a variety of
international signaling protocols. The service resource cards provide customers
with a range of common channel signaling and switching applications, offering
network providers the ability to control their applications and the flexibility
to expand to other services or signaling protocols as needed. Multiple cards can
be installed on a single chassis to manage various signaling and call control
capabilities or to provide fault tolerant configurations. In addition, the
Company offers network interface line cards and service resource cards
separately to allow customers to upgrade previously deployed switching
platforms.
EXCEL PRODUCT FAMILY
LNX
The LNX is a 2,048 port, non-blocking, open, programmable switching platform
which provides high performance and fault tolerance in a small chassis. With all
modules supporting redundant configurations, the LNX is designed for central
office environments requiring a high level of reliability and ease of
maintainability. The LNX can operate as a stand-alone switch or as a node in
Excel's patented EXS switching system, currently supporting scalability up to
30,720 non-blocking ports. The LNX consists of the 2,048 port matrix card
residing in a 20-slot chassis, a host interface and a fully configurable
combination of network interface line and service resource cards. All LNX cards
can be replaced while the system is operating ("hot-swappable"), providing
ease of maintenance and upgrading without interruption of service.
The predecessor to the LNX, the XLDX, is a 1,536 port programmable platform
first installed in a central office environment in 1988. XLDX systems are still
supported by the Company for customers with an XLDX installed base.
CSN
The CSN is a 1,024 port, non-blocking, open, programmable switching platform
that provides the same features and scalability as the LNX but in a more compact
chassis. The CSN utilizes the same common elements of network line interfaces,
service resources, common channel signaling packet engines and host interfaces
as the LNX, with the same reliability features such as hot-swappability and full
redundancy. The CSN is well suited for wireless applications where space
constraints dictate the need for carrier-class switching within a compact
chassis.
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PCX
The PCX is a PC-based, 512 port, non-blocking, open, programmable switching
platform that supports the same programmable features and shares the same
hardware and software architecture as the LNX and CSN platforms. The PCX is
designed for the customer premises equipment marketplace to provide a total
solution in a small chassis, addressing the needs of midrange switching
applications. With its PC-based platform, the PCX can support an internal host
processor as well as internal voice processing resources. The PCX enables
application developers to combine Excel's programmable switching features with
industry-standard voice processing technology for a single, stand-alone
solution.
EXS
The EXS is an open, non-blocking system comprised of LNX and CSN programmable
switching platforms distributed across EXNET, the Company's fiber optic
expansion network. The current EXNET network can support up to 30,720 ports,
encompassing any combination of LNXs and CSNs. The patented EXS architecture is
designed to allow further expansion beyond the current 30,720 ports. Parallel
EXNET fiber networks can also be used to create fully redundant systems to
ensure maximum availability and fault tolerance.
Because each EXS node is a self-contained LNX or CSN switching platform,
processing power can scale linearly as the system is expanded. Individual LNX or
CSN nodes can be isolated and serviced without the entire system being brought
out-of-service, providing ease of maintenance. Since each node can operate and
process calls independently, total system reliability and availability is
increased.
TECHNOLOGY
Selective Space Switching Technology
A unique aspect of Excel's distributed architecture is its patented Selective
Space Switching technology which allows the platform's internal bus to switch
traffic between any input or output port, DSP, packet engine resource or EXNET
Controller without losing critical port capacity. Unlike traditional switches,
with Selective Space Switching technology, available port capacity is not
compromised as additional modules are added. When resource modules are added,
the platform's switching capacity increases, and its full non-blocking switch
port capacity is retained.
Open Software Technology
Unlike traditional, proprietary switches, Excel's programmable platforms share
a common, open, software architecture designed to be programmable by third
parties. The open programmability of Excel's switching platforms is based on its
Application Programming Interface ("API") and its patented Programmable Protocol
Language ("PPL").
The API is a message-based protocol designed for communication between the
programmable switching platform and the application software located on a host
computer. Excel's open API allows the application software to access call
processing control, configuration, maintenance and alarm reporting functions
within the switch at a level that is not currently available in competitive
products. Excel's API is compatible across the Company's product family.
Excel's PPL is a patented technology that provides an easy and convenient
mechanism for developers and operators to implement modifications at multiple
programming levels without having to write complex software code. Protocols are
developed and modified using a graphical user interface development environment,
requiring the user to have only limited software programming experience. With
PPL, support personnel can easily effect detailed changes to the switching
software on site without using expensive equipment or requiring additional
technical personnel. These benefits provide increased software maintainability
while reducing development costs and eliminating customized work for Excel and
its customers. Using its PPL technology, Excel is continually working with its
customers to provide additional domestic and international network interfaces.
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CUSTOMERS
During 1997 the Company sold its products to over 130 customers engaged in a
variety of segments of the telecommunications industry. The Company's customers
include application developers, OEMs and systems integrators. Approximately
40.6%, 36.7% and 26.0% of the Company's revenues in 1995, 1996 and 1997,
respectively, were derived from sales to Comverse Network Systems (formerly
Boston Technology, Inc.), approximately 10.2% of the Company's revenues in 1997
were derived from sales to QUALCOMM Incorporated and approximately 11.4% of the
Company's revenues in 1995 were derived from sales to Ericsson Messaging Systems
Inc.
The primary end-users of the Company's products are public network providers,
including RBOCs, IXCs, LECs, CLECs, wireless carriers and PTTs. The Company's
products also are used by a number of large corporations to satisfy specific
telecommunications requirements.
CUSTOMER SERVICE, SUPPORT AND TRAINING
The Company believes that the responsiveness and expertise of its customer
service personnel is essential to developing and maintaining long-term
relationships with its customers which require uninterrupted operation of the
Company's products.
The Company provides pre- and post-sales engineering services and has a
technical assistance center which provides support and service by telephone. The
Company offers a variety of engineering services such as customer application
design review, protocol development, product training, performance testing and
field support. The Company has a fully-equipped training facility and provides a
wide range of training courses to its customers, both on and off site. The
Company also has a fully-equipped applications lab with call traffic load
capabilities where customers can test and verify new applications or
enhancements to existing applications. The Company's technical assistance center
provides telephone support and service on a 24-hour, seven-day-a-week basis. To
ensure that the Company is providing quality support services, the Company has
instituted a formal customer satisfaction program which involves senior
management review and regularly scheduled customer support surveys. In addition,
Company personnel meet regularly with customers to discuss product quality and
customer satisfaction.
The Company provides a product warranty on its hardware products which
generally covers a period of 14 months from shipment. This warranty coverage
includes technical assistance, as well as product repair or product replacement,
depending upon the circumstances of the warranty claim. Although the Company
charges fees for certain support and services, to date, revenues from such fees
have been immaterial.
SALES AND MARKETING
The Company sells its products primarily to application developers, OEMs and
systems integrators which incorporate the Company's products into their service
and product offerings. The Company's principal marketing activities are to
identify customers which could benefit from the Company's products, identify new
markets for the Company's products and increase sales to existing customers.
The sale of the Company's products is a multi-step and interdisciplinary
process which can typically range from 12 to 24 months or more from initial
customer contact to large-scale commercialization of a customer's application or
service based on the Company's products. The initial evaluation stage, typically
three to six months, is primarily the role of the Company's sales and marketing
personnel, and members of the Company's senior management, and involves
educating potential customers on the functionality and benefits derived from
using the Company's products. The next stage, which can involve members of both
the Company's customer support and research and development organizations,
involves providing the customer with the required training and technical support
to integrate the Company's products into a new application or service. This
stage of the sales process is generally the longest and is dependent upon an
application or service provider's own internal application or service
development program.
The Company sells to its customers through its own sales force, from its
headquarters, as well as from sales offices in California, Georgia, Illinois,
Massachusetts, New York, Ohio and Texas. The Company recently hired a sales
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representative in Japan to focus on the Far East market. The Company is
currently negotiating with an individual in Belgium to act as a sales
representative focusing on the European market. The Company currently has no
other offices outside the United States, but is exploring the establishment of
foreign sales offices within the next 12 months in Europe and Asia. To date, the
Company has no firm commitments to establish such international sales offices
and there can be no assurance that the Company will actually open any foreign
offices. In addition, the Company maintains an inside sales group, located at
its headquarters, which is responsible for platform configuration and price
quotations, order administration and telephone sales activities. In order to
create awareness, market demand and sales opportunities, the Company engages in
a number of marketing activities which include exhibiting products and customer
applications at industry trade shows, advertising in selected publications aimed
at targeted markets, public relations activities with trade and business press,
publication of technical articles and the distribution of sales literature,
technical specifications and documentation.
RESEARCH AND PRODUCT DEVELOPMENT
Management believes that the Company's success will depend on its ability to
develop and introduce in a timely fashion new products and enhancements to its
existing products. The Company has in the past made, and intends to continue to
make, significant investments in product and technological development.
Extensive product development input is obtained through customers and the
Company's monitoring of end-user needs and changes in the marketplace.
The Company is focusing its development efforts on providing enhanced
functionality to its products including increased port capacity and performance,
the development of additional related software applications and tools and the
improvement of third-party application integration. The software applications
under development are being designed to enable customers to shorten their
application development cycle thereby improving time-to-market and reducing
initial investment in research and development.
There can be no assurance that the Company will not experience difficulties
that could delay or prevent the successful development, introduction or
marketing of such new products and enhancements, or that its new products and
enhancements will adequately meet the requirements of the marketplace and
achieve market acceptance. Announcements of currently planned or other new
product offerings by the Company or its competitors may cause customers to defer
or cancel the purchase of existing Company products. The Company's inability to
develop on a timely basis new products or enhancements to existing products, or
the failure of such new products or enhancements to achieve market acceptance,
could have a material adverse effect on the Company's business, financial
condition and results of operations.
The development of new, technologically advanced products is a complex and
uncertain process requiring the accurate anticipation of technological and
market trends. 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, avoid excessive levels of older
product inventories and ensure that adequate supplies of new products can be
delivered to meet anticipated customer demand. There can be no assurance that
the Company will successfully develop, introduce or manage the transition to new
products. Furthermore, products such as those offered by the Company may contain
undetected or unresolved errors when they are first introduced or as new
versions are released. There can be no assurance that despite extensive testing
by the Company, errors will not be found in new products or upgrades after
commencement of commercial shipments, resulting in delays in or loss of market
acceptance and sales, diversion of development resources, injury to the
Company's reputation or increased service and warranty costs, any of which could
have a material adverse effect on the Company's business, financial condition
and results of operations. See Item 7. "Risk Factors--Risk of New Product
Introductions" and "Risk Factors--Rapid Technological Change."
The Company's engineering, research and development expenditures totaled
approximately $8.1 million, $11.1 million and $13.3 million in 1995, 1996 and
1997, respectively. The Company performs its research and product development
activities at its principal offices in Hyannis, Massachusetts. The Company has
achieved International Standard Organization (ISO) 9001 registration for quality
assurance in design production, installation and service.
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MANUFACTURING
The Company's manufacturing operations consist primarily of materials planning
and procurement, final assembly, testing and quality control. The Company uses
several independent manufacturers to provide certain printed circuit boards,
chassis and subassemblies. The Company's manufacturing process enables it to
configure its products to meet a wide variety of individual customer
requirements. The Company plans to strengthen manufacturing capability both in
its existing facilities and through expansion of activities with independent
manufacturers. Future growth of the Company will require extension of existing
internal and external manufacturing resources, hiring of additional technical
personnel, improved coordination of supplier relationships with the Company's
inventory ordering and management practices, and expansion of information
systems to accommodate planned growth across these areas. See Item 7. "Risk
Factors--Management of Growth and Hiring of Additional Personnel."
Although the Company generally uses standard parts and components for its
products, many critical components are purchased from sole or single source
vendors for which alternative sources may not be currently available. Some of
these components are available from only one supplier, for which there is no
substitute at this time. If supply of these components should cease, the Company
would be required to redesign its products. Although the Company works closely
with some well-established vendors, the Company has no supply commitments from
its vendors and generally purchases components on a purchase order basis as
opposed to entering into long term procurement agreements with vendors. To date,
the Company has generally been able to obtain adequate supplies in a timely
matter from its primary vendors or, when necessary to meet production needs,
from alternate vendors. The Company believes that, in most cases, alternate
vendors can be identified if current vendors are unable to fulfill needs.
However, delays or failure to identify an alternate vendor, if required, or a
reduction or interruption in supply, or a significant increase in the price of
components would materially and adversely affect the Company's business,
financial condition and results of operations and could impact customer
relationships. See Item 7. "Risk Factors--Dependence on Single and Sole Source
Suppliers."
COMPETITION
The markets in which the Company competes are characterized by intense
competition, with a large number of suppliers providing different types of
products to different segments of the markets. The Company currently competes
principally on the basis of: (i) the breadth of its products' features and
benefits; (ii) the flexibility, scalability, quality, ease of use, reliability
and cost effectiveness of its products; and (iii) the Company's reputation and
the depth of its expertise, customer service and support. While the Company
believes that it currently competes favorably overall with respect to these
factors, there can be no assurance that the Company will be able to continue to
do so.
The Company competes or may compete directly or indirectly with the following
categories of companies: (i) other manufacturers of programmable switches such
as Summa Four, Inc., Redcom Laboratories, Inc. and Harris Corporation; (ii)
large, well-established switch and telecommunications equipment manufacturers
such as Alcatel Alsthom Compagnie Generale d'Electricite SA, DSC Communications
Corporation, Lucent Technologies Inc., Northern Telecom Limited, Siemens AG and
Telefonaktiebolaget LM Ericsson; and (iii) to a lesser degree, systems
integrators and application developers whose switches are based on PC card-level
products manufactured by companies such as Aculab Inc., Dialogic Corporation and
Natural MicroSystems Corporation. In addition, several smaller companies have
begun recently to manufacture programmable switching platforms. Due to the
rapidly evolving markets in which the Company competes, additional competitors
with significant market presence and financial resources, including large
telecommunications equipment manufacturers and computer hardware and software
companies, may enter those markets, thereby further intensifying competition.
Additionally, there can be no assurance that one or more of the Company's
application developers will not begin to develop or market products in
competition with the Company.
Many of the Company's current and potential competitors have significantly
greater financial, selling and marketing, technical, manufacturing and other
resources than the Company. As a result, these competitors may be able to devote
greater resources to the development, promotion, sale and support of their
products than the Company. The Company, however, does not believe any of its
competitors are currently dominant in its industry segment. Some of the
Company's competitors currently offer financing alternatives to their customers,
a service that the Company does not provide at this time. The Company has no
current intention to offer such financing alternatives to its customers in the
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foreseeable future. Moreover, these companies may introduce additional products
that are competitive with those of the Company or enter into strategic
relationships to offer complete solutions which the Company does not currently
offer. There can be no assurance that the Company's products would compete
effectively with such products.
The Company believes that its open, programmable switching platform, with
the Company's patented Selective Space Switching technology and Programmable
Protocol Language, offers its customers a competitive advantage for flexible,
scaleable and cost-effective switching capabilities. Although the Company
believes these technological features represent advantages over its competitors,
maintaining these advantages will require continued investment by the Company in
research and development, selling and marketing and customer service and
support. In addition, as the Company enters new markets, distribution channels,
technical requirements and levels and bases of competition may be different than
those in the Company's current markets. There can be no assurance that the
Company will be able to compete successfully against either current or potential
competitors in the future. See Item 7. "Risk Factors--Highly Competitive
Market."
INTELLECTUAL PROPERTY
The Company relies upon a combination of patent, copyright and trademark
and trade secret laws as well as confidentiality procedures and contractual
restrictions to establish and protect its proprietary rights. The Company has
also entered into confidentiality and invention assignment agreements with its
employees and consultants and enters into non-disclosure agreements with its
suppliers, distributors and customers so as to limit access to and disclosure of
its proprietary information. There can be no assurance such measures will be
adequate to deter and prevent misappropriation of the Company's technologies or
independent third-party development of similar technologies. The laws of certain
foreign countries in which the Company's products are or may be developed,
manufactured or sold 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.
As of December 27, 1997, a total of nine U.S. patents and one foreign
patent have been issued to the Company. The Company has a total of 11 U.S.
patent applications and 64 international and foreign national patent
applications pending. The U.S. issued patents cover various aspects of: (i) the
architecture and division of call processing responsibility in the Company's PCX
product; (ii) the design and internal construction of a rack-mountable chassis
used with the Company's PCX product; (iii) the architecture of certain
communications resource and I/O cards which may be used in conjunction with any
of the Company's family of programmable switching platforms relating to the
Company's Selective Space Switching technology; (iv) the PPL software which may
be used, in conjunction with any of the Company's family of programmable
switching platforms, to create or modify applications or communications
protocols; (v) a line card redundancy arrangement for use in conjunction with
the Company's LNX and CSN products; and (vi) the architecture of the Company's
fiber optic expansion network, EXNET. The U.S. patents will expire at various
times between the years 2008 and 2014. The Company also has thirteen U.S.
trademark applications pending.
The telecommunications industry is characterized by the existence of a
large number of patents and frequent litigation based on allegations of patent
infringement. From time to time, third parties may assert patent, copyright,
trademark and other intellectual property rights to technologies that are
important to the Company. Although the Company has from time to time received
communications from third parties asserting that the Company's products infringe
or may infringe proprietary rights of third parties, the Company believes that
none of such claims, if determined adversely to the Company, would have a
material adverse effect on the Company's business, financial condition or
results of operations. In its distribution agreements, the Company agrees to
indemnify its customers for any expenses or liabilities resulting from claimed
infringements of patents, trademarks or copyrights of third parties. In certain
limited instances, the amount of such indemnities may be greater than the
revenues the Company may have received from the customer. In the event of
litigation to determine the validity of any third-party claims, such litigation,
whether or not determined in favor of the Company, could result in significant
expense to the Company and divert the efforts of the Company's technical and
management personnel. In the event of an adverse ruling in such litigation, the
Company might be required to discontinue the use and sale of infringing
products, expend significant resources to develop non-infringing technology or
obtain licenses from third parties. There can be no assurance that licenses from
third parties would be available on reasonable commercial terms, if at all. In
the event of a successful claim against the Company and the failure of the
Company to develop or license a substitute technology, the Company's business,
financial
10
<PAGE>
condition and results of operations would be materially adversely affected. The
Company changed its name from Excel Inc. to Excel Switching Corporation in
September 1997. Searches performed on the term Excel have revealed several
registrations and numerous uses of that term, and terms substantially similar to
it, alone and in combination with other terms and designs. Accordingly, there
can be no assurance that third parties will not assert trademark infringement
claims relating to the name Excel Switching Corporation in the future. See Item
7. "Risk Factors--Dependence on Proprietary Rights."
EMPLOYEES
As of December 27, 1997, the Company employed 270 persons, including 98 in
engineering, research and development, 69 in selling, marketing and customer
service and support, 59 in manufacturing and 44 in finance, administration and
management information systems. None of the Company's employees are
represented by collective bargaining arrangements, and the Company believes that
its relations with its employees are good. The Company expects to hire
additional engineering, sales and marketing personnel over the next 12 to 18
months to accommodate planned domestic and international expansion. The hiring
of additional personnel will place additional demands on management's ability to
assimilate, direct and supervise a growing work force. There can be no
assurance that the Company will be successful in assimilating this growth in
personnel. See Item 7. "Risk Factors--Management of Growth and Hiring of
Additional Personnel."
The Company's success depends to a significant degree upon the continuing
contributions of its key management, sales, engineering, customer support and
product development personnel. The loss of any of the key management or
technical personnel could have a material adverse effect on the Company. The
Company believes that its future success will depend in large part upon its
ability to attract and retain highly-skilled managerial, sales, customer support
and product development personnel. The Company has at times experienced and
continues to experience difficulty in recruiting qualified personnel.
Competition for qualified personnel in the Company's industry is intense, and
there can be no assurance that the Company will be successful in attracting and
retaining such personnel. Failure to attract and retain key personnel could
have a material adverse effect on the Company's business, financial condition
and results of operations. See Item 7. "Risk Factors--Dependence on Key
Personnel" and "Risk Factors--Management of Growth and Hiring of Additional
Personnel."
ITEM 2. PROPERTIES
The Company's headquarters total approximately 98,250 square feet and are
located in four buildings in Hyannis, Massachusetts. Two of the buildings,
totaling approximately 55,500 square feet, are owned by the Company and house
the engineering, sales, marketing and administrative functions of the Company.
The third building, approximately 25,750 square feet, is leased by the Company
and houses the manufacturing and manufacturing support functions of the Company.
The lease expires in July 2000, but contains an option for an additional five-
year term. An option to purchase this building may be exercised at any time
after August 1998. The Company intends to exercise this option and,
accordingly, has recorded this lease as a capital transaction. The fourth
building, approximately 17,000 square feet, is leased by the Company until March
31, 1998 as temporary office space for research and development activities until
construction of the new building described below is completed. Management
Company is currently negotiating with the owner of the building to become a
tenant at will through May 1998. There can be no assurance that such an
agreement will be reached nor at terms acceptable to the Company.
During 1997 the Company purchased additional property and initiated
construction of a building, expected to be completed in 1998, which will add
approximately 46,000 square feet of space for engineering activities. In
January 1998, the Company entered into a Purchase and Sale Agreement to purchase
approximately 108,000 square feet of additional land and also executed an
agreement providing Excel with an option to purchase up to an additional 274,000
square feet of land. This option does not expire until January 2000 subject to
an annual, non-refundable payment.
The Company also leases sales offices in San Jose and Sand Diego,
California; Atlanta, Georgia, Rolling Meadows, Illinois; Newton, Massachusetts;
White Plains, New York; Cleveland, Ohio; and Grapevine, Texas. The Company
intends to expand the capabilities and size of these offices and open additional
offices, both domestically and internationally, as needs arise.
11
<PAGE>
Although the Company anticipates that it will not require additional
manufacturing space for at least the next 12 months, the Company's business,
financial condition and results of operations could be materially adversely
affected if it does not expand manufacturing capacity as required.
The Company believes that its current facilities and planned expansions are
adequate to meet its needs through the next 12 months. However, due to the
limited supply of suitable additional or alternative office and manufacturing
space in the Hyannis, Massachusetts area, there can be no assurance that the
Company will not be required in the future to invest heavily in the renovation
of space in the Hyannis vicinity or in relocating the Company's headquarters.
See Item 7. "Risk Factors--Management of Growth and Hiring of Additional
Personnel" and "Management's Discussion and Analysis of Financial Condition
and Results of Operations--Liquidity and Capital Resources."
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Market Information - The Company's Common Stock is quoted on the Nasdaq National
Market under the symbol "XLSW". The following table sets forth the quarterly
high and low sales prices per share of Common Stock since the Company's initial
public offering on November 4, 1997, as reported by the Nasdaq National Market.
<TABLE>
<CAPTION>
Fiscal Year Ended December 27, 1997 High Low
- ----------------------------------- ------ ------
<S> <C> <C>
First Quarter N/A N/A
Second Quarter N/A N/A
Third Quarter N/A N/A
Fourth Quarter (from November 4, 1997) 27 7/8 14 1/4
</TABLE>
Number of Holders - As of March 23, 1998, there were approximately 98 holders
of record of the Company's Common Stock, including multiple beneficial holders
at depositories, banks and brokers listed as a single holder in the street name
of each respective depository, bank or broker. The Company believes there are
over 400 beneficial owners of its Common Stock.
Dividend Policy - The Company does not expect to pay cash dividends on its
Common Stock in the foreseeable future. The Company currently intends to retain
all of its future earnings, if any, for use in the operation of the business.
In addition, the Company's credit facility restricts the Company's payment of
cash dividends. See Item 7. "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources."
Recent Sales of Unregistered Securities - The following information is furnished
with regard to all securities issued by the Registrant within fiscal 1997 which
were not registered under the Securities Act.
On December 2, 1997 options to purchase a total of 2,000 shares of Common
Stock granted to employees of the Company under the Registrant's Stock Option
Program were exercised at an exercise price of $1.00 per share, for an aggregate
purchase price of $2,000.00. On December 4, 1997 options to purchase a total of
400 shares of Common Stock granted to employees of the Company under the
Registrant's Stock Option Program were exercised at an exercise price of $1.00
per share, for an aggregate purchase price of $400.00.
12
<PAGE>
The securities issued in such transactions were not registered under the
Securities Act, as amended, in reliance upon exemptions from registration set
forth in Section 3(b) and 4(2) of the Securities Act, relating to sales by an
issuer not involving any public offering. None of the foregoing transactions,
either individually or in the aggregate, involved a public offering.
Use of Proceeds of Initial Public Offering - On November 4, 1997 the Securities
and Exchange Commission declared effective the Company's Registration Statement
on Form S-1, Commission file number 333-35791, relating to the initial public
offering of the Company's Common Stock, $.01 par value. The offering commenced
on November 4, 1997 and all shares covered by the Registration Statement were
sold. The managing underwriters for the offering were Morgan Stanley & Co.
Incorporated, Hambrecht & Quist LLC and NationsBanc Montgomery Securities LLC.
The following sets forth certain information regarding the offering and the
Company's application of the net proceeds therefrom through December 27, 1997.
<TABLE>
<S> <C>
Number of shares registered 5,175,000
Number of shares sold by the Company 4,500,000
Number of shares sold by the selling stockholder 675,000
Aggregate price of the offering amount registered and sold by the Company $94,500,000
Offering Expenses:
Underwriting discounts and commissions 6,615,000
Finder's fees -
Expenses paid to or for underwriters -
Other expenses 779,000
-----------
Total expenses 7,394,000
-----------
Net offering proceeds to the Company $87,106,000
===========
Aggregate price of the offering amount registered and sold by selling $14,175,000
stockholder
Offering expenses:
Underwriting discounts and commissions 992,250
Finder's fees -
Expenses paid to underwriters -
Other expenses -
-----------
Total expenses 992,250
-----------
Net offering proceeds to the selling stockholder $13,182,750
===========
</TABLE>
No such expenses were paid directly or indirectly to directors, officers,
general partners of the Company or their associates, to persons owning ten
percent or more of any class of equity of the Company or to affiliates of the
Company.
To date, the Company has not utilized any of the net proceeds from the IPO.
The Company has invested all such net proceeds in investment grade, interest-
bearing securities.
13
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
The following table contains certain selected consolidated financial data
of the Company and is qualified in its entirety by the more detailed
Consolidated Financial Statements included herein. This data should be read in
conjunction with "Item 7. Management's Discussion and Analysis of Financial
Conditions and Results of Operations" and the Consolidated Financial Statements
appearing elsewhere herein.
<TABLE>
<CAPTION>
FISCAL YEAR
------------------------------------------------------------------
1993 1994 1995 1996 1997
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
(in thousands, except per share data)
CONSOLIDATED STATEMENTS OF INCOME DATA:
Revenues $10,033 $20,723 $36,161 $62,050 $88,727
Cost of revenues....................................... 2,945 7,074 12,100 24,312 26,631
------- ------- ------- ------- -------
Gross profit........................................ 7,088 13,649 24,061 37,738 62,096
------- ------- ------- ------- -------
Operating expenses:....................................
Engineering, research and development............... 1,862 3,301 8,117 11,121 13,260
Selling and marketing............................... 140 362 2,923 6,621 11,486
General and administrative.......................... 2,194 2,903 4,238 6,426 7,949
------- ------- ------- ------- -------
Total operating expenses......................... 4,196 6,566 15,278 24,168 32,695
------- ------- ------- ------- -------
Income from operations........................... 2,892 7,083 8,783 13,570 29,401
Other income (expense)................................. (681) (4) 38 (384) 1,392
------- ------- ------- ------- -------
Income before provision for income taxes......... 2,211 7,079 8,821 13,186 30,793
Provision for income taxes............................. 815 2,889 3,410 5,285 12,177
------- ------- ------- ------- -------
Net income............................................. $ 1,396 $ 4,190 $ 5,411 $ 7,901 $18,616
======= ======= ======= ======= =======
Basic earnings per share............................... $.05 $.15 $.19 $.28 $.65
======= ======= ======= ======= =======
Diluted earnings per share............................. $.05 $.13 $.17 $.24 $.54
======= ======= ======= ======= =======
Basic weighted average shares outstanding.............. 27,946 27,946 27,962 28,090 28,756
Diluted weighted average shares outstanding............ 30,864 31,341 31,822 32,697 34,361
</TABLE>
<TABLE>
<CAPTION>
Dec. 31, Dec. 31, Dec. 31, Dec. 28, Dec. 27,
1993 1994 1995 1996 1997
-------- -------- -------- -------- --------
(in thousands)
<S> <C> <C> <C> <C> <C>
Consolidated Balance Sheet Data:
Working capital................................. $2,323 $5,906 $10,238 $14,960 $116,374
Total assets.................................... 5,483 9,973 22,683 34,772 149,694
Long-term obligations, less current maturities.. - - 3,537 3,837 108
Total stockholders' equity...................... 2,255 6,471 12,125 20,086 125,915
</TABLE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with
"Item 1. Business", "Item 6. Selected Financial Data", the Company's
Consolidated Financial Statements and Notes thereto and the information
described under the caption "Risk Factors" below.
14
<PAGE>
OVERVIEW
Excel Switching Corporation ("Excel" or the "Company") has been profitable
since it was founded in 1988 and has financed its operations principally through
cash generated from operations. The Company has experienced significant revenue
growth resulting, in part, from the increasing acceptance of programmable
switching as a means of addressing the enhanced services and wireless and
wireline infrastructure needs of network providers. The Company designed and
shipped its first programmable switching product, the XLDX, during the fourth
quarter of 1988, to Comverse Network Systems (formerly Boston Technology, Inc.)
("Comverse"). Excel subsequently expanded its product offering to include a
family of open, programmable switching platforms. The LNX and PCX switching
platforms were introduced in 1991 and have been subsequently enhanced. The
Company introduced the EXS switching system in 1995 and the CSN switching
platform in 1996. Through December 27, 1997, the Company's revenues have been
derived from sales to application developers, OEMs and systems integrators.
During the early years of the Company's operations, revenues from Comverse
represented substantially all of the Company's annual revenues. The Company has
continued to establish customer relationships with other application developers,
OEMs and systems integrators, penetrate new markets, and improve the capacity,
functionality and features of its family of products. Currently, Excel sells its
products to over 130 customers engaged in a variety of segments of the global
telecommunications industry. During 1997, Comverse represented approximately
26.0% of the Company's revenues.
The Company's products are sold through its direct sales force primarily to
application developers, OEMs and systems integrators which incorporate the
Company's products into their service and product offerings. The Company sells
each of its switching platforms with a varying combination of network interface
line cards and service resource cards that are specified by customer and
application requirements. The Company also sells additional network interface
line cards and service resource cards that allow customers to expand capacity
and functionality and provide for redundancy of their installed systems.
Revenues from product sales are recognized upon shipment, at which time the
Company provides an estimate of anticipated post sale support, warranty costs
and sales returns. The increase in the reserve for sales returns can be
attributed to the volume increase in sales, the timing and significance of new
product introductions and the increased complexity of the uses of the Company's
equipment. In addition, the Company estimates reserves to adjust for the
realizability of accounts receivable and inventory. While the Company believes
its estimates for post sale support, warranty costs, sales returns and the
realizability of accounts receivable and inventory are adequate, actual results
could differ from those estimates.
Revenues from sales of software development tools and services such as
technical support, training and product maintenance have not been significant to
date. The Company has not capitalized any software development costs and all
research and development costs have been expensed as incurred.
The Company's profitability is influenced by a number of factors, including
pricing, cost of materials, product and technological advancements from research
and development efforts and the expansion of its operations. The Company
anticipates the addition of personnel and related infrastructure as it seeks to
increase revenues, and to meet other strategic goals such as developing new
products and technologies, broadening strategic partnerships with, and
incorporating new applications for, its customers, entering new markets and
expanding internationally. The Company anticipates that engineering, research
and development expenses will increase in absolute dollars, and may increase as
a percentage of revenues, as the Company pursues engineering efforts to provide
enhanced functionality to its products, increase port capacity and develop
additional software features.
15
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentage
of revenues represented by certain items reflected in the Company's Consolidated
Statements of Income:
<TABLE>
<CAPTION>
Fiscal Year
------------------------------------------------------------
1995 1996 1997
---------- ---------- ----------
<S> <C> <C> <C>
Revenues.................................................... 100.0% 100.0% 100.0%
Cost of revenues............................................ 33.5 39.2 30.0
----- ----- -----
Gross profit............................................. 66.5 60.8 70.0
----- ----- -----
Operating Expenses:.........................................
Engineering, research and development.................... 22.4 17.9 14.9
Selling and marketing.................................... 8.1 10.7 13.0
General and administrative............................... 11.7 10.3 9.0
----- ----- -----
Total operating expenses.................................... 42.2 38.9 36.9
----- ----- -----
Income from operations...................................... 24.3 21.9 33.1
Other income (expense)...................................... .1 (.6) 1.6
----- ----- -----
Income before provision for income taxes.................... 24.4 21.3 34.7
Provision for income taxes.................................. 9.4 8.5 13.7
----- ----- -----
Net income.................................................. 15.0% 12.8% 21.0%
===== ===== =====
</TABLE>
FISCAL YEAR ENDED DECEMBER 27, 1997 COMPARED TO FISCAL YEAR ENDED DECEMBER 28,
1996
Revenues. The Company's revenues consist of sales, primarily in the United
States, of its open, programmable switching platforms and related network
interface line cards and service resource cards. Revenues increased 43.0% from
$62.1 million in 1996 to $88.7 million for 1997. The increase resulted, in part,
from the Company's continuing efforts to enhance the scalability, performance,
capacity and functionality of its products through the modification and
introduction of features and products. The increase in revenues also resulted
from the introduction of new or expanded offerings by existing customers
incorporating the Company's products, the expansion of customers' existing
markets and the introduction of new applications by new and existing customers.
In addition, revenues increased due to increased market penetration resulting
from the efforts of the Company's expanded selling and marketing organizations.
Revenues from the Company's five largest customers represented approximately
57.1% and 50.9% of the Company's revenues for 1996 and 1997, respectively.
Comverse represented approximately 36.7% and 26.0% of the Company's revenues for
these same periods, respectively. Additionally, 10.2% of the Company's revenues
in 1997 were derived from QUALCOMM Incorporated. Although the Company's largest
customers have varied from period to period, the Company believes that revenues
derived from current and potential large customers will continue to represent a
significant proportion of revenues, and that its results of operations in any
given period will continue to depend to a significant extent upon sales to a
limited number of customers. There can be no assurance that the Company's
principal customers will continue to purchase product at current levels, if at
all.
Gross Profit. Cost of revenues consists primarily of the cost of purchased
components and subassemblies, contract manufacturing costs, labor and overhead
relating to material procurement, final assembly, testing and quality control,
and warranty and post sale support costs. Cost of revenues increased 9.5% from
$24.3 million in 1996 to $26.6 million for 1997. Gross margin increased from
60.8% in 1996 to 70.0% in 1997. The increase in gross margin was primarily
attributable to lower component prices, changes in product mix and increased
manufacturing efficiencies as the Company increased its production volume in
1997. In addition, gross margins for 1996 were negatively impacted by the
introduction of the EXS switching system and related technology which resulted
in valuation adjustments of certain existing inventory components.
Engineering, Research and Development. Engineering, research and
development costs consist primarily of compensation and related costs of
engineering and development personnel, materials and supplies consumed in
prototype development, related facility costs and depreciation of engineering
and test equipment. All research and
16
<PAGE>
development costs, including software development costs, have been expensed as
incurred. Engineering, research and development costs increased 19.2% from $11.1
million in 1996 to $13.3 million for 1997. As a percentage of revenues, these
costs were 17.9% and 14.9%, respectively, in such periods. The increase in
engineering, research and development costs in absolute dollars was primarily
attributable to an increase in engineering and research personnel partially
offset by decreases in the consumption of prototype supplies and materials.
Engineering and research personnel increased from 68 employees at the end of
1996 to 98 employees at the end of 1997.
Selling and Marketing. Selling and marketing costs consist primarily of
compensation and related costs for sales, marketing and customer support
personnel, travel and advertising, trade show and other promotional activities.
Selling and marketing costs increased 73.5% from $6.6 million in 1996 to $11.5
million for 1997. As a percentage of revenues, these costs were 10.7% and 13.0%,
respectively, in such periods. The increase in selling and marketing costs in
absolute dollars was primarily attributable to an increase in sales, marketing
and customer support personnel and an increase in trade show and promotional
activities during 1997. Sales, marketing and customer support personnel
increased from 51 employees at the end of 1996 to 69 employees at the end of
1997.
General and Administrative. General and administrative costs include
compensation and related costs of management, finance, management information
systems and administrative personnel, professional services, costs to implement
and maintain manufacturing and management information systems and other general
corporate expenses. General and administrative costs increased 23.7% from $6.4
million in 1996 to $7.9 million for 1997. As a percentage of revenues, these
costs were 10.3% and 9.0%, respectively, in such periods. The increase in
general and administrative costs in absolute dollars was primarily attributable
to an increase in general and administrative personnel from 35 employees at the
end of 1996 to 44 employees at the end of 1997.
Other Income (Expense). Other income (expense), which primarily includes
interest income and interest expense, increased from ($384,000) in 1996 to $1.4
million in 1997. This increase was primarily attributable to an increase in
interest income derived from larger balances of invested cash and securities.
Provision for Income Taxes. The Company's effective rate for Federal and
state income taxes was 40.1% and 39.5% for 1996 and 1997, respectively. The
decrease in effective rates is primarily attributable to a decrease in the
effective state income tax rate and the utilization of certain tax credits.
FISCAL YEAR ENDED DECEMBER 28, 1996 COMPARED TO FISCAL YEAR ENDED DECEMBER 31,
1995
Revenues. Revenues increased from $36.2 million in 1995 to $62.1 million in
1996. The increase resulted, in part, from the Company's continuing efforts to
enhance the scalability, performance, capacity and functionality of its products
through the modification and introduction of features and products, including
the introduction of the EXS switching system in 1995 and the CSN switching
platform in 1996. The increase in revenues also resulted from the introduction
of new or expanded offerings by existing customers incorporating the Company's
products, the introduction of new applications by new and existing customers and
the expansion of the Company's selling and marketing efforts.
Revenues from the Company's five largest customers represented
approximately 70.1% and 57.1% of the Company's revenues for 1995 and 1996,
respectively. During 1995 and 1996, Comverse represented approximately 40.6% and
36.7%, respectively, of the Company's revenues. Additionally, 11.4% of the
Company's revenues in 1995 were derived from sales to Ericsson Messaging Systems
Inc.
Gross Profit. Cost of revenues increased from $12.1 million in 1995 to
$24.3 million in 1996. The gross margin decreased from 66.5% in 1995 to 60.8% in
1996. The decrease in gross margin in 1996 resulted primarily from the
introduction of the EXS switching system and related technology, which resulted
in valuation adjustments of certain existing inventory components. Increased
warranty and related support costs also contributed to the decline in gross
margin. In addition, gross margin was negatively impacted by the Company's
relocation of its manufacturing operations in November 1995, the subsequent
expansion of this facility in 1996 and increased compensation and related costs
associated with the Company's efforts to strengthen its manufacturing
infrastructure.
17
<PAGE>
Engineering, Research and Development. Engineering, research and
development costs increased from $8.1 million in 1995 to $11.1 million in 1996.
As a percentage of revenues, engineering, research and development expenses were
22.4% and 17.9% for 1995 and 1996, respectively. The increases in engineering,
research and development costs in absolute dollars were primarily attributable
to continuing efforts to expand the Company's research and development
infrastructure. Engineering, research and development personnel increased from
38 employees at the end of 1995 and to 68 employees at the end of 1996.
Increases also resulted from the timing and amount of the consumption of
materials used for prototypes in the development process. The Company's
relocation in 1995 to a larger facility and capital investments made in 1995 and
1996 in engineering and test equipment resulted in increased occupancy costs and
depreciation expenses for both years.
Selling and Marketing. Selling and marketing costs increased from $2.9
million in 1995 to $6.6 million in 1996. As a percentage of revenues, these
costs were 8.1% and 10.7% for 1995 and 1996, respectively. The increase in
selling and marketing costs reflects the expansion of the Company's sales,
marketing and customer support personnel from 28 employees at the end of 1995
and to 51 employees at the end of 1996. During 1995 and 1996, the Company's
expanded efforts to market and promote its products through trade shows,
advertising, public relations and other promotional activities also resulted in
increased selling and marketing costs. The Company's relocation in 1995 and the
opening of four sales offices in 1996 resulted in increased occupancy costs in
1995 and 1996.
General and Administrative. General and administrative costs increased from
$4.2 million in 1995 to $6.4 million in 1996. As a percentage of revenues, these
costs were 11.7% and 10.3% for 1995 and 1996, respectively. The increase in
general and administrative costs in absolute dollars resulted primarily from an
increase in general and administrative personnel from 21 employees at the end of
1995 to 35 employees at the end of 1996. The Company's efforts to expand and
strengthen the administrative infrastructure included the additions of a Chief
Financial Officer, Chief Operating Officer and other personnel in the areas of
finance, human resources and purchasing. During 1996, the Company made
significant investments in its manufacturing and management information systems,
including the implementation of its enterprise resource planning system. The
Company's relocation to larger facilities in 1995 resulted in increased
occupancy and depreciation costs in 1995 and 1996.
Other Income (Expense). Other income (expense) was $38,000 and ($384,000)
for 1995 and 1996, respectively.
Provision for Income Taxes. The Company's effective rate for Federal and
state income taxes was 38.7% and 40.1% for 1995 and 1996, respectively.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, Excel has funded its operations primarily through cash
provided by operations. In November 1997, the Company received total net
proceeds of approximately $87.1 million from the initial public offering of its
common stock. See Item 5. "Market for Registrant's Common Equity and Related
Stockholder Matters".
At December 27, 1997, the Company's principal sources of liquidity
consisted of cash, cash equivalents and marketable securities of approximately
$114.9 million, working capital of approximately $116.4 million and $15.0
million of funds available under a bank line of credit.
During 1995, 1996 and 1997, cash provided by operating activities totaled
$1.2 million, $7.3 million and $27.2 million, respectively. The increase in 1996
was primarily attributable to increases in net income, accrued expenses and
accrued income taxes, partially offset by an increase in deferred income taxes
and a decrease in accounts payable. The increase in 1997 was primarily
attributable to an increase in profitability, accounts payable and accrued
expenses.
The Company's investing activities consumed $4.1 million, $4.1 million and
$70.4 million in 1995, 1996 and 1997, respectively. During 1997, net purchases
of marketable securities consumed approximately $67.0 million. The remaining
expenditures primarily reflect the acquisition, renovation and expansion of the
Company's facilities and the purchase of capital equipment.
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During 1995, the Company purchased and renovated two buildings and related
land for approximately $3.2 million. These acquisitions and renovations were
financed, in part, by the proceeds from a $2.6 million secured loan from a bank.
This loan was paid in full in January 1998.
In 1995, the Company entered into a building lease which requires monthly
payments of approximately $13,000 through July 2000. The lease can be extended
through July 2005 and includes a purchase option exercisable, beginning in
August 1998, for $875,000. The Company intends to exercise this option as early
as possible, and accordingly, has reflected this lease as a capital transaction.
On June 30, 1997, the Company purchased property to be used for the
construction of an additional building. The purchase price of $575,000 and the
estimated construction costs were to be financed, in part, by a $2.1 million
Real Estate Promissory Note with a bank, of which $460,000 was advanced to the
Company during 1997. Borrowings under this note bore interest at prime plus .25%
and were secured by the property and certain other assets. Monthly payments of
interest began in July 1997. In January 1998, the Company paid in full all
outstanding balances under this note.
During 1997, the Company began construction of a 46,000 square foot
building to be used for engineering and research activities. Construction is
expected to be completed by the end of the second quarter of 1998 at an
estimated cost of approximately $3.7 million. In January 1998, the Company
executed a Purchase and Sale Agreement to purchase approximately 108,000 square
feet of additional land for approximately $324,000 and also completed an
agreement providing Excel with an option to purchase up to an additional 274,000
square feet of land at a total cost of approximately $821,000. This option does
not expire until January 2000 subject to an annual, non-refundable payment of
approximately $71,000. The total costs of the facility and land acquisition will
be funded by existing cash resources.
The Company's unsecured line of credit arrangement with a bank provides up
to $15.0 million in credit availability. Borrowings under this agreement bear
interest, at the Company's discretion, at either the bank's base rate or the
Eurodollar rate plus 2.5%. The agreement requires the Company to comply with
certain financial covenants, including a liabilities to tangible net worth
ratio, a current assets to current liabilities ratio and a minimum profitability
covenant. The agreement also restricts the Company's ability to pay cash
dividends. The Company was in compliance with these covenants as of December 27,
1997. There were no amounts outstanding under this line of credit at December
28, 1996 or December 27, 1997.
The Company does not have any other significant capital commitments and
believes that available funds and cash generated from operations, will be
sufficient to meet the Company's working capital requirements for at least the
foreseeable future. The Company plans to finance its long-term capital needs
with available funds, together with available borrowings and cash flow from
operations. To the extent that such funds are insufficient to finance the
Company's activities, the Company may have to raise working capital through the
issuance of additional equity or debt securities. There can be no assurance that
additional financing will be available on acceptable terms.
Year 2000 Compliance: Management has initiated a Company-wide program to
assess the impact of the Year 2000 issue on the Company's computer systems and
applications as well as the Company's product offerings. Management believes
that a majority of the Company's product offerings are currently Year 2000
compliant and that its primary internal information systems used to support its
operations are compatible with the Year 2000. However, the Company utilizes
other third party equipment, telecommunication products and other third party
software applications which may or may not be Year 2000 compliant. Although the
Company is currently taking steps to address the impact, if any, of the Year
2000 issue surrounding such third party products, failure of any critical third-
party products to operate properly in the Year 2000 may have a material adverse
effect on results of operations or require the Company to incur unanticipated
expenses to remedy any problems. In addition, as the Company purchases many
critical components from single or sole source suppliers, failure of any such
vendor to adequately address issues relating to the Year 2000 problem may have a
material adverse effect on the Company's business, financial condition and
results of operations.
RECENT ACCOUNTING ANNOUNCEMENT
On February 10, 1998, the Securities and Exchange Commission (SEC) issued
Staff Accounting Bulletin No. 98 (SAB 98). This bulletin revises the SEC's
guidance for calculating earnings per share with respect to equity securities
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issued prior to an initial public offering and is effective for fiscal years
ending after December 15, 1997. The prior years' earnings per share have been
retroactively restated to reflect the adoption of SAB 98. As a result of this
restatement, the Company's previously reported diluted earnings per share has
been increased by $.01 in each of the fiscal years 1993, 1995 and 1996 to $.05,
$.07 and $.24, respectively.
RISK FACTORS
This Report contains statements which may be "forward-looking" statements
and are subject to risks and uncertainties that could cause actual results to
differ significantly from expectations. In particular, statements contained in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" which are not historical facts, including, but not limited to,
statements regarding the anticipated adequacy of cash resources to meet the
Company's working capital requirements, statements regarding the intention to
exercise a purchase option on an existing building lease and statements
regarding the anticipated proportion of revenues to be derived from a limited
number of customers, may constitute forward looking statements. Factors that
could cause or contribute to such differences include those discussed below, as
well as those discussed elsewhere in this Report.
Fluctuations in Results of Operations. The Company's results of operations
have varied significantly in the past and may vary significantly in the future,
on a quarterly and annual basis, as a result of a variety of factors, many of
which are outside the Company's control. These factors include, without
limitation: (i) the timing and size of orders which are received and can be
shipped in any particular period; (ii) the commercial success of the Company's
products; (iii) delays in the introduction of products or product enhancements
by the Company and the Company's ability to introduce new products and
technologies on a timely basis; (iv) the financial stability of the Company's
major customers; (v) the timing of new product introductions or announcements by
the Company or its competitors; (vi) the availability of adequate supplies of
key components and assemblies and the adequacy of third-party manufacturing
capabilities; (vii) the seasonality of the placement of customer orders; (viii)
the timing and nature of selling and marketing expenses such as tradeshows and
advertising campaigns; (ix) the timing of development expenditures and personnel
changes; (x) the publication of opinions about the Company and its products, or
its competitors or their products, by industry analysts; (xi) customer order
deferrals in anticipation of product enhancements or new product offerings by
the Company or its competitors; and (xii) customer cancellation of orders and
the gain or loss of significant customers, including those due to industry
combinations. Moreover, any downturn in general economic conditions could
precipitate significant reductions in corporate spending for telecommunications
infrastructure, which could result in delays or cancellations of orders for the
Company's products. The Company's expense levels are relatively fixed and are
based, in significant part, on expectations of future revenues. Consequently, if
revenue levels are below expectations, expense levels could be
disproportionately high as a percentage of revenues, and the Company's business,
financial condition and results of operations would be materially adversely
affected. The Company has historically operated with little backlog because its
products are generally shipped within 60 days of acceptance of an order by the
Company. As a result, revenues in any quarter are substantially dependent on
orders booked and shipped in that quarter and on sales by the Company's
customers to end users. See "--Concentration of Customers" and "Business--
Customers."
The Company has experienced significant fluctuations in revenues, expenses
and results from operations from quarter to quarter, and such fluctuations are
likely to continue. The Company typically receives more product orders and
generates greater revenues in the fourth quarter. During the last several years,
revenues in the first quarter have typically been lower than those recorded in
the preceding fourth quarter. The Company believes that this concentration of
order placements in specific quarterly periods is due to customer's' buying
patterns and budgeting cycles. A significant portion of the Company's revenues
have been generated from a limited number of customers and it is difficult to
predict the timing of future orders and shipments to these and other customers.
The Company anticipates that its results of operations in any given period will
continue to depend to a significant extent upon sales to a small number of
customers. See "--Concentration of Customers" and "Business--Customers."
The Company also believes that the purchase of its products generally
involves a significant commitment of a customer's capital resources. Therefore,
any downturn in any customer's business could have a material adverse effect on
the Company's revenues, business, financial condition and quarterly results of
operations. In addition, the Company historically has recognized a large portion
of its revenues from sales booked and shipped in the last month of a quarter
such that the magnitude of quarterly fluctuations may not become evident until
late in, or at the end of, a particular
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quarter. Because a number of the Company's individual orders are for significant
amounts, the failure to ship a significant order in a particular quarter could
materially adversely affect revenues and results of operations for such quarter.
To the extent that significant sales occur earlier than expected, results of
operations for subsequent quarters may be materially adversely affected. Due to
these and other factors, the Company's quarterly revenues, expenses and results
of operations could vary significantly in the future, and period-to-period
comparisons should not be relied upon as indications of future performance.
There can be no assurance that the Company will be able to increase its revenues
in future periods or be able to sustain its level of revenues or its rate of
revenue growth on a quarterly or annual basis. See "--Length of Sales Cycle" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Due to all of the foregoing factors, it is possible that in some future
quarter, the Company's results of operations will be below the expectations of
public market analysts and investors. In such event, the market price of the
Company's Common Stock would likely be materially adversely affected. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Dependence on Relationships with Application Developers, OEMs and Systems
Integrators. The Company sells substantially all of its products to, and
maintains strategic relationships with, application developers, original
equipment manufacturers ("OEMs") and systems integrators which incorporate the
Company's products into their service and product offerings. As a result, sales
of the Company's products are dependent upon the continued market acceptance of
the service and product offerings of the Company's customers. Although the
Company maintains contractual relationships with a substantial number of its
customers, such contracts do not provide for minimum purchase requirements, nor
do they contain provisions requiring the exclusive purchase of the Company's
products. The development of an application or service for the
telecommunications market can involve a substantial amount of time and expense.
The delay or failure of a customer's application development program
incorporating the Company's products could delay or prevent expected sales of
the Company's products. The inability or cessation of customers to integrate the
Company's products into their service and product offerings, product development
delays by application developers and other customers, lack of market acceptance
of the service and product offerings of the Company's customers or a customer's
decision to market products manufactured by a competitor of the Company, or the
manufacture of such products themselves, would have a material adverse effect on
the Company's business, financial condition and results of operations.
Additionally, selling through indirect channels may limit the Company's
information concerning the volume of products sold by the Company's customers to
end users and the Company's contact with its end users. As a result, the
Company's ability to forecast revenues accurately (notwithstanding the forecasts
of its customers), evaluate end-user satisfaction and recognize emerging end-
user requirements may be hindered. See "Business--Sales and Marketing."
Length of Sales Cycle. The time between the date of initial contact with a
potential customer and large-scale commercialization of a new customer
application or system based on the Company's products is often lengthy,
typically ranging from 12 to 24 months or more, and is subject to delays over
which the Company has little or no control, including customers' budgetary
constraints, customers' internal acceptance reviews, the success and continued
internal support of customers' own development efforts, and the possibility of
cancellation of projects by customers. Although the Company attempts to develop
its products with the goal of shortening the time to market of its customers'
products, the timing of the commercialization of a new customer application or
service based on the Company's products is primarily dependent on the success
and timing of a customer's own internal development program. Delays can also be
caused by late deliveries by other vendors, changes in implementation priorities
and slower than anticipated growth in demand for the services that the Company's
products support. A delay in, or cancellation of, the sale of the Company's
products could have a material adverse effect on the Company's business,
financial condition and results of operations and cause the Company's results of
operations to vary significantly from quarter to quarter. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Concentration of Customers. Approximately 40.6%, 36.7% and 26.0% of the
Company's revenues in 1995, 1996 and 1997, respectively, were derived from sales
to Comverse Network Systems (formerly Boston Technology, Inc.), approximately
10.2% of the Company's revenues in 1997 were derived from sales to QUALCOMM
Incorporated and approximately 11.4% of the Company's revenues in 1995 were
derived from sales to Ericsson Messaging Systems, Inc.
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In 1995, 1996 and 1997, the Company's five largest customers accounted for
approximately 70.1%, 57.1% and 50.9%, respectively, of the Company's revenues.
Although the Company's largest customers have varied from period to period, the
Company anticipates that its results of operations in any given period will
continue to depend to a significant extent upon sales to a small number of
customers. None of the Company's customers has entered into a long-term supply
agreement requiring any of them to purchase a minimum amount of product from the
Company. There can be no assurance that the Company's principal customers will
continue to purchase product from the Company at current levels, if at all, or
that the Company will be able to replace such purchases with sales to other
customers. In January 1998, Boston Technology, Inc. merged with Comverse
Technologies, Inc. In September 1997, Octel Communications Corporation, one of
the Company's five largest customers in 1996 and 1997, was acquired by Lucent
Technologies Inc. The Company cannot estimate the potential impact on its
business of these two recent transactions. The loss of one or more major
customers could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and "Business--
Customers."
Evolving Market For Telecommunications Services. The Company's future
success will depend on continued growth in the market for telecommunications
services. The global telecommunications marketplace is evolving and it is
difficult to predict its potential size or future growth rate. There can be no
assurance that deregulation and continued improvements and expansions of
infrastructure will continue to cause this market to grow or that increased
regulation will not present barriers to the sales of existing or future
products. There can also be no assurance that telecommunications applications
and infrastructure needs will not emerge for which the Company's products are
not designed. If this market fails to grow or grows more slowly or in a
different direction than the Company currently anticipates, the Company's
business, financial condition and results of operations could be materially
adversely affected. See "Business--Industry Background."
Concentrated Product Family. The Company currently derives substantially
all of its revenues from its family of open, programmable switching platforms
and expects that this concentration will continue in the foreseeable future. As
a result, any decrease in the overall level of sales of, or the prices for,
open, programmable switching platforms due to product enhancements,
introductions or announcements by the Company's competitors, a decline in the
demand for open, programmable switches, product obsolescence, price competition,
technological change or any other reason could have a material adverse effect on
the Company's business, financial condition and results of operations. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Risk of New Product Introductions. The Company intends to continue to
invest in product and technology development, including increasing port capacity
and performance, the development of additional related software applications and
tools, the improvement of third-party application integration, and the continued
provision of updated product features and enhancements. There can be no
assurance that the Company will not experience difficulties that could delay or
prevent the successful development, introduction or marketing of such new
products and enhancements, or that its new products and enhancements will
adequately meet the requirements of the marketplace and achieve market
acceptance. Announcements of currently planned or other new product offerings by
the Company or its competitors may cause customers to defer or cancel the
purchase of existing Company products. The Company's inability to develop on a
timely basis new products or enhancements to existing products, or the failure
of such new products or enhancements to achieve market acceptance, could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "--Rapid Technological Change," "Business--Products
and Technology" and "Business--Research and Product Development."
The development of new, technologically advanced products is a complex and
uncertain process requiring the accurate anticipation of technological and
market trends. 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, avoid excessive levels of older
product inventories and ensure that adequate supplies of new products can be
delivered to meet anticipated customer demand. There can be no assurance that
the Company will successfully develop, introduce or manage the transition to new
products. Furthermore, products such as those offered by the Company may contain
undetected or unresolved errors when they are first introduced or as new
versions are released. There can be no assurance that despite extensive testing
by the Company, errors will not be found in new products or upgrades after
commencement of commercial shipments, resulting in delays in or loss of market
acceptance and sales, diversion of
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development resources, injury to the Company's reputation or increased service
and warranty costs, any of which could have a material adverse effect on the
Company's business, financial condition and results of operations. See
"Business--Research and Product Development."
Rapid Technological Change. The telecommunications equipment market is
subject to rapid technological change, evolving industry standards and frequent
new product introductions and enhancements that may render existing products
obsolete. As a result, the Company's position in this market could erode rapidly
due to unforeseen changes in product features and functions of competing
products. The Company's growth and future results of operations will depend in
part on its ability to respond to these changes by enhancing its existing
products and developing and introducing, on a timely and cost-effective basis,
new products and features to meet or exceed technological advances in the
marketplace. The failure of the Company to respond to rapidly changing
technologies could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Business--Industry
Background" and "Business--Research and Product Development."
Management of Growth and Hiring of Additional Personnel. The Company has
experienced growth in revenues and expansion of its operations which have placed
significant demands on the Company's management, engineering staff and
facilities. The Company has recently hired additional engineering, marketing,
accounting and finance personnel, including its Vice President of Research and
Development within the last 12 months. The Company is also implementing
additional financial and management procedures which the Company believes will
address increasing demands on resources. However, the Company believes that
further improvements in management and operational controls are needed, and will
continue to be needed, to manage any future growth. Continued growth will also
require the Company to hire more engineering, selling and marketing and
administrative personnel, expand customer support capabilities, expand
management information systems and improve its inventory management practices.
The Company has at times experienced, and continues to experience, difficulty in
recruiting qualified personnel. Recruiting qualified personnel is an intensely
competitive and time-consuming process. There can be no assurance that the
Company will be able to attract and retain the necessary personnel to accomplish
its growth strategies or that it will not experience constraints that will
adversely affect its ability to satisfy customer demand in a timely fashion or
to support satisfactorily its customers and operations. If the Company's
management is unable to manage growth effectively, the Company's business,
financial condition and results of operations could be materially adversely
affected. See "Business--Employees."
While the Company believes its current and planned facilities are adequate
to meet its needs through the next 12 months, future growth may require the
Company to obtain additional or alternative facilities. Due to the limited
supply of suitable additional or alternative office and manufacturing space in
the Cape Cod, Massachusetts area, there can be no assurance that such space can
be leased or acquired without substantial required renovations. Relocation of
any segment of the Company's operations may disrupt business and have a material
adverse effect on the Company's business, financial condition and results of
operations. In addition, the local permitting and variance procedures for the
renovation of buildings or new construction in the Cape Cod area is more onerous
than found in metropolitan areas. Accordingly, there can be no assurance that
the Company will not be required in the future to devote significant resources
to the permitting and renovation of additional facilities or in relocating some
or all of the Company's facilities. See "Item 2--Properties."
Dependence on Key Personnel. The Company's success depends to a
significant degree upon the continued contributions of its President, Chief
Executive Officer and principal stockholder, Robert P. Madonna, and its key
management, engineering, selling and marketing and manufacturing personnel, many
of whom would be difficult to replace. The Company does not have employment
contracts with its key personnel. The loss of the services of any key personnel,
the inability to attract or retain qualified personnel in the future or delays
in hiring required personnel, particularly software engineers, could have a
material adverse effect on the Company's business, financial condition and
results of operations.
Highly Competitive Market. The market for telecommunications products is
highly competitive and subject to rapid technological change. The Company
competes or may compete directly or indirectly with the following categories of
companies: (i) other manufacturers of programmable switches such as Summa Four,
Inc., Redcom Laboratories, Inc. and Harris Corporation; (ii) large, well-
established switch and telecommunications equipment manufacturers such as
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Alcatel Alsthom Compagnie Generale d'Electricite SA, DSC Communications
Corporation, Lucent Technologies Inc., Northern Telecom Limited, Siemens AG and
Telefonaktiebolaget LM Ericsson; and (iii) to a lesser degree, systems
integrators and application developers whose switches are based on PC card-level
products manufactured by companies such as Aculab Inc., Dialogic Corporation and
Natural MicroSystems Corporation. In addition, several smaller companies have
begun to manufacture programmable switching platforms. Due to the rapidly
evolving markets in which the Company competes, additional competitors with
significant market presence and financial resources, including large
telecommunications equipment manufacturers and computer hardware and software
companies, may enter those markets, thereby further intensifying competition.
Additionally, there can be no assurance that one or more of the Company's
application developers will not begin to develop or market products in
competition with the Company. Increased competition could result in price
reductions and loss of market share which would materially adversely affect the
Company's business, financial condition and results of operations. Many of the
Company's current and potential competitors have significantly greater
financial, selling and marketing, technical, manufacturing and other resources
than the Company. Some of the Company's competitors currently offer financing
alternatives to their customers, a service that the Company does not provide.
Moreover, the Company's competitors may also foresee the course of market
developments more accurately than the Company. Although the Company believes it
has certain technological and other advantages over its competitors, realizing
and maintaining such advantages will require a continued high level of
investment by the Company in research and product development, marketing and
customer service and support. There can be no assurance that the Company will
have sufficient resources to continue to make such investments or that the
Company will be able to make the technological advances necessary to compete
successfully with its existing competitors or with new competitors. See
"Business--Competition."
Dependence on Single and Sole Source Suppliers. The Company purchases many
critical components from single or sole source vendors. The inability to develop
alternative sources for these components or to obtain sufficient quantities of
these components could result in delays or reductions in product shipments which
could materially adversely affect the Company's business, financial condition
and results of operations. In the event of a reduction or interruption of
supply, a significant amount of time, in some cases as much as three to four
months, could be required before the Company would begin receiving adequate
supplies from such alternative suppliers. Further, in such event, the Company's
business, financial condition and results of operations would be materially
adversely affected. In addition, the manufacture of certain of these single or
sole source components is extremely complex, and the Company's reliance on the
suppliers of these components exposes the Company to potential production
difficulties and quality variations, which could negatively impact cost and
timely delivery of the Company's products. Certain components are available from
only one supplier, for which there is no substitute at this time. If supply of
these components should cease, the Company would be required to redesign its
products. No assurance can be given that supply problems will not occur or, if
such problems do occur, that satisfactory solutions would be available. The
Company does not have long-term contracts with its suppliers and there can be no
assurance that these suppliers will continue to be able to produce these
components or to meet the Company's requirements. Any significant interruption
in the supply, or degradation in the quality, of any such component could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "Business--Manufacturing."
Although the Company generally requires its customers to submit quarterly
forecasts of their needs, the Company's customers frequently require rapid
delivery after placement of a purchase order. Because the Company does not
maintain significant component inventories, a delay in shipment by a supplier
could lead to lost sales. Lead times for materials and components may vary
significantly and depend on factors such as specific supplier performance,
contract terms and general market demand for components. If orders vary from
forecasts, the Company may experience excess or inadequate inventory of certain
materials and components. While the Company has not experienced shortages and
allocations of these components to date, any shortages in the future, including
those occasioned by increased sales, could result in delays in fulfillment of
customer orders. Such delays, shortages and allocations could have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Business--Manufacturing."
Dependence on Third-Party Manufacturers. The Company relies on a limited
number of independent manufacturers, some of which are small, privately-held
companies, to provide certain components and assemblies made to the Company's
specifications. These manufacturers substantially complete production of the
Company's products, which are then shipped to the Company for final assembly and
quality control. In the event that any of the Company's subcontractors were to
experience financial, operational, production or quality assurance difficulties
or a catastrophic
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event that resulted in a reduction or interruption in supply to the Company, the
Company's business, financial condition and results of operations would be
materially adversely affected until the Company was able to establish sufficient
manufacturing capabilities from alternative sources. There can be no assurance
that alternative manufacturing sources will be able to meet the Company's future
requirements or that existing or alternative sources will continue to be
available to the Company at favorable prices. See "Business--Manufacturing."
Compliance with Regulations and Evolving Industry Standards. The market
for the Company's products is characterized by the need to meet a significant
number of communications regulations and standards, some of which are evolving
as new technologies are deployed. In the United States, the Company's products
must comply with various regulations including those promulgated by the Federal
Communications Commission and standards established by Underwriters Laboratories
and Bell Communications Research. Furthermore, there are regulations and
standards imposed by various foreign countries where the Company's products are
installed. The failure of the Company's products to comply, or delays in
compliance, with the various existing and evolving industry regulations and
standards could delay the introduction of the Company's products. Moreover, the
enactment by federal, state or foreign governments of new laws or regulations,
changes in the interpretation of existing laws or regulations or a reversal of
the trend toward deregulation in the telecommunications industry could
materially adversely affect the Company's customers, and thereby materially
adversely affect the Company's business, financial condition and results of
operations. See "Business--Industry Background."
Dependence on Proprietary Rights. The Company's success and its ability to
compete is dependent, in part, upon its proprietary rights. The Company relies
primarily on a combination of patent, copyright, trademark and trade secret
laws, as well as confidentiality procedures and contractual restrictions to
establish and protect its proprietary rights. There can be no assurance that
such measures will be adequate to protect the Company's proprietary rights.
Further, the Company may be subject to additional risks as it enters into
transactions in countries where intellectual property laws are not well
developed or are difficult to enforce. Legal protections of the Company's
proprietary rights may be ineffective in such countries. Litigation to defend
and enforce the Company's intellectual property rights could result in
substantial costs and diversion of resources and could have a material adverse
effect on the Company's business, financial condition and results of operations,
regardless of the final outcome of such litigation. Despite the Company's
efforts to safeguard and maintain its proprietary rights both in the United
States and abroad, there can be no assurance that the Company will be successful
in doing so or that the steps taken by the Company in this regard will be
adequate to deter misappropriation or independent third-party development of the
Company's technology or to prevent an unauthorized third party from copying or
otherwise obtaining and using the Company's products or technology. There also
can be no assurance that others will not independently develop similar
technologies or duplicate any technology developed by the Company. Any such
events could have a material adverse effect on the Company's business, financial
condition and results of operations.
The Company has entered into agreements with a small number of its
customers requiring the Company to deposit its source code and, on occasion,
manufacturing blueprints, tooling diagrams and production specifications, in
escrow with a third party. These escrow agreements typically provide that these
customers have a non-exclusive right to use such code and other materials in the
event that there is a bankruptcy proceeding by or against the Company, if the
Company ceases to conduct business or if the Company defaults on its support
obligations. The use of such agreements may increase the likelihood of
misappropriation by third parties.
As the number of entrants to the Company's markets increases and the
functionality of the Company's products increases and overlaps with the products
of other companies, the Company may become subject to claims of infringement or
misappropriation of the intellectual property rights of others. In its
distribution agreements, the Company agrees to indemnify its customers for any
expenses or liabilities resulting from claimed infringements of patents,
trademarks or copyrights of third parties. In certain limited instances, the
amount of such indemnities may be greater than the revenues the Company may have
received from the customer. There can be no assurance that third parties will
not assert infringement or misappropriation claims against the Company in the
future with respect to current or future products. Any claims or litigation,
with or without merit, could be time-consuming, result in costly litigation,
cause product shipment delays or require the Company to enter into royalty or
licensing arrangements. Such royalty or licensing arrangements, if required, may
not be available on terms acceptable to the Company, if at all, which could have
a material adverse effect on the Company's business, financial condition and
results of operations. In addition, the
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Company changed its name from Excel Inc. to Excel Switching Corporation in
September 1997. Searches performed on the term Excel have revealed several
registrations and numerous uses of that term, and terms substantially similar to
it, alone and in combination with other terms and designs. Accordingly, there
can be no assurance that third parties will not assert trademark infringement
claims relating to the name Excel in the future. See "Business--Intellectual
Property."
Risks Associated with International Sales. In 1996 and 1997, sales to
customers located outside of the United States accounted for less than 4% and
8%, respectively, of the Company's revenues in each such period. However, the
Company sells its products to application developers, OEMs and systems
integrators located within the United States which market products and services
based on the Company's products worldwide. The Company intends to expand its
operations outside the United States and enter additional international markets,
which will require significant management attention and financial resources.
International sales are subject to a variety of risks, including difficulties in
establishing and managing international distribution channels, in servicing and
supporting products sold outside the United States and in translating products
and related materials into foreign languages. International operations are also
subject to difficulties in collecting accounts receivable, staffing and managing
personnel and enforcing intellectual property rights. Other factors that can
adversely affect international operations include fluctuations in the value of
foreign currencies and currency exchange rates, changes in import/export duties
and quotas, introduction of tariff or non-tariff barriers and economic or
political changes in international markets. Any inability to obtain foreign
regulatory approvals on a timely basis could have a material adverse effect on
the Company's business, financial condition and results of operations. If the
Company's international sales increase, its revenues may also be affected to a
greater extent by seasonal fluctuations resulting from lower levels of sales
which typically occur during the summer months in Europe and other parts of the
world. There can be no assurance that these factors will not have a material
adverse effect on the Company's future international sales and, consequently, on
the Company's business, financial condition and results of operations. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations".
Risks Relating to Potential Acquisitions. The Company may, from time to
time, pursue the acquisition of other companies, assets, products and
technologies although the Company has no present commitments or agreements with
respect to any such acquisitions. Acquisitions involve a number of operating
risks that could materially adversely affect the Company's results of
operations, including the diversion of management's attention to assimilate the
operations, products and personnel of the acquired companies, the amortization
of acquired intangible assets, and the potential loss of key employees of the
acquired companies. Furthermore, acquisitions may involve businesses in which
the Company lacks experience. Because management has limited experience in
acquisitions and the Company has no experience in integrating acquired companies
or technologies into its operations, there can be no assurance that the Company
will be able to manage one or more acquisitions successfully, or that the
Company will be able to integrate the operations, products or personnel gained
through any such acquisitions without a material adverse effect on the Company's
business, financial condition and results of operations.
Control by Principal Stockholder. Robert P. Madonna, the Company's
President, Chief Executive Officer, Chairman of the Board and principal
stockholder, beneficially owns approximately 83.6% of the outstanding shares of
Common Stock of the Company. As a result, Mr. Madonna has the ability to elect
the Company's directors and to determine the outcome of corporate actions
requiring stockholder approval, irrespective of how other stockholders of the
Company may vote. This concentration of ownership may have the effect of
delaying or preventing a change in control of the Company which may be favored
by a majority of the remaining stockholders, or cause a change of control not
favored by the Company's other stockholders.
Shares Eligible for Future Sale. Sales of substantial amounts of shares of
the Company's Common Stock 180 days after the Company's initial public offering
on November 4, 1997 could adversely affect the market price of the Common Stock.
Upon expiration of lock-up agreements with the Underwriters on May 4, 1998,
approximately 27,918,400 additional shares of Common Stock will be available for
sale in the public market, subject to the provisions of Rule 144 under the
Securities Act. At December 27, 1997, approximately 7,179,990 shares of Common
Stock were issued or issuable pursuant to vested options under the Company's
stock plans, of which approximately 107,700 shares are not subject to lock-up
agreements with the Underwriters and were eligible for sale in the public market
in accordance with Rule 701 under the Securities Act beginning February 4, 1998.
The Company intends to file one or more registration statements on Form S-8
under the Securities Act on or about May 4, 1998 to register up to 11,275,840
shares of Common Stock subject to outstanding stock options granted pursuant to
the Company's Stock Option Program as of
26
<PAGE>
December 27, 1997, of which options to purchase 7,149,990 shares of Common Stock
were vested as of December 27, 1997 and 3,625,000 shares of Common Stock
issuable pursuant to the Company's 1997 stock plans. Such registration
statements are expected to become effective upon filing. At such time,
approximately 7,327,050 shares of Common Stock issuable upon the exercise of
options granted as of December 27, 1997 and covered by these registration
statements will be vested and eligible for sale in the public market upon the
exercise of underlying options to the extent not previously sold pursuant to
Rule 701.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Consolidated Financial Statements and Supplementary Data of the Company
are listed under Part IV, Item 14, in this Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item 10 is hereby incorporated by
reference to the information under the headings "Elections of Directors" and
"Executive Officers" in the Company's definitive proxy statement to be filed by
the Company within 120 days after the close of its fiscal year ended December
27, 1997.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item 11 is hereby incorporated by
reference to the information under the heading "Executive Compensation" and
"Options and Stock Plans" in the Company's definitive proxy statement to be
filed by the Company within 120 days after the close of its fiscal year ended
December 27, 1997.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item 12 is hereby incorporated by
reference to the information under the heading "Security Ownership of Certain
Beneficial Owners and Management" in the definitive proxy statement to be filed
by the Company within 120 days after the close of its fiscal year ended December
27, 1997.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item 13 is hereby incorporated by
reference to the information under the heading "Certain Transactions", if any,
in the Company's definitive proxy statement to be filed by the Company within
120 days after the close of its fiscal year ended December 27, 1997.
27
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
<TABLE>
<CAPTION>
(a) The following documents are filed as part of this report: Page
----
<S> <C> <C>
(1) Financial Statements
Report of Independent Public Accountants F-1
Consolidated Balance Sheets as of December 28, 1996 and December 27, 1997 F-2
Consolidated Statements of Income for the Fiscal Years 1995, 1996 and 1997 F-3
Consolidated Statements of Stockholders' Equity for the Fiscal Years 1995,
1996 and 1997 F-4
Consolidated Statements of Cash Flows for the Fiscal Years 1995, 1996 and 1997 F-5
Notes to Consolidated Financial Statements F-6
(2) Financial Statement Schedule
Report of Independent Public Accountants
Valuation and qualifying accounts Schedule II
(3) Listing of Exhibits
</TABLE>
28
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. REFERENCE
<S> <C> <C>
3.1 Restated Articles of Organization of the Company. A**
3.2 Restated By-laws of the Company. A**
4.1 Specimen certificate representing the Common Stock. A**
10.1 1997 Stock Option Plan. A**
10.2 1997 Non-Employee Director Stock Option Plan. A**
10.3 1997 Employee Stock Purchase Plan. A**
10.4 Form of Stock Option Agreement of the Company used under Stock Option Program. A**
10.5 Lease dated as of July 27, 1995 between the Company and Independence Park, Inc., A**
as amended
10.6 Purchase and Resale Agreement dated as of May 27, 1994 between the Company and A**
Boston Technology, Inc.
10.7 Credit Agreement and Promissory Note dated as of December 21, 1995 between the Filed
Company and The First National Bank of Boston, as amended. herewith
10.8 Mortgage and Security Agreement and Real Estate Promissory Note dated April 21, A**
1995 between the Company and Cape Cod Bank and Trust Company.
10.9 Loan Agreement, Real Estate Promissory Note and Security Agreement dated as of A**
June 30, 1997 between the Company and Cape Cod Bank and Trust Company.
21.1 Subsidiaries of the Company Filed
herewith
27 Financial Data Schedule Filed
herewith
</TABLE>
- --------------------------
A Incorporated by reference to the Company's registration statement on Form
S-1 (Registration No. 333-35791). The number set forth herein is the number
of the Exhibit in said registration statement.
** In accordance with Rule 12b-32 under the Securities Exchange Act of 1934,
as amended, reference is made to the documents previously filed with the
Securities and Exchange Commission, which documents are hereby incorporated
by reference.
(b) REPORTS ON FORM 8-K
-------------------
The Company did not file any current reports on Form 8-K during the quarter
ended December 27, 1997.
29
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
EXCEL SWITCHING CORPORATION
Dated: March 25, 1998 By: /s/ Robert P. Madonna
----------------------
Robert P. Madonna
President, Chief Executive Officer &
Chairman of the Board
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the Company
and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
<S> <C> <C>
/s/ Robert P. Madonna Director, President, Chief Executive Officer and March 25, 1998
- ---------------------- Chairman of the Board (Principal Executive Officer)
Robert P. Madonna
/s/ Stephen S. Galliker Vice President, Finance and Administration March 25, 1998
- ------------------------ and Chief Financial Officer (Principal Financial
Stephen S. Galliker and Accounting Officer)
/s/ Christopher Stavros Director, Vice President, General Counsel March 25, 1998
- ---------------------- and Clerk
Christopher Stavros
/s/ Edward L. Breslow Director March 25, 1998
- ---------------------
Edward L. Breslow
/s/ John Loughlin Director March 25, 1998
- -----------------
John Loughlin
</TABLE>
30
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Excel Switching Corporation:
We have audited the accompanying consolidated balance sheets of Excel Switching
Corporation (a Massachusetts corporation formerly known as Excel Inc.) and
subsidiaries as of December 28, 1996 and December 27, 1997, and the related
consolidated statements of income, stockholders' equity and cash flows for each
of the three years in the period ended December 27, 1997. 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Excel Switching
Corporation and subsidiaries as of December 28, 1996 and December 27, 1997, and
the results of their operations and their cash flows for each of the three years
in the period ended December 27, 1997, in conformity with generally accepted
accounting principles.
ARTHUR ANDERSEN LLP
Boston, Massachusetts
January 21, 1998
F-1
<PAGE>
EXCEL SWITCHING CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
ASSETS
December 28, December 27,
1996 1997
CURRENT ASSETS:
Cash and cash equivalents $ 4,069 $ 47,968
Marketable securities - 66,929
Accounts receivable, net of reserves of $979
and $1,350 in 1996 and 1997, respectively 10,329 12,843
Inventories 7,358 4,740
Prepaid taxes - 122
Deferred tax asset 3,761 5,626
Other current assets 292 1,298
--------- ----------
Total current assets 25,809 139,526
--------- ----------
PROPERTY AND EQUIPMENT:
Test equipment 3,400 4,015
Buildings 3,925 3,991
Office equipment, furniture and fixtures 1,836 3,460
Land 576 576
Building improvements 493 523
Assets under capital lease 489 489
Construction in progress (Note 7) - 1,129
--------- ----------
10,719 14,183
Less--Accumulated depreciation and amortization 1,756 4,015
---------- -----------
8,963 10,168
--------- ----------
$ 34,772 $ 149,694
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of long-term obligations $ 499 $ 4,213
Accounts payable 1,896 4,177
Accrued expenses 5,807 11,156
Accrued income taxes 2,647 3,606
--------- ---------
Total current liabilities 10,849 23,152
--------- ---------
DEFERRED INCOME TAXES - 519
--------- ---------
LONG-TERM OBLIGATIONS, LESS CURRENT MATURITIES 3,837 108
--------- ---------
COMMITMENTS (Note 7)
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value-
Authorized--10,000,000 shares; no shares
issued and outstanding - -
Common stock, $.01 par value-
Authorized--100,000,000 shares
Issued and outstanding--28,089,600 and
32,592,000 shares at December 28, 1996 281 326
and December 27, 1997, respectively
Additional paid-in capital 647 88,134
Deferred compensation (192) (491)
Unrealized loss on investments - (20)
Retained earnings 19,350 37,966
--------- ---------
Total stockholders' equity 20,086 125,915
--------- ---------
$ 34,772 $ 149,694
========= =========
The accompanying notes are an integral part of these consolidated financial
statements.
F-2
<PAGE>
EXCEL SWITCHING CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
<TABLE>
<CAPTION>
-------------------Year Ended--------------------
December 31, December 28, December 27,
1995 1996 1997
<S> <C> <C> <C>
REVENUES $ 36,161 $ 62,050 $ 88,727
COST OF REVENUES 12,100 24,312 26,631
---------- ---------- ----------
Gross profit 24,061 37,738 62,096
---------- ---------- ----------
OPERATING EXPENSES:
Engineering, research and development 8,117 11,121 13,260
Selling and marketing 2,923 6,621 11,486
General and administrative 4,238 6,426 7,949
---------- ---------- ----------
Total operating expenses 15,278 24,168 32,695
---------- ---------- ----------
Income from operations 8,783 13,570 29,401
OTHER INCOME (EXPENSE):
Interest income and other expense, net 110 111 1,764
Interest expense (72) (495) (372)
---------- ---------- ----------
Total other income (expense) 38 (384) 1,392
---------- ---------- ----------
Income before provision for income taxes 8,821 13,186 30,793
PROVISION FOR INCOME TAXES 3,410 5,285 12,177
---------- ---------- ----------
NET INCOME $ 5,411 $ 7,901 $ 18,616
========== ========== ==========
BASIC EARNINGS PER SHARE $ .19 $ .28 $ .65
========== ========== ==========
DILUTED EARNINGS PER SHARE $ .17 $ .24 $ .54
========== ========== ==========
BASIC WEIGHTED AVERAGE SHARES OUTSTANDING 27,962 28,090 28,756
========== ========== ==========
DILUTED WEIGHTED AVERAGE SHARES OUTSTANDING 31,822 32,697 34,361
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-3
<PAGE>
EXCEL SWITCHING CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands, except share data)
<TABLE>
<CAPTION>
Common Stock Additional Deferred Unrealized Retained
Number of $.01 Par Paid-in Compensation Loss on Earnings Total
Shares Value Capital Investments
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE, DECEMBER 31, 1994 27,945,600 $ 280 $ 251 $ (99) $ -- $ 6,039 $ 6,471
Compensation expense associated with the grant of -- -- 432 (189) -- -- 243
stock options
Forfeiture of stock options with deferred -- -- (16) 16 -- -- --
compensation
Exercise of stock options 144,000 1 -- -- -- (1) --
Net income -- -- -- -- -- 5,411 5,411
---------- ----- -------- ------ ----- -------- ---------
BALANCE, DECEMBER 31, 1995 28,089,600 281 667 (272) -- 11,449 12,125
Compensation expense associated with the grant of -- -- -- 73 -- -- 73
stock options
Forfeiture of stock options with deferred -- -- (20) 7 -- -- (13)
compensation
Net income -- -- -- -- -- 7,901 7,901
---------- ----- -------- ------ ----- -------- ---------
BALANCE, DECEMBER 28, 1996 28,089,600 281 647 (192) -- 19,350 20,086
Compensation expense associated with the grant of -- -- 424 (299) -- -- 125
stock options
Exercise of stock options 2,400 -- 2 -- -- -- 2
Proceeds of initial public offering of common 4,500,000 45 87,061 -- -- -- 87,106
stock, net of approximately $7,394,000 in
issuance costs
Unrealized loss on investments -- -- -- -- (20) -- (20)
Net income -- -- -- -- -- 18,616 18,616
---------- ----- -------- ------ ----- -------- ---------
BALANCE, DECEMBER 27, 1997 32,592,000 $ 326 $ 88,134 $ (491) $ (20) $ 37,966 $ 125,915
========== ===== ======== ====== ===== ======== =========
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-4
<PAGE>
EXCEL SWITCHING CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
-------------------Year Ended---------------------
December 31, December 28, December 27,
1995 1996 1997
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 5,411 $ 7,901 $ 18,616
Adjustments to reconcile net income to net cash provided by
operating activities-
Depreciation and amortization 560 1,166 2,259
Loss on disposal of property and equipment 95 - -
Unrealized loss on investments - - 20
Deferred income taxes (487) (3,417) (1,346)
Compensation expense associated with the grant of stock 243 60 125
options, net of forfeitures
Changes in assets and liabilities-
Accounts receivable (3,928) (2,020) (2,514)
Inventories (3,760) (409) 2,618
Prepaid taxes (401) 401 (122)
Other current assets (123) (132) (1,006)
Accounts payable 2,419 (2,473) 2,281
Accrued expenses 1,198 3,877 5,349
Accrued income taxes (55) 2,350 959
--------- --------- ---------
Net cash provided by operating activities 1,172 7,304 27,239
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (4,096) (4,601) (3,464)
Proceeds from sale of property and equipment - 548 -
Purchases of marketable securities, net - - (66,969)
--------- --------- ---------
Net cash used in investing activities (4,096) (4,053) (70,433)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term obligations 2,740 649 460
Payments on long-term obligations (53) (601) (475)
Proceeds from sale of common stock - - 87,106
Proceeds from the exercise of stock options - - 2
--------- --------- ---------
Net cash provided by financing activities 2,687 48 87,093
--------- --------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (237) 3,299 43,899
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 1,007 770 4,069
--------- --------- ---------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 770 $ 4,069 $ 47,968
========= ========= =========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the year for-
Interest $ 119 $ 490 $ 377
========= ========= =========
Taxes $ 4,353 $ 5,951 $ 13,271
========= ========= =========
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING ACTIVITIES:
Acquisition of property and equipment under capital lease $ 1,112 $ 489 $ -
obligations ========= ========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-5
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(1) OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
Excel Switching Corporation (the Company), formerly known as Excel Inc.,
was incorporated in Massachusetts in January 1988 and is a leading
provider of open switching platforms for telecommunications networks
worldwide. The Company develops, manufactures, markets and supports a
family of open, programmable, carrier-class switches that address the
complex enhanced services and wireless and wireline infrastructure needs
of network providers. The Company sells to a variety of customers in the
worldwide telecommunications market, including applications developers,
original equipment manufacturers (OEMs) and system integrators.
The accompanying consolidated financial statements reflect the
application of certain accounting policies as described below and
elsewhere in these notes to consolidated financial statements.
(a) Principles of Consolidation
These consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries. All significant
intercompany transactions have been eliminated.
(b) Change in Fiscal Year-End
During 1996, the Company elected to change its fiscal year-end
from December 31 to the last Saturday in December. In the
accompanying consolidated financial statements, 1995 refers to the
year ended December 31, 1995; 1996 refers to the year ended
December 28, 1996; and 1997 refers to the year ended December 27,
1997.
(c) Management 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.
The market for telecommunications equipment in which the company
operates can be characterized as rapidly changing due to several
factors including technological advancements, the introduction of
new products and services by the Company and its competitors, and
the increasing demands placed on equipment in worldwide
telecommunications networks. Significant assets and liabilities
with reported amounts based on estimates include accounts
receivable, inventory and accrued expenses for post sale support
costs, warranty costs and sales returns. While the Company
believes its estimates are adequate, actual results could differ
from those estimates.
F-6
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(Continued)
(d) Revenue Recognition
Revenue from product sales is recognized at the time of shipment
to the customer at which time transfer of ownership occurs. The
Company provides for anticipated product returns, post sale
support and warranty costs at the time of product shipment.
(e) Sources of Supply and Third-Party Manufacturing Relationships
Certain components used in the manufacture of the Company's
products are currently available only from single- or sole-source
suppliers. In addition, the Company relies on a limited number of
third parties to manufacture certain other components and
subassemblies. Shortages resulting from a change in arrangements
with these suppliers and manufacturers could cause delays in
manufacturing and product shipments and possible deferral or
cancellation of customer orders.
(f) Cash, Cash Equivalents and Marketable Securities
The Company accounts for investments in accordance with Statement
of Financial Accounting Standards (SFAS) No. 115, Accounting for
Certain Investments in Debt and Equity Securities. Under this
standard, investments for which the Company has the positive
intent and ability to hold to maturity are reported at amortized
cost, which approximates fair market value, and are classified as
held-to-maturity. The Company did not classify any investments as
held-to-maturity at December 28, 1996 or December 27, 1997.
Investments purchased to be held for indefinite periods of time
and not intended at the time of purchase to be held-to-maturity
are classified as available-for-sale and reported at fair market
value. Unrealized losses on available-for-sale securities at
December 27, 1997 were approximately $20,000. The investments that
the Company has deemed available-for-sale include certificates of
deposit, commercial paper, bankers' acceptances and corporate,
state municipality and U.S. government debt securities. Cash
equivalents are highly liquid investments with original maturities
of three months or less. Marketable securities are highly liquid
investment grade securities with original maturities of greater
than three months. To date, the Company has not recorded any
realized gains or losses.
F-7
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(Continued)
Cash, cash equivalents and marketable securities consist of the
following (in thousands):
1996 1997
Cash and cash equivalents-
Cash $ 4,016 $ 1,655
Time deposits 53 1,459
Money markets - 9,791
Commercial paper - 32,071
Bankers' acceptance - 2,992
------- --------
Total cash and cash equivalents $ 4,069 $ 47,968
======= ========
Marketable securities-
Time deposits $ - $ 2,004
U.S. government and agency debt securities - 31,090
Municipality debt securities - 2,000
Commercial paper - 4,900
Corporate debt securities - 26,935
------- --------
Total marketable securities $ - $ 66,929
======= ========
The following table summarizes the remaining maturity of the Company's
investments in debt securities as of December 27, 1997 (in thousands):
One year or less $ 83,343
One to five years 14,647
Variable maturity 2,000
--------
$ 99,990
========
(g) Inventories
Inventories are valued at the lower of cost (first-in, first-out) or
market. Work-in-process and finished goods consist of materials, labor
and manufacturing overhead. Inventories at December 28, 1996 and
December 27, 1997 consist of the following (in thousands):
1996 1997
Raw materials $ 3,585 $ 396
Work-in-process 2,988 3,713
Finished goods 785 631
------- -------
$ 7,358 $ 4,740
======= =======
F-8
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(Continued)
(h) Depreciation and Amortization
The Company provides for depreciation and amortization using both
straight-line and accelerated methods by charges to operations in
amounts that allocate the cost of the assets over their estimated
useful lives as follows:
Estimated
Description Useful Lives
Test equipment 2-5 years
Buildings 40 years
Office equipment, furniture and fixtures 2-7 years
Building improvements 7-40 years
Assets under capital lease 3 years
(i) Research and Development and Software Development Costs
Research and development costs have been charged to operations as
incurred. Capitalization of computer software costs begin upon the
establishment of technological feasibility. Because the Company
believes its current process for developing software is essentially
completed concurrently with the establishment of technological
feasibility, no costs have been capitalized to date.
(j) Concentrations of Credit Risk
Financial instruments that subject the Company to significant
concentrations of credit risk consist primarily of cash, cash
equivalents, marketable securities and trade accounts receivable. The
Company's investments are in financial instruments of high quality.
Concentration of credit risk with respect to accounts receivable is
limited to customers to whom the Company makes significant sales. One
significant customer accounted for approximately 34% and 15% of
accounts receivable at December 28, 1996 and December 27, 1997,
respectively. Another significant customer accounted for approximately
18% of accounts receivable at December 27, 1997 (see Note 9). To
control credit risk, the Company performs regular credit evaluations of
its customers' financial condition and maintains allowances for
potential credit losses.
(k) Fair Value of Financial Instruments
The carrying amounts of the Company's cash and cash equivalents,
accounts receivable and accounts payable approximate fair value due to
the short-term nature of these instruments. The carrying amounts of
debt issued pursuant to agreements with banks approximate fair value
since the interest rates on these instruments fluctuate with market
interest rates.
F-9
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(Continued)
(l) Earnings per Share
In March 1997, the Financial Accounting Standards Board (FASB) issued
SFAS No. 128, Earnings per Share. This statement established standards
for computing and presenting earnings per share and applies to entities
with publicly traded common stock or potential common stock. This
statement is effective for fiscal years ending after December 15, 1997.
In February 1998, the Securities and Exchange Commission (SEC) issued
Staff Accounting Bulletin (SAB) No. 98. This bulletin revises the SEC's
guidance for calculating earnings per share with respect to equity
security issuances before an initial public offering (IPO) and is
effective for fiscal years ending after December 15, 1997. The prior
years' earnings per share have been retroactively restated to reflect
the adoption of SFAS No. 128 and SAB No. 98.
Basic earnings per share was determined by dividing net income by the
weighted average common shares outstanding during the period. Diluted
earnings per share was determined by dividing net income by diluted
weighted average shares outstanding. Diluted weighted average shares
reflects the dilutive effect, if any, of both common equivalent shares
and nominal issuances. Common equivalent shares include common stock
options to the extent their effect is dilutive, based on the treasury
stock method. Nominal issuances arise when a registrant issues common
stock, options or warrants to purchase common stock or other
potentially dilutive instruments for nominal consideration, as defined
by SAB No. 98, in the periods preceding an IPO. During the period
preceding the Company's IPO, the Company did not have any nominal
issuances.
The calculations of basic and diluted weighted average shares
outstanding are as follows (in thousands):
1995 1996 1997
Basic weighted average common shares
outstanding 27,962 28,090 28,756
Weighted average common equivalent
shares 3,860 4,607 5,605
------ ------ ------
Diluted weighted average shares
outstanding 31,822 32,697 34,361
====== ====== ======
(m) New Accounting Standards
In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive
Income. SFAS No. 130 requires disclosure of all components of
comprehensive income on an annual and interim basis. Comprehensive
income is defined as the change in equity of a business enterprise
during a period from transactions and other events and circumstances
from nonowner sources. SFAS No. 130 is effective for fiscal years
beginning after December 15, 1997.
F-10
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(Continued)
In July 1997, the FASB issued SFAS No. 131, Disclosures About Segments
of an Enterprise and Related Information. SFAS No. 131, requires
certain financial and supplementary information to be disclosed on an
annual and interim basis for each reportable segment of an enterprise.
SFAS No. 131 is effective for fiscal years beginning after December 15,
1997. Unless impracticable, companies would be required to disclose
similar prior period information upon adoption.
(2) LONG-TERM OBLIGATIONS
Long-term obligations consist of the following at December 28, 1996 and
December 27, 1997 (in thousands):
1996 1997
Mortgage and Security Agreement $ 2,485 $ 2,386
Real Estate Promissory Note - 460
Promissory note payable to a bank 435 272
Capital lease obligation--building 997 926
Capital lease obligation--equipment 419 277
------- -------
4,336 4,321
Less--Current maturities 499 4,213
------- -------
$ 3,837 $ 108
======= =======
In January 1998, the Company repaid all outstanding obligations under the
Mortgage and Security Agreement, promissory note payable and the Real
Estate Promissory Note. Accordingly, all outstanding balances as of
December 27, 1997 have been reflected as current liabilities in the
accompanying December 27, 1997 consolidated balance sheet.
On April 21, 1995, the Company entered into a $2,600,000 Mortgage and
Security Agreement with a bank to finance the purchase of two buildings and
related land. The agreement required monthly principal and interest
payments through April 2010. Interest accrued at prime (8.5% at
December 27, 1997) plus .75%. The mortgage was collateralized by the two
buildings and related land, which have a carrying value of approximately
$3,100,000 at December 27, 1997. The Company was subject to certain
restrictive covenants under this agreement.
F-11
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(Continued)
In June 1997, the Company purchased property to be used for the
construction of an additional building. The purchase price of $575,000 and
the construction costs were to be financed, in part, by a $2,100,000 Real
Estate Promissory Note with a bank. In connection with the purchase, the
bank advanced $460,000 under this note. Borrowings under this note bore
interest at prime (8.5% at December 27, 1997) plus .25% and were secured by
the property and a certificate of deposit in the amount of $385,000.
During 1996, the Company entered into a promissory note with a bank for
$489,000, the proceeds of which were used to fund building improvements and
to retire a previous promissory note with the same bank in the original
amount of $300,000. Borrowings under this note required monthly principal
payments plus interest at prime (8.5% at December 27, 1997) plus 1% through
August 1999.
In 1995, the Company entered into a building lease that requires monthly
payments of approximately $13,000 through July 2000. This lease includes a
purchase option exercisable beginning in August 1998 for $875,000.
Management intends to exercise this option and, accordingly, has recorded
this lease as a capital lease obligation. The present value of the
remaining lease payments and the purchase price have been recognized as the
capital lease obligation using an effective rate of 8.3%.
During 1996, the Company entered into an agreement with a leasing company,
which provided for the sale and leaseback of certain equipment that had a
net book value of approximately $474,000. Proceeds to the Company in
connection with this sale were approximately $548,000. The resulting gain
has been deferred and is being recognized ratably over the lease term.
Under the terms of the agreement, the Company is required to make thirty-
six monthly installments of approximately $16,000. The present value of the
lease payments has been recognized as a capital lease obligation using an
effective rate of 9%.
Assuming the Company exercises its purchase option in 1998 with respect to
the 1995 building lease, future maturities of the remaining capital lease
obligations are as follows (in thousands):
1998 $ 1,167
1999 112
-------
1,279
Less--Amount representing interest 76
Total long-term obligations $ 1,203
=======
F-12
<PAGE>
EXCEL SWITCHING CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 27, 1997
(Continued)
(3) LINE-OF-CREDIT ARRANGEMENT
In December 1997, the Company's unsecured line-of-credit arrangement with a
bank was amended to provide up to $15,000,000 in financing. Borrowings
under this line bear interest at either the bank's base rate (8.5% at
December 27, 1997) or the Eurodollar rate (5.7% at December 27, 1997) plus
1.75%. The Company is required to maintain certain restrictive covenants
under this agreement. This agreement expires June 30, 1999. There were no
borrowings outstanding under this agreement at December 28, 1996 or
December 27, 1997.
(4) INCOME TAXES
The Company provides for income taxes under SFAS No. 109, Accounting for
Income Taxes. Under SFAS No. 109, a deferred tax asset or liability is
determined based on the difference between the financial statement and tax
bases of assets and liabilities, as measured by the enacted tax rates
expected to be in effect when the differences reverse.
The components of the provision for income taxes are as follows (in
thousands):
1995 1996 1997
Current-
Federal $ 3,054 $ 6,731 $11,249
State 843 1,971 2,274
------- ------- -------
3,897 8,702 13,523
------- ------- -------
Deferred (prepaid)-
Federal (363) (2,904) (1,036)
State (124) (513) (310)
------- ------- -------
(487) (3,417) (1,346)
------- ------- -------
Total provision $ 3,410 $ 5,285 $12,177
======= ======= =======
A reconciliation of the federal statutory rate to the Company's effective
tax rate is as follows:
1995 1996 1997
Income tax provision at federal statutory rate 34% 34% 35%
Increase (decrease) in tax resulting from-
State tax provision, net of federal benefit 6 6 5
Research and development tax credits (1) - (2)
Other - - 2
---- ---- ----
Effective tax rate 39% 40% 40%
==== ==== ====
F-13
<PAGE>
EXCEL SWITCHING CORPORATION
Notes To Consolidated Financial Statements
December 27, 1997
(Continued)
The approximate income tax effect of each type of temporary difference
composing the net deferred tax asset at December 28, 1996 and December 27,
1997 is as follows (in thousands):
1996 1997
Difference in inventory accounting method $ (275) $ (778)
Nondeductible reserves 1,427 2,185
Nondeductible accruals 2,674 3,736
Depreciation and amortization 137 -
Other temporary differences (202) (36)
-------- --------
Net deferred tax asset $ 3,761 $ 5,107
======== ========
(5) STOCKHOLDERS' EQUITY
(a) Initial Public Offering
In November 1997, the Company completed an IPO of 4,500,000 shares of
common stock at a per share price of $21. The Company received proceeds
of approximately $87.1 million, net of underwriting discounts and
commissions and offering expenses of approximately $7.4 million.
(b) Common Stock
On September 16, 1997, the Company restated its Articles of
Organization to provide for authorized common stock of 100,000,000
shares, with a $.01 par value, 85,000,000 of which were designated as
voting shares and 15,000,000 of which were designated as nonvoting
shares. The accompanying consolidated financial statements have been
retroactively restated for this change. Upon the effective date of the
Registration Statement relating to the Company's IPO of common stock,
all authorized and outstanding shares of nonvoting common stock were
automatically converted, on a one-for-one basis, into shares of voting
common stock.
At December 27, 1997, there were 14,840,840 shares of common stock
reserved for future issuance under the Company's stock option plans.
(c) Preferred Stock
In September 1997, the Board of Directors and sole voting stockholder
authorized 10,000,000 shares of $.01 par value preferred stock. The
Board of Directors has the authority to issue such shares in one or
more series and to fix the relative rights and preferences without
further vote or action by the stockholders. Currently, the Board of
Directors has no plans to issue any shares of preferred stock.
F-14
<PAGE>
EXCEL SWITCHING CORPORATION
Notes to Consolidated Financial Statements
(Continued)
(d) Stock Splits
On September 19, 1996, the Company declared a three-for-one split
of the shares of common stock. On September 16, 1997, the Company
declared a two-for-one split of the shares of common stock. All
share and per share amounts for all periods presented have been
adjusted to reflect these splits.
(6) STOCK OPTION PLANS
(a) Stock Option Program
The Company has granted nonqualified stock options to purchase
shares of its common stock at exercise prices generally determined
to be at fair market value by the Company's Board of Directors on
the date of grant. Options are generally exercisable within 10
years of the original date of grant and vest over a period of up
to five years from the date of grant. In some instances, options
have been granted at exercise prices below the fair market value
on the date of grant. The difference, if any, between the fair
market value of shares of the Company's nonvoting common stock, as
determined by the Company's Board of Directors, and the exercise
price of the option is recognized as compensation expense over the
vesting term. During 1995, 1996 and 1997, the Company recognized
net compensation expense of approximately $243,000, $60,000 and
$125,000, respectively. In November 1997, this program was
terminated. There are 11,215,840 options outstanding under this
program as of December 27, 1997.
(b) 1997 Stock Option Plan
In September 1997, the Company's Board of Directors and sole
voting stockholder adopted the 1997 Stock Option Plan (1997 Plan).
Under the terms of the 1997 Plan, incentive and nonqualified stock
options may be granted to employees and consultants to purchase an
aggregate of 3,000,000 shares of common stock. Subsequent to
December 27, 1997, approximately 108,900 options were been granted
under the 1997 Plan.
F-15
<PAGE>
EXCEL SWITCHING CORPORATION
Notes to Consolidated Financial Statements
December 27, 1997
(Continued)
(c) Director Option Plan
The Company's Non-Employee Director Stock Option Plan (Director
Option Plan) was adopted by the Board of Directors and sole voting
stockholder in September 1997. The Director Option Plan provides
for the grant of options to purchase an aggregate 225,000 shares
of common stock to nonemployee directors of the Company. Each such
director will be granted an option to purchase 30,000 shares upon
election to the Board of Directors. In addition, each such
director will be automatically granted an option to purchase
15,000 shares in each of the two years following the date such
person becomes a director. These options will vest 1/3 on grant
date, 1/3 one year from grant date and 1/3 two years from grant
date. In November of 1997, three nonemployee directors were
elected and each received 30,000 options at an exercise price of
$21 per share.
(d) 1997 Employee Stock Purchase Plan
In September 1997, the Company's Board of Directors and sole
voting stockholder approved the 1997 Employee Stock Purchase Plan,
pursuant to which a maximum of 400,000 shares of common stock may
be issued to participating employees in semiannual grants at a
price equal to 85% of fair market value, as defined. No shares
have been issued under this plan.
(e) Stock Option Activity
Stock option activity under all plans for the three years in the
period ended December 27, 1997 is as follows:
Number of Weighted
Shares Average
Exercise
Price
Outstanding, December 31, 1994 6,639,840 $ 0.025
Granted 1,491,000 0.333
Exercised (144,000) 0.002
Forfeited (96,000) 0.002
----------- -------
Outstanding, December 31, 1995 7,890,840 0.084
Granted 1,997,500 4.250
Forfeited (30,000) 0.333
----------- -------
Outstanding, December 28, 1996 9,858,340 0.927
Granted 1,574,100 9.471
Exercised (2,400) 1.000
Forfeited (124,200) 4.035
----------- -------
Outstanding, December 27, 1997 11,305,840 $ 2.083
=========== =======
F-16
<PAGE>
EXCEL SWITCHING CORPORATION
Notes to Consolidated Financial Statements
December 27, 1997
(Continued)
The following table summarizes information about stock options
outstanding at December 27, 1997:
<TABLE>
<CAPTION>
Range of exercise prices Number Weighted Number Weighted
Outstanding Average Exercisable Average
Remaining Exercise
Contractual Price
Life
<S> <C> <C> <C> <C>
$ 0.002 5,469,840 6.1 5,355,840 $ 0.002
0.167 930,000 6.9 687,600 0.167
0.333 1,455,600 7.7 829,800 0.333
1.00- 2.33 321,600 8.5 60,000 2.333
4.50- 6.00 2,222,300 8.9 216,750 4.777
7.00-10.50 391,300 9.3 - -
11.50-15.50 417,800 9.7 - -
18.00-21.00 97,400 9.9 30,000 21.000
----------- --------- --------
11,305,840 7,179,990 $ 0.307
=========== ========= ========
Exercisable, December 28, 1996 6,356,940 $ 0.046
========= ========
Exercisable, December 31, 1995 5,840,040 $ 0.029
========= ========
</TABLE>
(f) Fair Value of Stock Options
In October 1995, the FASB issued SFAS No. 123, Accounting for
Stock-Based Compensation. SFAS No. 123 requires the measurement
of the fair value of stock options to be included in the
statement of income or disclosed in the notes to financial
statements. The Company has determined that it will continue to
account for stock-based compensation for employees under
Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees, and elect the disclosure-only alternative
under SFAS No. 123.
Had compensation cost for the Company's option plans been
determined based on the fair value at the grant dates, as
prescribed in SFAS No. 123, the Company's net income would have
been as follows:
1995 1996 1997
Net income (in thousands)-
As reported $ 5,411 $ 7,901 $ 18,616
Pro forma 5,317 7,456 16,712
Diluted earnings per share-
As reported $ .17 $ .24 $ .54
Pro forma .17 .23 .49
F-17
<PAGE>
EXCEL SWITCHING CORPORATION
Notes to Consolidated Financial Statements
December 27, 1997
(Continued)
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option pricing model with the following
assumptions used for grants during the applicable period:
1995 1996 1997
Dividend yield - - -
Volatility 56.6% 56.6% 56.6%
Risk-free interest rate 6.0%-6.5% 5.9%-6.8% 5.0%-6.6%
Expected option term 7.5 years 7.5 years 5.0 years
Weighted average fair value
per share of options
granted $.97 $5.64 $5.28
(7) COMMITMENTS
The Company leases certain equipment and office facilities under
noncancelable operating leases, which expire at various dates through
November 2001. Future minimum lease payments required under these leases
at December 27, 1997 are approximately as follows (in thousands):
Fiscal Year Amount
1998 $ 925
1999 600
2000 229
2001 125
--------
$ 1,879
========
Total rent expense under these agreements for 1995, 1996 and 1997 was
approximately $193,000, $1,062,000 and $1,172,000, respectively.
During 1997, the Company began construction of a new office and research
facility. As of December 31, 1997, the Company had incurred approximately
$1.1 million of acquisition and construction costs, which are classified
as construction in progress in the accompanying consolidated balance
sheets. The Company estimates total facility costs to be approximately
$3,700,000.
F-18
<PAGE>
EXCEL SWITCHING CORPORATION
Notes To Consolidated Financial Statements
December 27, 1997
(Continued)
(8) EMPLOYEE BENEFIT PLAN
The Company has a qualified 401(k) retirement savings plan covering all
employees. Under this plan, participants may elect to defer a portion of
their compensation, subject to certain limitations. In addition, the
Company, at the discretion of the Board of Directors, may make profit
sharing contributions into the plan. For fiscal years 1995, 1996 and
1997, the Company made contributions of approximately $209,000, $534,000
and $898,000, respectively.
(9) SIGNIFICANT CUSTOMERS
Sales to significant customers as a percentage of the Company's total
revenues were as follows:
1995 1996 1997
Significant customer A 41% 37% 26%
Significant customer B - - 10
Significant customer C 11 - -
(10) ACCRUED EXPENSES
Accrued expenses at December 28, 1996 and December 27, 1997 consist of
the following (in thousands):
1996 1997
Accrued sales returns $ 1,243 $ 4,397
Accrued payroll and benefits 1,322 2,297
Accrued post-sales support and warranty 1,225 1,690
Accrued marketing 352 1,166
Accrued professional fees 624 737
Accrued other 1,041 869
---------- ----------
$ 5,807 $ 11,156
========== ==========
F-19
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Excel Switching Corporation:
We have audited, in accordance with generally accepted auditing standards, the
consolidated financial statements of Excel Switching Corporation and
subsidiaries included in this Form 10-K and have issued our report thereon dated
January 21, 1998. Our audit was made for the purpose of forming an opinion on
the basic consolidated financial statements taken as a whole. The schedule
listed in Item 14(a)(2) is the responsibility of the Company's management and is
presented for the purpose of complying with Securities and Exchange Commission's
rules and is not part of the basic consolidated financial statements. This
schedule has been subjected to the auditing procedures applied in the audit of
the basic consolidated financial statements and, in our opinion, fairly states,
in all material respects, the financial data required to be set forth therein,
in relation to the basic consolidated financial statements taken as a whole.
ARTHUR ANDERSEN LLP
Boston, Massachusetts
January 21, 1998
<PAGE>
SCHEDULE II
EXCEL SWITCHING CORPORATION
VALUATION AND QUALIFYING ACCOUNTS
Allowance for Balance Charged
Doubtful Beginning to Cost Deductions Balance End of
Accounts of Period or Expense (Write-offs) Period
------------- --------- ---------- ------------ --------------
1995 266,000 387,000 0 653,000
1996 653,000 497,000 (171,000) 979,000
1997 979,000 555,000 (184,000) 1,350,000
<PAGE>
EXHIBIT 10.7
EXCEL, INC.
CREDIT AGREEMENT
Dated as of December 21, 1995
THIS CREDIT AGREEMENT is made as of December 21, 1995, by and between EXCEL
INC. (the "Company"), a Massachusetts corporation having its chief executive
office at 255 Independence Drive, Hyannis, Massachusetts and THE FIRST NATIONAL
BANK OF BOSTON (the "Bank"), a national banking association having its head
office at 100 Federal Street, Boston, Massachusetts 02110.
SECTION I
---------
DEFINITIONS
-----------
1.1. Definitions.
-----------
All capitalized terms used in this Agreement or in the Note or in any
certificate, report or other document made or delivered pursuant to this
Agreement (unless otherwise defined therein) shall have the meanings assigned to
them below:
Adjusted Eurodollar Rate. Applicable to any Interest Period, shall mean a
------------------------
rate per annum determined pursuant to the following formula:
AER = [ IOR ]*
---
[1.00-RP]
AER = Adjusted Eurodollar Rate
IOR = Interbank Offered Rate
RP = Reserve Percentage
*The amount in brackets shall be rounded upwards, if
necessary, to the next higher 1/100 of 1%.
Where:
"Interbank Offered Rate" applicable to any Eurodollar Loan for
any Interest Period means the rate of interest determined by the Bank
to be the prevailing rate per annum at which deposits in U.S. dollars
are offered to the Bank by first-class banks in the interbank
Eurodollar market in which it regularly participates on or about 10:00
a.m. (Boston time) two Business Days before the first day of such
Interest Period in an amount approximately equal to the principal
amount of the Eurodollar Loan to which such Interest Period is to
apply for a period of time approximately equal to such Interest
Period.
<PAGE>
-2-
"Reserve Percentage" applicable to any Interest Period means
the rate (expressed as a decimal) applicable to the Bank during such
Interest Period under regulations issued from time to time by the
Board of Governors of the Federal Reserve System for determining the
maximum reserve requirement (including, without limitation, any basic,
supplemental, emergency or marginal reserve requirement) of the Bank
with respect to "Eurocurrency liabilities" as that term is defined
under such regulations.
The Adjusted Eurodollar Rate shall be adjusted automatically as of the effective
date of any change in the Reserve Percentage.
Affected Loans. See Section 2.7(a).
--------------
Agreement. This Agreement, as the same may be supplemented or amended from
---------
time to time.
Bank. See Preamble.
----
Base Rate. The greater of (i) the rate of interest announced from time to
---------
time by the Bank at its head office at 100 Federal Street, Boston, Massachusetts
02110 as its Base Rate, and (ii) the Federal Funds Effective Rate plus 1/2 of 1%
per annum (rounded upwards, if necessary, to the next 1/8 of 1%).
Base Rate Loan. Any Loan bearing interest determined with reference to the
--------------
Base Rate.
Borrowing Base. An amount equal to the lesser of (a) the Commitment Amount
--------------
or (b) 75% of the net outstanding amount of Base Accounts.
"Base Accounts" means accounts receivable of the Company as
-------------
to which the Company has furnished to the Bank the information
required by this Agreement and shall not include (a) accounts payable
by subsidiaries, affiliates and employees of the Company, (b) accounts
payable by debtors not located in the United States, unless otherwise
approved in writing by the Bank or (c) accounts evidenced by
promissory notes.
The "net outstanding amount of Base Accounts" means the net
---------------------------------------
amount of Base Accounts outstanding after eliminating from the
aggregate amount of outstanding Base Accounts (i) such accounts that
are more than 90 days past the date of the original invoice date or
more than 60 days past the due date, whichever is earlier, and (ii)
all other accounts of any account debtor with 25% or more of its
accounts that are more than 90 days past the date of the original
invoice date or more than 60 days past due as aforesaid; and deducting
from the aggregate face amount of the remaining Base Accounts all
payments, adjustments and credits applicable thereto and all amounts
due thereon considered by the Bank difficult to collect or
uncollectible by reason of return, rejection, repossession, loss or
damage of or to the merchandise giving rise thereto, a merchandise or
other dispute,
<PAGE>
-3-
insolvency of the account debtor, or any other reason, all as
determined by the Bank in its discretion, which determination shall be
final and binding upon the Company.
Business Day. (i) For all purposes other than as covered by clause (ii)
------------
below, any day other than a Saturday, Sunday or legal holiday on which banks in
Boston, Massachusetts are open for the conduct of a substantial part of their
commercial banking business; and (ii) with respect to all notices and
determinations in connection with, and payments of principal and interest on,
Eurodollar Loans, any day that is a Business Day described in clause (i) and
that is also a day for trading by and between banks in U.S. Dollar deposits in
the interbank Eurodollar market.
Code. The Internal Revenue Code of 1986 and the rules and regulations
----
thereunder, collectively, as the same may from time to time be supplemented or
amended and remain in effect.
Commitment Amount. $5,000,000.00 or any lesser amount, including zero,
-----------------
resulting from a termination or reduction of such amount in accordance with
Section 7.2.
Company. See Preamble.
-------
Computation Rate. See Section 2.11.
----------------
Consolidated Current Liabilities. At any date as of which the amount
--------------------------------
thereof shall be determined, all amounts that should, in accordance with
generally accepted accounting principles, be included as current liabilities on
the consolidated balance sheet of the Company and its Subsidiaries as at such
date, plus, to the extent not already included therein, all Loans made under
this Agreement, and all Indebtedness that is payable upon demand or within one
year from the date of determination thereof unless such Indebtedness is
renewable or extendable at the option of the Company or any Subsidiary to a date
more than one year from the date of determination.
Consolidated Tangible Net Worth. At any date as of which the amount
-------------------------------
thereof shall be determined, the consolidated total assets of the Company and
its Subsidiaries minus (i) the sum of any amounts attributable to (a) goodwill,
-----
(b) intangible items such as unamortized debt discount and expense, patents,
trade and service marks and names, copyrights, capitalized software development
costs, and research and development expenses except prepaid expenses, (c) all
reserves not already deducted from assets, (d) any writeup in the book value of
assets resulting from any revaluation thereof subsequent to the date of the
financial statements referred to in Section 4.6 and (e) the value of any
minority interests in Subsidiaries and (ii) Consolidated Total Liabilities.
---
Consolidated Total Liabilities. At any date as of which the amount thereof
------------------------------
shall be determined, all obligations that should, in accordance with generally
accepted accounting principles, be classified as liabilities on the consolidated
balance sheet of the Company and its Subsidiaries, including in any event all
Indebtedness.
<PAGE>
-4-
Controlled Group. All trades or businesses (whether or not incorporated)
----------------
under common control that, together with the Company, are treated as a single
employer under Section 414(b) or 414(c) of the Code or Section 4001 of ERISA.
Default. An Event of Default or event or condition that, but for the
-------
requirement that time elapse or notice be given, or both, would constitute an
Event of Default.
Encumbrances. See Section 6.5.
------------
ERISA. The Employee Retirement Income Security Act of 1974 and the rules
-----
and regulations thereunder, collectively, as the same may from time to time be
supplemented or amended and remain in effect.
Eurodollar Loan. Any Loan bearing interest at a rate determined with
---------------
reference to the Adjusted Eurodollar Rate.
Event of Default. Any event described in Section 7.1.
----------------
Federal Funds Effective Rate. For any day, a fluctuating interest rate per
----------------------------
annum equal to the weighted average of the rates on overnight Federal funds
transactions with members of the Federal Reserve System arranged by Federal
funds brokers, as published for such day (or, if such day is not a Business Day,
for the next preceding Business Day) by the Federal Reserve Bank of New York,
or, if such rate is not so published for any day that is a Business Day, the
average of the quotations for such day on such transactions received by the Bank
from three Federal funds brokers of recognized standing selected by the Bank.
Guarantees. As applied to the Company and its Subsidiaries, all
----------
guarantees, endorsements or other contingent or surety obligations with respect
to obligations of others whether or not reflected on the consolidated balance
sheet of the Company and its Subsidiaries, including any obligation to furnish
funds, directly or indirectly (whether by virtue of partnership arrangements, by
agreement to keep-well or otherwise), through the purchase of goods, supplies or
services, or by way of stock purchase, capital contribution, advance or loan, or
to enter into a contract for any of the foregoing, for the purpose of payment of
obligations of any other person or entity.
Indebtedness. As applied to the Company and its Subsidiaries, (i) all
------------
obligations for borrowed money or other extensions of credit, whether or not
secured, absolute or contingent, including, without limitation, unmatured
reimbursement obligations in respect of letters of credit or guarantees issued
for the account of or on behalf of the Company and its Subsidiaries; (ii) all
obligations representing the deferred purchase price of property, other than
accounts payable arising in the ordinary course of business; (iii) all
obligations evidenced by bonds, notes, debentures or other similar instruments;
(iv) all obligations secured by any mortgage, pledge, security interest or other
lien on property owned or acquired by the Company or any of its Subsidiaries
whether or not the obligations secured thereby shall have been assumed; (v) that
portion of all obligations arising under capital leases that is required to be
capitalized on the consolidated balance sheet of the Company and its
Subsidiaries; (vi) all Guarantees; and (vii) all
<PAGE>
-5-
obligations that are immediately due and payable out of the proceeds of or
production from property now or hereafter owned or acquired by the Company or
any of its Subsidiaries.
Interest Period.
---------------
(a) With respect to each Eurodollar Loan, the period commencing on the
date of such Eurodollar Loan and ending one, two, three or six months
thereafter, as the Company may elect the applicable Notice of Borrowing;
(b) with respect to each Base Rate Loan, the period commencing on the date
of such Base Rate Loan;
provided that:
--------
(i) any Interest Period (other than an Interest Period
determined pursuant to clause (iii) below) that would otherwise end on a
day that is not a Business Day shall be extended to the next succeeding
Business Day unless, in the case of Eurodollar Loans, such Business Day
falls in the next calendar month, in which case such Interest Period shall
end on the immediately preceding Business Day;
(ii) any Interest Period applicable to a Eurodollar Loan that
begins on the last Business Day of a calendar month (or on a day for which
there is no numerically corresponding day in the calendar month at the end
of such Interest Period) shall, subject to clause (iii) below, end on the
last Business Day of a calendar month;
(iii) any Interest Period during the Revolving Credit Period
that would otherwise end after the Revolving Credit Termination Date shall
end on the Revolving Credit Termination Date; and
(iv) notwithstanding clauses (iii) and (iv) above, no Interest
Period applicable to a Eurodollar Loan shall have a duration of less than
one month, and if any Interest Period applicable to such Loans would be for
a shorter period, such Interest Period shall not be available hereunder.
Investment. As applied to the Company and its Subsidiaries, the purchase
----------
or acquisition of any share of capital stock, partnership interest, evidence of
indebtedness or other equity security of any other person or entity, any loan,
advance or extension of credit to, or contribution to the capital of, any other
person or entity, any real estate held for sale or investment, any commodities
futures contracts held other than in connection with bona fide hedging
transactions, any other investment in any other person or entity, and the making
of any commitment or acquisition of any option to make an Investment.
Loan. A loan made to the Company by the Bank pursuant to Section 11 of
----
this Agreement, and "Loans" means all of such loans, collectively.
<PAGE>
-6-
Note. A promissory note of the Company, substantially in the form of
----
Exhibit A hereto, evidencing the obligation of the Company to the Bank to repay
the Loans.
Notice of Borrowing. See Section 2.2.
-------------------
Obligations. Any and all obligations of the Company to the Bank of every
-----------
kind and description, direct or indirect, absolute or contingent, primary or
secondary, due or to become due, now existing or hereafter arising, regardless
of how they arise or by what agreement or instrument, if any, and including
obligations to perform acts and refrain from taking action as well as
obligations to pay money.
PBGC. The Pension Benefit Guaranty Corporation or any entity succeeding to
----
any or all of its functions under ERISA.
Permitted Encumbrances. See Section 6.5.
----------------------
Plan. At any time, an employee pension or other benefit plan that is
----
subject to Title IV of ERISA or subject to the minimum funding standards under
Section 412 of the Code.
Qualified Investments. As applied to the Company and its Subsidiaries,
---------------------
investments in (i) notes, bonds or other obligations of the United States of
America or any agency thereof that as to principal and interest constitute
direct obligations of or are guaranteed by the United States of America; (ii)
certificates of deposit or other deposit instruments or accounts of banks or
trust companies organized under the laws of the United States or any state
thereof that have capital and surplus of at least $100,000,000, (iii) commercial
paper that is rated not less than prime-one or A-1 or their equivalents by
Moody's Investors Service, Inc. or Standard & Poor's Corporation, respectively,
or their successors, and (iv) any repurchase agreement secured by any one or
more of the foregoing.
Revolving Credit Period. The period beginning on the date of this
-----------------------
Agreement and extending through and including the Revolving Credit Termination
Date or such earlier date on which the commitment to make Loans is terminated or
the Commitment Amount is reduced to zero in accordance with the terms hereof.
Revolving Credit Termination Date. December 15,1997.
---------------------------------
Subsidiary. Any corporation, association, joint stock company, business
----------
trust or other similar organization of which 50% or more of the ordinary voting
power for the election of a majority of the members of the board of directors or
other governing body of such entity is held or controlled by the Company or a
Subsidiary of the Company; or any other such organization the management of
which is directly or indirectly controlled by the Company or a Subsidiary of the
Company through the exercise of voting power or otherwise; or any joint venture,
whether incorporated or not, in which the Company has a 50% ownership interest.
1.2. Accounting Terms. All terms of an accounting character shall have the
----------------
meanings assigned thereto by generally accepted accounting principles applied on
a basis consistent with
<PAGE>
-7-
the financial statements referred to in Section 4.6 of this Agreement, modified
to the extent, but only to the extent, that such meanings are specifically
modified herein.
SECTION 11
----------
DESCRIPTION OF CREDIT
---------------------
2.1. The Loans. During the Revolving Credit Period, and subject to the
---------
terms and conditions hereof, the Bank will make Loans to the Company, from time
to time until the close of business on the Revolving Credit Termination Date, in
such sums as the Company may request, provided that the aggregate principal
--------
amount of all Loans at any one time outstanding hereunder shall not exceed the
Borrowing Base. The Company may borrow, repay pursuant to Section 2.8 and
reborrow, from the date of this Agreement until the Revolving Credit Termination
Date, the full amount of the Borrowing Base or any lesser sum that is at least
$100,000.00 and an integral multiple of $100,000.00. Any Loan not repaid by the
Revolving Credit Termination Date shall be due and payable on the Revolving
Credit Termination Date.
2.2. Notice and Manner of Borrowing of Loans. (a) Whenever the Company
---------------------------------------
desires to obtain a Loan hereunder, the Company shall notify the Bank (which
notice shall be irrevocable) by telephone received no later than 2:00 p.m.
Boston time on the day on which the requested Loan is to be made as a Base Rate
Loan, and received no later than 10:00 a.m. Boston time on the date two Business
Days before the day on which the requested Loan is to be made as a Eurodollar
Loan. Such notice shall specify (i) the effective date and amount of each Loan,
subject to the limitations set forth in Section 2.1, (ii) the interest rate
option to be applicable thereto, and (iii) with respect to any requested
Eurodollar Loans, the duration of the applicable Interest Period (subject to the
provisions of the definition of Interest Period and Section 2.5). If requested
by the Bank, such notification (a "Notice of Borrowing") shall be immediately
followed by a written confirmation thereof, provided that if such written
--------
confirmation differs in any material respect from the action taken by the Bank,
the records of the Bank shall control absent manifest error. Prior to the end
of the Interest Period applicable to any Eurodollar Loan, the Borrower shall
deliver a Notice of Borrowing in accordance with this Section 2.2 which shall
specify the interest rate option and duration of the applicable Interest Period
to rollover such Eurodollar Loan. Failure to deliver such Notice of Borrowing
shall be deemed to be an election of the Base Rate.
(b) Subject to the terms and conditions hereof, the Bank shall make each
Loan on the effective date specified therefor by crediting the amount of such
Loan to the Company's demand deposit account with the Bank; provided that if
--------
such Loan is to be made on a day on which the Company is to repay all or any
part of an outstanding Loan, the Bank shall apply the proceeds of such new Loan
to make such repayment and only an amount equal to the difference (if any)
between the amount being borrowed and the amount being repaid shall be made
available by the Bank to the Company.
2.3. Facility Fee. The Company shall pay to the Bank during the Revolving
------------
Credit Period an annual facility fee equal to $9,500.00. The facility fee shall
be payable quarterly in advance, on the first day of January, April, July and
October of each year beginning January 1,
<PAGE>
-8-
1996. A prorated amount for the period from the date hereof to December 31, 1995
shall be payable at the closing.
2.4. The Note. (a) The Loans shall be evidenced by a single Note, payable
--------
to the order of the Bank and having a final maturity of December 15, 1997. The
Note shall be dated on or before the date of the first Loan and shall have the
blanks, if any, therein appropriately completed.
(b) The Bank shall, and is hereby irrevocably authorized by the Company
to, enter on the schedule forming a part of the Note or otherwise in its records
appropriate notations evidencing the date and the amount of each Loan, the
interest rate applicable thereto and the date and amount of each payment of
principal made by the Company with respect thereto; and in the absence of
manifest error, such notations shall constitute conclusive evidence thereof. The
Bank is hereby irrevocably authorized by the Company to attach to and make a
part of the Note a continuation of any such schedule as and when required. No
failure on the part of the Bank to make any notation as provided in this
subsection (b) shall in any way affect any Loan or the rights or obligations of
the Bank or the Company with respect thereto.
2.5. Duration of Interest Periods. Subject to the provisions of the
----------------------------
definition of Interest Period, the duration of the Interest Period for each
Eurodollar Loan shall be as specified in the applicable Notice of Borrowing.
Notwithstanding the foregoing, the Company may not select an Interest Period
that would end, but for the provisions of the definition of Interest Period,
after the final maturity hereof.
2.6. Interest Rates and Payments of Interest. (a) Each Base Rate Loan
---------------------------------------
shall bear interest on the outstanding principal amount thereof at a rate per
annum equal to the Base Rate, which rate shall change contemporaneously with any
change in the Base Rate. Such interest shall be payable on the last day of each
month commencing December 31, 1995, and when such Base Rate Loan is due (whether
at maturity, by reason of acceleration or otherwise).
(b) Each Eurodollar Loan shall bear interest on the outstanding principal
amount thereof, for the Interest Period applicable thereto, at a rate per annum
equal to the Adjusted Eurodollar Rate plus two and one half percent (2.5%).
Such interest shall be payable for such Interest Period on the last day thereof
and when such Eurodollar Loan is due (whether at maturity, by reason of
acceleration or otherwise) and, if such Interest Period is longer than three
months, at intervals of three months after the first day thereof.
2.7. Changed Circumstances.
---------------------
(a) In the event that:
(i) on any date on which the Adjusted Eurodollar Rate would otherwise
be set the Bank shall have determined in good faith (which determination
shall be final and conclusive) that, by reason of changes affecting the
interbank Eurodollar market, adequate and reasonable means do not exist for
ascertaining the Interbank Offered Rate, or
<PAGE>
-9-
(ii) at any time the Bank shall have determined in good faith
(which determination shall be final and conclusive) that:
(A) the making of a Eurodollar Loan has been made impracticable
or unlawful by (1) the occurrence of a contingency that materially and
adversely affects the interbank Eurodollar market or (2) compliance by the
Bank in good faith with any applicable law or governmental regulation,
guideline or order or interpretation or change thereof by any governmental
authority charged with the interpretation or administration thereof or with
any request or directive of any such governmental authority (whether or not
having the force of law); or
(B) the Adjusted Eurodollar Rate shall no longer represent the effective
cost to the Bank for U.S. dollar deposits in the interbank market for deposits
in which it regularly participates;
then, and in any such event, the Bank shall forthwith so notify the Company
thereof. Until the Bank notifies the Company that the circumstances giving rise
to such notice no longer apply, the obligation of the Bank to allow selection by
the Company of the type of Loan affected by the contingencies described in this
Section 2.7(a) (herein called "Affected Loans") shall be suspended. If at the
--------------
time the Bank so notifies the Company, the Company has previously given the Bank
a Notice of Borrowing with respect to one or more Affected Loans but such Loans
have not yet gone into effect, such notification shall be deemed to be void and
the Company may borrow Loans of a nonaffected type by giving a substitute Notice
of Borrowing pursuant to Section 2.2 hereof.
Upon such date as shall be specified in such notice (which shall not be
earlier than the date such notice is given) the Company shall, with respect to
the outstanding Affected Loans, prepay the same, together with interest thereon
and any amounts required to be paid pursuant to Section 2.11, and may borrow a
Loan of another type in accordance with Section 2.1 hereof by giving a Notice of
Borrowing pursuant to Section 2.2 hereof.
(b) In case any law, regulation, treaty or official directive or the
interpretation or application thereof by any court or by any governmental
authority charged with the administration thereof or the compliance with any
guideline or request of any central bank or other governmental authority
(whether or not having the force of law):
(i) subjects the Bank to any tax with respect to payments of
principal or interest or any other amounts payable hereunder by the Company
or otherwise with respect to the transactions contemplated hereby (except
for taxes on the overall net income of the Bank imposed by the United
States of America or any political subdivision thereof), or
(ii) imposes, modifies or deems applicable any deposit insurance,
reserve, special deposit or similar requirement against assets held by, or
deposits in or for the account of, or loans by, the Bank (other than such
requirements as are already included in the determination of the Adjusted
Eurodollar Rate), or
<PAGE>
-10-
(iii) imposes upon the Bank any other condition with respect to its
performance under this Agreement,
and the result of any of the foregoing is to increase the cost to the Bank,
reduce the income receivable by the Bank or impose any expense upon the Bank
with respect to any Loans, the Bank shall notify the Company thereof. The
Company agrees to pay to the Bank the amount of such increase in cost reduction
in income or additional expense as and when such cost, reduction or expense is
incurred or determined, upon presentation by the Bank of a statement in the
amount and setting forth the Bank's calculation thereof, which statement shall
be deemed true and correct absent manifest error.
(c) If the Bank shall have determined that (i) the adoption of or change
in any law, rule, regulation or guideline, directive or request regarding
capital requirements for banks or bank holding companies (whether or not having
the force of law), or any change in the interpretation or application thereof by
any governmental authority, central bank or comparable authority charged with
the interpretation or administration thereof, or (ii) compliance by the Bank
with any of the foregoing, imposes on or increases a requirement of the Bank to
allocate capital resources to the Bank's commitment to make Loans hereunder that
has or would have the effect of reducing the return on the Bank's capital as a
consequence of its commitment to make Loans hereunder to a level below that
which the Bank could have achieved (taking into consideration the Bank's then
existing policies with respect to capital adequacy and assuming the full
utilization of the Bank's capital) but for such adoption, change or compliance
by any amount deemed by the Bank to be material, then the Bank shall notify the
Company thereof. The Company agrees to pay to the Bank the amount of such
reduction of capital as and when such reduction is determined, upon presentation
by the Bank of a statement in the amount and setting forth the Bank's
calculation thereof, which statement shall be deemed true and correct absent
manifest error. In determining such amount, the Bank may use any reasonable
averaging and attribution methods.
2.8. Payments and Prepayments of the Loans. (a) Each Loan shall mature,
-------------------------------------
and the principal amount thereof shall be due and payable, on the Revolving
Credit Termination Date. Eurodollar Loans may not be prepaid. Base Rate Loans
may be prepaid at any time, without premium or penalty. Interest accrued on the
amounts so paid shall be paid in accordance with Section 2.6. No prepayment of
the Loans during the Revolving Credit Period shall affect the Commitment Amount
or impair the Company's right to borrow as set forth in Section 2.1.
(b) If at any time the aggregate principal amount of outstanding Loans
shall exceed the Borrowing Base, the Company shall repay such principal amount
(together with accrued interest thereon) of the outstanding Loans, if any, as
may be necessary so that after such repayment the aggregate outstanding
principal amount of the Loans does not exceed the amount of the Borrowing Base.
2.9. Method of Payment. All payments and prepayments of principal and all
-----------------
payments of interest shall be made by the Company to the Bank at 100 Federal
Street, Boston, Massachusetts in immediately available funds, on or before 2:00
p.m. (Boston time) on the due
<PAGE>
-11-
date thereof, free and clear of, and without any deduction or withholding for,
any taxes or other payments. The Bank may, and the Company hereby authorizes the
Bank to, debit the amount of any payment not made by such time to the demand
deposit account of the Company with the Bank, followed promptly by notice to the
Company of such action taken.
2.10. Overdue Payments. (a) Overdue principal (whether at maturity, by
----------------
reason of acceleration or otherwise) and, to the extent permitted by applicable
law, overdue interest and fees or any other amounts payable hereunder or under
the Note shall bear interest from and including the due date thereof until paid,
compounded daily and payable on demand, at a rate per annum equal to (i) if such
due date occurs prior to the end of an Interest Period for Eurodollar Loans, 2%
above the interest rate applicable to such Loan for such Interest Period until
the expiration of such Interest Period, and thereafter, 2% above the Base Rate;
and (ii) in all other cases, 2% above the rate then applicable to Base Rate
Loans, which interest shall be compounded daily and payable on demand. (b) If a
payment of principal or interest hereunder is not made within 10 days of its due
date, the Company will also pay, on demand, a late payment charge equal to 5% of
the amount of such payment. Nothing in the preceding sentence shall affect the
Bank's rights to exercise any of its rights or remedies, including those
provided in Section 7.2, if an Event of Default has occurred.
2.11. Payments Not at End of Interest Period. If the Company for any
--------------------------------------
reason makes any payment of principal with respect to any Eurodollar Loan on any
day other than the last day of the Interest Period applicable to such Eurodollar
Loan, or fails to borrow a Eurodollar Loan after giving a Notice of Borrowing
pursuant to Section 2.2, the Company shall pay to the Bank an amount computed
pursuant to the following formula:
L = (R - T) x P x D
---------------
360
L = amount payable to the Bank
R = interest rate on such Loan
T = effective interest rate per annum at which any readily marketable bond or
other obligation of the United States, selected at the Bank's sole
discretion, maturing on or near the last day of the Interest Period of such
Loan and in approximately the same amount as such Loan can be purchased by
the Bank on the day of such payment of principal or failure to borrow
P = the amount of principal prepaid or the amount of the requested Loan
D = the number of days remaining in the Interest Period as of the date of such
payment or the number of days of the requested Interest Period
The Company shall pay such amount upon presentation by the Bank of a statement
setting forth the amount and the Bank's calculation thereof pursuant hereto,
which statement shall be deemed true and correct absent manifest error.
2.12. Computation of Interest and Fees. Interest and all fees payable
--------------------------------
hereunder shall be computed daily on the basis of a year of 360 days and paid
for the actual number of days for
<PAGE>
-12-
which due. If the due date for any payment of principal is extended by operation
of law, interest shall be payable for such extended time. If any payment
required by this Agreement becomes due on a day that is not a Business Day such
payment may be made on the next succeeding Business Day (subject to clause (i)
of the definition of Interest Period), and such extension shall be included in
computing interest in connection with such payment.
SECTION III
-----------
CONDITIONS OF LOANS
-------------------
3.1. Conditions Precedent to Initial Loan. The obligation of the Bank to
------------------------------------
make its initial Loan is subject to the condition precedent that the Bank shall
have received, in form and substance satisfactory to the Bank and its counsel,
the following:
(a) this Agreement and the Note, duly executed by the Company;
(b) a certificate of the Clerk or an Assistant Clerk of the Company with
respect to resolutions of the Board of Directors authorizing the execution and
delivery of this Agreement and the Note and identifying the officer(s)
authorized to execute, deliver and take all other actions required under this
Agreement, and providing specimen signatures of such officers;
(c) the certificate of incorporation of the Company and all amendments and
supplements thereto, filed in the office of the Secretary of The Commonwealth of
Massachusetts, certified by said Secretary of The Commonwealth as being a true
and correct copy thereof;
(d) the Bylaws and articles of incorporation of the Company and all
amendments and supplements thereto, certified by the Clerk or an Assistant Clerk
as being a true and correct copy thereof;
(e) a certificate of the Secretary of The Commonwealth of Massachusetts,
as to legal existence and good standing in such state and listing all documents
on file in the office of said Secretary of State;
(f) an opinion addressed to it from Christopher Stavros, counsel to the
Company, substantially in the form of Exhibit G hereto; and
---------
(g) such other documents, and completion of such other matters, as counsel
for the Bank may deem necessary or appropriate.
3.2. Conditions Precedent to all Loans. The obligation of the Bank to make
---------------------------------
each Loan, including the initial Loan, is further subject to the following
conditions:
(a) timely receipt by the Bank of the Notice of Borrowing as provided in
Section 2.2;
(b) the representations and warranties contained in Section IV shall be
true and accurate in all material respects on and as of the date of such Notice
of Borrowing and on the effective date of each Loan as though made at and as of
each such date (except to the extent that
<PAGE>
-13-
such representations and warranties expressly relate to an earlier date), and no
Default shall have occurred and be continuing, or would result from such Loan;
(c) the resolutions referred to in Section 3.1(b) shall remain in full
force and effect; and
(d) no change shall have occurred in any law or regulation or
interpretation thereof that, in the opinion of counsel for the Bank, would make
it illegal or against the policy of any governmental agency or authority for the
Bank to make Loans hereunder.
The making of each Loan shall be deemed to be a representation and warranty
by the Company on the date of such Loan as to the accuracy of the facts referred
to in subsection (b) of this Section 3.2.
SECTION IV
----------
REPRESENTATIONS AND WARRANTIES
------------------------------
In order to induce the Bank to enter into this Agreement and to make Loans
hereunder, the Company represents and warrants to the Bank that:
4.1. Organization and Qualification. Each of the Company and its
------------------------------
Subsidiaries (a) is a corporation duly organized, validly existing and in good
standing under the laws of its jurisdiction of incorporation, (b) has all
requisite corporate power to own its property and conduct its business as now
conducted and as presently contemplated and (c) is duly qualified and in good
standing as a foreign corporation and is duly authorized to do business in each
jurisdiction where the nature of its properties or business requires such
qualification.
4.2. Corporate Authority. The execution, delivery and performance of this
-------------------
Agreement and the Note and the transactions contemplated hereby are within the
corporate power and authority of the Company and have been authorized by all
necessary corporate proceedings, and do not and will not (a) require any consent
or approval of the stockholders of the Company, (b) contravene any provision of
the charter documents or bylaws of the Company or any law, rule or regulation
applicable to the Company, (c) contravene any provision of, or constitute an
event of default or event that, but for the requirement that time elapse or
notice be given, or both, would constitute an event of default under, any other
agreement, instrument, order or undertaking binding on the Company, or (d)
result in or require the imposition of any Encumbrance on any of the properties,
assets or rights of the Company.
4.3. Valid Obligations. This Agreement and the Note and all of their
-----------------
respective terms and provisions are the legal, valid and binding obligations of
the Company, enforceable in accordance with their respective terms except as
limited by bankruptcy, insolvency, reorganization, moratorium or other laws
affecting the enforcement of creditors' rights generally, and except as the
remedy of specific performance or of injunctive relief is subject to the
discretion of the court before which any proceeding therefor may be brought.
<PAGE>
-14-
4.4. Consents or Approvals. The execution, delivery and performance of
---------------------
this Agreement and the Note and the transactions contemplated herein do not
require any approval or consent of, or filing or registration with, any
governmental or other agency or authority, or any other party.
4.5. Title to Properties; Absence of Encumbrances. Each of the Company
--------------------------------------------
and its Subsidiaries has good and marketable title to all of the properties,
assets and rights of every name and nature now purported to be owned by it,
including, without limitation, such properties, assets and rights as are
reflected in the financial statements referred to in Section 4.6 (except such
properties, assets or rights as have been disposed of in the ordinary course of
business since the date thereof), free from all Encumbrances except Permitted
Encumbrances or those Encumbrances disclosed in Exhibit B hereto, and, except as
---------
so disclosed, free from all defects of title that might materially adversely
affect such properties, assets or rights, taken as a whole.
4.6. Financial Statements. The Company has furnished the Bank its
--------------------
consolidated balance sheet as of December 31, 1994 and its consolidated
statements of income, changes in stockholders' equity and cash flow for the
fiscal year then ended, and related footnotes, audited and certified by Arthur
Andersen & Co. The Company has also furnished the Bank its consolidated balance
sheet as of September 22, 1995 and its consolidated statements of income,
changes in stockholders' equity and cash flow for the period then ended,
certified by the principal financial officer of the Company but subject,
however, to normal, recurring year-end adjustments that shall not in the
aggregate be material in amount. All such financial statements were prepared in
accordance with generally accepted accounting principles applied on a consistent
basis throughout the periods specified and present fairly the financial position
of the Company and its Subsidiaries as of such dates and the results of the
operations of the Company and its Subsidiaries for such periods. There are no
liabilities, contingent or otherwise, not disclosed in such financial statements
that involve a material amount.
4.7. Changes. Since the date of the financial statements referred to in
-------
Section 4.6, there have been no changes in the assets, liabilities, financial
condition, business or prospects of the Company or any of its Subsidiaries other
than changes in the ordinary course of business, the effect of which has not, in
the aggregate, been materially adverse.
4.8. Defaults. As of the date of this Agreement, no Default exists.
--------
4.9. Taxes. The Company and each Subsidiary have filed all federal,
-----
state and other tax returns required to be filed, and all taxes, assessments and
other governmental charges due from the Company and each Subsidiary have been
fully paid. The Company and each Subsidiary have established on their books
reserves adequate for the payment of all federal, state and other tax
liabilities.
4.10. Litigation. Except as set forth on Exhibit C hereto, there is no
---------- ---------
litigation, arbitration, proceeding or investigation pending, or, to the
knowledge of the Company's or any Subsidiary's officers, threatened, against the
Company or any Subsidiary that, if adversely determined, would result in a
material judgment not fully covered by insurance or could result in a forfeiture
of all or any substantial part of the property of the Company or its
Subsidiaries, or
<PAGE>
-15-
would otherwise have a material adverse effect on the assets, business or
prospects of the Company or any Subsidiary.
4.11. Use of Proceeds. No portion of any Loan is to be used for the
---------------
"purpose of purchasing or carrying" any "margin stock" as such terms are used in
Regulations U and X of the Board of Governors of the Federal Reserve System, 12
C.F.R. 221 and 224, as amended; and following the application of the proceeds of
each Loan, the value of all "margin stock" of the Company will not exceed 25% of
the value of the total assets of the Company that are subject to the
restrictions set forth in Section 6.5 and 6.6.
4.12. Subsidiaries. As of the date of this Agreement, all the
------------
Subsidiaries of the Company are listed on Exhibit D hereto. The Company or a
---------
Subsidiary of the Company is the owner, free and clear of all liens and
encumbrances, of all of the issued and outstanding stock of each Subsidiary.
All shares of such stock have been validly issued and are fully paid and
nonassessable, and no rights to subscribe to any additional shares have been
granted, and no options, warrants or similar rights are outstanding.
4.13. Investment Company Act. Neither the Company nor any of its
----------------------
Subsidiaries is subject to regulation under the Investment Company Act of 1940,
as amended.
4.14 Compliance with ERISA. The Company and each member of the
---------------------
Controlled Group have fulfilled their obligations under the minimum funding
standards of ERISA and the Code with respect to each Plan and are in compliance
in all material respects with the applicable provisions of ERISA and the Code,
and have not incurred any liability to the PBGC or a Plan under Title IV of
ERISA; and no "Prohibited transaction" or "reportable event" (as such terms are
defined in ERISA) has occurred with respect to any Plan.
4.15. Environmental Matters. The Company and each of its Subsidiaries
---------------------
are in material compliance with all Federal, state and local environmental laws
and ordinances with respect to the conduct of their business or business
operations and have no knowledge or notice of any material violation of any
environmental protection law, regulation or order.
SECTION V
---------
AFFIRMATIVE COVENANTS
---------------------
So long as the Bank has any commitment to lend hereunder or any Loan or
other Obligation remains outstanding, the Company covenants as follows:
5.1. Financial Statements and other Reporting Requirements. The Company
-----------------------------------------------------
shall furnish to the Bank:
(a) as soon as available to the Company, but in any event within 90 days
after the end of each of its fiscal years, a consolidated and consolidating
balance sheet as of the end of each such year, and a related consolidated and
consolidating statement of income, changes in stockholders' equity and cash flow
for such year, audited and certified by Arthur Andersen & Co.
<PAGE>
-16-
(or other independent certified public accountants acceptable to the Bank) in
the case of such consolidated statements, and certified by the chief financial
officer in the case of such consolidating statements; and, concurrently with
such financial statements, a copy of said certified public accountants'
management report;
(b) as soon as available to the Company, but in any event within 30 days
after the end of each month, (i) a consolidated and consolidating balance sheet
as of the end of each such fiscal quarter, and a related consolidated and
consolidating statement of income for the period then ended, certified by the
principal financial officer of the Company but subject, however, to normal,
recurring yearend adjustments that shall not in the aggregate be material in
amount and (ii) a borrowing base report substantially in the form of Exhibit E;
----------
(c) as soon as available to the Company, but in any event within 30 days
after the end of each of its fiscal quarters, a report in substantially the form
of Exhibit F hereto signed on behalf of the Company by its chief financial
---------
officer;
(d) promptly after the receipt thereof by the Company, copies of any
reports submitted to the Company by independent public accountants in connection
with any interim review of the accounts of the Company made by such accountants;
(e) promptly alter the same are available, copies of all proxy statements,
financial statements and reports as the Company may file with the Securities and
Exchange Commission or any governmental authority at any time having
jurisdiction over the Company or its Subsidiaries;
(f) if and when the Company gives or is required to give notice to the PBGC
of any "Reportable Event" (as defined in Section 4043 of ERISA) with respect to
any Plan that might constitute grounds for a termination of such Plan under
Title IV of ERISA, or knows that any member of the Controlled Group or the plan
administrator of any Plan has given or is required to give notice of any such
Reportable Event, a copy of the notice of such Reportable Event given or
required to be given to the PBGC;
(g) immediately upon becoming aware of the existence of any condition or
event that constitutes a Default, written notice thereof specifying the nature
and duration thereof and the action being or proposed to be taken with respect
thereto;
(h) promptly upon becoming aware of any investigative proceedings by a
governmental agency or authority commenced or threatened against the Company or
any of its Subsidiaries regarding any environmental hazard or condition or any
spill, release, discharge or disposal of any substance defined or designated by
any environmental statute, rule or regulation of any governmental entity now in
effect and applicable to such property, as hazardous or toxic material,
hazardous or toxic substance or any similar term, written notice thereof and the
action being or proposed to be taken with respect thereto;
(i) promptly upon becoming aware of any litigation or of any other
investigative proceedings by a governmental agency or authority commenced or
threatened against the
<PAGE>
-17-
Company or any of its Subsidiaries of which it has notice, the outcome of which
would or might have a materially adverse effect on the assets, business or
prospects of the Company or the Company and its Subsidiaries on a consolidated
basis, written notice thereof and the action being or proposed to be taken with
respect thereto; and
(j) from time to time, such other financial data and information about the
Company or its Subsidiaries as the Bank may reasonably request.
5.2. Conduct of Business. Each of the Company and its Subsidiaries
-------------------
shall:
(a) duly observe and comply in all material respects with all applicable
laws and valid requirements of any governmental authorities relative to its
corporate existence, rights and franchises, to the conduct of its business and
to its property and assets, and shall maintain and keep in full force and effect
all licenses and permits necessary in any material respect to the proper conduct
of its business;
(b) maintain its corporate existence; and
(c) remain engaged substantially in the design and manufacture of
telecommunication platforms, and related software, devices, and services.
5.3. Maintenance and Insurance. Each of the Company and its Subsidiaries
-------------------------
shall maintain its properties in good repair, working order and condition as
required for the normal conduct of its business. Each of the Company and its
Subsidiaries shall at all times maintain liability and casualty insurance with
financially sound and reputable insurers in such amounts as the officers of the
Company in the exercise of their reasonable judgment deem to be adequate. In
the event of failure to provide and maintain insurance as herein provided, the
Bank may, at its option, provide such insurance and charge the amount thereof to
the account of the Company or any of its Subsidiaries with the Bank.
5.4. Taxes. The Company shall pay or cause to be paid all taxes,
-----
assessments or governmental charges on or against it or any of its Subsidiaries
or its or their properties on or prior to the time when they become due.
5.5. Inspection by the Bank. The Company shall permit the Bank or its
----------------------
designees, at any reasonable time, and upon reasonable notice (or if a Default
shall have occurred and is continuing, at any time and without prior notice), to
(i) visit and inspect the properties of the Company and its Subsidiaries, (ii)
examine and make copies of and take abstracts from the books and records of the
Company and its Subsidiaries, and (iii) discuss the affairs, finances and
accounts of the Company and its Subsidiaries with their appropriate officers,
employees and accountants. In handling such information the Bank shall exercise
the same degree of care that it exercises with respect to its own proprietary
information of the same types to maintain the confidentiality of any nonpublic
information thereby received or received pursuant to subsections 5.1(a), (b), or
(c) except that disclosure of such information may be made (i) to the
subsidiaries or affiliates of the Bank in connection with their present or
prospective business relations with the Company, (ii) to prospective transferees
or purchasers of an interest in the Loans, (iii) as
<PAGE>
-18-
required by law, regulation, rule or order, subpoena, judicial order or similar
order and (iv) as may be required in connection with the examination, audit or
similar investigation of the Bank.
5.6. Maintenance of Books and Records. Each of the Company and its
--------------------------------
Subsidiaries shall keep adequate books and records of account, in which true and
complete entries will be made reflecting all of its business and financial
transactions, and such entries will be made in accordance with generally
accepted accounting principles consistently applied and applicable law.
5.7. Consolidated Tangible Net Worth. The Company shall at all times
-------------------------------
maintain Consolidated Tangible Net Worth of at least (i) $5,000,000.00. Any
consolidated losses shall not reduce the amount of Consolidated Tangible Net
Worth required to be maintained pursuant to this Section 5.7.
5.8. Consolidated Total Liabilities to Consolidated Tangible Net Worth
-----------------------------------------------------------------
Ratio. The Company shall at all times maintain a ratio of Consolidated Total
- -----
Liabilities to Consolidated Tangible Net Worth of not greater than 1.25 to 1.00.
5.9. Cash Flow Coverage. The Company shall at all times maintain
------------------
consolidated Cash Flow Coverage of not less than 2.0 to 1.00. As used in this
Section 5.9, "Cash Flow Coverage" shall mean, at any date as of which the amount
------------------
thereof shall be determined and for the period specified, the quotient obtained
by dividing the total of: (i) consolidated earnings before income taxes for
--------
such period, excluding any nonrecurring or extraordinary items, plus (ii)
----
consolidated depreciation and amortization expenses for such period, plus (iii)
----
consolidated interest expense (including imputed interest on capital lease
obligations) (collectively, "Interest Expense") minus (iv) capital expenditures
---------------- -----
minus cash taxes minus dividends and distributions; by the total of (i) Interest
- ----- ----- --
Expense for such period plus (ii) current maturities of long-term Indebtedness
----
for such period.
5.10. Profitability. The Company shall earn consolidated pretax income of
-------------
at least $1,000,000.00 in every fiscal quarter.
5.11. Cleanup Provision. The Company shall reduce its outstanding loan
-----------------
balance once each period to a maximum of $500,000 and once each period to
$300,000, each for 30 consecutive days in the 12 month periods ending December
31, 1996 and December 31, 1997, respectively.
5.12. Further Assurances. At any time and from time to time the Company
------------------
shall, and shall cause each of its Subsidiaries to, execute and deliver such
further instruments and take such further action as may reasonably be requested
by the Bank to effect the purposes of this Agreement and the Note.
SECTION VI
----------
NEGATIVE COVENANTS
------------------
<PAGE>
-19-
So long as the Bank has any commitment to lend hereunder or any Loan or
other Obligation remains outstanding, the Company covenants as follows:
6.1. Indebtedness. Neither the Company nor any of its Subsidiaries shall
------------
create, incur, assume, guarantee or be or remain liable with respect to any
Indebtedness other than the following:
(a) Indebtedness of the Company or any of its Subsidiaries to the Bank or
any of its affiliates;
(b) Indebtedness existing as of the date of this Agreement and disclosed on
Exhibit B hereto or in the financial statements referred to in Section 4.6; and
- ---------
(c) other Indebtedness of the Company in an aggregate outstanding principal
amount not exceeding $300,000.00 annually.
6.2. Contingent Liabilities. Neither the Company nor any of its
----------------------
Subsidiaries shall create, incur, assume, guarantee or remain liable with
respect to any Guarantees other than in favor of the Bank or its affiliates,
without the prior written consent of the Bank.
6.3. Leases. Neither the Company nor any of its Subsidiaries shall
------
during any fiscal year enter into any leases of real or personal property as
lessee, except for capital leases or leases providing for payments in any one
fiscal year (whether or not such payments are termed rent) that in the aggregate
do not increase the aggregate annual lease payments of the Company and its
Subsidiaries in excess of $100,000.00 over such payments required to be made
during the immediately preceding fiscal year.
6.4. Sale and Leaseback. Neither the Company nor any of its Subsidiaries
------------------
shall enter into any arrangement, directly or indirectly, whereby it shall sell
or transfer any property owned by it in order to lease such property or lease
other property that the Company or any such Subsidiary intends to use for
substantially the same purpose as the property being sold or transferred.
6.5. Encumbrances. Neither the Company nor any of its Subsidiaries shall
------------
create, incur, assume or suffer to exist any mortgage, pledge, security
interest, lien or other charge or encumbrance, including the lien or retained
security title of a conditional vendor upon or with respect to any of its
property or assets including, without limitation, on any of its accounts
receivable or inventory ("Encumbrances"), or assign or otherwise convey any
------------
right to receive income, including the sale or discount of accounts receivable
with or without recourse, except the following ("Permitted Encumbrances"):
----------------------
(a) Encumbrances in favor of the Bank or any of its affiliates; and
(b) Encumbrances existing as of the date of this Agreement and disclosed in
Exhibit B hereto;
- ---------
<PAGE>
-20-
6.6. Merger; Consolidation; Sale or Lease of Assets. Neither the Company
----------------------------------------------
nor any of its Subsidiaries shall sell, lease or otherwise dispose of assets or
properties (valued at the lower of cost or market), other than sales of
inventory in the ordinary course of business, in the aggregate in excess of
$500,000 in any fiscal year; or liquidate, merge or consolidate into or with any
other person or entity, provided that any Subsidiary of the Company may merge or
--------
consolidate into or with (i) the Company if no Default has occurred and is
continuing or would result from such merger and if the Company is the surviving
company, or (ii) any other wholly-owned Subsidiary of the Company.
6.7. Change in Control. Robert Madonna, his spouse or issue shall own at
-----------------
least 51% of the Equity Securities of the Company, but in any case Robert
Madonna shall not own less than 51% of the voting stock. For purposes hereof
"Equity Securities" shall mean (a) all common stock, preferred stock,
participations, shares, partnership interests, or other equity interests in and
of the Company (regardless of how designated and whether or not voting or non-
voting) and (b) all warrants, options, and other rights to acquire any of the
foregoing.
6.8. Equity Distributions. The Company shall not pay any dividends on
--------------------
any class of its capital stock or make any other distribution or payment on
account of or in redemption, retirement or purchase of such capital stock which
result in an Event of Default under Sections 5.7, 5.8, 5.9 or 5.10, or violates
any other provision of this Agreement.
6.9. Investments. Neither the Company nor any of its Subsidiaries shall
-----------
make or maintain any Investments other than (i) existing Investments in
Subsidiaries and (ii) Qualified Investments.
6.10. ERISA. Neither the Company nor any member of the Controlled
-----
Group shall permit any Plan maintained by it to (i) engage in any "prohibited
transaction" (as defined in Section 4975 of the Code, (ii) incur any
"accumulated funding deficiency" (as defined in Section 302 of ERISA) whether or
not waived, or (iii) terminate any Plan in a manner that could result in the
imposition of a lien or encumbrance on the assets of the Company or any of its
Subsidiaries pursuant to Section 4068 of ERISA.
SECTION VII
-----------
DEFAULTS
--------
7.1. Events of Default. There shall be an Event of Default hereunder if
-----------------
any of the following events occurs:
(a) the Company shall fail to pay when due (i) any amount of principal of
any Loans, (ii) any amount of interest thereon or (iii) any fees or expenses
payable hereunder or under the Note within 10 days following notice; or
(b) The Company shall fail to perform any term, covenant or agreement
contained in Sections 5.1(g), 5.5, 5.7 through 5.11 or 6.1 through 6.10; or
<PAGE>
-21-
(c) the Company shall fail to perform any covenant contained in Sections
5.1(f, 5.1(h) or 5.2, and such failure shall continue for 30 days; or
(d) the Company shall fail to perform any term, covenant or agreement
(other than in respect of subsections 7.1(a) through (c) hereof) contained in
this Agreement and such default shall continue for 30 days after notice thereof
has been sent to the Company by the Bank; or
(e) any representation or warranty of the Company made in this Agreement or
in the Note or any other documents or agreements executed in connection with the
transactions contemplated by this Agreement or in any certificate delivered
hereunder shall prove to have been false in any material respect upon the date
when made or deemed to have been made; or
(f) there shall occur any material adverse change in the assets,
liabilities, financial condition, business or prospects of the Company or the
Company and its Subsidiaries, taken as a whole, as determined by the Bank acting
good faith; or
(g) the Company or any of its Subsidiaries shall fail to pay at maturity,
or within any applicable period of grace, any obligation or obligations which in
the aggregate exceed $10,000 for borrowed monies or advances, or for the use of
real or personal property, or fail to observe or perform any term, covenant or
agreement evidencing or securing such obligations for borrowed monies or
advances, or relating to such use of real or personal property, the result of
which failure is to permit the holder or holders of such Indebtedness to cause
such Indebtedness to become due prior to its stated maturity upon delivery of
required notice, if any; or
(h) the Company or any of its Subsidiaries shall (i) apply for or consent
to the appointment of, or the taking of possession by, a receiver, custodian,
trustee, liquidator or similar official of itself or of all or a substantial
part of its property, (ii) be generally not paying its debts as such debts
become due, (iii) make a general assignment for the benefit of its creditors,
(iv) commence a voluntary case under the Federal Bankruptcy Code (as now or
hereafter in effect), (v) take any action or commence any case or proceeding
under any law relating to bankruptcy, insolvency, reorganization, winding-up or
composition or adjustment of debts, or any other law providing for the relief of
debtors, (vi) fail to contest within 30 days or in an appropriate manner, or
acquiesce in writing to, any petition filed against it in an involuntary case
under the Federal Bankruptcy Code or other law, (vii) take any action under the
laws of its jurisdiction of incorporation or organization similar to any of the
foregoing; or
(i) a proceeding or case shall be commenced, without the application or
consent of the Company or any of its Subsidiaries in any court of competent
jurisdiction, seeking (i) the liquidation, reorganization, dissolution, winding
up, or composition or readjustment of its debts, (ii) the appointment of a
trustee, receiver, custodian, liquidator or the like of it or of all or any
substantial part of its assets, or (iii) similar relief in respect of it, under
any law relating to bankruptcy, insolvency, reorganization, winding-up or
composition or adjustment of debts or any other law providing for the relief of
debtors, and such proceeding or case shall continue undismissed, or unstayed and
in effect, for a period of 30 days; or an order for relief shall be entered in
an involuntary case under the Federal Bankruptcy Code, against the Company or
such Subsidiary; or action under the laws of the jurisdiction of incorporation
or organization of the
<PAGE>
-22-
Company or any of its Subsidiaries similar to any of the foregoing shall be
taken with respect to the Company or such Subsidiary and shall continue unstayed
and in effect for any period of 30 days; or
(j) a judgment or order for the payment of money shall be entered against
the Company or any of its Subsidiaries by any court, or a warrant of attachment
or execution or similar process shall be issued or levied against property of
the Company or such Subsidiary, and such judgment, order, warrant or process
shall continue undischarged or unstayed for 30 days; or
(k) the Company or any member of the Controlled Group shall fail to pay
when due any amount or amounts that it shall have become liable to pay to the
PBGC or to a Plan under Title IV of ERISA; or notice of intent to terminate a
Plan or Plans shall be filed under Title IV of ERISA by the Company, any member
of the Controlled Group, any plan administrator or any combination of the
foregoing; or the PBGC shall institute proceedings under Title IV of ERISA to
terminate or to cause a trustee to be appointed to administer any such Plan or
Plans or a proceeding shall be instituted by a fiduciary of any such Plan or
Plans against the Company and such proceedings shall not have been dismissed
within 30 days thereafter; or a condition shall exist by reason of which the
PBGC would be entitled to obtain a decree adjudicating that any; or
7.2. Remedies. Upon the occurrence of an Event of Default described in
--------
subsections 7.1(h) and (i), immediately and automatically, and upon the
occurrence of any other Event of Default, at any time thereafter while such
Event of Default is continuing, at the Bank's option and upon the Bank's
declaration:
(a) the Bank's commitment to make any further Loans hereunder shall
terminate;
(b) the unpaid principal amount of the Loans together with accrued interest
and all other Obligations shall become immediately due and payable without
presentment, demand, protest or further notice of any kind, all of which are
hereby expressly waived; and
(c) the Bank may exercise any and all rights it has under this Agreement,
the Note or any other documents or agreements executed in connection herewith,
or at law or in equity, and proceed to protect and enforce the Bank's rights by
any action at law, in equity or other appropriate proceeding.
SECTION VIII
------------
MISCELLANEOUS
-------------
8.1. Notices. Unless otherwise specified herein, all notices hereunder
-------
to any party hereto shall be in writing and shall be deemed to have been given
when delivered by hand, when properly deposited in the mails postage prepaid,
when sent by electronic facsimile transmission, or when delivered to the
overnight courier, addressed to such party at its address indicated below:
If to the Company, at
<PAGE>
-23-
EXCEL INC.
255 Independence Drive
Hyannis, MA 02601
Attention: Nathan Apatow
If to the Bank, at
The First National Bank of Boston
100 Federal Street
Boston, Massachusetts 02110
Attention: Bradford Egan
MA Corp. Cape Cod
or at any other address specified by such party in writing.
8.2. Expenses. The Company shall, on demand, pay or reimburse the Bank
--------
for all expenses (including attorneys' fees of outside counsel or allocation
costs of in-house counsel incurred or paid by the Bank in connection with the
preparation, negotiation and closing of this Agreement and the Note (whether or
not the transactions contemplated hereby shall be consummated) or in connection
with the administration or amendment of this Agreement or the Note (whether or
not the transactions contemplated hereby shall be consummated) and with the
enforcement of any Obligation or exercise of any right of the Bank hereunder or
under the Note.
8.3. Set-Off. Regardless of the adequacy of any collateral or other
-------
means of obtaining repayment of the Obligations, any deposits, balances or other
sums credited by or due from the head office of the Bank or any of its branch
offices to the Company may, at any time and from time to time after the
occurrence of an Event of Default hereunder, without notice to the Company or
compliance with any other condition precedent now or hereafter imposed by
statute, rule of law, or otherwise (all of which are hereby expressly waived) be
set off, appropriated, and applied by the Bank against any and all obligations
of the Company to the Bank or any of its affiliates in such manner as the head
office of the Bank or any of its branch offices in their sole discretion may
determine, and the Company hereby grants the Bank a continuing security interest
in such deposits, balances or other sums for the payment and performance of all
such obligations.
8.4. Term of Agreement. This Agreement shall continue in force and
-----------------
effect so long as the Bank has any commitment to make Loans hereunder or any
Loan or any Obligation shall be outstanding.
8.5. No Waivers. No failure or delay by the Bank in exercising any
----------
right, power or privilege hereunder or under the Note or under any other
documents or agreements executed in connection herewith shall operate as a
waiver thereof; nor shall any single or partial exercise thereof preclude any
other or further exercise thereof or the exercise of any other right, power or
privilege. The rights and remedies herein and in the Note provided are
cumulative and not exclusive of any rights or remedies otherwise provided by
agreement or law.
<PAGE>
-24-
8.6. Massachusetts Law. This Agreement and the Note shall be deemed to
-----------------
be contracts made under seal and shall be construed in accordance with and
governed by the laws of The Commonwealth of Massachusetts (without giving effect
to any conflicts of law provisions contained therein).
8.7. Amendments. Neither this Agreement nor the Note nor any provision
----------
hereof or thereof may be amended, waived, discharged or terminated except by a
written instrument signed by the Bank and, in the case of amendments, by the
Company.
8.8. Binding Effect of Agreement. This Agreement shall be binding upon
---------------------------
and inure to the benefit of the Company and the Bank and their respective
successors and assigns; provided that the Company may not assign or transfer its
--------
rights or obligations hereunder. The Bank may sell, transfer or grant
participations in the Note without the prior written consent of the Company, and
the Company agrees that any transferee or participant shall be entitled to the
benefits of Sections 2.7, 2.11, 5.5 and 8.3 to the same extent as if such
transferee or participant were the Bank hereunder; provided that notwithstanding
any such transfer or participation, the Company may, for all purposes of this
Agreement, treat the Bank as the person entitled to exercise all rights
hereunder and under the Note and to receive all payments with respect thereto.
8.9. Counterparts. This Agreement may be signed in any number of
------------
counterparts with the same effect as if the signatures hereto and thereto were
upon the same instrument.
8.10. Partial Invalidity. The invalidity or unenforceability of any one
------------------
or more phrases, clauses or sections of this Agreement shall not affect the
validity or enforceability of the remaining portions of it.
8.11. Captions. The captions and headings of the various sections and
--------
subsections of this Agreement are provided for convenience only and shall not be
construed to modify the meaning of such sections or subsections.
8.12. Termination. The Company shall have the right to terminate this
-----------
Agreement upon sixty (60) days written notice, without prejudice to any rights
of the Bank set forth in this Agreement and only to the extent that there is no
loan Obligation outstanding at the time of termination.
8.13. WAIVER OF JURY TRIAL. EXCEPT AS PROHIBITED BY LAW, NEITHER THE
--------------------
COMPANY NOR THE BANK, NOR ANY OF THEIR ASSIGNEES OR SUCCESSORS, SHALL (A) SEEK A
JURY TRIAL IN ANY LAWSUIT, PROCEEDING, COUNTERCLAIM OR ANY OTHER LITIGATION
PROCEDURE BASED UPON OR ARISING OUT OF THIS AGREEMENT OR ANY RELATED DOCUMENT OR
AGREEMENT, OR THE DEALINGS OR THE RELATIONSHIP BETWEEN OR AMONG ANY OF THEM, OR
(B) SEEK TO CONSOLIDATE ANY SUCH ACTION, IN WHICH A JURY TRIAL HAS BEEN WAIVED,
WITH ANY OTHER ACTION IN WHICH A JURY TRIAL CAN NOT BE OR HAS NOT BEEN WAIVED.
THE PROVISIONS OF THIS SECTION HAVE BEEN FULLY DISCUSSED BY THE PARTIES HERETO,
AND THE PROVISIONS HEREOF SHALL BE SUBJECT TO NO EXCEPTIONS. NO PARTY HERETO
HAS IN ANY WAY AGREED
<PAGE>
-25-
WITH OR REPRESENTED TO ANY OTHER PARTY THAT THE PROVISIONS OF THIS SECTION 8.12
WILL NOT BE FULLY ENFORCED IN ALL INSTANCES.
8.14. Entire Agreement. This Agreement, the Note and the documents and
----------------
agreements executed in connection herewith constitute the final agreement of the
parties hereto and supersede any prior agreement or understanding, written or
oral, with respect to the matters contained herein and therein.
IN WITNESS WHEREOF, the parties have caused this Agreement to be executed
by their duly authorized officers as of the day and year first above written.
EXCEL INC.
By /s/ Robert P. Madonna
----------------------------------
Title: President
THE FIRST NATIONAL BANK OF BOSTON
By /s/ Bradford P. Egan
----------------------------------
Title: Vice President
<PAGE>
EXCEL INC.
PROMISSORY NOTE
$5,000,000.00 December 21, 1995
Boston, Massachusetts
For value received, the undersigned hereby promises to pay to The First
National Bank of Boston (the "Bank"), or order, at the head office of the Bank
at 100 Federal Street, Boston, Massachusetts 02110, the principal amount of Five
Million Dollars ($5,000,000.00) or such lesser amount as shall equal the
aggregate unpaid principal amount of all Loans (as defined in the Agreement
referred to below) made by the Bank to the undersigned pursuant to the
Agreement, in lawful money of the United States and in immediately available
funds, in the amounts and on the dates provided on the schedule attached hereto
and to pay interest on the unpaid principal amount hereof, at said office, in
like money and funds, for the period commencing on the date hereof until paid in
full, at the rates per annum and on the dates provided on such schedule.
Overdue payments of principal (whether at stated maturity, by acceleration
or otherwise), and, to the extent permitted by law, overdue interest, shall bear
interest, compounded monthly and payable on demand in immediately available
funds, at a rate per annum equal to two percent (2%) above greater of (i) the
rate in effect with respect to such principal prior to its maturity and (ii) the
rate then applicable to Base Rate Loans under the Agreement.
This Note is issued pursuant to, and entitled to the benefits of, and is
subject to, the provisions of a certain Credit Agreement dated as of December
21, 1995 by and between the undersigned and the Bank (herein, as the same may
from time to time be amended or extended, referred to as the "Agreement"), but
neither this reference to the Agreement nor any provision thereof shall affect
or impair the absolute and unconditional obligation of the undersigned maker of
this Note to pay the principal of and interest on this Note as herein provided.
As provided in the Agreement, this Note is subject to mandatory prepayment
in certain circumstances.
In case an Event of Default (as defined in the Agreement) shall occur, the
aggregate unpaid principal of plus accrued interest on this Note shall become or
may be declared to be due and payable in the manner and with the effect provided
in the Agreement.
<PAGE>
The undersigned may at its option prepay all or any part of the principal
of this Note before maturity upon the terms provided in the Agreement.
The undersigned maker hereby waives presentment, demand, notice of
dishonor, protest and all other demands and notices in connection with the
delivery, acceptance, performance and enforcement of this Note.
This instrument shall have the effect of an instrument executed under seal
and shall be governed by and construed in accordance with the laws of The
Commonwealth of Massachusetts (without giving effect to any conflicts of laws
provisions contained therein).
EXCEL INC.
By: /s/ Robert P. Madonna
-------------------------------
Title: President
<PAGE>
AMENDMENT TO CREDIT AGREEMENT
AND PROMISSORY NOTE
This Amendment to Credit Agreement and Promissory Note (the "Amendment") is
made as of May 24, 1996 and amends the Credit Agreement dated as of December 21,
1995 (as amended, the "Agreement"), between EXCEL, INC. (the "Company"), and THE
FIRST NATIONAL BANK OF BOSTON, a national banking association (the "Bank") and
the Promissory Note dated as of December 21, 1995 executed by the Company in
favor of the Bank (as amended, the "Note"). Capitalized terms which are used in
this Amendment and are defined in the Agreement, shall have the meanings given
to them in the Agreement unless they are otherwise defined in this Amendment.
WHEREAS, the Bank has made available to the Company a certain $5,000,000
credit facility as described in the Agreement and evidenced by the Note; and
WHEREAS, the Company and the Bank have agreed to increase the credit
facility to $10,000,000;
NOW, THEREFORE, the Bank and the Company agree as follows:
I. AMENDMENTS TO THE AGREEMENT
1. Section 1.1. of the Agreement is hereby amended by deleting
"$5,000,000.00" from the definition of "Commitment Amount" set forth
-----------------
and substituting "$10,000,000.00" therefor.
2. Section 2.3 of the Agreement is hereby amended by deleting it in its
entirety and replacing it with the following:
"2.3 Facility Fee. The Company shall pay to the Bank during the
------------
Revolving Credit Period an annual fee equal to (i) $9,500.00 from the
date of this Agreement until June 30, 1996 and $25,000.00 thereafter.
The facility fee shall be payable quarterly in advance, on the first
day of January, April, July and October of each year. The Company
shall pay $2,375.00 on each of January 1, 1996, and April 1, 1996 and
$6,250.00 each quarter in advance thereafter commencing on July 1,
1996. A prorated amount for the period from the date of the Agreement
to December 31, 1995 shall be payable at the closing."
II. AMENDMENT TO THE NOTE
The Note is hereby amended by deleting "$5,000,000.00" and "Five Million
Dollars ($5,000,000.00)" from the first page thereof and substituting
<PAGE>
"$10,000,000.00" and "Ten Million Dollars $10,000,000.00)", respectively,
therefor.
III. MISCELLANEOUS AGREEMENTS
1. Continuing Effect of the Agreement. This Amendment shall not
----------------------------------
constitute an amendment of any provision of the Agreement or the Note
not expressly referred to herein and shall not be construed as a
consent to any action on the part of the Company that would require a
waiver or consent of the Bank except as expressly stated herein. The
provisions of the Agreement and the Note that are not expressly
amended or modified hereby are and shall remain in full force and
effect, and are hereby ratified and confirmed, including without
limitation, the negative pledge on assets of the Company as set forth
in Section 6.5 of the Agreement.
2. Representations and Warranties. The Company hereby represents and
------------------------------
warrants to the bank that the representations and warranties set forth
in the Agreement and the Note as amended by this Amendment are true
and correct on and as of the date hereof as if made on and as of the
date hereof, and that no Event of Default exists on and as of the date
hereof.
3. Fees, Costs, Expenses and Taxes. The Company also agrees to pay on
-------------------------------
demand all costs and expenses of the Bank in connection with the
preparation, execution and delivery of this Amendment and the other
instruments and documents to be delivered hereunder, including the
fees and allocation costs of its in-house counsel.
4. Effectiveness of Amendment. This Amendment shall be effective as of
--------------------------
the date hereof upon receipt by the Bank of (a) this Amendment duly
executed and delivered by the Company and the Bank and (b) such other
documents and certificates as the bank or its counsel may have
requested.
5. Governing Law. The Amendment shall be deemed to be a contract under
-------------
seal and for all purposes shall be governed by and construed and
enforced in accordance with the laws of The Commonwealth of
Massachusetts.
6. Counterparts. The Amendment may be executed in any number of
------------
counterparts and by the different parties hereto on separate
counterparts, each of which, when so executed, shall be deemed an
original, but all such counterparts shall constitute but one and the
same instrument. The Amendment shall be firmly attached to the Note by
stapling or other permanent means of attachment and shall constitute
an integral part of the Note from and after the date first above
written.
<PAGE>
IN WITNESS WHEREOF, the parties have caused this Amendment to be executed
and delivered by their duly authorized officers as of the date first above
written.
EXCEL. INC.
By: /s/ Robert P. Madonna
--------------------------------
Title: President
THE FIRST NATIONAL BANK OF BOSTON
By: /s/ Bradford P. Egan
--------------------------------
Title: Vice President
<PAGE>
as of March 20, 1997
Excel, Inc.
255 Independence Park
Hyannis, MA 02601
Attention: Mr. Robert Madonna
RE: Line of Credit
--------------
Gentlemen:
The First National Bank of Boston (the "Bank") has made a certain revolving
line of credit (the "Line") available to Excel, Inc. (the "Borrower") pursuant
to a certain credit agreement dated December 21, 1995 (as amended, the
"Agreement"). All obligations with respect to the Line are evidenced by a
certain Promissory Note in the principal amount of $5,000,000 dated as of
December 21, 1995, amended and increased to $10,000,000 (as amended, the
"Note").
The Borrower has requested, and the Bank has agreed to amend the Borrowing
Base definition and waive and amend certain covenants as set forth in the
Agreement.
Now, therefore, for good and valuable consideration, the receipt of which
is hereby acknowledged, the Borrower and the Bank hereby agree as follows:
1. The Borrowing Base as defined in the Agreement is hereby amended to
include 50% of the Net Security Value of Base Inventory net of the obsolescence
reserve. "Net Security Value of Base Inventory" shall mean the net value of Base
Inventory, calculated at the lesser of fair market value or cost determined on
the "first in, first out" basis, after subtracting the value of any Base
Inventory which is damaged or detective and after taking into account charges
and liens, other than those of the Bank, of all kinds against the Base
Inventory, changes in the market value thereof, and transportation, processing
and other handling charges affecting the value thereof, all as determined by the
Bank in its discretion, which determination shall be final and binding upon the
Borrowers. "Base Inventory" shall mean inventory consisting of raw materials as
to which a Borrower has acquired title, and is otherwise in compliance with
Section 6.5 Encumbrance, and the Borrowers have furnished to the Bank
-----------
information as required by Section 5.1(b) hereof. Inventory immediately loses
the status of Base Inventory if and when a Borrower sells it, otherwise passes
title thereto or consumes it.
2. Section 5.1(a) of the Agreement requires that audited fiscal year end
statements be submitted to the Bank within 90 days of the Borrower's fiscal year
end. The Borrower has made it known to the Bank that the statement will not be
available within that set period of time for fiscal 1996. The Borrower has
requested a waiver of the covenant default. Based on the representations made
by the Borrower, the Bank hereby waives the covenant default referenced above
for the year ended December 31, 1996 and resets the time period to 180 days from
the Borrower's fiscal year end. Thereafter, the time period for said covenant
will again be 90 days from fiscal year end.
<PAGE>
-2-
3. Section 6.3 of the Agreement requires that the Borrower or any of its
subsidiaries not enter into any leases of real or personal property as lessee
which increase the aggregate annual lease payments over $100,000 from the prior
fiscal year. The Borrower has made it known to the Bank that the Borrower
entered into new leases requiring annual aggregate lease payments of $225,000 in
the fiscal year ended December 31, 1996, $125,000 in excess of the permitted
amount. The Bank hereby waives the covenant default referenced above for the
year ended December 31, 1996 based on the representations made by the Borrower
and resets the covenant amending the annual limitation to $300,000 (from the
previously agreed $100,000) for future periods.
4. Section 6.4 of the Agreement restricts the Borrower from entering into
sale or leaseback transactions. The Borrower has made it known to the Bank that
the Borrower did enter into a $560,000 sale/leaseback transaction in the fiscal
year ended December 31, 1996. The Bank hereby waives the covenant default
referenced above for the year ended December 31, 1996, based on the
representations made by the Borrower and resets the covenant for the periods
thereafter.
These waivers shall not constitute a waiver of any provision of the Agreement
other than Section 5.1(a), 6.3, and 6.4 and shall not be construed as a consent
to any action on the part of the Borrower that would require a waiver or consent
of the Bank except as expressly stated herein. All of the provisions of the
Agreement are and shall remain in full force and effect and are hereby ratified
and confirmed.
Sincerely,
THE FIRST NATIONAL BANK OF BOSTON
By: /s/ Bradford P. Egan
--------------------------------
Its: Vice President
---------------------------
Acknowledged:
Excel, Inc.
By: /s/ Nathan C. Apatow
------------------------
Its: Treasurer
<PAGE>
-3-
Exhibit
MONTHLY BORROWING BASE CERTIFICATE
Company ____________________________
1. Accounts Receivable @ ___________ (date) $_____________
a. Less Accounts over 60 days $_____________
b. Less Accounts due to Cross Aging Rule (25%) $_____________
c. Less Affiliate Receivables $_____________
d. Less Foreign Receivables $_____________
e. Less Other Ineligibles $_____________
2. Eligible Accounts Receivable $_____________
3. Advance Rate (75%) $_____________
4. Accounts Receivable Availability $_____________
5. Raw Material Inventory $_____________
6. Advance Rate (50%) $_____________
7. Net Obsolescence Reserve $_____________
8. Inventory Availability $_____________
9. Total AIR and Inventory Availability $_____________
10. Less Outstanding Loan Balance (maximum $10,000,000) $_____________
12. Net Availability (Overadvance) $_____________
The undersigned, and the individual signing this certificate on behalf of the
undersigned, certify that the information contained herein is true, correct, and
complete as of the date set forth above.
By: ______________________________
(Authorized Official)
Date: ____________________________
<PAGE>
Exhibit A
---------
EXCEL, INC.
PROMISSORY NOTE
December 21, 1995
$5,000,000.00 Boston, Massachusetts
For value received, the undersigned hereby promises to pay to The First
National Bank of Boston (the "Bank"), or order, at the head office of the Bank
at 100 Federal Street, Boston, Massachusetts 02110, the principal amount of Five
Million Dollars ($5,000,000.00) or such lesser amount as shall equal the
aggregate unpaid principal amount of all Loans (as defined in the Agreement
referred to below) made by the Bank to the undersigned pursuant to the
Agreement, in lawful money of the United States and in immediately available
funds, in the amounts and on the dates provided on the schedule attached hereto
and to pay interest on the unpaid principal amount hereof, at said office, in
like money and funds, for the period commencing on the date hereof until paid in
full, at the rates per annum and on the dates provided on such schedule.
Overdue payments of principal (whether at stated maturity, by
acceleration or otherwise), and, to the extent permitted by law, overdue
interest, shall bear interest, compounded monthly and payable on demand in
immediately available funds, at a rate per annum equal to two percent (2%) above
greater of (i) the rate in effect with respect to such principal prior to its
maturity and (ii) the rate then applicable to Base Rate Loans under the
Agreement.
This Note is issued pursuant to, and entitled to the benefits of, and
is subject to, the provisions of a certain Credit Agreement dated as of December
21, 1995 by and between the undersigned and the Bank (herein, as the same may
from time to time be amended or extended, referred to as the "Agreement"), but
neither this reference to the Agreement nor any, provision thereof shall affect
or impair the absolute and unconditional obligation of the undersigned maker of
this Note to pay the principal of and interest on this Note as herein provided.
As provided in the Agreement, this Note is subject to mandatory
prepayment in certain circumstances.
In case an Event of Default (as defined in the Agreement) shall occur,
the aggregate unpaid principal of plus accrued interest on this Note shall
become or may be declared to be due and payable in the manner and with the
effect provided in the Agreement.
The undersigned may at its option prepay all or any part of the
principal of this Note before maturity upon the terms provided in the Agreement.
The undersigned maker hereby waives presentment, demand, notice of
dishonor, protest and all other demands and notices in connection with the
delivery, acceptance, performance and enforcement of this Note.
<PAGE>
-2-
This instrument shall have the effect of an instrument executed under
seal and shall be governed by and construed in accordance with the laws of The
Commonwealth of Massachusetts (without giving effect to any conflicts of laws
provisions contained therein).
EXCEL INC.
By:
--------------------------------
Title:
<PAGE>
-3-
SCHEDULE I TO PROMISSORY NOTE
<TABLE>
<CAPTION>
Type of Loan
Amount of Eurodollar Interest Interest Notation
Date Loan or Base Loan Rate Rate* Period Amount Paid Made By
<S> <C> <C> <C> <C> <C> <C> <C>
</TABLE>
* For Base Rate Loans, insert "Base Rate"
** For Eurodollar Loans
<PAGE>
-4-
EXHIBIT B
List of Indebtedness and Encumbrances
1. $2.6 Million First Mortgage on corporate headquarters building #60 and #70
at 255 Independence Drive , Hyannis, MA. Seven year note, twenty year
amortization provided by Cape Cod Bank & Trust.
2. $300 Thousand Term Note secured by equipment and provided by Cape Cod
Bank & Trust.
<PAGE>
-5-
EXHIBIT C
List of litigation. Arbitration, or Investigations Pending
Litigation:
Melissa Lima v Excel Inc., et al
(Employment Litigation, discrimination in hiring)
U.S. District Court Mass. 95-10330-PBS)
Arbitration:
None
Investigations:
None
<PAGE>
-6-
EXHIBIT D
List of Subsidiaries
NONE
<PAGE>
-7-
Exhibit E
MONTHLY BORROWING BASE CERTIFICATE
Company ____________________
1. Account Receivable @ _________________(date) $________________
a. Less Accounts over 60 days $________________
b. Less Accounts due to Cross Aging Rule (25%) $________________
c. Less Affiliate Receivables $________________
d. Less Foreign Receivables $________________
e. Less Other Ineligibles $________________
2. Eligible Accounts Receivable $________________
3. Advance Rate (75%) X
4. Accounts Receivable Availability $________________
5. Less Outstanding Loan Balance (Maximum $5,000,000) $________________
6. Net Availability or (Overadvance) $________________
The undersigned, and the individual signing this certificate on behalf of the
undersigned, certify that the information contained herein is true, correct and
complete as of the date(s) set forth above.
By:____________________________
Authorized Official
Date:__________________________
<PAGE>
-8-
EXHIBIT F
---------
REPORT OF CHIEF FINANCIAL OFFICER
---------------------------------
EXCEL, INC. (the "Company) HEREBY CERTIFIES that:
This Report is furnished pursuant to the Credit Agreement dated as of
December 8, 1995 by and between the Company and The First National Bank of
Boston (the "Agreement"). Unless otherwise defined herein, the terms used in
this Report have the meanings given to them in the Agreement.
As required by the Agreement, financial statements of the Company for
the quarter ended ______________ (the "Financial Statements') prepared in
accordance with generally accepted account principals consistently applied
accompany this Report. The Financial Statements present fairly the financial
position of the Company as the date thereof and the results of the operations of
the Company for the period covered thereby (subject only to normal recurring
year-end adjustments).
The figures set forth in Schedule I for determining compliance by the
Company with the financial covenants contained in the Agreement are true and
complete as of the date thereof.
The activities of the Company during the period covered by the
Financial Statements have been reviewed by the Chief Financial Officer or by
employees or agents under his immediate supervision. Based on such review, to
the best knowledge and belief of the Chief Financial Officer, and as of the date
of this Report, no Default has occurred.*
WITNESS my hand this ___ day of __________, 199__.
EXCEL, INC.
By:
--------------------------------
Title:
-----------------------------
*If a Default has occurred, this paragraph is to be modified with an appropriate
statement as to the nature thereof, the period of existence thereof and what
action the Company has taken, is taking, or proposes to take with respect
thereto.
<PAGE>
-9-
SCHEDULE I TO REPORT OF CHIEF FINANCIAL OFFICER
Schedule of Compliance as of ___________ with provisions of Section
5.7, 5.8, 5.9, and 5.10 of the Credit Agreement dated as of December 8, 1995
(the "Agreement") between Excel, Inc. and the First National Bank of Boston.
1. Consolidated Tangible Net Worth (Section 5.7)
---------------------------------------------
(i) Total Assets $________________
(ii) Excluded Items (if any) $________________
(iii) Total Liabilities $________________
(iv) Tangible Net Worth $________________
[(I) minus the sum of (ii) and (iii)]
-----
(v) Minimum Tangible Net Worth
permitted by Agreement $________________
2. Ratio of Total Liabilities to Tangible Net Worth (Section 58)
-------------------------------------------------------------
(i) Total Liabilities $________________
(ii) Tangible Net Worth $________________
(iii) Ratio of (I) to (ii) ________________
3. Cash Flow Coverage (Section 5.9)
--------------------------------
(i) Earnings before interest and income taxes $________________
[excluding non-recurring or extraordinary
items]
(ii) Depreciation and Amortization $________________
(iii) Capital Expenditures $________________
(iv) Cash Taxes Paid $________________
(v) Dividends and Distributions $________________
<PAGE>
-10-
(vi) Total Operating Cash Flow
(I) plus (ii) minus (iii) minus (iv) minus (v) $________________
(vii) Interest Expense $________________
(viii) Principal on Debt and Capital Leases paid $________________
(ix) Total Debt Service
(vii) plus (viii) $________________
(x) Cash Flow Coverage Ratio
(vi) divided by (ix) ________________
(xi) Cash Flow Ratio Required by Agreement ________________
4. Profitability (Section 5. 10)
-----------------------------
(i) Fiscal Quarter Pre-Tax Income
Required by Agreement $________________
<PAGE>
-11-
EXHIBIT G
---------
FORM OF OPINION OF COUNSEL TO THE COMPANY
------------------------
The First National Bank of Boston
100 Federal Street
Boston, Massachusetts 02110
RE: Revolving Credit Agreement dated as of ______________ by and
between The First National Bank of Boston (the "Bank") and [NAME
OF COMPANY] (the "Company")
Ladies/Gentlemen:
We have acted as counsel to ___________ (the "Company") in connection
with the preparation, execution and delivery of the Revolving Credit and Term
Loan Agreement, dated as of __________ (the "Agreement") between The First
National Bank of Boston (the "Bank") and the Company pursuant to which the
Company has executed and delivered to the Bank its Note in the principal amount
of $_________. All terms defined in the Agreement shall have the same meanings
herein.
We have examined executed counterparts of the Agreement and the Note
and originals, or copies, the authenticity of which has been established to our
satisfaction, of such other documents, corporate records, agreements and
instruments and certificates of public officials and officers of the Company as
we have deemed necessary as the basis for the opinions herein expressed. As to
the questions of fact material to such opinions we have, when relevant facts
were not independently established, relied upon certifications by officers of
the Company.
Based on the foregoing and having regard for legal considerations as we
have deemed relevant, it is our opinion that:
1. The Company is a corporation duly organized, validly existing and in
good standing under the laws of the [State/Commonwealth of ___________], has all
requisite corporate power to own its property and conduct its business as now
conducted and is duly qualified and in good standing as a foreign corporation
and duly authorized to do business in each jurisdiction wherein the nature of
its properties or business requires such qualification, except where the failure
to be so qualified would not have a material adverse effect on its business,
financial condition, assets or properties taken as a whole.
2. The execution and delivery of the Agreement and the Note and
performance by the Company of its obligations thereunder and of the transactions
contemplated thereby are within the corporate power and authority of the
Company, and have been authorized by proper
<PAGE>
-12-
corporate proceedings and do not contravene any provision of law of the United
States or its political subdivisions or the [Certificate of
Incorporation/Articles of Organization] or ByLaws of the Company, or, to the
best of our knowledge, contravene any provision of, or constitute an event of
default or event which, with the lapse of time or the giving of notice, or both,
would constitute an event of default under, any other agreement, instrument or
undertaking binding on the Company.
3. The Agreement and the Note have been duly executed and delivered by
the Company. The Agreement and the Note and all of the terms and provisions
thereof are the legal, valid and binding obligations of the Company, enforceable
in accordance with their respective terms except as limited by bankruptcy,
insolvency, reorganization, moratorium or other laws affecting enforcement of
creditors' rights generally, and except as the remedy of specific performance or
of injunctive relief is subject to the discretion of the court before which any
proceeding therefor may be brought.
4. The execution, delivery and performance of the Agreement and the
Note and the transactions contemplated thereby do not require any approval or
consent of, or filing or registration with, any governmental or other agency or
authority, or any other party.
5. Except as set forth on Exhibit D to the Agreement, there is no
---------
litigation, proceeding or investigation pending, or, to the best of our
knowledge after due inquiry, threatened, against the Company or any Subsidiary
which, if adversely determined, would result in a material judgment not
substantially covered by insurance or would otherwise have a material adverse
effect on the assets, business or prospects of the Company or any Subsidiary.
6. Each Subsidiary of the Company is a corporation duly organized,
validly existing and in good standing under the laws of its jurisdiction of
incorporation, has all requisite corporate power to own its property and conduct
its businesses as now conducted and is duly qualified and in good standing as a
foreign corporation and is duly authorized to do business in each jurisdiction
where the nature of its properties or businesses requires such qualification,
except where the failure to be so qualified would not have a material adverse
effect on its business, financial condition, assets or properties taken as a
whole.
7. As of the date of the Agreement, all the Subsidiaries of the Company
are listed on Exhibit E thereto. The Company is the record holder of all of the
---------
issued and outstanding stock of each of its Subsidiaries. All shares of such
stock have been validly issued and are fully paid and nonassessable, and no
rights to subscribe to any additional shares have been granted, and no options,
warrants or similar rights are outstanding.
8. Neither the Company nor any Subsidiary is subject to regulation
under the Investment Company Act of 1940, as amended.
9. All state and local recording, franchise, stamp, documentary and
other taxes and governmental charges and assessments required to be paid in
connection with the execution,
<PAGE>
-13-
delivery, filing or recordation of, or as a condition to the enforcement of, the
Agreement and the Note and any of the transactions contemplated thereby, have
been duly paid.
Very truly yours,
<PAGE>
EXCEL SWITCHING CORPORATION (f/k/a Excel, Inc.)
255 Independence Drive
Hyannis, Massachusetts 02601
Dated as of: December 19, 1997
BankBoston, N.A.,
(f/k/a The First National Bank of Boston)
100 Federal Street
Boston, Massachusetts 02110
Re: Amendment No. 1 to Loan Agreement
---------------------------------
Ladies and Gentlemen:
We refer to the Loan Agreement, dated as of December 21, 1995 (as amended,
the "Agreement"), between Excel Switching Corporation (f/k/a Excel, Inc.), a
Massachusetts corporation (the "Borrower"), and BankBoston, N.A. (f/k/a The
First National Bank of Boston), a national banking association (the "Lender").
Terms used in this letter of agreement (this "Amendment") which are not
defined herein, but which are defined in the Agreement, shall have the same
respective meanings herein as therein.
We have advised you that, effective September 16, 1997, we have changed the
legal name of the corporation from Excel, Inc. to Excel Switching Corporation.
In addition, we have requested you to make certain amendments to the Agreement.
You have advised us that you are prepared and would be pleased to make the
amendments so requested by us on the condition that we join with you in this
Amendment.
Accordingly, in consideration of these premises, the promises, mutual
covenants and agreements contained in this Amendment, and fully intending to be
legally bound by this Amendment, we hereby agree with you as follows:
ARTICLE I
---------
AMENDMENTS TO AGREEMENT
-----------------------
Effective December 19, 1997, the Agreement is amended as follows:
(a) The definition of "Borrowing Base" in Section 1.1 of the Agreement
(and including the definitions of "Base Accounts" and "net outstanding amount of
Base Accounts" contained therein) is deleted in its entirety.
<PAGE>
-2-
(b) The definition of "Commitment Amount" in Section 1.1 of the Agreement
is amended to read in its entirety as follows:
"Commitment Amount. $15,000,000 or any lesser amount, including zero
-----------------
resulting from a termination or reduction of such amount in accordance
with Section 7.2."
(c) Section 1.1 is amended by inserting, immediately following the
definition of "Computation Rate" contained therein, the following new
definition:
"Consolidated Current Assets. At any date as of which the amount
---------------------------
thereof shall be determined, all amounts that should, in accordance
with generally accepted accounting principles, be included as current
assets on the consolidated balance sheet of the Company and its
Subsidiaries at such date."
(d) The definition of "Revolving Credit Termination Date" in Section 1.1
of the Agreement is amended to read in its entirety as follows:
"Revolving Credit Termination Date: June 30, 1999".
(e) Section 2.1 of the Agreement is amended by deleting each reference to
"Borrowing Base" contained therein, and by inserting in place thereof the
following:
"Commitment Amount".
(f) Section 2.4(a) of the Agreement is amended by deleting the reference
to "December 15, 1997" contained therein, and by inserting in place thereof the
following:
"June 30, 1999".
(g) Section 2.6(b) of the Agreement is amended by deleting the reference
to "two and one half percent (2.5%)" contained therein, and by inserting in
place thereof the following:
"one and three-quarters percent (1.75%)".
(h) Section 5.1(b) of the Agreement is amended by deleting the reference
to the borrowing base report and Exhibit E contained in clause (ii) thereof.
---------
(i) Section 5.7 of the Agreement is amended to read in its entirety as
follows:
"[Intentionally Omitted.]"
(j) Section 5.8 of the Agreement is amended by deleting the reference to
"1.25" contained therein, and by inserting in place thereof the following:
"1.00".
<PAGE>
-3-
(k) Section 5.9 of the Agreement is amended to read in its entirety as
follows:
"5.9 Consolidated Current Assets to Consolidated Current Liabilities
---------------------------------------------------------------
Ratio. The Company shall at all times maintain a ratio of
-----
Consolidated Current Assets to Consolidated Current Liabilities of at
least 2.00 to 1.00, tested quarterly."
(l) Section 7.1(b) of the Agreement is amended to read in its entirety as
follows:
"(b) The Company shall fail to perform any term, covenant or agreement
contained in Sections 5.1(g), 5.5, 5.8 through 5.11, inclusive, or 6.1
through 6.10, inclusive; or".
(m) Each reference in the Agreement, the Note and the other documents and
agreements executed in connection therewith to (i) "Excel, Inc." shall be deemed
to be a reference to "Excel Switching Corporation" and (ii) "The First National
Bank of Boston" shall be deemed to be a reference to "BankBoston, N.A."
(n) Section 2.3 of the Agreement is amended to read in its entirety as
follows:
"2.3 Facility Fee. The Company shall pay to the Bank during the
------------
Revolving Credit Period an annual facility fee, payable quarterly in
advance on the first Business Day of each quarter, equal to 1/4% per
annum of the Commitment Amount then in effect."
ARTICLE II
----------
AMENDMENT TO NOTE
-----------------
Effective December 19, 1997, the Note is amended by deleting each reference
to "$10,000,000" or "Ten Million Dollars ($10,000,000) contained therein and by
inserting a reference to "$15,000,000" or "Fifteen Million Dollars
($15,000,000)", respectively, in place thereof. In addition, the Schedule
attached to the Note is amended by inserting a maturity date of June 30, 1999.
ARTICLE III
-----------
REPRESENTATIONS AND WARRANTIES
------------------------------
The Borrower represents and warrants to you as follows:
(a) Representations in Agreement. Each of the representations and
----------------------------
warranties made by the Borrower to you in the Agreement was true, correct and
complete when made and is true, correct and complete on and as of the date
hereof with the same full force and effect as if each of such representations
and warranties had been made by the Borrower on the date hereof and in this
Amendment.
<PAGE>
-4-
(b) No Defaults or Events of Default. No default or Event of Default
--------------------------------
exists on the date of this Amendment (after giving effect to all of the
arrangements and transactions contemplated by this Amendment).
(c) Binding Effect of Documents. This Amendment has been duly executed and
---------------------------
delivered to you by the Borrower and is in full force and effect as of the date
hereof, and the agreements and obligations of the Borrower contained herein
constitute legal, valid and binding obligations of the Borrower enforceable
against the Borrower in accordance with its terms. The Borrower has delivered
to you with this Amendment duly executed board resolutions authorizing the
incurrence of the additional indebtedness evidenced hereby and the other terms
and conditions of this Amendment.
ARTICLE IV
----------
MISCELLANEOUS
-------------
This Amendment may be executed in any number of counterparts, each of which
when executed and delivered shall be deemed an original, but all of which
together shall constitute one instrument. In making proof of this Amendment, it
shall not be necessary to produce or account for more than one counterpart
thereof signed by each of the parties hereto. Except to the extent specifically
amended and supplemented hereby, all of the terms, conditions and the provisions
of the Agreement, the Note and each of the other documents and agreements
executed in connection therewith shall remain unmodified, and the Agreement, the
Note and each of the other documents, as amended and supplemented by this
Amendment, are confirmed as being in full force and effect.
If you are in agreement with the foregoing, please sign the form of
acceptance on the enclosed counterpart of this Amendment and return such
counterpart to the undersigned, whereupon this Amendment, as so accepted by you,
shall become a binding agreement between you and the undersigned.
Very truly yours,
EXCEL SWITCHING CORPORATION
(f/k/a EXCEL, INC.)
By: /s/ Stephen S. Galliker
------------------------------
Title: Vice President
<PAGE>
-5-
The foregoing Amendment is hereby accepted by the undersigned as of
December 19, 1997
BANKBOSTON, N.A.,
(f/k/a THE FIRST NATIONAL BANK OF BOSTON)
By: /s/ Bradford P. Egan
----------------------------
Title: Vice President
<PAGE>
EXHIBIT 21.1
EXCEL SWITCHING CORPORATION
SUBSIDIARIES OF THE COMPANY
1. Excel Securities Corp.
a Massachusetts Corporation
Excel Switching Corporation ownership 100%
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-27-1997
<PERIOD-START> DEC-29-1996
<PERIOD-END> DEC-27-1997
<CASH> 47,968
<SECURITIES> 66,929
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0
0
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</TABLE>
