<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JULY 19, 1999.
REGISTRATION NO. 333-78781
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------------
AMENDMENT NO. 2
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------------
LIBERATE TECHNOLOGIES
(Exact name of Registrant as specified in its charter)
------------------------------
<TABLE>
<S> <C> <C>
DELAWARE 7372 94-3245315
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification Number)
</TABLE>
1000 BRIDGE PARKWAY
REDWOOD SHORES, CA 94065
(650) 631-4600
(Address, including zip code, and telephone number, including area code, of the
Registrant's principal executive offices)
------------------------------
MITCHELL E. KERTZMAN
PRESIDENT AND CHIEF EXECUTIVE OFFICER
LIBERATE TECHNOLOGIES
1000 BRIDGE PARKWAY
REDWOOD SHORES, CA 94065
(650) 631-4600
(Name, address, including zip code, and telephone number, including area code,
of agent for service)
------------------------------
COPIES TO:
ROBERT V. GUNDERSON, JR., ESQ. MARK A. BERTELSEN, ESQ.
BROOKS STOUGH, ESQ. JOSE F. MACIAS, ESQ.
ANTHONY J. MCCUSKER, ESQ. DON S. WILLIAMS, ESQ.
ROBERT C. SEPUCHA, JR., ESQ. MELISSA V. HOLLATZ, ESQ.
RICHARD H. ZAMBOLDI, ESQ. ELISE M. BRINCK, ESQ.
GUNDERSON DETTMER STOUGH WILSON SONSINI GOODRICH & ROSATI
VILLENEUVE FRANKLIN & HACHIGIAN, LLP PROFESSIONAL CORPORATION
155 CONSTITUTION DRIVE 650 PAGE MILL ROAD
MENLO PARK, CALIFORNIA 94025 PALO ALTO, CALIFORNIA 94304
(650) 321-2400 (650) 493-9300
------------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after the effective date of this Registration Statement.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, as amended, check the following box. / /
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. / / ____________
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / / ____________
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / / ____________
If delivery of this prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /
------------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT THAT SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION,
ACTING PURSUANT TO SUCH SECTION 8(a), MAY DETERMINE.
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- --------------------------------------------------------------------------------
<PAGE>
SUBJECT TO COMPLETION, DATED JULY 19, 1999
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY
NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE
SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
<PAGE>
6,250,000 Shares
[LIBERATE TECHNOLOGIES LOGO]
Common Stock
-----------
Prior to this offering, there has been no public market for the common
stock. The initial public offering price is expected to be between $11.00 and
$13.00 per share. We have applied to list the common stock on The Nasdaq Stock
Market's National Market under the symbol "LBRT."
The underwriters have an option to purchase a maximum of 937,500 additional
shares to cover over-allotments of shares.
Investing in our common stock involves risks. See "Risk Factors" on page 6.
<TABLE>
<CAPTION>
Underwriting Proceeds to
Price to Discounts and Liberate
Public Commissions Technologies
------------------- ------------------- -------------------
<S> <C> <C> <C>
Per Share............................................. $ $ $
Total................................................. $ $ $
</TABLE>
Delivery of the shares of common stock will be made on or about
, 1999.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if this
prospectus is truthful or complete. Any representation to the contrary is a
criminal offense.
Credit Suisse First Boston Hambrecht & Quist
Charles Schwab & Co., Inc.
The date of this prospectus is , 1999.
<PAGE>
EDGAR DESCRIPTION OF ARTWORK:
Inside front cover of prospectus--
[A diagram of a human hand with the right index finger pointing upward
toward a light.] The caption reads: Turn on the Internet-TM-
Liberate's logo is in the lower right hand corner of this page.
Gatefold page #1--
CAPTION ON TOP OF PAGE: Tapping the power of the Internet--anytime,
anywhere
SUBHEAD TO CAPTION: Liberate is a leading provider of a comprehensive
software platform for delivering Internet-enhanced content and applications to
information appliances.
The Internet has already become an integral part of the daily lives of
millions of consumers. As consumer demand for Internet-based information and
entertainment grows, network operators worldwide are positioned to capitalize on
increases in Internet traffic. By providing more outlets for Internet-based
content and applications, network operators can increase the value of their
existing phone, satellite, and cable-based networks. We offer network operators
the software needed for delivering Internet-enhanced services to a new category
of device--the information appliance. For example, by using our software,
network operators can turn a television set into an information appliance. The
following are examples of Internet content and applications running on the
Liberate software platform.
[Screen shot of Yan Can Cook Marketplace]
CAPTION BELOW YAN CAN COOK SCREEN SHOT: Content and Applications
Developers. Content and applications developers can partner with our network
operator customers to include Internet access and e-commerce with existing
television programming. These applications can generate new service revenues for
both content and applications developers and network operators.
[The left side of the diagram shows four icons of information appliances: a
"PDA" with "eNavigator" written next to the icon to indicate the Liberate
product that runs on PDAs; a "Game Console" with "eNavigator" written next to
the icon to indicate the Liberate product the runs on game consoles; an "Set-top
Box" with "TV Navigator" written next to the icon to indicate that Liberate
product that runs on a Set-top Box; and a "Set-top Box" with "TVNavigator"
written next to the icon to indicate the Liberate product that runs on a Set-top
Box. A picture of the Liberate Connect Server is located in the center of this
diagram. The icons are connected to a picture of the Liberate Connect Server by
four lines. The line connecting the Liberate Connect Server to the PDA is
labeled "wireless network"; the line connecting the Liberate Connect Server to
the Game Console is labeled "high speed telecommunications network"; the line
connecting the Liberate Connect Server to the Set-top Box is labeled
"cable/satellite television network"; and the line connecting the Liberate
Connect Server to the Set-top Box is labeled "standard telephone network." On
the right side of the diagram, the Liberate Connect Server is attached to a
circle with "Internet" written within the circle. The circle is connected by
lines to three computer icons labeled: "Liberate Applications (TV Mail, TV
Chat)"; "Network Operator and third-party applications (program guide, movies on
demand, e-commerce); and "Additional Content (news, Enhanced TV)."]
CAPTION BELOW DIAGRAM: The above diagram shows how our software platform
connects information appliances, network operators and applications developers.
Gatefold Page #2--
CAPTION ABOVE U S WEST SCREEN shot: U S WEST. U S WEST, a
telecommunications company providing services to more than 25 million consumers,
has licensed our software platform and has used it to build an interactive
service that merges features of television, the Internet and telephony. This U S
WEST TV-based service, which is currently in test phase, will allow consumers to
watch television
<PAGE>
programs, surf the Web, make telephone calls and access caller identification
functionality, all through a television set-top box equipped with a
speakerphone.
[U S WEST screen shot]
[NTL screen shot]
CAPTION BELOW NTL SCREEN SHOT: NTL. NTL, the UK's third-largest
telecommunications company, has licensed our software platform and has used it
to build and design a service that enables NTL's customers to view television
and Internet content simultaneously on their television screens. NTL launched
the new service in January 1999, and is currently in the early stages of
deployment. By offering their subscribers access to Internet services through a
customized television home page created using Liberate software, NTL offers a
branded portal to the Internet and other advanced services.
[At the bottom of the page are paragraphs that describe the diagram at the
bottom of Gatefold page #1. When the gatefold is opened, the diagram is next to
the explanatory paragraphs. The paragraphs are as follows:]
1. Liberate Connect Server connects to the network operator's subscriber
management systems and is designed to manage delivery of Internet content
and applications to numerous information appliances and millions of
consumers.
2. The Liberate software platform enables network operators to send
Internet data over many kinds of networks, including high speed cable
television and telecommunications networks, wireless networks and
standard telephone lines.
3. Liberate client software can run on many different information
appliances and employs a proprietary technology that makes it possible to
view Internet content on virtually any display device.
4. Consumers can subscribe to new Internet-based services available from
network operators.
[The Liberate logo appears below this paragraph]
Back inside cover of prospectus--
Connecting devices, consumers and network operators--our comprehensive
software platform is central to enabling the delivery of Internet-enhanced
content and applications to information appliances.
[A diagram with an outer ring that reads "Liberate Software Platform" and an
inner circle that reads "Consumers." Three circles are place on the outer ring,
and these circles read: "Internet Content and Applications Developers"; Network
Operators"; and "Information Appliance Manufacturers."]
Network Operators. Network operators can use our server software to deliver
new Internet-enhanced services to consumers on a broad range of information
appliances, thus attracting new subscribers while reducing turnover and creating
a competitive advantage over other operators.
Information Appliance Manufacturers. Our client software allows information
appliance manufacturers to cost-efficiently add Internet access services to
their products, and to market these enhanced product features to consumers.
Internet Content and Application Developers. Our entire software platform
along with our software development tools allow developers to enhance existing
Internet content and create new Internet applications and services for delivery
on a broad range of information appliances, thus enabling more consumers to
access Web content.
Consumers. Consumers benefit from access to Internet-enhanced content and
applications-- anytime, anywhere.
Outside back cover of prospectus--This page depicts Liberate's logo in the
middle of the page.
<PAGE>
--------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
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<S> <C>
PROSPECTUS SUMMARY............................. 3
RISK FACTORS................................... 6
SPECIAL NOTE REGARDING FORWARD-LOOKING
STATEMENTS................................... 17
USE OF PROCEEDS................................ 18
DIVIDEND POLICY................................ 18
CAPITALIZATION................................. 19
DILUTION....................................... 20
SELECTED CONSOLIDATED FINANCIAL DATA........... 21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF
OPERATIONS................................... 22
BUSINESS....................................... 37
<CAPTION>
PAGE
-----
<S> <C>
MANAGEMENT..................................... 49
CERTAIN TRANSACTIONS........................... 59
PRINCIPAL STOCKHOLDERS......................... 64
DESCRIPTION OF CAPITAL STOCK................... 66
SHARES ELIGIBLE FOR FUTURE SALE................ 69
UNDERWRITING................................... 71
NOTICE TO CANADIAN RESIDENTS................... 73
LEGAL MATTERS.................................. 74
EXPERTS........................................ 74
WHERE YOU CAN FIND MORE INFORMATION............ 74
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS..... F-1
</TABLE>
--------------
YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS DOCUMENT OR TO
WHICH WE HAVE REFERRED YOU. WE HAVE NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH
INFORMATION THAT IS DIFFERENT. THIS DOCUMENT MAY ONLY BE USED WHERE IT IS LEGAL
TO SELL THESE SECURITIES. THE INFORMATION IN THIS DOCUMENT MAY ONLY BE ACCURATE
ON THE DATE OF THIS DOCUMENT. WE WILL FILE A POST-EFFECTIVE AMENDMENT TO THIS
REGISTRATION STATEMENT IF MATERIAL CHANGES OCCUR TO OUR BUSINESS OR TO THIS
OFFERING.
--------------
DEALER PROSPECTUS DELIVERY OBLIGATION
UNTIL , 1999 (25 DAYS AFTER THE COMMENCEMENT OF THIS OFFERING), ALL
DEALERS THAT EFFECT TRANSACTIONS IN THESE SECURITIES, WHETHER OR NOT
PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS
IN ADDITION TO THE DEALER'S OBLIGATION TO DELIVER A PROSPECTUS WHEN ACTING AS AN
UNDERWRITER AND WITH RESPECT TO UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
<PAGE>
PROSPECTUS SUMMARY
YOU SHOULD READ THIS SUMMARY TOGETHER WITH THE MORE DETAILED
INFORMATION AND OUR FINANCIAL STATEMENTS AND NOTES APPEARING ELSEWHERE IN
THIS PROSPECTUS.
LIBERATE TECHNOLOGIES
We are a leading provider of a comprehensive software platform for
delivering Internet-enhanced content and applications to information
appliances, such as television set-top boxes, game consoles, smart phones
and personal digital assistants. Our software allows network operators, such
as telecommunications companies, cable and satellite television operators
and Internet service providers, or ISPs, and information appliance
manufacturers to provide consumers access to Internet-based applications and
services from anywhere at anytime.
Network operators are investing billions of dollars to deliver high
speed Internet access to their customers so that they can deliver new and
enhanced voice, video and data services. As a result, the number of U.S.
households with access to high speed networks is expected to grow
significantly. At the same time, network operators seek to deliver these
services to an increasing number of electronic devices being adopted by
consumers. These "information appliances," a new category of low-cost
devices used for everyday activities that are designed to be connected to
the Internet, are becoming increasingly popular with consumers. In
particular, network operators have identified the television as the most
attractive device for the delivery of these new services because it has
powerful sound and display capabilities and is so broadly owned.
We provide network operators and information appliance manufacturers
with a software platform that manages the delivery of Internet content and
applications to a large number of consumers employing many different
information appliances. Our platform includes server and client software and
adheres to Internet standards. Our server software is designed to allow
network operators to offer these services to millions of subscribers. Using
our client software, information appliance manufacturers can enhance their
products, even those with limited memory and computing resources, by adding
Internet capability. Our open platform also creates a uniform environment
for developers to enhance existing content and create new Internet
applications and services.
As of May 31, 1999, we have licensed our server and client software to
over 30 network operators and information appliance manufacturers. Our
network operator customers include America Online, Cable & Wireless, NTL and
U S WEST. Our information appliance manufacturer customers include Acer,
Fujitsu, General Instrument, Hughes Network Systems, NEC and Philips. In
addition, we have developed strategic alliances with leading technology
vendors such as Cisco Systems, Inktomi, Lucent Technologies, Netscape,
Oracle and Sun Microsystems. We have also recently solidified relationships
with several large network operators, such as Comcast, Cox Communications,
MediaOne, Rogers Communications and Shaw Communications, through a sale of
equity completed in May 1999.
We began operations as a division of Oracle in 1995 and were
incorporated in April 1996. In August 1997, we acquired Navio
Communications. We began shipping our initial products in the last quarter
of fiscal 1997. Accordingly, we have a limited operating history that makes
evaluation of our business and prospects difficult. As of May 31, 1999, we
had an accumulated deficit of $149.7 million. In addition, since our
inception, we have not had a profitable quarter and we may never achieve or
sustain profitability. In order for us to be successful, network operators
need to deploy and promote services that incorporate our technology. To
date, only a limited number of network operators have begun to deploy
services incorporating our technology and we have no ability to control if
and when additional network operators will deploy services incorporating our
technology.
Our principal executive offices are located at 1000 Bridge Parkway,
Redwood Shores, California 94065 and our telephone number is (650) 631-4600.
Our World Wide Web address is www.liberate.com. Information on our web site
does not constitute part of this prospectus.
3
<PAGE>
THE OFFERING
<TABLE>
<CAPTION>
<S> <C>
Common stock offered in this offering...................... 6,250,000 shares
Common stock offered in the private placement.............. 1,085,069 shares, assuming an initial public
offering price of $12.00
Common stock to be outstanding after this offering and the
private placement........................................ 41,351,880 shares
Use of proceeds from this offering and the private
placement................................................ For general corporate purposes, including
product development, expansion of our sales,
marketing and services capabilities and other
working capital requirements. See "Use of
Proceeds."
Proposed Nasdaq National Market symbol..................... LBRT
</TABLE>
The table above is based on shares outstanding as of May 31, 1999. This
table excludes:
- 6,403,505 shares of common stock issuable upon the exercise of stock
options outstanding under our stock option plans, and 2,365,393 additional
shares of common stock available for issuance under these stock option
plans;
- 833,333 shares of common stock available for issuance under our 1999
employee stock purchase plan;
- 208,333 shares of common stock issuable upon the exercise of outstanding
warrants; and
- Warrants to purchase up to an aggregate of 2,091,663 shares of our common
stock that may be issued in the future if particular network operator
customers satisfy commercial milestones.
--------------
EXCEPT AS OTHERWISE INDICATED, INFORMATION IN THIS PROSPECTUS IS BASED ON
THE FOLLOWING ASSUMPTIONS:
- A ONE-FOR-SIX REVERSE SPLIT OF ALL OUTSTANDING SHARES OF OUR COMMON STOCK
TO BE COMPLETED IMMEDIATELY PRIOR TO THE EFFECTIVENESS OF THIS OFFERING;
- THE CONVERSION OF ALL OUTSTANDING SHARES OF PREFERRED STOCK INTO SHARES OF
COMMON STOCK UPON THE CLOSING OF THIS OFFERING; AND
- THE CONVERSION OF AN OUTSTANDING CONVERTIBLE PROMISSORY NOTE INTO 421,940
SHARES OF OUR COMMON STOCK UPON THE CLOSING OF THIS OFFERING.
--------------
Our logo and certain titles and logos of our products mentioned in this
prospectus are our service marks or trademarks. Each trademark, trade name or
service mark of any other company appearing in this prospectus belongs to its
holder.
4
<PAGE>
SUMMARY CONSOLIDATED FINANCIAL INFORMATION
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
PERIOD FROM
INCEPTION YEARS ENDED MAY 31,
(DECEMBER 1, 1995) -------------------------------------
TO MAY 31, 1996 1997 1998 1999
-------------------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Total revenues................................ $ -- $ 275 $ 10,272 $ 17,313
Gross margin.................................. -- 275 4,263 6,787
Total operating expenses...................... 5,479 30,549 100,679 40,485
Loss from operations.......................... (5,479) (30,274) (96,416) (33,698)
Net loss...................................... (3,279) (18,989) (94,391) (33,053)
Pro forma basic net loss per share............ $ (1.17)
Shares used in computing pro forma basic net
loss per share.............................. 28,293
</TABLE>
<TABLE>
<CAPTION>
MAY 31, 1999
------------------------
ACTUAL AS ADJUSTED
----------- -----------
<S> <C> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents........................................................ $ 33,657 $ 113,732
Working capital.................................................................. 6,308 86,383
Total assets..................................................................... 68,182 148,257
Deferred revenues................................................................ 38,787 38,787
Long-term debt................................................................... 4,315 --
Total stockholders' equity....................................................... 12,226 96,616
</TABLE>
See Note 2 of Notes to Consolidated Financial Statements for an
explanation of the determination of the number of shares used in computing
per share data.
The as adjusted consolidated balance sheet data gives effect to the net
proceeds from the sale of the 6,250,000 shares of common stock offered in this
offering by us and the sale of 1,085,069 shares of common stock issued in the
private placement, assuming an initial public offering price of $12.00 per
share, after deducting the estimated underwriting discounts and commissions and
estimated offering expenses.
5
<PAGE>
RISK FACTORS
YOU SHOULD CAREFULLY CONSIDER THE RISKS DESCRIBED BELOW BEFORE BUYING SHARES
IN THIS OFFERING.
WE HAVE A LIMITED OPERATING HISTORY THAT MAKES AN EVALUATION OF OUR BUSINESS
DIFFICULT
We were incorporated in April 1996 and began shipping our initial products
to customers in the last quarter of fiscal 1997. Our limited operating history
makes evaluation of our business and prospects difficult. Companies in an early
stage of development frequently encounter heightened risks and unexpected
expenses and difficulties. For us, these risks include the:
- Limited number of network operators that have deployed products and
services incorporating our technology;
- Limited number of information appliance manufacturers that have
incorporated our technology into their products;
- Delays in deployment of high speed networks and Internet-enhanced services
and applications by our network operator customers; and
- Our unproven long-term business model, which depends on generating the
majority of our revenues from royalty fees paid by network operators and
information appliance manufacturers.
These risks, expenses and difficulties apply particularly to us because our
market, the information appliance software market, is new and rapidly evolving.
WE HAVE A HISTORY OF LOSSES AND EXPECT TO INCUR LOSSES IN THE FUTURE
We incurred net losses of approximately $3.3 million in fiscal 1996, $19.0
million in fiscal 1997, $94.4 million in fiscal 1998 and $33.1 million in fiscal
1999. Our net losses of $94.4 million in fiscal 1998 included a $58.1 million
charge related to acquired in-process research and development. As of May 31,
1999, we had an accumulated deficit of approximately $149.7 million. Since our
inception, we have not had a profitable quarter and may never achieve or sustain
profitability. Although our revenues increased from fiscal 1997 to fiscal 1998
and from fiscal 1998 to fiscal 1999, we may not be able to sustain our
historical revenue growth rates. We also expect to continue to incur increasing
research and development, sales and marketing and general and administrative
expenses. If we are to achieve profitability given our planned expenditure
levels, we will need to generate and sustain substantially increased license and
royalty revenues; however, we are unlikely to be able to do so for the
foreseeable future. As a result, we expect to incur significant and increasing
losses and negative cash flows for the foreseeable future. In addition,
approximately 65% of our revenues through May 31, 1999 have been derived from
services provided by us and not from license and royalty fees paid by network
operators and information appliance manufacturers in conjunction with the
deployment of products and services incorporating our software products. If we
are unable to derive a greater proportion of our revenues from these license and
royalty fees, our losses will likely continue indefinitely.
OUR QUARTERLY REVENUES AND OPERATING RESULTS ARE VOLATILE AND MAY CAUSE OUR
STOCK PRICE TO FLUCTUATE
Our quarterly operating results have varied in the past and are likely to
vary significantly from quarter to quarter. As a result, we believe that
period-to-period comparisons of our operating results are not a good indication
of our future performance. Moreover, we expect to derive substantially all of
our revenues for the near-term from license fees and related consulting and
support services. Over the longer term, to the extent deployments increase, we
expect to derive an increasing portion of our revenues from royalties paid by
network operators and information appliance manufacturers. If deployments do not
increase or this transition otherwise does not occur, we are unlikely to be able
to generate or sustain substantially increased revenue and our operating results
will be seriously harmed.
6
<PAGE>
In the short-term, we expect our quarterly revenues to be significantly
dependent on the sale of a small number of relatively large orders for our
products and services, which generally have a long sales cycle. As a result, our
quarterly operating results may fluctuate significantly if we are unable to
complete one or more substantial sales in any given quarter. In many cases, we
recognize revenues from services on a percentage of completion basis. Our
ability to recognize these revenues may be delayed if we are unable to meet
service milestones on a timely basis. Moreover, because our expenses are
relatively fixed in the near term, any shortfall from anticipated revenues could
result in losses for the quarter.
Although we have limited historical financial data, we have experienced and
expect to continue to experience seasonality in revenues. Revenues in our
quarter ending August 31 are typically lower relative to our other quarters.
These seasonal trends may continue to affect our quarter-to-quarter revenues.
THE MARKET FOR INFORMATION APPLIANCES IS NEW AND MAY NOT DEVELOP AS WE
ANTICIPATE
Because the information appliance market is newly emerging, the potential
size of this new market opportunity and the timing of its development are
uncertain. As a result, our profit potential is unproven. We are dependent upon
the commercialization and broad acceptance by consumers and businesses of a wide
variety of information appliances including, among others, television set-top
boxes, game consoles, smart phones and personal digital assistants. Initial
commercialization efforts in this industry have been primarily focused on
television set-top boxes. Broad acceptance of all information appliances,
particularly television set-top boxes, will depend on many factors. These
factors include:
- The willingness of large numbers of consumers to use devices other than
personal computers to access the Internet;
- The development of content and applications for information appliances;
and
- The emergence of industry standards that facilitate the distribution of
content over the Internet to these devices.
If the market for information appliances does not develop or develops more
slowly than we anticipate, our revenues will not grow as fast as anticipated, if
at all.
OUR SUCCESS DEPENDS ON NETWORK OPERATORS INTRODUCING, MARKETING AND PROMOTING
PRODUCTS AND SERVICES FOR INFORMATION APPLIANCES BASED ON OUR TECHNOLOGY
Our success depends on large network operators introducing, marketing and
promoting products and services based on our technology. There are, however,
only a limited number of large network operators worldwide. Moreover, only a
limited number of network operators have introduced or are in the process of
deploying products and services incorporating our technology and services for
information appliances. In addition, none of our network operator customers is
contractually obligated to introduce, market or promote products and services
incorporating our technology, nor are any of our network operator customers
contractually required to achieve any specific introduction schedule.
Accordingly, even if a network operator initiates a customer trial of products
incorporating our technology, that operator is under no obligation to continue
its relationship with us or to launch a full-scale deployment of these products.
Further, our agreements with network operators are not exclusive, so network
operators with whom we have agreements may enter into similar license agreements
with one or more of our competitors.
Moreover, because the large-scale deployment of products and services
incorporating our technology by network operators is complex, time-consuming and
expensive, each deployment of these products and services requires our expertise
to tailor our technology to the customer's particular product offering. This
customization process requires a lengthy and significant commitment of resources
by our customers and us. This commitment of resources may slow deployment which
could, in turn,
7
<PAGE>
delay market acceptance of these products and services. Unless network operators
introduce, market and promote products and services incorporating our technology
in a successful and timely manner, our software platform will not achieve
widespread acceptance, information appliance manufacturers will not use our
software in their products and our revenues will not grow as fast as
anticipated, if at all.
IF INFORMATION APPLIANCE MANUFACTURERS DO NOT MANUFACTURE PRODUCTS THAT
INCORPORATE OUR TECHNOLOGY, OR IF THESE PRODUCTS DO NOT ACHIEVE ACCEPTANCE, WE
MAY NOT BE ABLE TO SUSTAIN OR GROW OUR BUSINESS
We do not manufacture hardware components that incorporate our technology.
Rather, we license software technology to information appliance manufacturers.
Accordingly, our success will depend, in part, upon our ability to convince a
number of information appliance manufacturers to manufacture products
incorporating our technology and the successful introduction and commercial
acceptance of these products. Our efforts in this regard are significantly
dependent on network operators deploying services using our server software.
While we have entered into a number of agreements with information appliance
manufacturers, none of these manufacturers is contractually obligated to
introduce or market information appliances incorporating our technology, nor is
any of them contractually required to achieve any specific production schedule.
Moreover, our agreements with information appliance manufacturers are not
exclusive, so information appliance manufacturers with whom we have agreements
may enter into similar license agreements with one or more of our competitors.
Our failure to convince information appliance manufacturers to incorporate our
software platform into their products, or the failure of these products to
achieve broad acceptance with consumers and businesses, will result in revenues
that do not grow as fast as expected, if at all.
COMPETITION FROM BIGGER, BETTER CAPITALIZED COMPETITORS COULD RESULT IN PRICE
REDUCTIONS, REDUCED GROSS MARGINS AND LOSS OF MARKET SHARE
Competition in the information appliance software market is intense. Our
principal competitors on the client software side include Microsoft, OpenTV and
Spyglass. On the server side, our primary competitor is Microsoft. We expect
additional competition from other established and emerging companies. We expect
competition to persist and intensify as the information appliance market
develops and competitors focus on additional product and service offerings.
Increased competition could result in price reductions, fewer customer orders,
reduced gross margins, longer sales cycles, reduced revenues and loss of market
share.
Many of our existing and potential competitors, particularly Microsoft, have
longer operating histories, a larger customer base, greater name recognition and
significantly greater financial, technical, sales and marketing and other
resources than we do. This may place us at a disadvantage in responding to our
competitors' pricing strategies, technological advances, advertising campaigns,
strategic partnerships and other initiatives. In addition, many of our
competitors have well-established relationships with our current and potential
customers. Moreover, some of our competitors, particularly Microsoft, have
significant financial resources which have enabled them in the past and may
enable them in the future to make large strategic investments in our current and
potential customers. Such investments may enable competitors to strengthen
existing relationships or quickly establish new relationships with our current
or potential customers. For example, as a result of a recent investment in AT&T,
Microsoft obtained a non-exclusive licensing agreement under which AT&T will
purchase at least 7.5 million licenses of Microsoft software for television
set-top boxes. Investments such as this may discourage our potential or current
customers who receive the investment from deploying our information appliance
software, regardless of their views of the relative merits of our products and
services.
8
<PAGE>
ORACLE'S OWNERSHIP OF OUR STOCK AND OTHER RELATIONSHIPS WITH US COULD LIMIT THE
ABILITY OF OTHER STOCKHOLDERS TO INFLUENCE THE OUTCOME OF DIRECTOR ELECTIONS
AND OTHER TRANSACTIONS SUBMITTED FOR A VOTE OF OUR STOCKHOLDERS
Based on 34,016,811 shares outstanding on May 31, 1999, Oracle will
beneficially own approximately 48% of our outstanding capital stock following
this offering and the private placement. In addition, in May 1999, we entered
into a voting agreement with Oracle, Comcast, Cox Communications and MediaOne.
Under this agreement, among other things, Comcast, Cox and MediaOne have agreed
to vote the shares of our common stock held by them in order to elect a
representative designated by Oracle to our board of directors. Currently, two of
our six directors are directors and officers of Oracle. As a result, Oracle,
acting both through our board of directors and through its ownership of our
capital stock, will exert significant influence over us. This concentration of
ownership could also have the effect of delaying or preventing a third party
from acquiring control over us at a premium over the then-current market price
of our common stock.
In addition, Oracle has significant influence in our day-to-day business
because, among other things, it provides us with a distribution channel for our
products in Asia/Pacific, Europe and the United States and assists us in
providing our customers with support. We have also entered into several
commercial, technological and financial arrangements with Oracle on which our
business depends. If Oracle terminates these arrangements, if Oracle does not
fulfill its obligations under these arrangements, if Oracle ever acts in a way
that is adverse to our interests, or if we are no longer eligible to receive the
benefits of these arrangements, we may need to find alternative distribution
channel partners, seek alternative technologies for our products and services
and find alternative financial resources. For a more detailed description of our
agreements with Oracle, you should read "Certain Transactions--Transactions with
Oracle."
WE HAVE RELIED AND EXPECT TO CONTINUE TO RELY ON A LIMITED NUMBER OF CUSTOMERS
FOR A SIGNIFICANT PORTION OF OUR REVENUES
We currently derive, and we expect to continue to derive, a significant
portion of our revenues from a limited number of customers. For fiscal 1998, our
five largest customers accounted for approximately 48% of our total revenues,
with Wind River Systems accounting for 16% and Thomson Multimedia accounting for
10% of our total revenues. For fiscal 1999, our five largest customers accounted
for approximately 54% of our total revenues, with Wind River Systems accounting
for 23% of our total revenues and Cable & Wireless accounting for 10% of our
total revenues. We expect that we will continue to be dependent upon a limited
number of customers for a significant portion of our revenues in future periods,
although the customers may vary from period to period. As a result, if we fail
to successfully sell our products and services to one or more customers in any
particular period, or a large customer purchases less of our products or
services, defers or cancels orders, or terminates its relationship with us, our
revenues could decline significantly.
OUR LENGTHY SALES CYCLE MAY CAUSE FLUCTUATIONS IN OUR OPERATING RESULTS, WHICH
COULD CAUSE OUR STOCK PRICE TO DECLINE
We believe that the purchase of our products and services involves a
significant commitment of capital and other resources by a customer. In many
cases, the decision for our customers to use our products and services requires
them to change their established business practices and conduct their business
in new ways. As a result, we may need to educate our potential customers on the
use and benefits of our products and services. In addition, our customers
generally must consider a wide range of other issues before committing to
purchase and incorporate our technology into their offerings. As a result of
these and other factors, including the approval at a number of levels of
management within a customer's organization, our sales cycle averages from six
to 12 months and may sometimes be
9
<PAGE>
significantly longer. Because of the length of our sales cycle, we have a
limited ability to forecast the timing and amount of specific sales.
In addition, we base our quarterly revenue projections, in part, upon our
expectation that specific sales will occur in a particular quarter. In the past,
our sales have occurred in quarters other than those anticipated by us. If our
expectations, and thus our revenue projections, are not accurate for a
particular quarter, our actual operating results for that quarter could fall
below the expectations of financial analysts and investors.
DEMAND FOR OUR PRODUCTS AND SERVICES WILL DECLINE SIGNIFICANTLY IF OUR SOFTWARE
CANNOT SUPPORT AND MANAGE A SUBSTANTIAL NUMBER OF USERS
Despite frequent testing of our software's scalability in a laboratory
environment, the ability of our software platform to support and manage a
substantial number of users in an actual deployment is uncertain. If our
software platform does not efficiently scale to support and manage a substantial
number of users while maintaining a high level of performance, demand for our
products and services and our ability to sell additional products to our
existing customers will be significantly reduced.
INTERNATIONAL REVENUES ACCOUNT FOR A SIGNIFICANT PORTION OF OUR REVENUES;
ACCORDINGLY, IF WE ARE UNABLE TO EXPAND OUR INTERNATIONAL OPERATIONS IN A
TIMELY MANNER, OUR GROWTH IN INTERNATIONAL REVENUES WILL BE LIMITED
International revenues accounted for approximately 77% of our total revenues
in fiscal 1997, 50% of our total revenues in fiscal 1998 and 51% of our total
revenues in fiscal 1999. We anticipate that a significant portion of our
revenues for the foreseeable future will be derived from sources outside the
United States, especially as we increase our sales and marketing activities with
respect to international licensing of our technology. Accordingly, our success
will depend, in part, upon international economic conditions and upon our
ability to manage international sales and marketing operations. To date, we have
relied primarily on Oracle for the international distribution of our products
and services in Asia/ Pacific. To successfully expand international sales, we
must establish additional foreign operations, hire additional personnel, and
increase our foreign direct and indirect sales forces. This expansion will
require significant management attention and resources, which could divert
attention from other aspects of our business. To the extent we are unable to
expand our international operations in a timely manner, our growth in
international sales, if any, will be limited.
Moreover, substantially all of our revenues and costs to date have been
denominated in U.S. dollars. However, expanded international operations may
result in increased foreign currency payables. Although we may from time to time
undertake foreign exchange hedging transactions to cover a portion of our
foreign currency transaction exposure, we do not currently attempt to cover
potential foreign currency exposure. Accordingly, any fluctuation in the value
of foreign currency could seriously harm our ability to increase international
revenues.
WE MAY HAVE TO CEASE OR DELAY PRODUCT SHIPMENTS IF WE ARE UNABLE TO OBTAIN KEY
TECHNOLOGY FROM THIRD PARTIES
We rely on technology licensed from third parties, including applications
that are integrated with internally developed software and used in our products.
Most notably, we license the VxWorks real time operating system from Wind River
Systems, font technology from BitStream and multimedia architecture from
RealNetworks. These third-party technology licenses may not continue to be
available to us on commercially reasonable terms, or at all, and we may not be
able to obtain licenses for other existing or future technologies that we desire
to integrate into our products. If we cannot maintain existing third-party
technology licenses or enter into licenses for other existing or future
technologies needed for our products we would be required to cease or delay
product shipments while we seek to develop alternative technologies.
10
<PAGE>
WE DO NOT CURRENTLY HAVE LIABILITY INSURANCE TO PROTECT AGAINST THIRD-PARTY
INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS THAT COULD BE EXPENSIVE TO DEFEND
We expect that, like other software product developers, we will increasingly
be subject to infringement claims as the number of products and competitors
developing information appliance software grows and the functionality of
products in different industry segments overlaps. From time to time, we hire or
retain employees or consultants who have worked for independent software vendors
or other companies developing products similar to those offered by us. These
prior employers may claim that our products are based on their products and that
we have misappropriated their intellectual property. We cannot guarantee that:
- An infringement claim will not be asserted against us in the future;
- The assertion of such a claim will not result in litigation;
- We would prevail in such litigation; or
- We would be able to obtain a license for the use of any infringed
intellectual property from a third party on commercially reasonable terms,
or at all.
We currently do not have liability insurance to protect against the risk
that licensed third-party technology infringes the intellectual property of
others. Any claims relating to our intellectual property, regardless of their
merit, could seriously harm our ability to develop and market our products and
manage our day-to-day operations because they could:
- Be time consuming and costly to defend;
- Divert management's attention and resources;
- Cause product shipment delays;
- Require us to redesign our products; or
- Require us to enter into royalty or licensing agreements.
WE COULD SUFFER LOSSES AND NEGATIVE PUBLICITY IF OUR TECHNOLOGY CAUSES A FAILURE
OF OUR NETWORK OPERATOR CUSTOMERS' SYSTEMS
Our technology is integrated into the products and services of our network
operator customers. Accordingly, a defect, error or performance problem with our
technology could cause our customers' telecommunication, cable and satellite
television or Internet service systems to fail for a period of time. Any such
failure will cause severe customer service and public relations problems for our
customers. As a result, any failure of our network operator customers' systems
caused by our technology could result in:
- Delayed or lost revenue due to adverse customer reaction;
- Negative publicity regarding us and our products and services; and
- Claims for substantial damages against us, regardless of our
responsibility for such failure.
Any claim could be expensive and require the expenditure of a significant amount
of resources regardless of whether we prevail. We currently do not have
liability insurance to protect against this risk.
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<PAGE>
OUR SUCCESS DEPENDS ON OUR ABILITY TO KEEP PACE WITH THE LATEST TECHNOLOGICAL
CHANGES BUT WE HAVE EXPERIENCED AND MAY IN THE FUTURE EXPERIENCE DELAYS IN
COMPLETING DEVELOPMENT AND INTRODUCTION OF NEW SOFTWARE PRODUCTS
The market for information appliance software is characterized by evolving
industry standards, rapid technological change and frequent new product
introductions and enhancements. Our technology enables network operators to
deliver content and applications to information appliances over the Internet.
Accordingly, our success will depend in large part upon our ability to adhere to
and adapt our products to evolving Internet protocols and standards. Therefore,
we will need to develop and introduce new products that meet changing customer
requirements and emerging industry standards on a timely basis. In the past, we
have experienced delays in completing the development and introduction of new
software products. We may encounter such delays in the development and
introduction of future products as well. In addition, we may:
- Fail to design our current or future products to meet customer
requirements;
- Fail to develop and market products and services that respond to
technological changes or evolving industry standards in a timely or
cost-effective manner; and
- Encounter products, capabilities or technologies developed by others that
render our products and services obsolete or noncompetitive or that
shorten the life cycles of our existing products and services.
OUR LIMITED ABILITY TO PROTECT OUR INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS
MAY HARM OUR COMPETITIVENESS
Our ability to compete and continue to provide technological innovation is
substantially dependent upon internally developed technology. We rely primarily
on a combination of trademark laws, copyright laws, trade secrets,
confidentiality procedures and contractual provisions to protect our proprietary
technology. In addition, we have 16 patent applications pending in the United
States. Patents may not be issued from these or any future applications. Even if
they are issued, these patents may not survive a legal challenge to their
validity or provide significant protection for us.
The steps we have taken to protect our proprietary rights may not be
adequate to prevent misappropriation of our proprietary information. Further, we
may not be able to detect unauthorized use of, or take appropriate steps to
enforce, our intellectual property rights. Our competitors may also
independently develop similar technology. In addition, the laws of many
countries do not protect our proprietary rights to as great an extent as do the
laws of the United States. Any failure by us to meaningfully protect our
intellectual property could result in competitors offering products that
incorporate our most technologically advanced features, which could seriously
reduce demand for our products and services.
FAILURE TO MANAGE OUR GROWTH MAY SERIOUSLY HARM OUR ABILITY TO DELIVER PRODUCTS
IN A TIMELY MANNER, FULFILL EXISTING CUSTOMER COMMITMENTS AND ATTRACT AND
RETAIN NEW CUSTOMERS
Our rapid growth has placed, and is expected to continue to place, a
significant strain on our managerial, operational and financial resources,
especially as more network operators and information appliance manufacturers
incorporate our software into their products and services. This potential for
rapid growth is particularly significant in light of the large customer bases of
network operators and information appliance manufacturers and the frequent need
to tailor our products and services to our customers' unique needs. To the
extent we add several customers simultaneously or add customers whose product
needs require extensive customization, we may need to significantly expand our
operations. Moreover, we expect to significantly expand our domestic and
international operations by, among other things, expanding the number of
employees in professional services, research and development and sales and
marketing.
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<PAGE>
This additional growth will place a significant strain on our limited
personnel, financial and other resources. Our future success will depend, in
part, upon the ability of our senior management to manage growth effectively.
This will require us to implement additional management information systems, to
further develop our operating, administrative, financial and accounting systems
and controls, to hire additional personnel, to develop additional levels of
management within the corporation, to locate additional office space in the
United States and internationally and to maintain close coordination among our
development, accounting, finance, sales and marketing, consulting services and
customer service and support organizations. Failure to accomplish any of these
requirements would seriously harm our ability to deliver products in a timely
fashion, fulfill existing customer commitments and attract and retain new
customers.
THE LOSS OF ANY OF OUR KEY PERSONNEL WOULD HARM OUR COMPETITIVENESS
We believe that our success will depend on the continued employment of our
senior management team and key technical personnel, none of whom, except
Mitchell E. Kertzman, our President and Chief Executive Officer, has an
employment agreement with us. If one or more members of our senior management
team or key technical personnel were unable or unwilling to continue in their
present positions, these individuals would be very difficult to replace and our
ability to manage day-to-day operations, develop and deliver new technologies,
attract and retain customers, attract and retain other employees and generate
revenues, would be seriously harmed.
OUR PLANNED EXPANSION OF OUR INDIRECT DISTRIBUTION CHANNELS WILL BE EXPENSIVE
AND MAY NOT SUCCEED
To date, we have sold our products and services principally through our
direct sales force. In the future, we intend to expand the number and reach of
our indirect channel partners, primarily overseas, through distribution
agreements similar to the one we have with Oracle. The development of these
indirect channels will require the investment of significant company resources,
which could seriously harm our business if our efforts do not generate
significant revenues. Moreover, we may not be able to attract indirect channel
partners that will be able to effectively market our products and services. The
failure to recruit indirect channel partners that are able to successfully
market our products and services could seriously hinder the growth of our
business.
WE MAY NEED TO MAKE ACQUISITIONS IN ORDER TO REMAIN COMPETITIVE IN OUR MARKET,
AND POTENTIAL FUTURE ACQUISITIONS COULD BE DIFFICULT TO INTEGRATE, DISRUPT OUR
BUSINESS AND DILUTE STOCKHOLDER VALUE
Although we have no current plans to do so, we may acquire other businesses
in the future in order to remain competitive or to acquire new technologies. As
a result of these acquisitions, we may need to integrate product lines,
technologies, widely dispersed operations and distinct corporate cultures. The
product lines or technologies of the acquired companies may need to be altered
or redesigned in order to be made compatible with our software products or the
software architecture of our customers. These integration efforts may not
succeed or may distract our management from operating our existing business. Our
failure to successfully manage future acquisitions could seriously harm our
operating results. In addition, our stockholders would be diluted if we finance
the acquisitions by incurring convertible debt or issuing equity securities.
DEMAND FOR OUR PRODUCTS AND SERVICES WILL NOT INCREASE IF THE INTERNET DOES NOT
CONTINUE TO GROW AND IMPROVE
Acceptance of our software platform depends substantially upon the
widespread adoption of the Internet for commerce, communications and
entertainment. As is typical in the case of an emerging industry characterized
by rapidly changing technology, evolving industry standards and frequent new
product and service introductions, demand for and acceptance of recently
introduced Internet products
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<PAGE>
and services are subject to a high level of uncertainty. In addition, critical
issues concerning the commercial use of the Internet remain unresolved and may
affect the growth of Internet use, especially in the consumer markets we target.
The adoption of the Internet for commerce, communications and access to content
and applications, particularly by those that have historically relied upon
alternative means of commerce, communications and access to content and
applications, generally requires understanding and acceptance of a new way of
conducting business and exchanging information. Moreover, widespread application
of the Internet outside of the United States will require reductions in the cost
of Internet access to prices affordable to the average consumer.
To the extent that the Internet continues to experience an increase in
users, an increase in frequency of use or an increase in the amount of data
transmitted by users, we cannot guarantee that the Internet infrastructure will
be able to support the demands placed upon it. In addition, the Internet could
lose its viability as a commercial medium due to delays in development or
adoption of new standards or protocols required to handle increased levels of
Internet activity, or due to increased government regulation. Changes in, or
insufficient availability of, telecommunications or similar services to support
the Internet could also result in slower response times and could adversely
impact use of the Internet generally. If use of the Internet does not continue
to grow or grows more slowly than expected, or if the Internet infrastructure,
standards, protocols or complementary products, services or facilities do not
effectively support any growth that may occur, demand for our products and
services will decline significantly.
INCREASING GOVERNMENT REGULATION COULD CAUSE DEMAND FOR OUR PRODUCTS AND
SERVICES TO DECLINE SIGNIFICANTLY
We are subject not only to regulations applicable to businesses generally,
but also laws and regulations directly applicable to the Internet. Although
there are currently few such laws and regulations, state, federal and foreign
governments may adopt a number of these laws and regulations governing any of
the following issues:
- User privacy;
- Copyrights;
- Consumer protection;
- Taxation of e-commerce;
- The online distribution of specific material or content; and
- The characteristics and quality of online products and services.
We do not engage in e-commerce, nor do we distribute content over the
Internet. However, one or more states or the federal government could enact
regulations aimed at companies, like us, which provide software that facilitates
e-commerce and the distribution of content over the Internet. The likelihood of
such regulation being enacted will increase as the Internet becomes more
pervasive and extends to more people's daily lives. Any such legislation or
regulation could dampen the growth of the Internet and decrease its acceptance
as a communications and commercial medium. If such a reduction in growth occurs,
demand for our products and services will decline significantly.
WE EXPECT OUR OPERATIONS TO CONTINUE TO PRODUCE A NEGATIVE CASH FLOW;
CONSEQUENTLY, IF WE CANNOT RAISE ADDITIONAL CAPITAL, WE MAY NOT BE ABLE TO
FUND OUR CONTINUED OPERATIONS
Since our inception, cash used in our operations has substantially exceeded
cash received from our operations, and we expect this trend to continue for the
foreseeable future. We expect that the net proceeds from this offering and the
private placement will be sufficient to meet our working capital and capital
expenditure needs for at least the next twelve months. After that, we may need
to raise
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<PAGE>
additional funds, and we cannot be certain that we will be able to obtain
additional financing on favorable terms, or at all. If we need additional
capital and cannot raise it on acceptable terms, we may not be able to, among
other things:
- Develop or enhance our products and services;
- Acquire complementary technologies, products or businesses;
- Open new offices, in the United States or internationally;
- Hire, train and retain employees; or
- Respond to competitive pressures or unanticipated requirements.
PROVISIONS OF OUR CORPORATE DOCUMENTS AND DELAWARE LAW COULD DETER TAKEOVERS AND
PREVENT YOU FROM RECEIVING A PREMIUM FOR YOUR SHARES
Provisions of our certificate of incorporation and bylaws as well as
provisions of Delaware law, could make it more difficult for a third party to
acquire us, even if doing so would be beneficial to our stockholders. See
"Description of Capital Stock--Anti-Takeover Effects of Provisions of the
Certificate of Incorporation, Bylaws and Delaware Law."
WE ARE AT RISK OF SECURITIES CLASS ACTION LITIGATION DUE TO OUR EXPECTED STOCK
PRICE VOLATILITY
In the past, securities class action litigation has often been brought
against a company following periods of volatility in the market price of its
securities. Due to the potential volatility of our stock price, we may in the
future be the target of similar litigation. Securities litigation could result
in substantial costs and divert management's attention and resources.
WE MAY INCUR NET LOSSES OR INCREASED NET LOSSES IF WE ARE REQUIRED TO RECORD A
SIGNIFICANT ACCOUNTING EXPENSE RELATED TO THE ISSUANCE OF WARRANTS
Under the terms of letter agreements with particular network operators
entered into in April and May 1999, we agreed to issue warrants to purchase up
to an aggregate of 2,299,996 shares of our common stock if these network
operators satisfy commercial milestones. In the event the milestones are met, we
will be required to record a significant non-cash accounting expense based upon
the value of the warrants at the time the milestones are satisfied. If we are
required to record non-cash accounting expenses related to these warrants, we
could incur net losses or increased net losses for a given period and this could
seriously harm our operating results and stock price. As of May 31, 1999, we had
issued warrants to purchase up to 208,333 shares of our common stock to two
network operators for satisfying commercial milestones. In connection with the
issuance of these warrants, approximately $18,000 was recorded as a charge to
operations during fiscal 1999. For more information about these warrants, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Description of Capital Stock--Warrants."
PURCHASERS IN THIS OFFERING WILL INCUR IMMEDIATE AND SUBSTANTIAL DILUTION
The initial public offering price of our common stock will be substantially
higher than the book value per share of the outstanding common stock.
Accordingly, if you purchase common stock in this offering, you will experience
immediate dilution of approximately $9.99 in the book value per share of the
common stock from the price you pay for the common stock. To the extent that
outstanding options or warrants to purchase our common stock are exercised, or
options or warrants reserved for issuance are issued and exercised, each
stockholder purchasing in this offering will experience further substantial
dilution. For a more detailed discussion of the dilution you can expect to
experience, see "Dilution."
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<PAGE>
OUR STOCK PRICE COULD BE AFFECTED BY SHARES BECOMING AVAILABLE FOR SALE IN THE
FUTURE
In this offering, we will sell only 6,250,000 shares of common stock, which
will represent approximately 15.1% of the total outstanding shares of our stock.
Consequently, if new investors or our current stockholders sell substantial
amounts of our common stock, including shares issued upon the exercise of
outstanding options and warrants, in the public market following this offering,
the market price of our common stock could fall. The negative effect of such
sales on our common stock market price could be more pronounced given the
relatively small number of shares offered to the public in this offering
relative to the total number of shares of our common stock to be outstanding
following this offering. In addition, such sales could create the perception to
the public of difficulties or problems with our products and services. As a
result, these sales may make it more difficult for us to sell equity or
equity-related securities in the future at a time and price that we deem
appropriate.
Based on the shares outstanding as of May 31, 1999 and upon completion of
this offering and the private placement, we will have outstanding 41,351,880
shares of common stock, assuming no exercise of the underwriters' over-allotment
option, no exercise of outstanding options or warrants and an initial public
offering price of $12.00 per share. In addition, options to purchase 6,403,505
shares of our common stock and warrants to purchase 208,333 shares of our common
stock will remain outstanding upon the completion of this offering and the
private placement. Based upon an assumed offering price of $12.00, all options
and warrants outstanding upon the completion of this offering and the private
placement will have exercise prices below the offering price. The shares sold in
this offering are freely tradable. The remaining 35,101,880 outstanding shares,
or approximately 84.9% of our stock, will become eligible for sale in the public
market as follows:
<TABLE>
<CAPTION>
NUMBER OF SHARES DATE
- ----------------- -----------------------------------------------------------------------------------------------
<C> <S>
-- At the date of this prospectus
27,612,298 180 days after the date of this prospectus, if the sales meet certain restrictions under the
federal securities laws
1,196,187 More than 180 days after the date of this prospectus but before May 12, 2000, if the sales meet
certain restrictions under the federal securities laws
5,208,326 May 12, 2000, if the sales of shares purchased in our Series E preferred stock financing meet
certain restrictions under the federal securities laws
1,085,069 One year after the date of this prospectus, if the sales of shares purchased in our private
placement meet certain restrictions under the federal securities laws
</TABLE>
The above table gives effect to certain lock-up arrangements with the
underwriters under which our directors, officers and stockholders have agreed
not to sell or otherwise dispose of their shares of common stock. The
underwriters may remove these lock-up restrictions prior to 180 days after the
offering without prior notice.
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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements in "Prospectus Summary,"
"Risk Factors," "Management's Discussion and Analysis of Financial Condition and
Results of Operations," "Business" and elsewhere. These statements relate to
future events or our future financial performance. In some cases, you can
identify forward-looking statements by terminology such as "may," "will,"
"should," "expects," "plans," "anticipates," "believes," "estimates,"
"predicts," "potential" or "continue" or the negative of these terms or other
comparable terminology. These statements are only predictions and involve known
and unknown risks, uncertainties and other factors, including the risks outlined
under "Risk Factors," that may cause our or our industry's actual results,
levels of activity, performance or achievements to be materially different from
any future results, levels or activity, performance or achievements expressed or
implied by these forward-looking statements.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we nor any other person
assumes responsibility for the accuracy and completeness of these statements. We
are under no duty to update any of the forward-looking statements after the date
of this prospectus to conform these statements to actual results.
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USE OF PROCEEDS
The net proceeds to us from the sale of the 6,250,000 shares of common stock
in this offering and from the sale of 1,085,069 shares of common stock in the
private placement are estimated to be approximately $80.1 million at an assumed
public offering price of $12.00 per share, after deducting the estimated
underwriting discounts and commissions and estimated offering expenses.
We intend to use the proceeds from this offering and the private placement
for general corporate purposes, including product development, expansion of our
sales, marketing and service capabilities and other working capital
requirements. However, we currently have no specific plan for any of the
proceeds. A portion of the proceeds may also be used to acquire or invest in
complementary businesses or products or to obtain the right to use complementary
technologies. We have no specific understandings, commitments or agreements with
respect to any such acquisition or investment. Pending such uses, the proceeds
of this offering will be invested in short-term, interest-bearing,
investment-grade securities, certificates of deposit or direct or guaranteed
obligations of the United States.
DIVIDEND POLICY
We have never declared or paid any cash dividends on our capital stock. We
currently expect to retain future earnings, if any, for use in the operation and
expansion of our business and do not anticipate paying any cash dividends in the
foreseeable future.
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CAPITALIZATION
The following table sets forth the following information:
- Our actual capitalization as of May 31, 1999;
- Our pro forma capitalization after giving effect to the conversion of all
outstanding shares of preferred stock and the conversion of an outstanding
convertible note into 421,940 shares of our common stock; and
- Our pro forma as adjusted capitalization to give effect to the sale of
6,250,000 shares of common stock in this offering and the sale of
1,085,069 shares of common stock in the private placement, assuming an
initial public offering price of $12.00 per share in this offering, less
the estimated underwriting discounts and commissions and estimated
offering expenses.
<TABLE>
<CAPTION>
AS OF MAY 31, 1999
-------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
----------- ----------- -----------
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C>
Long-term debt............................................................ $ 4,315 $ -- $ --
----------- ----------- -----------
Stockholders' equity:
Convertible preferred stock, $.01 par value per share, 259,749,900
shares authorized; 32,977,699 shares outstanding actual; 259,749,900
shares authorized, no shares outstanding pro forma; 20,000,000 shares
authorized, no shares outstanding pro forma as adjusted............... 330 -- --
Common stock, $.01 par value per share, 407,500,000 shares authorized,
617,172 shares issued and outstanding actual; 407,500,000 shares
authorized, 34,016,811 shares outstanding pro forma; 200,000,000
shares authorized, 41,351,880 shares outstanding pro forma as
adjusted.............................................................. 6 340 414
Contributed and paid-in capital......................................... 166,979 171,290 251,291
Deferred stock compensation............................................. (6,579) (6,579) (6,579)
Warrants................................................................ 1,522 1,522 1,522
Stockholder notes receivable............................................ (348) (348) (348)
Accumulated comprehensive income 28 28 28
Accumulated deficit..................................................... (149,712) (149,712) (149,712)
----------- ----------- -----------
Total stockholders' equity............................................ 12,226 16,541 96,616
----------- ----------- -----------
Total capitalization................................................ $ 16,541 $ 16,541 $ 96,616
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
This table excludes the following shares:
- 6,403,505 shares of common stock issuable upon the exercise of stock
options outstanding under our stock option plans, and 2,365,393 additional
shares of common stock available for issuance under these stock option
plans;
- 833,333 shares of common stock available for issuance under our 1999
employee stock purchase plan;
- 208,333 shares of common stock issuable upon exercise of outstanding
warrants; and
- Warrants to purchase up to an aggregate of an additional 2,091,663 shares
of our common stock that may be issued if particular network operator
customers satisfy commercial milestones.
19
<PAGE>
DILUTION
On May 31, 1999, the pro forma net tangible book value of our common stock
was approximately $3.1 million, or approximately $0.09 per share. Pro forma net
tangible book value per share represents the amount of our total tangible assets
less total liabilities, divided by the number of shares of common stock
outstanding. Dilution in pro forma net tangible book value per share represents
the difference between the amount per share paid by purchasers of shares of
common stock in this offering and the net tangible book value per share of our
common stock immediately afterwards. Assuming our sale of 6,250,000 shares of
common stock offered by this prospectus and 1,085,069 shares offered in the
private placement, assuming an initial public offering price of $12.00 per share
and after deducting the estimated underwriting discounts and commissions and
estimated offering expenses payable, our net tangible book value at May 31, 1999
would have been approximately $83.2 million, or $2.01 per share. This represents
an immediate increase in net tangible book value of $1.92 per share to existing
stockholders and immediate dilution in net tangible book value of $9.99 per
share to new investors purchasing shares of common stock in this offering. The
following table illustrates this dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share...................... $ 12.00
Pro forma net tangible book value per share as of May 31, 1999..... $ .09
Increase per share attributable to new investors................... 1.92
---------
Pro forma net tangible book value per share after this offering...... 2.01
---------
Dilution per share to new investors.................................. $ 9.99
---------
---------
</TABLE>
This table excludes options to purchase 6,403,505 shares of our common stock
and warrants to purchase 208,333 shares of our common stock that will remain
outstanding upon the completion of this offering. See Notes 7 and 8 of Notes to
Consolidated Financial Statements. Based upon an assumed offering price of
$12.00, all options and warrants outstanding upon the completion of this
offering will have exercise prices below the offering price. The exercise of
outstanding options and warrants having an exercise price less than the offering
price would increase the dilutive effect to new investors.
The tables below set forth, as of May 31, 1999, the following information
about our existing stockholders, the new investors in this offering and the
private placement investor:
- The total number of shares of common stock purchased from us;
- The total price paid; and
- The average price paid per share.
The dollar amounts in the tables were calculated before deducting the estimated
underwriting discounts and commissions and estimated offering expenses payable,
assuming an initial public offering price of $12.00 per share.
<TABLE>
<CAPTION>
SHARES PURCHASED ASSUMING
NO EXERCISE OF
UNDERWRITERS'
OVER-ALLOTMENT OPTION TOTAL CONSIDERATION
------------------------- --------------------------- AVERAGE PRICE
NUMBER PERCENTAGE AMOUNT PERCENTAGE PER SHARE
------------ ----------- -------------- ----------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockholders....................... 34,016,811 82.3% $ 167,315,000 65.7% $ 4.92
New investors............................... 6,250,000 15.1 75,000,000 29.4 $ 12.00
Private placement investor.................. 1,085,069 2.6 12,499,995 4.9 $ 11.52
------------ ----- -------------- -----------
Total................................... 41,351,880 100.0% $ 254,814,995 100.0%
------------ ----- -------------- -----------
------------ ----- -------------- -----------
</TABLE>
<TABLE>
<CAPTION>
SHARES PURCHASED ASSUMING
FULL EXERCISE OF
UNDERWRITERS'
OVER-ALLOTMENT OPTION TOTAL CONSIDERATION
------------------------- --------------------------- AVERAGE PRICE
NUMBER PERCENTAGE AMOUNT PERCENTAGE PER SHARE
------------ ----------- -------------- ----------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockholders....................... 34,016,811 80.4% $ 167,315,000 62.9% $ 4.92
New investors............................... 7,187,500 17.0 86,250,000 32.4 $ 12.00
Private placement investor.................. 1,085,069 2.6 12,499,995 4.7 $ 11.52
------------ ----- -------------- -----------
Total................................... 42,289,380 100.0% $ 266,064,995 100.0%
------------ ----- -------------- -----------
------------ ----- -------------- -----------
</TABLE>
20
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data should be read in
conjunction with the Consolidated Financial Statements and Notes thereto and
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and other financial data included elsewhere in this prospectus. The
consolidated statement of operations data for the years ended May 31, 1997, 1998
and 1999 and the consolidated balance sheet data at May 31, 1998 and 1999, are
derived from audited consolidated financial statements included elsewhere in
this prospectus. The consolidated statements of operations data for the period
from our inception on December 1, 1995 to May 31, 1996, and the consolidated
balance sheet data at May 31, 1996 and 1997, are derived from audited
consolidated financial statements not included in this prospectus. The
consolidated financial statements as of and for the year ended May 31, 1998,
have been restated to give retroactive effect to the change in accounting for
our acquisition of Navio Communications, as explained in Note 3 to the
Consolidated Financial Statements.
<TABLE>
<CAPTION>
PERIOD FROM
INCEPTION (DECEMBER YEARS ENDED MAY 31,
1, 1995) -------------------------------
TO MAY 31, 1996 1997 1998 1999
------------------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues:
License and royalty........................................ $ -- $ 231 $ 4,162 $ 5,281
Service.................................................... -- 44 6,110 12,032
------- --------- --------- ---------
Total revenues........................................... -- 275 10,272 17,313
Cost of revenues:
License and royalty........................................ -- -- 3,779 2,279
Service.................................................... -- -- 2,230 8,247
------- --------- --------- ---------
Total cost of revenues................................... -- -- 6,009 10,526
------- --------- --------- ---------
Gross margin................................................. -- 275 4,263 6,787
------- --------- --------- ---------
Operating expenses:
Research and development................................... 5,479 21,721 19,981 18,171
Sales and marketing........................................ -- 7,805 14,407 11,730
General and administrative................................. -- 1,023 2,453 3,975
Amortization of purchased intangibles...................... -- -- 4,563 6,084
Amortization of warrants................................... -- -- -- 18
Restructuring charge....................................... -- -- 1,175 --
Amortization of deferred stock compensation................ -- -- -- 507
Acquired in-process research and development............... -- -- 58,100 --
------- --------- --------- ---------
Total operating expenses................................. 5,479 30,549 100,679 40,485
------- --------- --------- ---------
Loss from operations......................................... (5,479) (30,274) (96,416) (33,698)
Interest and other income (expense), net..................... -- (465) 10 59
------- --------- --------- ---------
Loss before income tax benefit............................... (5,479) (30,739) (96,406) (33,639)
Income tax benefit........................................... (2,200) (11,750) (2,015) (586)
------- --------- --------- ---------
Net loss..................................................... $ (3,279) $ (18,989) $ (94,391) $ (33,053)
------- --------- --------- ---------
------- --------- --------- ---------
Basic net loss per share..................................... $ -- $ -- $(1,780.96) $ (113.20)
Shares used in computing basic net loss per share............ -- -- 53 292
Pro forma basic net loss per share........................... $ (1.17)
Shares used in computing pro forma basic net loss per
share...................................................... 28,293
</TABLE>
<TABLE>
<CAPTION>
MAY 31,
------------------------------------------
1996 1997 1998 1999
--------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents............................................... $ -- $ 245 $ 12,138 $ 33,657
Working capital (deficit)............................................... 75 (23,180) (18,275) 6,308
Total assets............................................................ 487 4,441 30,812 68,182
Deferred revenues....................................................... -- 45 23,868 38,787
Long-term debt.......................................................... -- -- 4,115 4,315
Accumulated deficit..................................................... (3,279) (22,268) (116,659) (149,712)
Total stockholders' equity (deficit).................................... 75 (19,256) (6,136) 12,226
</TABLE>
21
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THE FOLLOWING DISCUSSION AND ANALYSIS OF OUR FINANCIAL CONDITION AND RESULTS
OF OPERATIONS SHOULD BE READ IN CONJUNCTION WITH "SELECTED CONSOLIDATED
FINANCIAL DATA" AND OUR CONSOLIDATED FINANCIAL STATEMENTS AND NOTES THERETO
APPEARING ELSEWHERE IN THIS PROSPECTUS. THIS DISCUSSION AND ANALYSIS CONTAINS
FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS, UNCERTAINTIES AND ASSUMPTIONS.
OUR ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE
FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN FACTORS, INCLUDING, BUT NOT
LIMITED TO, THOSE SET FORTH UNDER "RISK FACTORS" AND ELSEWHERE IN THIS
PROSPECTUS.
OVERVIEW
Liberate is a leading provider of a comprehensive software platform for
delivering Internet-enhanced content and applications to a broad range of
information appliances, such as television set-top boxes, game consoles, smart
phones and personal digital assistants. We began operations in December 1995 as
a division of Oracle to develop server and client software for the consumer,
corporate and educational markets. In April 1996, we were incorporated as a
Delaware corporation. In August 1997, we acquired Navio Communications.
Navio was a development stage company involved in designing Internet
application and server software for the consumer market. In connection with the
acquisition, we changed our strategic direction and restructured our operations.
Prior to the acquisition, we focused on selling software to original equipment
manufacturers of network computer products for corporate customers. Following
the acquisition, we focused our development and marketing efforts on fewer
products targeted primarily at the consumer information appliance market and
aggressively pursued sales to a limited number of large network operators and
information appliance manufacturers. As a result of this strategic shift, we
significantly reduced our sales and engineering operations for corporate
products and increased investment in the development of client and server
software for the consumer market. In connection with the acquisition, we wrote
off approximately $58.1 million of acquired in-process research and development
in fiscal 1998. Purchased intangibles of approximately $18.3 million were
recorded in connection with the acquisition and are being amortized on a
straight-line basis over a useful life of three years. See "--Valuation of
In-Process Research and Development."
To more closely align our product offerings with this strategic shift in
direction, we entered into an agreement with Sun Microsystems in May 1999 to
transfer our NC Navigator and NC Administration Server technology to Sun while
retaining the right to ship, support and maintain these products for existing
customers using this technology. As part of this agreement, we will try to
assign our existing agreements relating to this technology to Sun. If Sun
chooses to assume these contracts and continues shipping the NC Navigator or NC
Desktop products under these contracts, we will receive a commission on sales of
these products. In addition, we have agreed not to compete in the corporate
network computer market and, specifically, network computers intended to
displace personal computers or terminals until May 2002. However, outside of
this market, we intend to continue developing new products based on network
computer technology. In fiscal 1999, sales of NC Navigator and NC Desktop
products and related services accounted for $2.5 million of our total revenues.
We have also agreed with Sun to co-develop television set-top box
technology. We will distribute the co-developed technology pursuant to a
non-exclusive license with Sun. In addition, under this license, we have agreed
to incorporate Sun's PersonalJava technology, television interface software and
Jini technology in our software products and to pay Sun a royalty. Sun has also
agreed to promote us as one of its preferred channel partners within the TV
devices market. We believe this relationship will result in co-marketing and
co-selling efforts with Sun of the jointly-developed technology on a worldwide
basis.
We began shipping our initial products and generating revenues in the last
quarter of fiscal 1997. We generate revenues by licensing our server and client
products and providing related services to
22
<PAGE>
network operators and information appliance manufacturers. Network operators
generally pay up-front license fees for our server software. We recognize server
license revenues upon final delivery of the licensed product, when collection is
probable and when the fair market value and the fee for each element of the
transaction is fixed and determinable. We also generate service revenues from
maintenance provided in connection with server licenses. Maintenance fees
typically represent a percentage of associated license fees.
We license our client software and provide related services to both network
operators and information appliance manufacturers. Information appliance
manufacturers pay us royalties on a per unit basis. Typically, we recognize
these royalty fees upon shipment of the device by the manufacturer. Network
operators also pay per-subscriber royalty fees when information appliance owners
activate the operators' service. Generally, network operators pay these royalty
fees upon activation, either in the form of an up-front payment or on a
subscription basis. Up-front royalty fees are recognized when a network operator
reports to us that a user has activated the service. These network operators pay
an additional per subscriber maintenance fee typically on an annual basis for
the duration of the activation period. Subscription-based royalty fees are
recognized quarterly when reported by the network operators. A portion of this
subscription-based royalty fee is allocated to service revenues as maintenance
and is also recognized quarterly. We generally negotiate the amount of up-front
fees paid by network operators and royalties paid by information appliance
manufacturers on a case-by-case basis. Our maintenance fees typically range from
20% to 30% of annual license fees and activation royalties.
In addition to the maintenance services we offer in connection with our
software licenses, which include upgrades and technical support, we provide
comprehensive consulting, engineering and training services to network operators
and information appliance manufacturers. Revenues generated from these services
generally are recognized as the services are performed while maintenance fees
are recognized ratably over the term of the maintenance contract. For fiscal
1999, total service revenues were $12.0 million, representing 69% of our total
revenues. We expect service revenues to continue to account for a significant
portion of total revenues until customers begin deploying services and
information appliances incorporating our software on a large scale. Any volume
deployments should increase the portion of total revenues derived from the
payment of royalty fees.
In fiscal 1998, Wind River accounted for 16% of our total revenues and
Thomson Multimedia accounted for 10% of our total revenues. In fiscal 1999, Wind
River accounted for 23% of our total revenues and Cable & Wireless accounted for
10% of total revenues. Revenues attributable to Wind River relate to a source
code license we granted Wind River in December 1997. Wind River paid us a
license fee of $10.0 million for this license which was recorded as deferred
revenues and is being amortized over a 30-month period as license and royalty
revenues and service revenues. Wind River has integrated this source code into
their HTMLWorks and eNavigator products. Revenues attributable to Cable &
Wireless in fiscal 1999 relate to consulting services. Revenues from Thomson
Multimedia related to a one-time paid-up software license. We do not expect
Thomson Multimedia to continue to be a significant customer in future periods.
We do, however, expect that we will continue to be dependent upon a limited
number of customers for a significant portion of our revenues in future periods,
although the customers may vary from period to period.
Deferred revenues consist primarily of payments received from customers for
prepaid license and royalty fees and prepaid services for undelivered product
and services. Deferred revenues increased from $45,000 at May 31, 1997 to $38.8
million at May 31, 1999. This increase resulted in part from our license to Wind
River and prepayments from network operators. Other than the deferred revenues
from the source code license to Wind River, deferred revenues can fluctuate
significantly. These fluctuations are the result of:
- When we record deferred revenues, which depends on the timing of large
prepaid license and royalty fees and service contracts; and
23
<PAGE>
- When we recognize deferred revenues, which depends on when services are
performed and when network operators and information appliance
manufacturers deploy products and services based on our technology.
International sales accounted for approximately 77% of our total revenues in
fiscal 1997, 50% of our total revenues in fiscal 1998 and 51% of our total
revenues in fiscal 1999. We anticipate international sales to continue to
represent a significant portion of total revenues.
Since inception, we have incurred net losses of $149.7 million. These losses
include a write-off of $58.1 million of acquired in-process research and
development related to the Navio acquisition and $65.4 million of research and
development expenditures. We anticipate incurring significant operating losses
for the foreseeable future as we continue to invest in research and development
and professional and engineering services to support new devices for our
software platform and large-scale deployments by our network operator customers.
In April and May 1999, we entered into letter agreements with several
network operators that required us to issue warrants to purchase up to an
aggregate of 2,299,996 shares of our common stock if the network operators
satisfy commercial milestones. Warrants to purchase up to 208,333 shares of our
common stock, if issued, will have an exercise price of $9.60 per share,
warrants to purchase up to 2,041,663 shares of our common stock, if issued, will
have an exercise price of $13.80 per share and warrants to purchase up to 50,000
shares of our common stock, if issued, will have an exercise price of either
$9.60 or $13.80 per share, depending on whether commitments are made to us by
the warrant holders. As of May 31, 1999, a total of 208,333 warrants had been
earned by network operators under these letter agreements. In the event the
milestones are met, we will be required to record a significant non-cash
accounting expense based upon the value of the warrants at the time the
milestones are satisfied. See "Certain Transactions--Other Transactions."
24
<PAGE>
RESULTS OF OPERATIONS
Because we did not begin shipping products until the last quarter of fiscal
1997 and implemented significant changes in our operations following our
restructuring in December 1997, we believe that annual and quarterly
period-to-period comparisons of our operating results involving periods prior to
February 28, 1998 are less meaningful than an analysis of recent annual and
quarterly operating results. Accordingly, we are providing a discussion and
analysis of our operating results that is primarily focused upon fiscal 1998 and
1999. The following table lists, for the periods indicated, each line item as a
percentage of total revenues:
<TABLE>
<CAPTION>
YEARS ENDED
MAY 31,
---------------------------------------
1997 1998 1999
----------- ----------- -----------
<S> <C> <C> <C>
AS A PERCENTAGE OF TOTAL REVENUES:
Revenues:
License and royalty................... 84% 41% 31%
Service............................... 16 59 69
----------- --- ---
Total revenues...................... 100 100 100
----------- --- ---
Cost of revenues:
License and royalty................... -- 37 13
Service............................... -- 22 48
----------- --- ---
Total cost of revenues.............. -- 59 61
----------- --- ---
Gross margin............................ 100 41 39
----------- --- ---
Operating expenses:
Research and development.............. 7,899 195 105
Sales and marketing................... 2,838 140 68
General and administrative............ 372 24 23
Amortization of purchased
intangibles......................... -- 44 35
Amortization of warrants.............. -- -- --
Restructuring charge.................. -- 11 --
Amortization of deferred stock
compensation........................ -- -- 3
Acquired in-process research and
development......................... -- 566 --
----------- --- ---
Total operating expenses............ 11,109 980 234
----------- --- ---
Loss from operations.................... (11,009) (939) (195)
Interest and other income (expense),
net................................... (169) -- --
----------- --- ---
Loss before income tax benefit.......... (11,178) (939) (195)
Income tax benefit...................... (4,273) (20) (3)
----------- --- ---
Net loss................................ (6,905)% (919)% (192)%
----------- --- ---
----------- --- ---
</TABLE>
FISCAL YEARS ENDED MAY 31, 1998 AND 1999
REVENUES
Total revenues increased 69% from $10.3 million in fiscal 1998 to $17.3
million in fiscal 1999.
LICENSE AND ROYALTY. License and royalty revenues increased 27% from $4.2
million in fiscal 1998 to $5.3 million in fiscal 1999. This increase was due
primarily to revenues related to our source code license agreement with Wind
River increasing by $1.4 million in fiscal 1999 compared to fiscal 1998. To a
lesser extent, this increase was due to a larger number of information
appliances shipped by our
25
<PAGE>
licensees, which increased revenues by $1.2 million in fiscal 1999. This license
and royalty increase was partially offset by decreased license revenues from
other sources.
SERVICE. Service revenues increased 97% from $6.1 million in fiscal 1998 to
$12.0 million in fiscal 1999. Approximately $4.9 million of this increase was
due to the creation of our professional services organization and an increase in
engineering services provided to new and existing customers. To a lesser extent,
the increase was due to higher maintenance revenues as a result of a larger
number of server and client licensees.
COST OF REVENUES
Total cost of revenues increased 75% from $6.0 million in fiscal 1998 to
$10.5 million in fiscal 1999.
LICENSE AND ROYALTY. Cost of license and royalty revenues consists
primarily of license and support fees paid to third parties for technology
incorporated into our products. Cost of license and royalty revenues decreased
40% from $3.8 million in fiscal 1998 to $2.3 million in fiscal 1999. These
amounts represented 91% of license and royalty revenues in fiscal 1998 and 43%
of license and royalty revenues in fiscal 1999. The decrease in cost of license
and royalty revenues in dollar amounts was due primarily to isolated costs of
approximately $980,000 incurred in fiscal 1998 relating to payments made to
support third-party sales of television set-top boxes and smart cards. In
addition, several prepaid licenses were fully amortized during fiscal 1998. We
expect cost of license and royalty revenues to increase in dollar amounts as
shipments of our products to licensees increase and as a result of additional
licensing of third party technology incorporated into our products. We expect
the cost of license and royalty revenues, as a percentage of license and royalty
revenues, to fluctuate in future periods, but with a general decreasing trend.
Amortization of certain third-party costs will have the effect of decreasing
license and royalty costs as a percentage of license and royalty revenues as
license and royalty revenues increase. However, introduction of new third-party
technology may offset the effect of the amortized costs or increase cost of
license and royalty revenues as a percentage of license and royalty revenues.
SERVICE. Cost of service revenues consists of employee compensation,
payments to independent consultants and related overhead. Cost of service
revenues increased 270% from $2.2 million in fiscal 1998 to $8.2 million in
fiscal 1999. These amounts represented 36% and 69% of service revenues over the
respective periods. The increase in dollar amounts and as a percentage of cost
of service revenues was due primarily to expenses of $3.6 million associated
with the establishment and expansion of our professional services organization.
To a lesser extent, the increase was due to increased expenses related to
engineering services provided to new and existing customers and expenses
associated with the establishment and expansion of our customer support
organization. We expect cost of service revenues to increase in dollar amounts
to the extent existing and new customers install and deploy our products. We
expect the cost of service revenues, as a percentage of service revenues, to
fluctuate in future periods. The percentage will increase in the near-term due
to continued startup costs being incurred and to meet the expansion of services
as existing and new customers install and deploy our products. The percentage
will decrease over time as startup and training costs are reduced and staffing
and other costs stabilize.
OPERATING EXPENSES
RESEARCH AND DEVELOPMENT. Research and development expenses consist
primarily of salary and other related costs for personnel and independent
consultants as well as costs related to outsourced development projects to
support product development. Research and development expenses decreased 9% from
$20.0 million in fiscal 1998 to $18.2 million in fiscal 1999. Our efforts
following the Navio acquisition to focus on the development of fewer products
resulted in lower average headcount which led to a decrease in expenses. To a
lesser extent, research and development expenses decreased because we outsourced
fewer development projects. Nevertheless, during this period, we also incurred
expenses
26
<PAGE>
associated with the development of our core products. We believe that continued
investment in research and development is critical to attaining our strategic
objectives, and, as a result, expect research and development expenses to
increase significantly in dollar amounts in future periods. However, if revenues
increase, we expect research and development expenses to decline as a percentage
of total revenues in the long term. In May 1999, we entered into an agreement
with General Instrument where we committed to pay up to $10.0 million over a
three-year period for development services to be performed by General
Instrument.
SALES AND MARKETING. Sales and marketing expenses consist primarily of
salaries and other related costs for sales and marketing personnel, sales
commissions, travel, facilities for regional offices, public relations,
marketing materials and tradeshows. Sales and marketing expenses decreased 19%
from $14.4 million in fiscal 1998 to $11.7 million in fiscal 1999. In connection
with the refocusing of our product line as discussed above, we also realigned
our sales efforts which resulted in a significant reduction in the number of
sales and marketing personnel which reduced expenses. We believe these expenses
will increase in dollar amounts in future periods as we expand our direct sales
and marketing efforts domestically and abroad. However, if revenues increase, we
expect these costs to decrease as a percentage of total revenues.
GENERAL AND ADMINISTRATIVE. General and administrative expenses consist
primarily of salaries and other related costs for legal, human resource and
finance employees, as well as attorney and other professional fees. General and
administrative expenses increased 62% from $2.5 million in fiscal 1998 to $4.0
million in fiscal 1999. The increase was primarily due to increased staffing
which resulted in higher expenses. To a lesser extent, the increase was due to
higher legal and professional fees. We believe these expenses will increase in
dollar amounts as we continue to add personnel to support our expanding
operations and assume the responsibilities of a public company. However, if
revenues increase, we expect general and administrative expenses to decrease as
a percentage of total revenues in the long term.
RESTRUCTURING CHARGE. In the third quarter of fiscal 1998, we recognized a
restructuring charge of $1.2 million resulting primarily from a reduction in
workforce. This charge consisted primarily of severance payments and the
accelerated vesting of options. At May 31, 1999, we had $266,000 remaining in
accrued restructuring, related to severance payments that have not been paid
out.
AMORTIZATION OF DEFERRED STOCK COMPENSATION. Deferred stock compensation
represents the difference between the estimated fair value of the common stock
for accounting purposes and the option exercise price of such options at the
date of grant. In fiscal 1999, we recorded total deferred stock compensation of
$7.1 million, net of terminations, in connection with stock options granted to
employees and others. These amounts are amortized on a straight-line basis over
the 48-month vesting period of such options. Approximately $507,000 of
amortization expense was recorded during fiscal 1999. In June 1999, we recorded
approximately $1.6 million of deferred stock compensation. We expect to record
deferred stock compensation expense of approximately $507,000 for the quarter
ended August 31, 1999 and approximately $540,000 for the quarter ended November
30, 1999 and each quarter thereafter through August 31, 2002. We expect that
deferred stock compensation expense recorded in quarters after August 31, 2002
will decrease ratably from quarter to quarter through the quarter ending August
31, 2003. No deferred stock compensation expense was recorded in fiscal 1998.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT. In August 1997, we acquired
Navio in a stock-for-stock exchange valued at approximately $77.1 million. The
acquisition was accounted for using the purchase method of accounting. In
connection with this acquisition we wrote off $58.1 million of acquired
in-process research and development which, in the opinion of management, had not
reached technological feasibility and had no alternative future use. See
"--Valuation of In-Process Research and Development."
27
<PAGE>
WARRANT EXPENSE. Warrant expense represents the estimated fair value of
warrants, as determined using the Black-Scholes model, as of the earlier of the
grant date or the date it becomes probable that the warrants will be earned.
Pursuant to Emerging Issues Task Force No. 96-18, the warrants will continue to
be revalued in situations where they are granted prior to establishment of a
performance commitment. In May 1999, we entered into agreements with several
network operators that require us to issue warrants to purchase up to an
aggregate of 2,299,996 shares of common stock if the network operators satisfy
commercial milestones. As of May 31, 1999, we issued warrants to purchase up to
208,333 shares of common stock to two network operators for satisfying
commercial milestones. Warrants valued at $1,504,000 have been recorded as an
asset in the consolidated balance sheet and will be amortized over the greater
of the warrants' respective performance periods, or as the royalties are earned
under the license agreements between us and the network operators. The remaining
warrant value of approximately $18,000 was recorded as a charge to operations
during fiscal 1999.
INTEREST AND OTHER INCOME (EXPENSE), NET
Net interest income increased from $10,000 in fiscal 1998 to $59,000 in
fiscal 1999. Net interest income increased as a result of higher average cash
balances.
INCOME TAX BENEFIT
Our income tax benefit was $2.0 million in fiscal 1998 and $586,000 in
fiscal 1999. The benefit for fiscal 1999 represents the estimated cash benefit
we will receive from Oracle related to their utilization in the consolidated
Oracle state tax returns of our state operating losses for fiscal 1999. The
benefit was calculated pursuant to a tax allocation and indemnity agreement with
Oracle which was effective after the Navio acquisition on August 11, 1997.
Pursuant to this agreement, Oracle agreed to pay us the cash attributable to the
tax savings from utilization of our operating losses. Due to the reduction in
Oracle's ownership percentage resulting from the Navio acquisition, we are no
longer included in their consolidated federal U.S. tax return. See Note 9 to
Consolidated Financial Statements.
The benefit for fiscal 1998 consists of the estimated cash benefit pursuant
to the above agreement plus the estimated assumed federal and state tax benefit
Oracle received for the period from June 1, 1997 through August 11, 1997.
As of May 31, 1999, we had federal and state net operating loss
carryforwards of approximately $24.4 million which will expire at various dates,
from 2003 to 2019, if not utilized. The Tax Reform Act of 1986 imposes
substantial restrictions on the utilization of net operating losses and tax
credits in the event of an "ownership change" of a corporation. Our ability to
utilize net operating loss carryforwards on an annual basis will be limited as a
result of a prior "ownership change" in connection with private sales of equity
securities. We have provided a full valuation allowance on the deferred tax
asset because of the uncertainty regarding its realization. Our accounting for
deferred taxes under Statement of Financial Accounting Standards No. 109
involves the evaluation of a number of factors concerning the realizability of
our deferred tax assets. In concluding that a full valuation allowance was
required, management primarily considered factors such as our history of
operating losses and expected future losses and the nature of our deferred tax
assets.
FISCAL YEARS ENDED MAY 31, 1997 AND 1998
REVENUES
Total revenues increased from $275,000 for fiscal 1997 to $10.3 million for
fiscal 1998.
LICENSE AND ROYALTY. License and royalty revenues increased from $231,000
for fiscal 1997 to $4.2 million for fiscal 1998. The increase in license and
royalty revenues was due primarily to increased shipments of our initial
products. We commenced shipment of our initial products in the last quarter of
fiscal 1997.
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SERVICE. Service revenues increased from $44,000 for fiscal 1997 to $6.1
million for fiscal 1998. The increase was due primarily to an increase in
services provided to network operators and information appliance manufacturers
as a result of the introduction of our initial products in the last quarter of
fiscal 1997.
COST OF REVENUES
There were no cost of revenues in fiscal 1997. Total cost of revenues
increased to $6.0 million for fiscal 1998.
LICENSE AND ROYALTY. Cost of license and royalty revenues was $3.8 million
in fiscal 1998, representing 91% of license revenues. The increase in cost of
license and royalty revenues in absolute dollars was due primarily to costs of
$2.1 million associated with the initial amortization of prepaid third party
license and support costs. To a lesser extent, the increase was due to isolated
costs of approximately $980,000 incurred in fiscal 1998 relating to payments
made to support third party sales of television set-top boxes and smart cards.
SERVICE. Cost of service revenues was $2.2 million in fiscal 1998,
representing 36% of service revenues. Although modest service revenues of
$44,000 were recorded in fiscal 1997, related costs were not material. The
increase in cost of service revenues was due to the creation of our customer
support and engineering service organizations.
OPERATING EXPENSES
RESEARCH AND DEVELOPMENT. Research and development expenses decreased 8%
from $21.7 million for fiscal 1997 to $20.0 million for fiscal 1998. The
decrease in expenses in fiscal 1998 was due primarily to fewer outsourced
development projects.
SALES AND MARKETING. Sales and marketing expenses increased 85% from $7.8
million for fiscal 1997 to $14.4 million for fiscal 1998. The increase was
primarily due to increased headcount and resulting salaries and, to a lesser
extent, to other employee related expenses.
GENERAL AND ADMINISTRATIVE. General and administrative expenses increased
140% from $1.0 million for fiscal 1997 to $2.5 million for fiscal 1998. The
increase was primarily due to expenses related to increased personnel and
employee-related costs following the acquisition of Navio and, to a lesser
extent, costs incurred for legal and other professional service fees in fiscal
1998.
INTEREST AND OTHER INCOME (EXPENSE), NET
Net interest and other expense in fiscal 1997 of $465,000 was primarily
attributable to interest payments to Oracle on inter-company advances. The
conversion of these outstanding balances into equity in the first quarter of
fiscal 1998, and higher average cash balances during the period, resulted in net
interest income of $10,000 in fiscal 1998.
INCOME TAX BENEFIT
Our income tax benefit was $11.8 million for fiscal 1997 and $2.0 million
for fiscal 1998. The benefit for fiscal 1997 represents Oracle's assumed
estimated federal and state tax benefit for the entire fiscal year. The benefit
for fiscal 1998 represents amounts to be refunded to us from Oracle under the
tax allocation and indemnity agreement and the estimated assumed federal and
state tax benefit Oracle received for the period from June 1, 1997 to the date
of the tax allocation and indemnity agreement. See Note 9 of Notes to
Consolidated Financial Statements.
QUARTERLY RESULTS OF OPERATIONS
The following tables set forth certain unaudited consolidated statements of
operations data for each of our last five quarters. This data has been derived
from unaudited consolidated financial statements that have been prepared on the
same basis as the annual audited consolidated financial statements and, in our
opinion, include all normally recurring adjustments necessary for a fair
presentation of such information. These unaudited quarterly results should be
read in conjunction with the consolidated financial statements and notes thereto
appearing elsewhere in this prospectus. The consolidated results of operations
for any quarter are not necessarily indicative of the results for any future
period.
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<TABLE>
<CAPTION>
QUARTERS ENDED
----------------------------------------------------------------
MAY 31, AUG. 31, NOV. 30, FEB. 28, MAY 31,
1998 1998 1998 1999 1999
--------- ---------- ------------ ------------ ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS
DATA:
Revenues:
License and royalty......... $ 1,106 $ 1,139 $ 1,398 $ 1,525 $ 1,219
Service..................... 2,447 2,169 3,003 2,956 3,904
--------- ---------- ------------ ------------ ---------
Total revenues............ 3,553 3,308 4,401 4,481 5,123
--------- ---------- ------------ ------------ ---------
Cost of revenues:
License and royalty......... 722 600 716 638 325
Service..................... 685 1,199 1,672 1,827 3,549
--------- ---------- ------------ ------------ ---------
Total cost of revenues.... 1,407 1,799 2,388 2,465 3,874
--------- ---------- ------------ ------------ ---------
Gross margin.................. 2,146 1,509 2,013 2,016 1,249
--------- ---------- ------------ ------------ ---------
Operating expenses:
Research and development.... 4,332 4,041 4,014 4,834 5,282
Sales and marketing......... 3,463 2,145 3,258 2,673 3,654
General and
administrative............ 610 814 794 952 1,415
Amortization of purchased
intangibles............... 1,521 1,521 1,521 1,521 1,521
Amortization of warrants.... -- -- -- -- 18
Amortization of deferred
stock compensation........ -- 7 104 282 114
--------- ---------- ------------ ------------ ---------
Total operating
expenses................ 9,926 8,528 9,691 10,262 12,004
--------- ---------- ------------ ------------ ---------
Loss from operations.......... (7,780) (7,019) (7,678) (8,246) (10,755)
Interest and other income
(expense), net.............. (13) 81 68 (10) (80)
--------- ---------- ------------ ------------ ---------
Loss before income tax
provision (benefit)......... (7,793) (6,938) (7,610) (8,256) (10,835)
Income tax provision
(benefit)................... (228) (271) (287) (329) 301
--------- ---------- ------------ ------------ ---------
Net loss...................... $(7,565) $(6,667) $(7,323) $(7,927) $ (11,136)
--------- ---------- ------------ ------------ ---------
--------- ---------- ------------ ------------ ---------
AS A PERCENTAGE OF TOTAL
REVENUES:
Revenues:
License and royalty......... 31% 34% 32% 34% 24%
Service..................... 69 66 68 66 76
--------- ---------- ------------ ------------ ---------
Total revenues............ 100 100 100 100 100
--------- ---------- ------------ ------------ ---------
Cost of revenues:
License and royalty......... 20 18 16 14 7
Service..................... 19 36 38 41 69
--------- ---------- ------------ ------------ ---------
Total cost of revenues.... 39 54 54 55 76
--------- ---------- ------------ ------------ ---------
Gross margin.................. 61 46 46 45 24
--------- ---------- ------------ ------------ ---------
Operating expenses:
Research and development.... 122 122 91 108 103
Sales and marketing......... 97 65 74 60 71
General and
administrative............ 17 25 18 21 28
Amortization of purchased
intangibles............... 43 46 35 34 30
Amortization of warrants.... -- -- -- -- --
Amortization of deferred
stock compensation........ -- -- 2 6 2
--------- ---------- ------------ ------------ ---------
Total operating
expenses................ 279 258 220 229 234
--------- ---------- ------------ ------------ ---------
Loss from operations.......... (218) (212) (174) (184) (210)
Interest and other income
(expense), net.............. -- 2 2 -- (2)
--------- ---------- ------------ ------------ ---------
Loss before income tax
provision (benefit)......... (218) (210) (172) (184) (212)
Income tax provision
(benefit)................... (6) (8) (7) (7) 6
--------- ---------- ------------ ------------ ---------
Net loss...................... (212)% (202)% (165)% (177)% (218)%
--------- ---------- ------------ ------------ ---------
--------- ---------- ------------ ------------ ---------
</TABLE>
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LIQUIDITY AND CAPITAL RESOURCES
Prior to the Navio acquisition, Oracle funded our operations primarily
through inter-company advances, capital contributions and the purchase of equity
securities. In connection with the acquisition of Navio, Oracle converted
approximately $18.0 million of outstanding inter-company payables into Liberate
equity. Following the Navio acquisition, we funded operations primarily through
sales of convertible debt, sales of equity securities and prepaid customer
licenses. In May 1999, we raised $50.0 million by selling 5,208,326 shares of
our Series E preferred stock.
Cash used in operating activities was $9.4 million for fiscal 1997, $2.2
million for fiscal 1998 and $6.5 million for fiscal 1999. Cash used in fiscal
1997 was primarily attributable to a net loss of $19.0 million, offset in part
by an increase in accounts payable to Oracle of $18.7 million. Cash used in
fiscal 1998 was primarily attributable to a net loss of $94.4 million, offset in
part by an increase of $20.8 million in deferred revenues and $6.1 million in
amortization and depreciation expenses and a $58.1 million write-off of
in-process research and development related to our acquisition of Navio. Cash
used in operating activities during fiscal 1999 was primarily due to a net loss
of $33.1 million, offset in part by $7.4 million in amortization and
depreciation expenses and an increase of $14.9 million in deferred revenues.
We used $1.7 million of cash in investing activities during fiscal 1997 and
$21.4 million of cash in investing activities during fiscal 1999. This cash was
used primarily to fund capital expenditures and purchase short-term investments.
Cash provided by investing activities of $1.2 million in fiscal 1998 consisted
primarily of cash acquired in the acquisition of Navio, offset in part by
purchases of property and equipment.
Net cash provided by financing activities was $11.4 million for fiscal 1997,
$12.8 million for fiscal 1998 and $49.4 million for fiscal 1999. Cash provided
by financing activities in fiscal 1997 and 1998 related primarily to proceeds
from capital contributions from Oracle and from issuances of preferred stock and
convertible notes payable. Cash generated from financing activities in fiscal
1999 is primarily related to the Series E preferred stock financing which
occurred in May 1999.
At May 31, 1999, we had $33.7 million in cash and cash equivalents and did
not have any material commitments for capital expenditures. Under a development
agreement entered into with General Instrument in April 1999, we are committed
to pay $10.0 million in development fees for certain services to be performed by
General Instrument. These fees will be paid out in quarterly installments over a
three year period. We believe that the net proceeds of this offering, the
private placement scheduled to close immediately following the closing of this
offering and our recent Series E preferred stock financing, together with cash
and cash equivalents generated from operations, will be sufficient to meet our
working capital requirements for at least the next 12 months. If our cash
balances and cash generated from operations is insufficient to satisfy our
liquidity requirements, we may seek to raise such additional funds through
public or private equity or debt financings. If additional funds are raised
through the issuance of debt securities, these securities could have certain
rights, preferences, and privileges senior to holders of common stock, and the
terms of such debt could impose restrictions on our operations. The sale of
additional equity or debt securities could result in additional dilution to our
stockholders. Additional financing may not be available at all and, if
available, such financing may not be obtainable on terms favorable to us. If we
are unable to obtain this additional financing, we may be required to reduce the
scope of our planned product development and marketing efforts, which could
seriously harm our business.
VALUATION OF IN-PROCESS RESEARCH AND DEVELOPMENT
OVERALL VALUATION METHODOLOGY. We performed a valuation of Navio which was
used as an aid in determining the fair value of the identifiable assets and in
allocating the purchase price among the acquired assets, including the portion
of the purchase price attributed to in-process research and
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development. Assets identified generally included in-process research and
development, developed technology, assembled workforce, installed customer base
and goodwill.
The valuation technique employed in the appraisal was designed to properly
reflect all intellectual property rights in the intangible assets, including
core technology. The value of the developed technology was derived from direct
sales of existing products including their contribution to in-process research
and development. In this way, value was properly attributed to the engineering
know-how embedded in the existing product that will be used in developmental
products. The appraisal also considered the fact that the existing know-how
diminishes in value over time as new technologies are developed and changes in
market conditions render current products and methodologies obsolete.
Assets were identified through on-site interviews with management and a
review of data provided by Navio's and our management concerning the acquired
assets, technologies in development, costs necessary to complete the in-process
research and development, market potential, historical financial performance,
estimates of future performance and the assumptions underlying these estimates.
Purchased incomplete research and development projects were identified
through extensive interviews and detailed analysis of development plans provided
by management concerning the following:
- Uniqueness of developmental work and the costs incurred;
- Critical tasks required to complete the project;
- Opportunities which were expected to arise from the project;
- Degree of leverage of the new technology on legacy technology;
- Risks associated with project completion;
- Assessment of types of efforts involved, for example software development;
- Length of time project was expected to be useful; and
- Timing related to completion of projects and resources allocated to
completion, including associated expenses.
None of the in-process research and development value was associated with
routine on-going efforts to enhance or otherwise improve on the qualities of the
existing products. Navio's engineers were developing advanced, next generation
technologies that involved creating product designs and disparate technologies
to form superior products. The in-process research and development value was
determined by estimating the costs to develop the purchased in-process
technology into commercially viable products, estimating the resulting net cash
flows from such projects and discounting the net cash flows back to their
present value. The discount rate of 37.5% considers the uncertainty surrounding
the successful development of the purchased in-process technology, the useful
life of such technology, the profitability levels of such technology, and the
uncertainty of technological advances that were indeterminable at that time.
NATURE AND DESCRIPTION. The purchased in-process research and development
consisted of three projects: NC Navigator, TV Navigator and DTV Navigator. The
fair value assigned to each of these projects is as follows:
<TABLE>
<CAPTION>
NC Navigator................................................... $13,700,000
<S> <C>
TV Navigator................................................... $32,600,000
DTV Navigator.................................................. $11,800,000
</TABLE>
The NC Navigator project was aimed at the development of Internet client
software for network computers targeted at the corporate marketplace. NC
Navigator was intended to allow network computers to access the Internet with
the same look and feel of a Netscape web browser for personal
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<PAGE>
computers. TV Navigator was focused on the development of a software product
that was to enable the integration of the Internet with devices such as
television set-top boxes, satellite systems and game consoles. DTV Navigator was
intended to develop a software server that would allow television networks to
provide Internet software and applications to consumers. This system also would
enable television networks to broadcast Internet content. Each of these research
and development projects was dependent on the development of unproven Internet
technologies.
STAGE OF COMPLETION. The appraisal included the valuation of each specific
research and development project underway at the acquisition date. In the months
leading up to the purchase, Navio had made significant progress in their
research and development programs. However, due to the substantial time and
effort necessary to produce these products in accordance with functional
specifications, technological feasibility of the research and development
projects had not yet been achieved. The acquired projects included Navio's
Internet browser software. The efforts required to develop the purchased
in-process technology of Navio into commercially viable products principally
related to the completion of planning, designing, prototyping, verification and
testing activities that were necessary to establish that the software could be
produced to meet its design specifications, including functions, features and
technical performance requirements. Anticipated completion dates for the
projects in-process was approximately three to 36 months, at which time Navio
expected to begin selling the developed software products. The primary risks of
the research and development projects involved functionality, scalability and
compatibility with software standards. The costs to complete NC Navigator, TV
Navigator and DTV Navigator were estimated at $8 million, $19 million and $7
million, respectively.
The resulting net cash flows from such projects were based on management's
estimates of product revenues, operating expenses, research and development
costs, and income taxes from such projects. The revenue projections used to
value the in-process research and development were based on estimates of
relevant market sizes and growth factors, expected trends in technology and the
nature and expected timing of new product introductions by us and our
competitors. Our projections may ultimately prove to be incomplete or
inaccurate, and unanticipated events and circumstances are likely to occur. As a
result, the underlying assumptions used to forecast revenues and costs to
develop such projects may not transpire as estimated.
Navio's development team had made significant technological and creative
strides in the development of its experimental Internet technologies as of
August 1997. Since its inception in February 1996, Navio incurred research and
development costs of $2 million for NC Navigator, $5 million for TV Navigator
and $2 million for DTV Navigator. As of the acquisition date, Navio was a
development stage company with minimal product revenues and large net losses.
Navio was entering the testing phase for two of its developmental products, NC
Navigator 3.0 and TV Navigator 1.1. Historical revenues represented services and
limited sales of a Netscape product sold as a test network computer browser on
an experimental basis. This product was superseded by NC Navigator 3.0.
ALTERNATIVE FUTURE USE. Before we made the decision not to capitalize the
value ascribed to in-process research and development, the projects were
evaluated individually to determine if technological feasibility had been
achieved and if there were any alternative future uses. Such evaluation
consisted of a specific review of the efforts, including the overall objectives
of the project, progress toward the objectives and uniqueness of the development
efforts.
Navio's technical activities were concentrated on the development of new
product knowledge having specific commercial objectives, and efforts were
focused on translating those applied research findings and other scientific
know-how into commercially viable software products. The acquired research and
development was related to developing experimental Internet technologies for
which no market existed at the time of the acquisition. Due to its specialized
nature, the in-process research and development project had no alternative
future use, either for re-deployment elsewhere in the business or in
liquidation, in the event the project failed.
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<PAGE>
CONTINUING EFFORTS. We expect that the remaining acquired in-process
research and development will be successfully developed. However, we cannot
guarantee that commercial viability of this project will be achieved. If this
project is not successfully developed, our future revenues and profitability may
be seriously harmed and the value of the intangible assets relating to the
acquisition may become impaired. Commercial results will also be subject to
uncertain market events and risks that are beyond our control, such as trends in
technology, government regulations, market size and growth, and product
introduction or other actions by competitors. Since acquiring Navio, we do not
believe there have been significant departures from the planned efforts of the
in-process research and development.
RECENT ACCOUNTING PRONOUNCEMENTS
In fiscal year 1998 we adopted Statement of Position, or SOP 97-2, "Software
Revenue Recognition", and SOP 98-4, "Deferral of the Effective Date of a
Provision of SOP 97-2, Software Revenue Recognition". SOP 97-2 and SOP 98-4
provide guidance for recognizing revenue on software transactions and supercede
SOP 91-1. The adoption of SOP 97-2 and SOP 98-4 did not have a material impact
on our financial results.
In fiscal 1999, we adopted Statement of Financial Accounting Standards, or
SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 requires
disclosures of total non-stockholder changes in equity in interim periods and
additional disclosures of components of non-stockholder changes in equity on an
annual basis. The adoption of SFAS No. 130 did not have a material effect on our
financial disclosures.
In fiscal 1999, we adopted SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information." The adoption of SFAS No. 131 did not have a
material effect on our financial disclosures.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which requires
us to value derivative financial instruments, including those used for hedging
foreign currency exposures, at current market value with the impact of any
change in market value being charged against earnings in each period. SFAS No.
133 will be effective for and adopted by us in the first quarter of the fiscal
year ending May 31, 2001. We anticipate that SFAS No. 133 will not have a
material impact on our consolidated financial statements.
In April 1998, the AICPA issued SOP 98-5, "Reporting on the Costs of
Start-Up Activities." The statement is effective for fiscal years beginning
after December 15, 1998. The statement requires costs of start-up activities and
organization costs to be expensed as incurred. We are required to adopt SOP 98-5
for the year ended May 31, 2000. The adoption of SOP 98-5 is not expected to
have a material impact on our consolidated financial statements.
MARKET RISK DISCLOSURE
INTEREST RATE RISK. As of May 31, 1999, our investments consisted of $27.3
million of short-term money market securities and $19.8 million of debt
securities (see Note 2 of Notes to Consolidated Financial Statements). These
securities, like all fixed income instruments, are subject to interest rate risk
and will fall in value if market interest rates increase. If market interest
rates were to increase immediately and uniformly by 10% from levels as of May
31, 1999, the decline of the fair value of the portfolio would not be material.
FOREIGN CURRENCY. We transact business in various foreign currencies and,
accordingly, we are subject to exposure from adverse movements in foreign
currency exchange rates. To date, the effect of changes in foreign currency
exchange rates on revenues and operating expenses have not been material.
Substantially all of our revenues are earned in U.S. dollars. Operating expenses
incurred by our foreign subsidiaries are denominated primarily in European
currencies. We currently do not use financial
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<PAGE>
instruments to hedge these operating expenses. We intend to assess the need to
utilize financial instruments to hedge currency exposures on an ongoing basis.
YEAR 2000 COMPLIANCE
Many currently installed computer systems and software products are coded to
accept only two-digit year entries in the date code field. Consequently, on
January 1, 2000, many of these systems could fail or malfunction because they
may not be able to distinguish 21(st) century dates from 20(th) century dates.
As a result, computer systems and software used by many companies, including us,
our customers and our potential customers, may need to be upgraded to comply
with such "Year 2000" requirements.
We have developed and implemented a company-wide program to identify and
remedy the Year 2000 issues. The scope of our Year 2000 readiness program
includes the review and evaluation of:
- Our IT systems, such as hardware and software utilized in the operation of
our business;
- Our non-IT systems or embedded technology, such as micro-controllers
contained in various equipment and facilities;
- The readiness of third parties, including customers, suppliers and other
key vendors; and
- Our client and server software products.
Although we have inventoried our principal internal information technology
systems and believe that they are Year 2000 compliant, some of our internal
information technology systems are not yet certified. We anticipate that we will
complete our certification of these systems by November 1, 1999. We have
received Year 2000 compliance statements from the suppliers of some of our
principal internal systems, and have sought similar statements from other
vendors. Our review of the internal systems of third parties with whom we have
material interactions is ongoing. Because we and our customers are substantially
dependent upon the proper functioning of our computer systems, a failure of our
systems to be Year 2000 complaint could materially disrupt our operations which
could seriously harm our business.
We have tested our client and server products to determine that they are
Year 2000 compliant, when configured and used in accordance with the related
documentation and our customer's hardware platform. We have performed
operational tests for each of our products by testing various future dates in
each of the products' functional areas from installation to standard operation
on our customers' platforms. In addition, the transition from year 1999 to year
2000 was simulated for our client and server software. According to the results
of our tests, our products should not abnormally end or provide incorrect or
invalid results due to date data, including dates that represent a different
century, provided the underlying operating system and customer hardware platform
are Year 2000 compliant.
The Year 2000 problem may also affect third party software products that are
incorporated into our client and server tools, applications and other software
products that we modify and license to our customers. When we incorporate third
party software products into our products, we generally discuss Year 2000 issues
with these third parties and sometimes perform internal testing on their
products. We do not, however, guarantee or certify that the software licensed by
these suppliers is Year 2000 compliant. Any failure by third parties to provide
Year 2000 compliant software products that we incorporate into our products
could result in financial loss, harm to our reputation, and liability to others
and could seriously harm our business.
Although we are in the process of inquiring as to the Year 2000 readiness of
our customers, we do not currently have extensive information concerning the
Year 2000 compliance status of our customers. We expect to have completed the
delivery of all of our customer inquiries by July 31, 1999. Our current or
potential customers may incur significant expense to achieve Year 2000
compliance. If our customers are not Year 2000 compliant, they may experience
material costs to remedy problems, or they may face
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<PAGE>
litigation costs. In either case, Year 2000 issues could reduce or eliminate the
budgets that current or potential customers could have to license our products.
Because our Year 2000 compliance efforts are part of ongoing system
upgrades, we have funded our Year 2000 plan from operating cash flows and have
not separately accounted for these costs in the past. To date, these costs have
not been material. We may incur additional costs related to Year 2000 compliance
for administrative personnel to manage the testing, review and remediation, and
outside vendor and contractor assistance. Although we currently do not expect
future Year 2000 compliance costs to be material, we may experience material
problems and costs with Year 2000 compliance that could seriously harm our
business, including:
- Operational disruptions and inefficiencies for us, our customers and
vendors that provide us with internal systems that will divert
management's time and attention and financial and human-resources from
ordinary business activities;
- Business disputes and claims for pricing adjustments by our customers,
some of which could result in litigation or contract termination; and
- Harm to our reputation to the extent that our customer's products
experience errors or interruptions of service.
The worst case scenario for Year 2000 problems for us would be to cease
normal operations for an indefinite period of time while we attempted to respond
to Year 2000 problems in our internal systems and our software products without
having full internal operations capabilities. Although we do not believe that
our business would come to a standstill in the worst case scenario, we could
experience severe operational disruptions and inefficiencies resulting in
product delivery delays and a corresponding decrease in revenues.
Although it is not yet fully developed, we expect to complete our Year 2000
contingency plan well in advance of December 31, 1999. We are designing our Year
2000 contingency plan to address situations that may result if we are unable to
achieve Year 2000 readiness for our critical operations. The cost of developing
and implementing our plan may be material.
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BUSINESS
THIS PROSPECTUS CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND
UNCERTAINTIES. ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE INDICATED IN SUCH
FORWARD-LOOKING STATEMENTS. SEE "SPECIAL NOTE REGARDING FORWARD-LOOKING
STATEMENTS."
OVERVIEW
Liberate is a leading provider of a comprehensive software platform for
delivering Internet-enhanced content and applications to a broad range of
information appliances. Information appliances, which include television set-top
boxes, game consoles, smart phones and personal digital assistants, are devices
that are enhanced by Internet capability. Network operators, such as
telecommunications companies, cable and satellite television operators and
Internet service providers, or ISPs, can use our server software to deliver
Internet-enhanced services to numerous information appliances and millions of
consumers. Information appliance manufacturers can use our client software to
Internet-enable their products. Our open platform also provides a uniform
environment for developers to enhance existing content and create new Internet
applications and services for delivery on multiple platforms. Our software
platform is designed to enable network operators to provide consumers with
universal access to these Internet-enhanced applications and services. To extend
the functionality of our software platform, we have also developed strategic
alliances with leading technology vendors such as Cisco Systems, Inktomi, Lucent
Technologies, Netscape, Oracle and Sun Microsystems.
INDUSTRY BACKGROUND
GROWTH OF THE INTERNET
The Internet is a global network of interconnected public and private
networks that enables millions of people to communicate, collaborate, access
information and conduct business electronically. International Data Corporation,
or IDC, estimates that there were approximately 159 million worldwide users of
the Internet at the end of 1998 and that the number of users will grow to
approximately 410 million by the end of 2002. This growth encourages development
of information and content on the Internet. Furthermore, additional users on the
Internet increase the number of network connections. This increased connection
among parties creates a more robust communications environment that enables new
ways of interaction. Networked applications for information access and
entertainment, such as e-mail and e-commerce, have already become an integral
part of the daily lives of millions of consumers. The Internet has the potential
to become even more pervasive among consumers and businesses worldwide, as new
infrastructure technologies emerge to enable more universally available and
higher speed communications and richer, more interactive services.
NETWORK OPERATORS SEEK TO LEVERAGE THE GROWTH OF THE INTERNET
Network operators seek to capitalize on revenue opportunities offered by
rapidly growing Internet traffic across worldwide communications networks. To
date, a limiting factor in consumer Internet usage has been the low transmission
speeds associated with analog modems and standard phone lines. With the
increasing availability of high speed technologies such as cable modems, high
speed telecommunications networks and digital broadcast satellite, network
operators can now offer transmission speeds over 50 times faster than standard
analog modems. As the Internet challenges traditional channels of communications
and media, network operators are investing billions of dollars to construct high
speed network infrastructures. According to Paul Kagan Associates, the number of
U.S. households with access to high speed delivery will grow from 19 million in
1998 to 51 million in 2002. Network operators intend to attract consumers by
offering new voice, video and data services over these high speed networks. The
richer Internet content and range of additional services that can be
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offered by network operators are expected to significantly improve user
experiences and accelerate the adoption of the Internet among casual consumers.
THE NEED FOR INCREASED ACCESSIBILITY TO THE INTERNET
Since its inception, the Internet has been accessed primarily through
personal computers, which are relatively complex and expensive. While the
personal computer remains an important access device, Liberate believes users
are increasingly looking to access the Internet from multiple, alternative
devices. At the same time, network operators are seeking to provide greater
Internet access to increase the value of traditional phone, satellite and
cable-based services. In response to these needs, information appliances, a new
category of low-cost devices designed to combine everyday user activities with
Internet access, have been developed. These devices are characterized by their
ease of use and flexible form factors, such as size, weight, shape, portability
or mobility. Specific examples of information appliances include television
set-top boxes, game consoles, smart phones and personal digital assistants.
Liberate believes that in the short term, information appliances will be
extensions of common consumer electronics products such as television sets and
game consoles. Liberate expects that over the longer term, many new information
appliances will be introduced, some of which will be derivatives of existing
products while others may represent radically new designs. IDC estimates that
the worldwide market for information appliances will grow at a compound annual
growth rate of approximately 62% to become a $15 billion market by 2002.
EMERGENCE OF THE TELEVISION AS A PLATFORM FOR INTERNET-ENABLED SERVICES
Television provides one of the most attractive devices for network operators
to deliver new Internet-enabled services. The television set has become a
ubiquitous consumer product that people are comfortable using for entertainment
and information. According to IDC, at the end of 1998, over 99 million out of
101 million households in the United States had at least one television set and
many had multiple television sets. The display and sound capabilities of the
television also make it ideally suited for Internet-enhanced, rich media
services such as interactive program guides, e-commerce, communications,
including e-mail and online discussion groups, and multi-user gaming. Cable,
satellite and telecommunications operators are already aggressively expanding
their high-speed digital networks to provide many new services to their
subscribers through the television. IDC estimated that 15 million U.S.
households had digital television service in 1998, and IDC expects that number
to rise to over 37 million in 2002.
MARKET OPPORTUNITY FOR A COMPREHENSIVE SOFTWARE PLATFORM THAT ADHERES TO
INDUSTRY STANDARDS
Just as the development of the Internet required an infrastructure built
upon a commonly accepted set of technology standards that linked personal
computers to Web servers and other personal computers, the emerging convergence
of voice, data, the Internet and related enhanced services requires a similar
open infrastructure. A server software platform that adheres to industry
standards will enable network operators to expand their service offerings to a
greater number of people and will enable information appliance manufacturers to
deliver a wide range of devices to network operators and consumers. Both network
operators and information appliance manufacturers require a software platform
that manages the delivery of Internet content and services to a large number of
users employing many different devices. This software platform must consist of
server software that is deployed throughout the network infrastructure and
client software that can effectively operate over a wide range of low-cost
devices that may be optimized for size, weight and power consumption. The
software platform's ability to deliver new kinds of Internet-enabled services to
any type of information appliance increases the value of the subscriber to the
network operator.
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THE LIBERATE SOLUTION
Liberate provides a comprehensive software platform that enables the
delivery of Internet-enhanced content and applications to a broad range of
information appliances. Using the Liberate software platform, network operators
can deliver a new generation of interactive digital content and applications to
their subscribers. Manufacturers of information appliances use our software to
add Internet capability to their products. In addition, network operators and
information appliance manufacturers use the Liberate open platform cooperatively
to create a uniform environment for developers to enhance existing content and
create new Internet applications and services for delivery on multiple
information appliances. Subscribers will be able to access these
Internet-enhanced applications and services from anywhere at anytime.
Our open software platform includes server and client products. Our software
is designed to manage delivery of Internet content and applications to millions
of users and allows the network operators to support a broad range of appliances
using a single server software platform. Liberate's open server architecture can
seamlessly integrate into major databases and existing billing systems,
facilitating the deployment and maintenance of Internet services for a range of
information appliances. Our client software is based on the Netscape Navigator
source code and has been designed to run Internet applications on information
appliances. Our client software can be implemented in many access devices, even
ones that have limited memory and computing resources. In addition, it is highly
portable, which enables it to run on many devices with differing capabilities.
Also embedded in the client software is proprietary technology that enables
information appliance manufacturers to deliver a high quality picture on a wide
range of displays.
The graphic shows four icons of information appliances: an "Analog TV
Set-top Box" with "TV Navigator," a "Digital Cable TV Set-top Box" with "TV
Navigator," a "Game Console" with "eNavigator" and a "PDA" with "eNavigator."
These icons are connected to a picture of the Connect Server by four lines.
These lines are labeled "POTs," "Cable/Satellite," "xDSL" and "Wireless." The
other side of the Connect Server is attached to a circle with "Internet" inside.
The circle is connected by lines to three computer icons labeled: "Additional
Content (news, ATVEF)," "Network Operator and third-party applications (program
guide, VOD, e-commerce)" and "Liberate Applications (TV Mail, TV Chat)."
Key benefits of our platform for network operators include the following:
OPPORTUNITY FOR INCREASED REVENUE AND PROFITABILITY PER
SUBSCRIBER. Liberate's platform allows network operators to maintain direct
contact with their subscribers, giving network operators control over the value
of their brand, the look and feel of their user interface and identity of their
service. Network operators can generate additional revenues by offering enhanced
voice and video services over their existing infrastructure. The deployment and
maintenance of information appliances can generate incremental revenue from new
services such as Internet-enhanced television, e-commerce, multi-user gaming and
others yet to be developed. These differentiated services help reduce subscriber
turnover and create a competitive advantage over other operators.
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ACCELERATED TIME TO REVENUE. Using the Liberate platform, network operators
can quickly deploy Internet-enhanced services. Our products easily integrate
into the network operators' existing subscriber management systems allowing for
rapid installation. Liberate has developed several applications that network
operators can use to rapidly introduce new services. In addition, Liberate
provides comprehensive systems integration and implementation services and
customer support to complement the flexible architecture of our server software.
Key benefits of our platform for information appliance manufacturers include
the following:
POTENTIAL FOR LOWER COST DEVICES. Liberate's client software is designed to
work efficiently in many types of information appliances. Our source code has
been optimized to reduce the system resources required to run the client
software. As a result, information appliance manufacturers can lower the cost of
producing information appliances by using less powerful microprocessors, less
memory and other more cost-effective components.
MORE DESIGN FLEXIBILITY. Our client software is a highly flexible solution
for the information appliance manufacturer. It is portable and currently
supports five microprocessor architectures, seven operating systems and a wide
variety of display technologies. In addition, our software can operate with
multiple transport software protocols and run across multiple high and low speed
networks. By using our client software, manufacturers can create new information
appliances or turn existing devices into information appliances.
STRATEGY
Our objective is to be the leading provider of a comprehensive software
platform that enables the delivery of Internet content and applications to
information appliances. In order to achieve this goal, Liberate must:
EXTEND MARKET LEADERSHIP. We intend to continue targeting network operators
that have large subscriber bases and information appliance manufacturers that
are leaders in their markets. Our initial efforts have focused on achieving
early design wins with operators of multiple cable and satellite television
systems, ISPs, telecommunications companies and information appliance
manufacturers in the television marketplace. We believe that these early design
wins have helped to establish us as a market leader and will allow us to extend
the platform to other markets.
INVEST AGGRESSIVELY IN TECHNOLOGY. To date, we have spent more than $65.4
million on research and development to create our current software platform. Our
software products are designed to be highly scalable, are portable and support a
wide range of devices. We have built extensive expertise in technology for
devices with limited memory and computing resources, Internet content display
algorithms, scalable and server software components and multi-platform
development. We intend to continue investing heavily in research and development
to meet the network operators' and information appliance manufacturers' needs
for more devices, and additional features and functionality.
LEVERAGE AND EXPAND STRATEGIC ALLIANCES. We believe that forging
relationships with key vendors is critical to promoting open standards and
delivering a comprehensive solution to network operators and information
appliance manufacturers. We work closely with major technology companies such as
Netscape, Oracle and Sun Microsystems for the integration of core Internet
browser and server components. In addition, we work with companies such as Cisco
Systems, Inktomi and Lucent Technologies to ensure compatibility within the
network operator's current and future network infrastructure. We are also
working with companies such as General Instrument, Intel and Scientific Atlanta
on integrating our software with digital set-top boxes, Web boxes and digital
satellite architectures. We intend to seek additional relationships to expand
the scope of our customer reach and functionality.
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PROMOTE THE DEVELOPMENT OF INTERNET-ENHANCED SERVICES. We intend to
continue developing additional core applications and are actively encouraging
developers to build new content and applications using our software platform. In
connection with this activity, we provide our content and applications
development kit to developers free of charge. Companies currently using our
tools to develop content and applications include America Online, At Home and
Yahoo.
DEVELOP, MAINTAIN AND ADHERE TO INDUSTRY STANDARDS. We are a recognized
leader in developing and setting the next generation of standards for the
information appliance infrastructure. We adhere to industry standards throughout
our product line and we believe that support for standards strengthens our
market position. In addition to incorporating existing standards such as Java,
hypertext mark-up language, or HTML, and JavaScript, we have led industry
consortiums to develop standards for information appliance services such as
enhanced television, home networking and smartcards. Our active participation in
setting these and other standards allows us to play an important role in
defining and supporting standards for new market opportunities as they develop.
PRODUCTS AND TECHNOLOGY
Liberate's information appliance software platform includes a full range of
client and server products, tools and applications. Liberate offers network
operators a suite of server solutions tailored to the cable, satellite,
telecommunications and ISP markets. Liberate delivers three client products
targeted for the needs of information appliance manufacturers in the television
and embedded markets. Our tools and pre-configured applications allow network
operators and information appliance manufacturers to offer a fully customizable
client and server platform.
The Liberate client and server software platform incorporates proprietary
technology that we have developed to address the needs of network operators and
information appliance manufacturers. This technology includes:
- OPTIMIZED CLIENT TECHNOLOGY. Starting at 700Kb, Liberate offers one of the
smallest, most efficient HTML and JavaScript engines available, which
allows it to be used in a wide variety of information appliances.
- PORTABLE CLIENT ARCHITECTURE. We have developed our client software with
the flexibility to operate on a wide variety of information appliances.
Our client software currently supports processors from, among others, ARM,
Hitachi, IBM, Intel, MIPS and Sun Microsystems, and runs on multiple
operating systems from, among others, Integrated Systems, Microsoft,
Scientific Atlanta and Wind River Systems.
- INNOVATIVE DISPLAY TECHNOLOGY. Liberate has developed a proprietary
display software called IQView. IQView optimizes Internet content for
delivery on virtually any display device, without specialized graphics
hardware.
- EXPERTISE IN INTERNET TECHNOLOGY. Liberate has spent over two years
developing fundamental expertise in working with Internet browser and
server software. This enables Liberate to easily modify and enhance its
client software with critical third-party technologies such as Java and
Real Audio while maintaining compatibility with Internet standards.
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The following table provides a list of our principal products and a brief
description of the features and benefits to our customers of each.
<TABLE>
<S> <C> <C>
- ------------------------------
PRODUCT FEATURES BENEFITS
- -----------------------------------------------------------------------------------------------------------------
LIBERATE SERVER PRODUCTS
LIBERATE CONNECT Subscriber and application management Network operators can control subscriber
access to applications and services and
can access subscriber data for efficient
customer support
Internet standard security Network operators can offer subscribers
and external e-commerce providers highly
secure transactions
Open standards integration interfaces Network operators can seamlessly
integrate Liberate servers with existing
subscriber management systems
Device management tools Network operators can distribute software
updates automatically and efficiently to
all network devices and restore services
rapidly in case of client or network
failure
Highly scalable architecture Network operators can scale networks to
support millions of subscribers by simply
installing more servers on the system
LIBERATE MEDIACAST Content and application broadcasting Network operators can utilize existing
network infrastructure to broadcast
Internet content and interactive
applications
Multiple transport stream capability Network operators can more fully utilize
infrastructure assets by transmitting
data over different networks
LIBERATE TRANSCODER Reduced processing and memory load Network operators can deliver rich
Internet content and applications to a
broad range of information appliances
Internet content error checking Network operators can ensure accurate
rendering of HTML, image and audio
content
LIBERATE SYSTEM MANAGER Server and applications management Network operators can manage and monitor
all Liberate client and server systems
throughout their network from a
centralized workstation
Internet browser-based interface Network operators can manage their
complete network from any Internet
connected workstation
- -----------------------------------------------------------------------------------------------------------------
LIBERATE APPLICATIONS
LIBERATE TV INFO XML-based architecture receives, Network operators can combine and deliver
integrates and exports multiple TV and TV program data and Internet data to
Internet data sources to multiple various applications, including
clients and applications interactive program guides, channel bars
and pay-per-view applications
LIBERATE TV MAIL TV-based e-mail application Network operators can offer customized
e-mail services using existing
infrastructure
Picture and video e-mail Network operators are able to offer rich
multimedia content which enhances the
e-mail experience
LIBERATE TV CHAT Online discussion application Network operators can promote subscriber
integrated with TV programming communities by supplementing existing TV
programming with interactive online
discussion capabilities
</TABLE>
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<PAGE>
<TABLE>
<S> <C> <C>
- ------------------------------
PRODUCT FEATURES BENEFITS
- -----------------------------------------------------------------------------------------------------------------
LIBERATE CLIENT PRODUCTS
LIBERATE TV NAVIGATOR FOR DTV Small memory requirement, 700Kb Information appliance manufacturers can
reduce costs by reducing memory and
processing component costs. Software runs
on memory-constrained devices, including
digital set-top boxes
Integrated video and data path Network operators can use existing high
speed video delivery systems to deliver
Internet-based interactive television
content and applications, such as
TV-based browsers and e-mail
HTML and JavaScript support Network operators can deliver standard
Internet applications, content and
services to their customer base
Highly portable Information appliance manufacturers can
easily add the Liberate software platform
to a variety of existing and
next-generation information appliances
Customizable user interface Network operators and information
appliance manufacturers can brand and
control the user interface associated
with the service and of applications
offered
LIBERATE TV NAVIGATOR FOR ISP INCLUDES ALL OF THE FEATURES FOR TV
NAVIGATOR FOR DTV LISTED ABOVE PLUS
THESE FEATURES:
Transport independent Network operators can deliver services
through, among others, standard
telephone, cable television and other
telecommunications networks
Broad language localization Network operators can deliver services to
a number of international markets
including the Japanese and Chinese
markets
LIBERATE ENAVIGATOR Small memory requirements Information appliance manufacturers can
add a feature-rich Internet-based
communications platform to highly
memory-constrained information
appliances, such as smart phones and
personal digital assistants
Rich development environment Developers can rapidly integrate modular
components to develop Internet
applications for numerous devices
HTML and JavaScript support, rich Information appliance manufacturers can
graphics engines and extensive font enhance the interactivity of embedded
libraries systems by utilizing proprietary
hardware-independent graphics display
capabilities
- -----------------------------------------------------------------------------------------------------------------
LIBERATE TOOLS
LIBERATE CONTENT DEVELOPMENT Tools and tutorials for creating Developers can rapidly develop Internet
KIT applications content and applications targeted to a
television audience
TV NAVIGATOR FOR DTV SET-TOP Real time emulator running on Windows Developers can avoid investing in
EMULATOR 98 expensive prototypes during the design
and testing of applications
Suite of integrated debugging tools Developers can debug JavaScript and
HTML-based code in an easy-to-use
development environment
</TABLE>
SERVICES
Liberate provides a comprehensive set of consulting and engineering services
to its customers. The deployment by network operators of Internet-enhanced
services and the development by information appliance manufacturers of new
products require a high level of customer service and support. We believe that
our consulting and engineering services organizations are critical to the
successful sale and
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deployment of our products. We typically charge customers on a time and
materials basis for our services.
CONSULTING SERVICES. Liberate's consulting services organization consists
of nine full-time employees. This organization provides project management
support, which includes service implementation guidance, product customization
and product configuration support. To help ensure seamless product deployments,
this organization works closely, often on site, with network operators to
integrate, install and maintain our software.
ENGINEERING SERVICES. Liberate's engineering services organization consists
of 38 full-time engineers. This organization provides project management and
engineering assistance to information appliance manufacturers. In addition, this
organization provides assistance with custom application development. We
typically retain the rights to intellectual property developed by our
engineering services organization.
CUSTOMER SERVICE, SUPPORT AND TRAINING. Liberate's service and support
organization consists of 12 full-time employees that provide worldwide support
and services. Outside of the United States, we often work with Oracle to augment
our service capability. Liberate runs a worldwide technical training program for
customers and developers. Curriculum and training classes are available for most
Liberate products. See "Certain Transactions--Transactions with Oracle."
SALES AND MARKETING
Liberate sells products through its direct sales force and indirectly
through Oracle and Wind River Systems. We intend to increase the number of
indirect distribution partners. Our sales force, which consists of 26
individuals, is organized into teams consisting of sales representatives and
systems engineers. Currently, direct sales professionals are located in North
America, Europe and Asia/Pacific. Liberate uses its direct sales force to target
the customers that it believes provide the highest potential for service
deployment and revenues.
More specifically, Liberate sells its server products either directly to
network operators or to system integrators who then resell to the network
operators. Liberate sells its client products directly to information appliance
manufacturers or to embedded operating system vendors who resell the client
software to information appliance manufacturers. Information appliances
containing our software platform are then distributed by the manufacturer to the
end user either through a retail channel or through network operators.
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To complement the direct sales and distribution efforts, Liberate utilizes
an integrated marketing approach focused on identifying customer needs, defining
products and stimulating demand. Liberate participates in trade shows worldwide,
arranges speaking engagements for key personnel, sponsors conferences and runs a
developers program. An internal creative production group supports the marketing
effort by helping to define the next generation of interfaces for Liberate
products. Market research is used to test Liberate prototypes and products to
help ensure ease-of-use and a high degree of customer satisfaction.
The graphic shows a box with "Liberate" inside. The box has arrows pointing
left to a box with "Embedded OS Vendors" inside and another box with "Info.
Appliance Manufacturers" inside. This box has arrows pointing right to a box
with "Network Operators" inside and down to a box with "Channel" inside. This
box has an arrow pointing down to a box with "End User" inside. The box with
"Liberate" also has arrows pointing right to a box with "System Integrators"
inside and the box with "Network Operators" inside. This box has an arrow
pointing down to the box with "End User" in it.
CUSTOMERS
As of May 31, 1999, information appliance manufacturers have shipped over
314,000 units that incorporate Liberate software. Liberate software is localized
for a number of international markets and languages, including the recent
deployment of Japanese language TV Navigator. Over 50% of our
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current customers are located outside the United States. The following is a
partial list of our customers, grouped according to industry, that we believe is
representative of our overall customer base:
<TABLE>
<S> <C>
NETWORK OPERATORS INFORMATION APPLIANCE MANUFACTURERS
CABLE AND SATELLITE WEB BOXES
Cable & Wireless Acer
Pacific Convergence Boca Research
HOTEL INTERACTIVE SERVICES DIGITAL SET-TOP BOXES
Guestlink International General Instrument
LodgeNet Entertainment Hughes Network Systems
MagiNet Philips Electronics
INTERNET SERVICE PROVIDERS INTERNET TELEVISIONS
America Online NEC
Dream Train Internet
PERSONAL DIGITAL ASSISTANTS
TELECOMMUNICATIONS Fujitsu
Belgacom
NTL
NTT
U S WEST
</TABLE>
SELECTED CASE STUDIES
The following case studies illustrate how some of our customers have used
Liberate's products.
NETWORK OPERATORS
AMERICA ONLINE. With more than 14 million subscribers, America Online is
the world's leader in interactive services. America Online has licensed
Liberate's TV Navigator and the Liberate Connect ISP Suite in connection with
offering Internet-based information appliance services. AOL-TV is part of the
AOL Anywhere initiative, which extends interactive services to devices beyond
the personal computer. It will combine enhanced television services with America
Online's world-class ease-of-use and community, commerce and communication
features. America Online has made a major commitment of internal resources to
the design and launch of AOL-TV. Currently the AOL-TV service using our software
is under development.
CABLE & WIRELESS PLC. Cable & Wireless, the leading provider of integrated
telecommunications and television entertainment services in the United Kingdom,
has chosen Liberate's DTV Navigator platform technology for its digital and
interactive television services. Cable & Wireless intends to roll out
multichannel television in July 1999 and interactive services based on Internet
standards in October 1999. Cable & Wireless will distribute Liberate's TV
Navigator on set-top boxes manufactured by Pace Micro Technology.
GUESTLINK. Guestlink is an affiliate of Akai Electric, a leading Japanese
consumer electronics manufacturer. Akai is a subsidiary of Semi-Tech (Global)
Company. Guestlink brings in-room interactive entertainment, communications and
management services to the world's premier hotel properties. The Guestlink
system is currently in more than 200,000 rooms in 1,000 hotels in Europe and
Asia. Guestlink recently introduced its Guestlink Global system, which
incorporates Liberate technology. The new system leverages Liberate's technology
to offer fully integrated interactive services to both guests and management,
including simple and attractive Internet access and e-mail. Currently the
Guestlink service using our software is in trial deployment.
NTL. NTL is one of the United Kingdom's top three telecommunications
companies and supplies integrated cable and telephony service to more than one
million homes. NTL has integrated Liberate's technology into its advanced
fiber-optic network infrastructure to deliver an easy-to-use interactive
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service. Liberate's software platform serves as the foundation of this service,
enabling NTL's customers to view television and Internet content simultaneously
on their television screens. NTL uses Liberate Connect ISP Suite server software
to manage the analog set-top boxes, provide security and administer the network.
The NTL service was launched in January 1999 and is currently in commercial
deployment.
U S WEST. U S WEST provides a full range of telecommunications services
including wireline, wireless PCS and data networking services to more than 25
million customers. U S WEST is utilizing its advanced network and Liberate's
software to offer a service that will merge television, the Internet and
telephony features. The U S WEST television service, which is currently in test
phase, allows subscribers to watch television programs, surf the web and make
telephone calls, all through a television set-top box equipped with a
speakerphone. TV Navigator for ISP and Liberate Connect Server furnish a
complete platform, which further affords U S WEST the flexibility to brand its
television service and provide network access via both dial-up and xDSL
connections.
INFORMATION APPLIANCE MANUFACTURERS
ACER. Acer is one of the world's largest computer manufacturers and has
leveraged that experience into the information appliance marketplace with TV
Navigator software. Acer has already obtained several design wins with network
operators and has shipped more than 65,000 units of its CyberTV product, which
incorporates TV Navigator as the software platform. CyberTV customers include
Belgacom and NTL.
FUJITSU. Fujitsu is one of the world's largest suppliers of computers and
information systems solutions, telecommunications and semiconductor products,
software and services. Fujitsu is the first hardware manufacturer to offer the
Liberate eNavigator product embedded within a consumer electronic device.
Fujitsu is using the Liberate eNavigator product running on top of the Wind
River Systems operating system to incorporate Internet connectivity and
functionality into its INTERTop personal digital assistant. With Liberate
eNavigator technology, Fujitsu's INTERTop now features e-mail and Web browsing
and is currently available in retail outlets in Japan. Fujitsu has shipped over
25,000 of these units.
GENERAL INSTRUMENT. General Instrument is a leading worldwide provider of
integrated and interactive high speed access solutions and is teaming with its
business partners to lead the convergence of the Internet, telecommunications
and video entertainment industries. General Instrument and Liberate have entered
into a multiyear joint development effort to produce integrated software on
General Instrument's DCT line of digital cable set-top boxes including the
DCT-5000. This development effort was started in May 1999.
PHILIPS ELECTRONICS. Philips is the largest consumer electronics maker in
Europe, and the third largest in the world. The company markets under the names
Philips, Marantz and Magnavox. It is a major supplier of communications
infrastructure equipment and semiconductors for consumer electronics. Philips is
licensing both TV Navigator for ISP and TV Navigator for DTV for worldwide
usage. The first customer for the Philips television set-top box, which is
currently under development, will be America Online.
COMPETITION
Competition in the information appliance software market is intense. Our
principal competitors on the client software side include Microsoft, OpenTV and
Spyglass. On the server side, our primary competitor is Microsoft. We also
expect additional competition from other established and emerging companies. We
expect competition to persist and intensify as the information appliance market
develops and competitors focus on additional product and service offerings. We
believe that the principal competitive factors in our industry are the quality
and breadth of product and service offerings, the ease and speed with which a
product can be integrated into network operators' existing internal systems and
deployed to network operators' customers, whether the software platform operates
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efficiently with numerous information appliances, financial resources, price,
time-to-market and the effectiveness of sales and marketing efforts. We believe
that we presently compete favorably with our competitors in these areas.
However, the market for information appliances is evolving and we cannot be
certain that we will compete successfully in the future. See "Risk
Factors--Competition from Bigger, Better Capitalized Competitors Could Result in
Price Reductions, Reduced Gross Margins and Loss of Market Share."
INTELLECTUAL PROPERTY
Liberate seeks to protect its proprietary rights and its other intellectual
property through a combination of copyrights, trademarks, patents and trade
secret protection, as well as through contractual protections such as
proprietary information agreements and nondisclosure agreements. However, we
cannot guarantee that the steps we have taken to protect our proprietary rights
will be adequate to deter misappropriation of our proprietary information, and
we may not be able to detect unauthorized use and take appropriate steps to
enforce our intellectual property rights. See "Risk Factors--Our Limited Ability
to Protect Our Intellectual Property and Proprietary Rights May Harm Our
Competitiveness."
EMPLOYEES
As of May 31, 1999, we had 228 employees, including 103 in engineering, 46
in sales and marketing, 59 in services and 20 in administration. None of our
employees is represented by a collective bargaining agreement. We have never
experienced a work stoppage, and we consider our relations with our employees to
be good.
Our future operating results depend in significant part on the continued
service of our key technical, sales and senior management personnel, none of
whom, except Mitchell E. Kertzman, are party to an employment agreement. Our
future success also depends on our continuing ability to attract and retain
highly qualified technical, sales and senior management personnel. Competition
for these personnel is intense, and we may not be able to retain the key members
of our technical, sales and senior management staff or attract these personnel
in the future. We have experienced difficulty in recruiting qualified technical,
sales and senior management personnel, and we expect to experience these
difficulties in the future. If we are unable to hire and retain qualified
personnel in the future, our business could be seriously harmed.
FACILITIES
Liberate leases approximately 48,000 square feet of office space for our
headquarters in Redwood Shores, California, approximately 5,000 square feet of
office space in Salt Lake City, Utah, an office suite in a business center in
Bellevue, Washington and in Placerville, California. In addition, Liberate
leases approximately 1,100 square feet in London for its United Kingdom sales
office. Liberate also leases approximately 45,000 square feet in Sunnyvale,
California, which it subleases.
In April 1999, we entered into a 10-year lease for approximately 78,000
square feet of office space in San Carlos, California. We intend to relocate our
headquarters to this facility in the second quarter of fiscal 2000.
LITIGATION
In December 1998, one of our former employees filed an action in the
California Superior Court for the county of San Mateo against us for, among
other things, unpaid commissions of approximately $1,482,000, constructive
employment termination, intentional misrepresentation and negligent
misrepresentation. We believe that we have strong defenses against this lawsuit.
Accordingly, we intend to vigorously defend this action. However, we might not
prevail in this litigation, as litigation is inherently uncertain. A failure to
prevail in this litigation could result in our paying substantial monetary
damages, which would seriously harm our business.
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<PAGE>
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The executive officers and directors and other key employees of Liberate,
and their ages as of May 31, 1999, are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------------------------ --- ---------------------------------------------------------------
<S> <C> <C>
Mitchell E. Kertzman...................... 50 President, Chief Executive Officer and Director
Nancy J. Hilker........................... 41 Vice President and Chief Financial Officer
David A. Limp............................. 33 Senior Vice President of Corporate Development
Charles G. Tritschler..................... 34 Vice President of Marketing
Philip A. Vachon.......................... 42 Senior Vice President of Worldwide Sales
Steven Weinstein.......................... 44 Senior Vice President of Product Development
Gordon T. Yamate.......................... 44 Vice President, General Counsel and Secretary
David J. Roux (1)(2)...................... 42 Chairman of the Board of Directors
James L. Barksdale(3)..................... 56 Director
Charles Corfield(3)....................... 40 Director
Lawrence J. Ellison....................... 54 Director
Jeffrey O. Henley (1)(2).................. 54 Director
</TABLE>
- ------------------------
(1) Member of finance and audit committee.
(2) Member of compensation committee.
(3) Member of independent directors committee.
- --------------------------------------------------------------------------------
MITCHELL E. KERTZMAN has been President, Chief Executive Officer and a
director of Liberate since November 1998. Prior to joining Liberate, Mr.
Kertzman was a member of the board of directors of Sybase, a database company,
from February 1995 until he joined Liberate. He served as Chairman of Sybase's
board of directors since July 1997. Between February 1998 and August 1998, he
also served as Co-Chief Executive Officer of Sybase. From July 1996 until
February 1997 Mr. Kertzman served as Chief Executive Officer of Sybase and from
July 1996 until July 1997 he also served as President of Sybase. Between
February 1995 and July 1996, he served as an Executive Vice President of Sybase.
In February 1995, Sybase merged with Powersoft Corporation, a provider of
application development tools. Mr. Kertzman had served as Chief Executive
Officer and a director of Powersoft since he founded it in 1974. He also served
as President of Powersoft from April 1974 to June 1992. Mr. Kertzman also serves
as a director of CNET.
NANCY J. HILKER has been Vice President and Chief Financial Officer of
Liberate since its merger with Navio in August 1997. Prior to the merger, she
had served as Vice President and Secretary of Navio since July 1996. Prior to
joining Navio, Ms. Hilker served in various capacities at IntelliCorp, a
software company, from June 1991 to July 1996, most recently as Chief Financial
Officer and Secretary. From October 1979 to June 1991, Ms. Hilker held various
positions at Deloitte & Touche, an accounting firm, as a manufacturing and high
technology specialist in the emerging business services group. Ms. Hilker is a
Certified Public Accountant.
DAVID A. LIMP has been Senior Vice President of Corporate Development since
January 1999. Mr. Limp was our Vice President of Marketing from August 1997 to
January 1999. From December 1996 to August 1997, Mr. Limp was Vice President of
Marketing of Navio. Prior to joining Navio, Mr. Limp served in various
capacities at Apple Computer from July 1987 to November 1996, most recently as
director of its North and South American PowerBook division.
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<PAGE>
CHARLES G. TRITSCHLER has been Vice President of Marketing since January
1999. Mr. Tritschler was our Director of Product Marketing from August 1997 to
January 1999. From April 1997 to August 1997, Mr. Tritschler was Director of
Product Marketing of Navio. Prior to joining Navio, Mr. Tritschler served in
various capacities at Apple Computer from July 1988 to April 1997, most recently
as Product Line Manager.
PHILIP A. VACHON has been Senior Vice President of Worldwide Sales since
January 1999. Before that he served as our Senior Vice President of Americas
Sales from June 1997 to January 1999. Prior to joining Liberate, Mr. Vachon
served in various capacities at Oracle, from March 1987 to June 1997, most
recently as Vice President of Alliances. Prior to joining Oracle, Mr. Vachon
worked at Applied Data Research, a database software company, from February 1984
to December 1986 in various sales and technical positions.
STEVEN WEINSTEIN has been Senior Vice President of Product Development since
March 1999. From August 1997 to March 1999, Mr. Weinstein was our Vice President
of Product Development. From September 1996 to August 1997, Mr. Weinstein was
Vice President of Product Development of Navio. Prior to joining Navio, Mr.
Weinstein was the General Manager and Vice President of Production at Spectrum
HoloByte/MicroProse, a computer game manufacturer, from July 1992 to September
1996. Prior to that, Mr. Weinstein served as Vice President of Software
Engineering at Electronics for Imaging, a hardware and software company, from
August 1991 to August 1992.
GORDON T. YAMATE has been Vice President and General Counsel since March
1999. Prior to joining Liberate, Mr. Yamate was associated with the law firm of
McCutchen, Doyle, Brown & Enersen, LLP since September 1983, and had been a
partner since June 1988.
DAVID J. ROUX has been a director of Liberate since May 1996 and Chairman of
the Board of Directors since October 1998. He previously served as our Chairman
from October 1996 to September 1997. From February 1998 to November 1998, he
served as the Chief Executive Officer and President of Liberate. Mr. Roux is
currently a general partner of Silver Lake Partners, a private equity firm. Mr.
Roux held various management positions with Oracle from September 1994 until
December 1998, most recently as Executive Vice President of Corporate
Development. Before joining Oracle, Mr. Roux served as Senior Vice President,
Marketing and Business Development at Central Point Software from April 1992 to
July 1994. From October 1987 to April 1992, Mr. Roux served in various
capacities at Lotus, a software company, most recently as Senior Vice President
of the Portable Computing Group. Before joining Lotus, Mr. Roux co-founded and
served as the Chief Executive Officer of Datext, a CD ROM publishing company,
from June 1984 to October 1987.
JAMES L. BARKSDALE has been a director of Liberate since August 1997, when
Liberate acquired Navio. Mr. Barksdale served as a director of Navio from July
1996 until the merger with Liberate. Mr. Barksdale is currently a partner at The
Barksdale Group. Mr. Barksdale served at Netscape from January 1995 to March
1999 as President and Chief Executive Officer. From January 1992 to January
1995, Mr. Barksdale served as President and Chief Operating Officer, and, as of
September 1994, Chief Executive Officer, of AT&T Wireless Services, formerly,
McCaw Cellular Communications, a cellular telecommunications company. From April
1983 to January 1992, Mr. Barksdale served as Executive Vice President and Chief
Operating Officer of Federal Express. Mr. Barksdale also serves as a director of
3Com, America Online, Robert Mondavi and Sun Microsystems.
CHARLES CORFIELD has been a director of Liberate since December 1998. Mr.
Corfield has been a partner at both Whitman Capital and Mercury Capital, each a
venture capital firm, since 1996. Mr. Corfield co-founded Frame Technology, a
software company, in 1986 and served as a member of its board of directors and
as its Chief Technology Officer until it was acquired by Adobe Systems in 1995.
LAWRENCE J. ELLISON has been a director of Liberate since August 1997. Mr.
Ellison previously served as Liberate's Chairman from September 1997 to October
1998. Mr. Ellison has been Chief
50
<PAGE>
Executive Officer and a director of Oracle since he co-founded it in May 1977,
and was President of Oracle until June 1996. Mr. Ellison has been Chairman of
the Board of Oracle since June 1995 and was previously Chairman of the Board of
Oracle from April 1990 until September 1992. Mr. Ellison also serves as a
director of Apple Computer, SuperGen and Spring Group.
JEFFREY O. HENLEY has been a director of Liberate since May 1996. Mr. Henley
has been Executive Vice President and Chief Financial Officer of Oracle since
March 1991 and has been a director of Oracle since June 1995. Prior to joining
Oracle, he served as Executive Vice President and Chief Financial Officer of
Pacific Holding Company, a privately-held company with diversified interests in
manufacturing and real estate, from August 1986 to February 1991.
BOARD OF DIRECTORS
Liberate currently has authorized seven directors. The officers serve at the
discretion of the Board. There are no family relationships among the directors
and officers of Liberate.
BOARD COMMITTEES
The finance and audit committee consists of Messrs. Henley and Roux. The
finance and audit committee makes recommendations to the board of directors
regarding the selection of independent accountants, reviews the results and
scope of audit and other services provided by our independent accountants and
reviews and evaluates our audit and control functions. The compensation
committee consists of Messrs. Henley and Roux. The compensation committee
administers our stock plans and makes decisions concerning salaries and
incentive compensation for our employees. The independent directors committee
consists of Messrs. Barksdale and Corfield. The independent committee considers
and reviews all agreements between us and Oracle.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
No member of the compensation committee is currently an officer or employee
of Liberate. Mr. Henley has not, at any time since the formation of Liberate,
been an officer or employee of Liberate. Although Mr. Roux was formerly an
officer of Liberate, he has not served as an officer or employee of Liberate at
any time while serving on our compensation committee. Except for Mr. Henley, no
member of our compensation committee serves as a member of the board of
directors or compensation committee of any entity that has one or more executive
officers serving as a member of our board of directors or compensation
committee.
DIRECTOR COMPENSATION
We do not currently provide our directors with cash compensation for their
services as members of the board of directors, although members are reimbursed
for some expenses in connection with attendance at board and committee meetings.
On December 11, 1998, we granted Messrs. Barksdale and Corfield each an option
to purchase 41,666 shares of our common stock at an exercise price of $5.10 per
share. At each annual stockholders' meeting, non-employee directors will receive
automatic option grants under our 1999 equity incentive plan. See "Employee
Stock Plans--1999 Equity Incentive Plan."
INDEMNIFICATION
In May 1999, the board of directors authorized Liberate to enter into
indemnification agreements with each of our directors and executive officers.
The form of indemnity agreement provides that we will indemnify against any and
all expenses of the director or executive officer who incurred such expenses
because of his or her status as a director or executive officer, to the fullest
extent permitted by Delaware law, our certificate of incorporation and our
bylaws.
51
<PAGE>
Our certificate of incorporation and bylaws contain certain provisions
relating to the limitation of liability and indemnification of directors and
officers. The certificate of incorporation provides that our directors shall not
be personally liable to Liberate or its stockholders for monetary damages for
any breach of fiduciary duty as a director, except for liability:
- For any breach of the director's duty of loyalty to us or our
stockholders;
- For acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law;
- In respect of certain unlawful payments of dividends or unlawful stock
repurchases or redemptions as provided in Section 174 of the Delaware
General Corporation Law; or
- For any transaction from which the director derives any improper personal
benefit.
Our certificate of incorporation also provides that if Delaware law is
amended after the approval by our stockholders of the certificate of
incorporation to authorize corporate action further eliminating or limiting the
personal liability of directors, then the liability of our directors shall be
eliminated or limited to the fullest extent permitted by Delaware law. The
foregoing provisions of the certificate of incorporation are not intended to
limit the liability of directors or officers for any violation of applicable
federal securities laws. In addition, as permitted by Section 145 of the
Delaware General Corporation Law, our bylaws provide that:
- We are required to indemnify our directors and executive officers to the
fullest extent permitted by Delaware law;
- We may, in our discretion, indemnify other officers, employees and agents
as provided by Delaware law;
- To the fullest extent permitted by Delaware law, but subject to various
exceptions, we are required to advance all expenses incurred by our
directors and executive officers in connection with a legal proceeding;
- The rights conferred in the bylaws are not exclusive;
- We are authorized to enter into indemnification agreements with our
directors, officers, employees and agents; and
- We may not retroactively amend the bylaw provisions relating to indemnity.
Our bylaws provide that we shall indemnify our directors to the fullest
extent permitted by Delaware law, including in circumstances in which
indemnification is otherwise discretionary under Delaware law.
52
<PAGE>
EXECUTIVE COMPENSATION
The following table sets forth information regarding compensation for the
fiscal year ended May 31, 1999 that we paid for services rendered by our current
Chief Executive Officer, our four other executive officers who earned more than
$100,000 during the fiscal year ended May 31, 1999 and a former executive
officer.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM COMPENSATION
-----------------------
AWARDS
ANNUAL COMPENSATION -----------------------
---------------------------- SECURITIES ALL OTHER
SALARY ($) BONUS ($) UNDERLYING OPTIONS (#) COMPENSATION ($)
------------- --------- ----------------------- ----------------
<S> <C> <C> <C> <C>
Mitchell E. Kertzman(1)................. $ 162,611 -- 1,666,666 --
President and Chief Executive Officer
Nancy J. Hilker......................... 187,600 $30,000 58,332 --
Vice President and Chief Financial
Officer
David A. Limp........................... 189,683 30,000 83,333 --
Senior Vice President of Corporate
Development
Philip A. Vachon........................ 512,282(2) -- 99,999 --
Senior Vice President of Worldwide Sales
Steven Weinstein........................ 190,517 10,000 25,000 --
Senior Vice President of Product
Development
David J. Roux(3)........................ 210,417 58,437 833,333 $ 2,600(4)
Former Chief Executive Officer
</TABLE>
- ------------------------
(1) Mr. Kertzman became our President and Chief Executive Officer on November
16, 1998. His current annual salary is $300,000.
(2) Includes $313,537 in commissions.
(3) Mr. Roux was our Chief Executive Officer from February 1998 to November
1998, and all compensation in this table represents payments made by Oracle
to Mr. Roux for this period for his services as an officer of Oracle and
Liberate.
(4) Represents matching contributions to Mr. Roux's 401(k) plan account.
53
<PAGE>
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth each grant of stock options during the fiscal
year ended May 31, 1999, to each of the executive officers named in the Summary
Compensation Table. No stock appreciation rights were granted during this
period.
The exercise price of each option was equal to the fair market value of our
common stock as valued by the board of directors on the date of grant. The
exercise price may be paid in cash, in shares of our common stock valued at fair
market value on the exercise date or through a cashless exercise procedure
involving a same-day sale of the purchased shares. We may also finance the
option exercise by loaning the optionee sufficient funds to pay the exercise
price for the purchased shares, together with any federal and state income tax
liability incurred by the optionee in connection with such exercise. The fair
market value of our common stock was estimated by the board of directors on the
basis of the purchase price paid by investors for shares of our preferred stock,
the liquidation preferences and other rights, privileges and preferences
associated with the preferred stock and an evaluation by the board of our
revenues, operating history and prospects.
The potential realizable value is calculated based on the ten-year term of
the option at the time of grant. Stock price appreciation of 5% and 10% is
assumed in accordance with rules promulgated by the SEC and does not represent
our prediction of our stock price performance. The potential realizable values
at 5% and 10% appreciation are calculated by assuming that the estimated fair
market value on the date of grant appreciates at the indicated rate for the
entire term of the option and that the option is exercised at the exercise price
and sold on the last day of its term at the appreciated price. The initial
public offering price may be higher than the estimated fair market value on the
date of grant, and the potential realizable value of the option grants could be
significantly higher than the numbers shown in the table if future stock prices
were projected to the end of the option term by applying the same annual rates
of stock price appreciation to the initial public offering price.
The shares listed in the following table under "Number of Securities
Underlying Options Granted" are subject to vesting. Upon completion of 12 months
of service from the vesting start date, 25% of the option shares vest and the
balance vest in a series of equal monthly installments over the next three years
of service. Each of the options has a ten-year term, subject to earlier
termination if the optionee's service with us ceases.
Percentages shown under "Percent of Total Options Granted to Employees in
the Last Fiscal Year" are based on an aggregate of 4,651,728 options granted to
employees of Liberate under its 1996 Stock Option Plan and outside of this plan
during the fiscal year ended May 31, 1999.
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
--------------------------------------------------------------- POTENTIAL REALIZABLE VALUE
NUMBER OF AT ASSUMED ANNUAL RATES OF
SECURITIES PERCENT OF TOTAL STOCK PRICE APPRECIATION
UNDERLYING OPTIONS GRANTED TO EXERCISE FOR OPTION TERM
OPTIONS EMPLOYEES IN THE LAST PRICE EXPIRATION ---------------------------
NAME GRANTED FISCAL YEAR ($/SHARE) DATE 5% 10%
- ------------------------- -------------- --------------------- ----------- ----------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Mitchell E. Kertzman..... 1,666,666 35.8% $ 5.10 11/16/08 $ 5,345,062 $ 13,546,805
Nancy J. Hilker.......... 16,666 0.4 4.50 07/09/08 47,165 119,526
41,666 0.9 7.50 04/02/09 196,526 498,037
David A. Limp............ 83,333 1.8 7.50 04/02/09 393,058 996,085
Philip A. Vachon......... 58,333 1.3 5.10 01/04/09 187,075 474,136
41,666 0.9 7.50 04/02/09 196,526 498,037
Steven Weinstein......... 25,000 0.5 7.50 04/02/09 117,918 298,827
David J. Roux............ 833,333 17.9 5.10 10/15/08 2,672,801 6,773,403
</TABLE>
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<PAGE>
AGGREGATE OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR END OPTION VALUES
The following table sets forth options exercised by each of the executive
officers named in the Summary Compensation Table during the fiscal year ended
May 31, 1999, and the number and value of securities underlying unexercised
options that are held by these executive officers as of May 31, 1999.
Amounts shown under the column "Value Realized" are equal to the fair market
value of the purchased shares on the option exercise date, less the exercise
price paid for such shares.
Amounts shown under the column "Value of Unexercised In-the-Money Options at
Fiscal Year End" are based on the fair market value of our common stock at May
31, 1999 as determined by our board of directors, $9.00 per share, less the
exercise price payable for such shares. The fair market value of our common
stock at May 31, 1999 was estimated by the board of directors on the basis of
the purchase price paid by investors for shares of our preferred stock, taking
into account the liquidation preferences and other rights, privileges and
preferences associated with the preferred stock, and an evaluation by the board
of our revenues, operating history and prospects. The initial public offering
price may be higher than the estimated fair market value on May 31, 1999, and
the value of unexercised options may be higher than the numbers shown in the
table if the value were calculated by subtracting the exercise price from the
initial public offering price.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS AT
SHARES OPTIONS AT FISCAL YEAR END FISCAL YEAR END
ACQUIRED ON VALUE -------------------------- --------------------------
NAME EXERCISE REALIZED EXERCISEABLE UNEXERCISEABLE EXERCISEABLE UNEXERCISEABLE
- ----------------------------- ----------- ---------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Mitchell E. Kertzman......... -- -- -- 1,666,666 -- $ 6,499,997
Nancy J. Hilker.............. 2,200 $ 13,948 33,897 110,022 $ 250,057 500,685
David A. Limp................ 41,666 264,162 15,625 144,724 79,688 533,730
Philip A. Vachon............. 9,375 50,063 14,928 134,028 93,047 502,817
Steven Weinstein............. 9,968 63,086 47,357 101,245 301,063 590,279
David J. Roux................ 225,694 135,446 -- 607,639 -- 2,369,792
</TABLE>
EMPLOYMENT AGREEMENTS AND CHANGE OF CONTROL ARRANGEMENTS
We entered into an employment agreement, dated October 12, 1998, with
Mitchell E. Kertzman, our President and Chief Executive Officer. Mr. Kertzman's
annual salary is $300,000 and he is eligible for an annual bonus of up to
$200,000. His bonus for the first year of employment is guaranteed to be
$200,000. We granted him an option to purchase 1,666,666 shares of our common
stock. Upon his completion of 12 months of service, 25% of the option shares
will vest and the balance of the option shares will vest in a series of equal
monthly installments upon his completion of each of the following 36 months. If
we experience a change in control, 50% of any unvested option shares will become
vested upon the effective date of the change in control.
EMPLOYEE STOCK PLANS
1999 EQUITY INCENTIVE PLAN
SHARE RESERVE. Our board of directors adopted our 1999 equity incentive
plan on May 17, 1999. Our stockholders will also approve this plan. We have
reserved that number of shares of our common stock equal to the number of shares
then available for grant of stock options under our 1996 stock option plan at
the time of this offering of its capital stock, for issuance under the 1999
equity incentive plan. On June 1 of each year, starting in 2000, the number of
shares in the reserve will automatically increase by 5% of the total number of
shares of common stock that are outstanding at that time or, if less, by
3,000,000 shares. In general, if options or shares awarded under the 1999 equity
incentive plan are forfeited, then those options or shares will again become
available for awards. We have not yet granted any options under the 1999 equity
incentive plan.
55
<PAGE>
ADMINISTRATION. A committee appointed by our board of directors will
administer the 1999 equity incentive plan. The committee has complete discretion
to make all decisions relating to the interpretation and operation of our 1999
equity incentive plan. The committee has discretion to determine who will
receive an award, what type of award it will be, how many shares will be covered
by the award, what the vesting requirements will be, if any, and what the other
features and conditions of each award will be. The committee may also reprice
outstanding options and modify outstanding awards in other ways.
ELIGIBILITY. The following groups of individuals are eligible to
participate in the 1999 equity incentive plan:
- Employees;
- Members of our board of directors who are not employees; and
- Consultants.
TYPES OF AWARDS. The 1999 equity incentive plan provides for the following
types of awards:
- Options to purchase shares of our common stock;
- Stock appreciation rights;
- Restricted shares of our common stock; and
- Stock units, sometimes called phantom shares.
OPTIONS AND STOCK APPRECIATION RIGHTS. Options may be incentive stock
options or nonstatutory stock options. An optionee who exercises an incentive
stock option may qualify for favorable tax treatment under Section 422 of the
Internal Revenue Code of 1986. On the other hand, nonstatutory stock options do
not qualify for such favorable tax treatment. The exercise price for all
incentive stock options and nonstatutory stock options granted under the 1999
equity incentive plan may not be less than 100% and 85%, respectively, of the
fair market value of our common stock on the option grant date. At the
discretion of the committee, optionees may pay the exercise price by using:
- Cash;
- Shares of common stock that the optionee already owns;
- A full-recourse promissory note, except that the par value of newly issued
shares must be paid in cash;
- An immediate sale of the option shares through a broker designated by us;
or
- A loan from a broker designated by us, secured by the option shares.
Options and stock appreciation rights vest at the time or times determined
by the compensation committee. In most cases, our options vest over the
four-year period following the date of grant. Options and stock appreciation
rights generally expire 10 years after they are granted, except that they
generally expire earlier if the optionee's service terminates earlier. The 1999
equity incentive plan provides that no participant may receive options or stock
appreciation rights covering more than 750,000 shares in the same year, except
that a newly hired employee may receive options or stock appreciation rights
covering up to 1,500,000 shares in the first year of employment.
RESTRICTED SHARES. Restricted shares may be awarded under the 1999 equity
incentive plan in return for:
- Cash;
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<PAGE>
- A full-recourse promissory note, except that the par value of newly issued
shares must be paid in cash;
- Services already provided to us; and
- In the case of treasury shares only, services to be provided to us in the
future.
Restricted shares and stock units vest at the time or times determined by
the compensation committee.
AUTOMATIC OPTION GRANTS. The non-employee members of our board of directors
will be eligible for option grants under the automatic option grant program. At
the time of each of our annual stockholders' meetings, beginning in 2000, each
non-employee director who will continue to serve as a board member following the
meeting will automatically be granted a fully-vested option for 5,000 shares of
our common stock. The exercise price of each option will be equal to the fair
market value of our common stock on the option grant date. A director may pay
the exercise price by using cash, shares of common stock that the director
already owns, an immediate sale of the option shares through a broker designated
by us or a loan from a broker designated by us, secured by the option shares.
The options have a 10-year term, except that they expire 12 months after a
director leaves the board of directors, if earlier.
CHANGE IN CONTROL. If a change in control of Liberate occurs, the board of
directors or the compensation committee has discretion to accelerate vesting of
options and other awards. A change in control includes:
- A merger of Liberate after which our own stockholders own 50% or less of
the surviving corporation, or its parent company, and a stockholder who
did not own any shares of Liberate immediately before the change in
control owns 50% or more of Liberate after the change in control;
- A sale of all or substantially all of our assets;
- A proxy contest that results in the replacement of more than one-half of
our directors over a 24-month period; or
- An acquisition of 50% or more of our outstanding stock by any person or
group, other than a person related to Liberate, such as a holding company
owned by our stockholders.
However, Oracle's disposition of its securities, such that it holds less than
50% of Liberate, and/or its later increase in ownership to at least 50% of
Liberate, will not in itself be deemed a change in control.
AMENDMENTS OR TERMINATION. Our board of directors may amend or terminate
the 1999 equity incentive plan at any time. If our board of directors amends the
plan, stockholder approval will only be sought if required by an applicable law.
The 1999 equity incentive plan will continue in effect indefinitely unless the
board of directors decides to terminate the plan.
1999 EMPLOYEE STOCK PURCHASE PLAN
SHARE RESERVE AND ADMINISTRATION. Our board of directors adopted our 1999
employee stock purchase plan on May 17, 1999. Our stockholders will also approve
this plan. Our 1999 employee stock purchase plan is intended to qualify under
Section 423 of the Internal Revenue Code. We have reserved 833,333 shares of our
common stock for issuance under the plan. On June 1 of each year, starting in
2000, the number of shares in the reserve will automatically increase by 2% of
the total number of shares of common stock then outstanding or, if less, 833,333
shares. The compensation committee of our board of directors will administer the
plan.
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<PAGE>
ELIGIBILITY. All of our employees are eligible to participate, if they are
employed by us for more than 20 hours per week and for more than five months per
year. Eligible employees may begin participating in the 1999 employee stock
purchase plan at the start of any offering period. Each offering period lasts
six months. Overlapping offering periods start on April 1 and October 1 of each
year. However, the first offering period will start on the effective date of
this offering and end on March 31, 2000.
AMOUNT OF CONTRIBUTIONS. Our 1999 employee stock purchase plan permits each
eligible employee to purchase common stock through payroll deductions. Each
employee's payroll deductions may not exceed 15% of the employee's cash
compensation. Purchases of our common stock will occur on March 31 and September
30 of each year. Each participant may purchase up to 750 shares on any purchase
date (1,500 shares per year). But the value of the shares purchased in any
calendar year, measured as of the beginning of the offering period, may not
exceed $25,000.
PURCHASE PRICE. The price of each share of common stock purchased under our
1999 employee stock purchase plan will be 85% of the lower of:
- The fair market value per share of common stock on the date immediately
before the first day of the applicable offering period; or
- The fair market value per share of common stock on the purchase date.
In the case of the first offering period, the price per share under the plan
will be 85% of the lower of:
- The price per share to the public in this offering; or
- The fair market value per share of common stock on the purchase date.
OTHER PROVISIONS. Employees may end their participation in the 1999
employee stock purchase plan at any time. Participation ends automatically upon
termination of employment with Liberate. If a change in control of Liberate
occurs, our 1999 employee stock purchase plan will end and shares will be
purchased with the payroll deductions accumulated to date by participating
employees, unless the plan is assumed by the surviving corporation or its
parent. Our board of directors may amend or terminate the 1999 employee stock
purchase plan at any time. If our board of directors increases the number of
shares of common stock reserved for issuance under the plan, except for the
automatic increases described above, it must seek the approval of our
stockholders.
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CERTAIN TRANSACTIONS
TRANSACTIONS WITH ORACLE
From our inception until our acquisition of Navio Communications in August
1997, we were a wholly-owned subsidiary of Oracle. Following the Navio
acquisition, Oracle remained our majority stockholder. After the offering and
the private placement, Oracle will beneficially own approximately 48% of our
outstanding stock. In addition, two of our directors, Messrs. Ellison and
Henley, are executive officers and directors of Oracle. We have entered into
numerous transactions and arrangements with Oracle, including the following:
FINANCINGS, LOANS AND INTER-COMPANY ARRANGEMENTS
In May 1996, we sold 16 shares of our common stock to Oracle and in October
1996, we sold 14,166,650 shares of our Series A preferred stock to Oracle. In
exchange, we received an inter-company transfer of approximately $10.0 million
and all of the tangible assets and some of the intangible assets of Oracle's
network computer division, including the right to hire the employees of the
division, intellectual property rights associated with the division and
contractual relationships with suppliers, customers and contractors of the
division. The aggregate value of the transfer, including cash, was estimated by
our board of directors to be approximately $85 million.
In May 1996, Oracle forgave an inter-company payable balance of
approximately $5 million.
In November 1996, Oracle transferred the assets, liabilities and personnel
of a corporate division to us. At the time of this assignment, the assets and
liabilities had a net book value of approximately $79,000. In July 1997, we
transferred the assets, liabilities and personnel of this corporate division
back to Oracle. At the time of this transfer, the assets and liabilities had a
net book value of approximately $90,000.
In July 1997, we entered into a convertible note purchase agreement with
Oracle. Under this agreement, Oracle agreed to provide up to $10.0 million to us
for general working capital purposes, as needed, in the form of convertible
notes, and up to $19.2 million to fund our obligations under the put/ call and
voting agreement, as discussed below. The convertible notes bear annual interest
at 8% and are convertible, at Oracle's option, into shares of our stock. As of
May 31, 1999, we had borrowed approximately $10.0 million under this arrangement
and Oracle had converted $5.0 million of the indebtedness into 757,575 shares of
our Series A-1 preferred stock. In May 1999, we repaid the outstanding portion
of the indebtedness, totalling approximately $5.0 million. We do not currently
intend to borrow additional funds under this arrangement.
From our inception until August 1997, Oracle funded our operations through
an inter-company payable account. In connection with our acquisition of Navio in
August 1997, Oracle converted approximately $18 million of outstanding
inter-company payables into 2,727,272 shares of our Series A-1 preferred stock.
From inception until June 1, 1998, from time to time in the ordinary course of
business, we and Oracle entered into inter-company transactions. As of May 31,
1999, we had approximately $482,000 of net inter-company receivables
outstanding. The amount is comprised of inter-company accounts payable of
approximately $1.1 million and the combined 1998 and 1999 tax credit receivable
of approximately $1.6 million. Additionally, in fiscal 1998, Oracle contributed
capital of approximately $8.1 million to us.
In August 1997, we entered into a tax allocation and indemnity agreement
with Oracle. This agreement provides for our consolidation into Oracle's tax
group for income tax payment purposes. Under the agreement, our tax liability is
computed as if we had filed a separate return for amounts due in certain state
and local jurisdictions. As a member of Oracle's tax group, we are allocated our
share of the aggregate tax liability of the group. The agreement provides that
Oracle will indemnify us for penalties or other damages attributed to the
failure of Oracle to make timely filings or to make timely
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or full payments, provided that we pay our allocated share and provide necessary
information on a timely basis. Under the agreement, Oracle owes us approximately
$788,000 for use of tax losses related to fiscal 1998 and approximately $781,000
for use of tax losses related to fiscal 1999.
In August 1997, in connection with our acquisition of Navio, we entered into
a put/call and voting agreement with Oracle and former Navio stockholders,
including Netscape. Among other things, this agreement granted the former Navio
stockholders the right, for a period of 60 days following the closing of the
acquisition, to compel Oracle to purchase up to 50% of the shares received by
them in the acquisition or 50% of the shares issuable under stock options
assumed by us in the acquisition. As a result of the exercise of these put
rights, Oracle purchased a total of 1,835,569 shares of our Series C preferred
stock. Oracle subsequently converted these shares into shares of our Series C-1
preferred stock.
In May 1999, Wei Yen, our former president, sold 757,575 shares of our
Series C preferred stock to Oracle for $6.60 per share, or an aggregate of
approximately $5.0 million. Immediately after purchasing these shares from Dr.
Yen, Oracle sold the shares to General Instrument for $6.60 per share, or an
aggregate of approximately $5.0 million, under a purchase agreement among us,
Oracle and General Instrument.
SERVICE ARRANGEMENTS
From our inception until September 1997, Oracle performed various tax,
treasury, risk management, employee benefits, legal, accounting and other
general corporate services for us. The costs of these services were allocated to
us, and had a value of approximately $1.3 million. We ceased obtaining these
services from Oracle in September 1997.
In December 1997, Oracle provided services to us in connection with
development of our products. We paid Oracle approximately $62,000 for services
provided under this arrangement.
From December 1997 through May 1999, we have incurred expenses payable to
Oracle of approximately $246,000 for services provided to us by a salesperson in
Taiwan.
From November 1997 to March 1998, we paid Oracle approximately $127,000 for
services provided to us by two members of the Oracle North American sales force.
In March 1998, we entered into a services agreement with Oracle. Under this
agreement, Oracle provides professional services to some of our customers. To
date, we have made payments to Oracle amounting to approximately $96,000 under
this agreement.
In connection with the services agreement discussed in the previous
paragraph, we entered into a time and materials agreement with Oracle. The
agreement provides for Oracle to assist us with management and testing in
connection with the deployment of our products to Cable & Wireless, one of our
customers. The agreement provides for us to pay for services on a time and
materials basis. We have incurred expenses totalling approximately $306,000 for
services provided under the agreement.
In August 1998, we entered into a technical support services agreement with
Oracle. We amended this agreement in January 1999. Under this agreement, we and
Oracle provide each other worldwide technical support services. We have made no
payments to Oracle under the agreement, and have received $42,000 from Oracle
for services rendered pursuant to the agreement.
Since inception, we have paid Oracle approximately $157,000 for services
performed by Oracle to localize our products for the Japanese market.
In a joint representation and defense agreement, we agreed with Oracle to
jointly defend ourselves in a trademark infringement and unfair competition
lawsuit brought by Network Computers against
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Oracle and us. In April 1998, our motion for summary judgment was granted and
the case was dismissed. We paid Oracle approximately $105,000 for legal services
in connection with our defense.
TECHNOLOGY AGREEMENTS
In September 1998, we entered into a technology license agreement with
Oracle. Pursuant to the agreement, Oracle may promote, market and distribute
sublicenses of our products through its worldwide distribution channels for a
period of three years. We have been paid license fees totalling approximately
$325,000 under the agreement.
In fiscal 1999, we paid $243,000 for commissions due to Oracle Japan in
conjunction with a sale of our software to Fujitsu. In addition, we paid
$107,000 for commissions due to Oracle Belgium relating to a trial deployment
agreement with Belgacom, one of our network operator customers.
We have an agreement with Oracle pursuant to which we distribute our
products under an OEM license agreement between Oracle and Netscape discussed
below in "Transactions with Netscape and America Online."
LEASES
We lease office space in Redwood Shores, California from Oracle under a
lease that provides for monthly payments of approximately $124,000. The lease
terminates in September 2002. We also lease furniture and equipment for our
Redwood Shores office from Oracle under a lease entered into in September 1997,
as amended, that obligates us to make monthly payments to Oracle of
approximately $57,000. The furniture and equipment lease terminates
simultaneously with the office lease. In addition, we have contracted for Oracle
to perform maintenance and repair services at our Redwood Shores office. We have
incurred expenses totalling $318,000 for maintenance and repair services in
fiscal 1998 and $375,000 for maintenance and repair services in fiscal 1999. The
maintenance and repair services agreement will terminate simultaneously with our
Redwood Shores office lease. Under the terms of a letter from Oracle to us in
April 1999, Oracle agreed to terminate our Redwood Shores office lease, as well
as the furniture and equipment lease and the maintenance and repair services
agreement for our Redwood Shores office, upon 30 days notice from us to Oracle.
We previously leased office space in Salt Lake City, Utah from Oracle under
a lease that provided for monthly payments of approximately $4,000. The lease
terminated in February 1999. In April 1999, we entered into a new lease for
office space in Salt Lake City, Utah with a third party. We will continue to
lease furniture and equipment for our Salt Lake City office from Oracle under a
new furniture lease that we signed with Oracle in March 1999, that provides for
monthly payments of approximately $750.
We lease office space in London, England from Oracle under a lease that
provides for monthly payments of approximately $4,200. The lease terminates in
October 1999, with an option to extend through October 2000.
We recently entered into a lease for office space in San Carlos, California.
The lease provides for initial monthly payments of approximately $202,000 and
terminates in April 2009. Oracle provided a $10 million guaranty to our
landlord. The guaranty can be terminated if we receive at least $40 million in
this offering and provide an irrevocable letter of credit covering 10 months
rent and operating costs. We intend to relocate our headquarters from the
Redwood Shores facility to these offices in the second quarter of fiscal 2000.
TRANSACTIONS WITH NETSCAPE AND AMERICA ONLINE
After the offering and the private placement, Netscape will beneficially own
approximately 9% of our outstanding stock. Netscape became a wholly-owned
subsidiary of America Online, one of our
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customers, in March 1999. In connection with this merger, one of our directors,
Mr. Barksdale, became a director of America Online.
Prior to our acquisition of Navio, Navio's predecessor, TVSoft, sold shares
of its common stock to Netscape in July 1996. In exchange for these shares of
common stock, TVSoft entered into a source code license agreement with Netscape.
We amended this agreement in April 1998 and September 1998. Under this
agreement, Netscape granted a worldwide, nonexclusive, fully paid-up and
nontransferable license to TVSoft for certain Netscape software, including
Netscape Navigator. In connection with our acquisition of Navio, and under a
letter agreement entered into in May 1997, Netscape consented to the assignment
of this license from Navio to us. As a result of our acquisition of Navio in
August 1997, Netscape's shares of Navio common stock converted into 3,812,675
shares of our Series C preferred stock.
Under the letter agreement described in the preceding paragraph, Netscape
and Oracle also agreed that our products would be distributed pursuant to an OEM
license agreement between Netscape and Oracle. Under an amendment to the letter
agreement, we have the right to use approximately $1.0 million in prepaid
royalties with Netscape. As of May 31, 1999, we have used approximately $42,000
of these royalties.
Under a letter agreement executed in December 1997 in connection with the
source code license agreement with Netscape and the April 1998 amendment to the
source code license agreement, we have paid Netscape approximately $200,000 for
the purchase of rights and licenses.
We are co-sublessors of office space located in Sunnyvale, California with
Netscape. Netscape and Navio originally leased the space in November 1996.
Navio's rights and duties under the lease were assigned to us in connection with
our acquisition of Navio. Subsequently, the property was subleased to a third
party. The monthly lease payments are approximately $68,000 and we receive
approximately $72,000 from our subtenant each month. The lease and sublease
terminate in November 2001.
We entered into a trial license and support agreement with America Online in
July 1998, which terminated upon the execution of a technology license and
support agreement entered into in August 1998. We also entered into a source
code access agreement in August 1998, which also terminated upon the execution
of the technology license and support agreement. In addition, we entered into a
consulting services agreement in February 1999 with America Online, under which
we are developing new features for our products. As of May 31, 1999, we have
received payments from America Online under all of these agreements aggregating
approximately $6.5 million.
OTHER TRANSACTIONS
In May 1999, we sold 5,208,326 shares of our Series E preferred stock for
$47.5 million, net of expenses, to several investors, including Comcast, Cox and
MediaOne. In connection with this sale of stock, we entered into a voting
agreement with Comcast, Cox, MediaOne and Oracle. Pursuant to the voting
agreement, Comcast, Cox, MediaOne and Oracle agreed to vote the shares of our
common stock held by them to elect a representative designated by Oracle and a
single representative designated by Comcast, Cox and MediaOne to our board of
directors. In the voting agreement, we also agreed to create a three member
advisory board to our board of directors consisting of one representative of
each of Comcast, Cox and MediaOne. The voting agreement will terminate on the
earlier of:
- A change in control of us;
- Three years following the date of this prospectus; or
- The date on which Comcast, Cox and MediaOne own less than 50% of the
common stock issuable upon conversion of the Series E preferred stock
originally sold to each of them.
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In connection with the sale of our Series E preferred stock described above,
we entered into letter agreements with Comcast, Cox and MediaOne. The letter
agreements provide that we and each of these network operators will use
commercially reasonable efforts to execute definitive license agreements within
120 days of these letter agreements. The letter agreements further provide that
these network operators will have the right to test our software free of charge
and without any commitment to deploy services using our technology for an
evaluation period. In addition, the letter agreements provide that, if certain
commercial milestones are satisfied, we will issue each of these network
operators warrants to purchase up to 466,666 shares of our common stock. As of
May 31, 1999, we issued warrants to purchase up to 83,333 shares of common stock
to Comcast for achieving commercial milestones. In addition, under these letter
agreements, these network operators are entitled to receive the benefits of any
more favorable terms and conditions that we may grant to any other North
American network operator in the future.
TRANSACTIONS WITH EXECUTIVE OFFICERS AND DIRECTORS
We entered into an employment agreement, dated October 12, 1998, with
Mitchell E. Kertzman, our President and Chief Executive Officer. Mr. Kertzman's
annual salary is $300,000 and he is eligible for an annual bonus of up to
$200,000. His bonus for the first year of employment is guaranteed to be
$200,000. We granted him an option to purchase 1,666,666 shares of our common
stock. Upon his completion of 12 months of service, 25% of the option shares
will vest, and the balance of the option shares will vest in a series of equal
monthly installments upon his completion of each of the following 36 months. If
we experience a change in control, 50% of any unvested option shares will become
vested.
We entered into an employment offer letter, dated March 12, 1999, with
Gordon Yamate, our Vice President, General Counsel and Secretary, that provides
for the acceleration of vesting of 25% of his unvested options if we experience
a change in control before March 15, 2000.
We entered into a settlement agreement, dated March 16, 1998, with Jerry W.
Baker, our former Chief Executive Officer. Under this agreement, we paid Mr.
Baker a severance amount of $180,000, which represented six months of his base
salary. In consideration for the severance payment, Mr. Baker agreed to release
all claims against us.
In October 1997, we entered into an employment agreement, as amended in
February 1998, with Wei Yen, our former President. The amendment provided for
the resignation of Dr. Yen from Liberate. Pursuant to the agreement, we agreed
to terminate our right of repurchase as to his shares of Series C preferred
stock. In addition, Dr. Yen received a severance payment of $820,000, payable in
24 equal monthly installments, beginning on February 27, 1998, and the
forgiveness of indebtedness amounting to $576,000. In consideration for the
severance payment and the loan forgiveness, Dr. Yen agreed to release all claims
that he may have against us.
We have granted options to our executive officers and directors. See
"Management--Option Grants in Last Fiscal Year" and "Principal Stockholders."
We have entered into an Indemnification Agreement with each of our executive
officers and directors described in the "Management" section.
------------------------
We believe that the terms of all of the agreements and transactions
discussed in this section were at least as favorable to us as those that could
have been obtained or secured in arm's-length transactions.
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PRINCIPAL STOCKHOLDERS
The following table sets forth information, as of May 31, 1999, with respect
to shares beneficially owned by:
- Each person who we know to be the beneficial owner of more than five
percent of our outstanding shares of common stock;
- Each of the executive officers named in the Summary Compensation Table;
- Each of our directors; and
- All current executive officers and directors as a group.
Beneficial ownership has been determined in accordance with Rule 13d-3 under
the Exchange Act. Under this rule, certain shares may be deemed to be
beneficially owned by more than one person, if, for example, persons share the
power to vote or the power to dispose of the shares. In addition, shares are
deemed to be beneficially owned by a person if the person has the right to
acquire shares, for example, upon exercise of an option or warrant, within sixty
days of the date as of which the information is provided; in computing the
percentage ownership of any person, the amount of shares is deemed to include
the amount of shares beneficially owned by such person, and only such person, by
reason of such acquisition rights. As a result, the percentage of outstanding
shares of any person as shown in the following table does not necessarily
reflect the person's actual voting power at any particular date.
The percentage of beneficial ownership for the following table is based on
34,016,811 shares of common stock outstanding as of May 31, 1999 and 41,351,880
shares of common stock outstanding after the completion of this offering and the
private placement.
Unless otherwise indicated, the address for each listed stockholder is: c/o
Liberate Technologies, 1000 Bridge Parkway, Redwood Shores, California, 94065.
To our knowledge, except as indicated in the footnotes to this table, the
persons named in the table have sole voting and investment power with respect to
the shares of common stock indicated.
<TABLE>
<CAPTION>
PERCENT BENEFICIALLY
OWNED
------------------------
NUMBER OF BEFORE AFTER
NAME AND ADDRESS SHARES OFFERING OFFERING
- -------------------------------------------------------------------------------- ------------ ----------- -----------
<S> <C> <C> <C>
Oracle Corporation(1)........................................................... 19,851,249 58.30% 47.97%
Lawrence J. Ellison
Jeffrey O. Henley
500 Oracle Parkway
Redwood Shores, California 94065
James L. Barksdale(2)........................................................... 3,818,751 11.22% 9.23%
Netscape Communications Corporation............................................. 3,812,675 11.21% 9.22%
501 E. Middlefield Road
Mountain View, California 94043
David J. Roux(3)................................................................ 295,138 * *
Steven Weinstein(4)............................................................. 109,789 * *
David A. Limp(5)................................................................ 86,390 * *
Nancy J. Hilker(6).............................................................. 75,804 * *
Philip A. Vachon(7)............................................................. 26,734 * *
Charles G. Tritschler(8)........................................................ 21,458 * *
Charles Corfield(9)............................................................. 6,076 * *
Mitchell E. Kertzman(10)........................................................ -- * *
Gordon T. Yamate(11)............................................................ -- * *
All executive officers and directors as a group (12 persons).................... 24,291,389 70.64% 58.22%
</TABLE>
- ------------------------
* Represents beneficial ownership of less than 1% of the outstanding shares of
our common stock.
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(1) Includes 32,646 shares that Oracle has the right to acquire under the
put/call and voting agreement. Mr. Ellison, one of our directors, is the
chief executive officer and chairman of the board of directors of Oracle.
Mr. Henley, one of our directors, is an executive officer and a director of
Oracle. Messrs. Ellison and Henley disclaim beneficial ownership of Oracle's
shares.
(2) Represents 6,076 shares issuable upon the exercise of stock options held by
Mr. Barksdale exercisable within 60 days of May 31, 1999 and 3,812,675
shares held of record by Netscape. In March 1999, Netscape became a
wholly-owned subsidiary of America Online, one of our customers. In
connection with the merger, Mr. Barksdale was elected to the board of
directors of America Online. Mr. Barksdale disclaims beneficial ownership of
the 3,812,675 shares held of record by Netscape.
(3) Includes 69,444 shares issuable upon the exercise of stock options
exercisable within 60 days of May 31, 1999.
(4) Consists of shares issuable upon the exercise of stock options exercisable
within 60 days of May 31, 1999. Mr. Weinstein has transferred 2,000 shares
to certain of his immediate family and other relatives and disclaims
beneficial ownership of these shares.
(5) Includes 44,724 shares issuable upon exercise of stock options exercisable
within 60 days of May 31, 1999.
(6) Consists of shares issuable upon exercise of stock options exercisable
within 60 days of May 31, 1999. Ms. Hilker has transferred 2,197 shares to
certain of her immediate family members and disclaims beneficial ownership
of these shares.
(7) Includes 17,359 shares issuable upon the exercise of stock options
exercisable within 60 days of May 31, 1999. Mr. Vachon has transferred 9,375
shares to certain of his immediate family and other relatives and disclaims
beneficial ownership of these shares.
(8) Consists of shares issuable upon exercise of stock options exercisable
within 60 days of May 31, 1999.
(9) Consists of shares issuable upon exercise of stock options exercisable
within 60 days of May 31, 1999.
(10) On November 16, 1998, Mr. Kertzman was granted an option to purchase
1,666,666 shares. This option is not yet exercisable.
(11) On April 2, 1999, Mr. Yamate was granted an option to purchase 62,500
shares. This option is not yet exercisable.
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DESCRIPTION OF CAPITAL STOCK
On the closing of this offering, our authorized capital stock will consist
of 200,000,000 shares of common stock, $0.01 par value, and 20,000,000 shares of
preferred stock, $0.01 par value. The following description is intended to be a
summary and does not describe all provisions of our certificate of incorporation
or bylaws or Delaware law applicable to Liberate. For a more thorough
understanding of the terms of our capital stock, you should refer to our
certificate of incorporation and bylaws, which are included as exhibits to the
registration statement of which this prospectus is part.
COMMON STOCK
As of May 31, 1999, there were 34,016,811 shares of common stock outstanding
that were held of record by approximately 190 stockholders. As of May 31, 1999,
there are 6,403,505 shares of common stock subject to outstanding options,
1,417,859 of which were then exercisable. There will be 41,351,880 shares of
common stock outstanding, assuming no exercise of the underwriters'
over-allotment option and assuming no exercise after May 31, 1999, of
outstanding options or warrants, after giving effect to the private placement,
and the sale of the shares of common stock to the public in this offering. The
holders of common stock are entitled to one vote per share on all matters to be
voted on by the stockholders. Subject to preferences that may be applicable to
any outstanding preferred stock, the holders of common stock are entitled to
receive ratably such dividends, if any, as may be declared from time to time by
the board of directors out of legally available funds. In the event of the
liquidation, dissolution, or winding up of Liberate, the holders of common stock
are entitled to share ratably in all assets remaining after payment of
liabilities, subject to prior distribution rights of preferred stock, if any,
then outstanding. The common stock has no preemptive or conversion rights or
other subscription rights. There are no redemption or sinking fund provisions
applicable to the common stock. All outstanding shares of common stock are fully
paid and nonassessable, and the shares of common stock to be issued on
completion of this offering will be fully paid and nonassessable. See "Dividend
Policy."
PREFERRED STOCK
On the closing of this offering, 20,000,000 shares of preferred stock will
be authorized and no shares will be outstanding. The board of directors has the
authority to issue the preferred stock in one or more series and to fix its
rights, preferences, privileges and restrictions, including dividend rights,
dividend rates, conversion rights, voting rights, terms of redemption,
redemption prices, liquidation preferences and the number of shares constituting
any series or the designation of such series, without further vote or action by
the stockholders. The issuance of preferred stock may have the effect of
delaying, deferring or preventing a change in control of Liberate without
further action by the stockholders and may adversely affect the voting and other
rights of the holders of common stock. The issuance of preferred stock with
voting and conversion rights may adversely affect the voting power of the
holders of common stock, including the loss of voting control to others. We
currently do not plan to issue any of the preferred stock.
REGISTRATION RIGHTS
After this offering and the private placement scheduled to close immediately
following the consummation of this offering, the holders of approximately
34,484,708 shares of common stock and rights to acquire common stock will be
entitled to rights with respect to the registration of such shares under the
Securities Act. Under the terms of the agreement between us and the holders of
these registrable securities, if we propose to register any of our securities
under the Securities Act, either for our own account or for the account of other
security holders exercising registration rights, these holders are entitled to
notice of such registration and are entitled to include shares of common stock
in the registration. Additionally, if we are meeting certain revenue and income
milestones, some of these holders are also entitled to demand registration
rights, which allow them to require us on one occasion
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to file a registration statement under the Securities Act at our expense with
respect to their shares of common stock, and we are required to use all
reasonable efforts to effect such registration. In addition, if the holders of
at least 40% our Series E preferred stock so request, they will have two rights
to demand registration, provided that such offering is for an aggregate offering
of at least $20 million. Further, holders may require us to file an unlimited
number of additional registration statements on Form S-3 at our expense. All of
these registration rights terminate no later than five years following the
consummation of this offering and are subject to certain conditions and
limitations, among them the right of the underwriters of an offering to limit
the number of shares included in such registration and our right not to effect a
requested registration within 180 days following an offering of our securities,
including this offering.
WARRANTS
In April and May 1999, we entered into letter agreements with several
network operators that require us to issue warrants to purchase up to an
aggregate of 2,299,996 shares of our common stock if the network operators
satisfy commercial milestones. As of May 31, 1999, we issued warrants to
purchase up to 208,333 shares of common stock to two network operators for
achieving commercial milestones. The outstanding warrants to purchase up to
208,333 shares of our common stock have an exercise price of $9.60 per share. In
addition, warrants to purchase up to 2,041,663 shares of our common stock, if
issued, will have an exercise price of $13.80 per share and warrants to purchase
up to 50,000 shares of our common stock, if issued, will have an exercise price
of either $9.60 or $13.80 per share, depending on whether commitments are made
to us by the warrant holders. The warrants, if issued, will terminate on various
dates, between May 31, 2000, for the earliest warrants, and a date five years
from the vesting date of the warrants for the latest warrants, which vesting
date is contingent upon different prepayment or deployment milestones.
CONVERTIBLE PROMISSORY NOTE
In November 1997, we entered into a cooperation agreement with Intel and a
convertible promissory note purchase agreement with Middlefield Ventures, an
affiliate of Intel. Pursuant to the convertible note purchase agreement, we
issued a promissory note to Middlefield in the amount of $4.0 million in
November 1997. The note bears interest at 5% per year. Interest is due, together
with principal, in November 2002, unless the note is previously converted. This
note will automatically convert into 421,940 shares of our common stock upon the
closing of this offering. If we meet specific development milestones in
connection with the cooperation agreement, Middlefield will fund two additional
notes under the agreement, each with principal of $4.0 million.
PRIVATE PLACEMENT WITH LUCENT TECHNOLOGIES INC.
In June 1999, we entered into a stock purchase agreement with Lucent
Technologies Inc. under which, contingent upon and immediately following
consummation of the sale of shares in this offering, Lucent agreed to invest
$12,500,000 in a private placement of shares of our common stock at a price per
share equal to 96% of the price of this offering. Lucent has agreed not to sell,
transfer, encumber or otherwise dispose of any of the shares of common stock
acquired in the private placement in a public or private sale for a period of
180 days following the closing of this offering.
ANTI-TAKEOVER EFFECTS OF PROVISIONS OF THE CERTIFICATE OF INCORPORATION, BYLAWS
AND DELAWARE LAW
CERTIFICATE OF INCORPORATION AND BYLAWS. The certificate of incorporation
provides that all stockholder actions must be effected at a duly called meeting
and not by a consent in writing. The vote of at least 75% of the voting power of
our capital stock is required to amend certain of the provisions of our
certificate of incorporation. In addition, the bylaws provide that our
stockholders may call a special meeting of stockholders only upon a request of
stockholders owning at least 50% of our capital stock.
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These provisions of the certificate of incorporation and bylaws may have the
effect of deterring hostile takeovers or delaying changes in our management.
DELAWARE TAKEOVER STATUTE. We are subject to Section 203 of the Delaware
General Corporation Law, which regulates corporate acquisitions. Section 203
prevents Delaware corporations, such as us, whose securities are listed on the
Nasdaq National Market from engaging in a "business combination" with any
"interested stockholder" for three years following the date that such
stockholder became an "interested stockholder." For purposes of Section 203, a
"business combination" includes a merger or consolidation involving Liberate and
the interested stockholder and the sale of 10% or more of Liberate's assets. In
general, Section 203 defines an "interested stockholder" as any entity or person
beneficially owning 15% or more of the outstanding voting stock of Liberate and
any entity or person affiliated with or controlling or controlled by such entity
or person. A Delaware corporation may "opt out" of Section 203 with an express
provision in its original certificate of incorporation or an express provision
in its certificate of incorporation or bylaws resulting from amendments approved
by the holders of at least a majority of the corporation's outstanding voting
shares. We have not "opted out" of the provisions of Section 203.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the common stock is BankBoston, N.A.
68
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
Future sales of substantial amounts of common stock, including shares issued
upon exercise of outstanding options and warrants, in the public market
following this offering and the private placement could adversely affect market
prices prevailing from time to time and could impair our ability to raise
capital through the sale of our equity securities. As described below, none of
the shares currently outstanding will be available for sale immediately after
this offering due to the existing contractual and legal restrictions on resale
described below. Sales of substantial amounts of our common stock in the public
market after the restrictions lapse could adversely affect the prevailing market
price of our stock and our ability to raise equity capital in the future.
Upon completion of this offering and the private placement, we will have
outstanding 41,351,880 shares of common stock based upon shares outstanding as
of May 31, 1999, assuming no exercise of the underwriters' over-allotment option
and no exercise of outstanding options or warrants prior to completion of this
offering and the private placement. Of these shares, the 6,250,000 shares sold
in this offering will be freely tradable without restriction under the
Securities Act except for any shares purchased by our "affiliates" as that term
is defined in Rule 144 under the Securities Act. The remaining 35,101,880 shares
of common stock held by existing stockholders and the purchaser in the private
placement are restricted shares as that term is defined in Rule 144. These
restricted shares are subject to lock-up agreements providing that, with certain
limited exceptions, the stockholder will not offer, sell, contract to sell or
otherwise dispose of any common stock or any securities that are convertible
into common stock for a period of 180 days after the date of this prospectus
without the prior written consent of Credit Suisse First Boston Corporation. As
a result of these lock-up agreements, notwithstanding possible earlier
eligibility for sale under the provisions of Rule 144, 144(k) and 701, none of
these shares will be resellable until 181 days after the date of this
prospectus. Credit Suisse First Boston Corporation may, in their sole discretion
and at any time without notice, release all or any portion of the securities
subject to lock-up agreements.
A private placement of 1,085,069 shares will occur immediately following the
closing of this offering. These shares will become eligible for sale in the
public market one year from the date of this prospectus pursuant to Rule 144.
The following table shows approximately when the 35,101,880 shares of our
common stock that are not being sold in this offering, but which will be
outstanding when this offering and the private placement are complete, will be
eligible for sale in the public market:
ELIGIBILITY OF RESTRICTED SHARES FOR SALE IN THE PUBLIC MARKET
<TABLE>
<S> <C>
At the effective date........................................................... --
180 days after the effective date............................................... 27,612,298
More than 180 days.............................................................. 1,196,187
May 12, 2000.................................................................... 5,208,326
One year after the effective date............................................... 1,085,069
</TABLE>
Resale of 23,918,562 of the restricted shares that will become available for
sale in the public market starting 180 days after the effective date will be
limited by volume and other resale restrictions under Rule 144 because the
holders are our affiliates.
RULE 144
In general, under Rule 144 as currently in effect, beginning 90 days after
the date of this prospectus, a person who has beneficially owned restricted
shares for at least one year including the
69
<PAGE>
holding period of any prior owner except an affiliate would be entitled to sell
within any three-month period a number of shares that does not exceed the
greater of:
- 1% of the number of shares of common stock then outstanding which will
equal approximately 413,518 shares immediately after this offering and the
private placement; or
- the average weekly trading volume of the common stock during the four
calendar weeks preceding the filing of a Form 144 with respect to such
sale.
Sales under Rule 144 are also subject to certain manner of sale provisions
and notice requirements and to the availability of current public information
about us. Under Rule 144(k), a person who is not deemed to have been an
affiliate of us at any time during the three months preceding a sale, and who
has beneficially owned the shares proposed to be sold for a least two years
including the holding period of any prior owner except an affiliate, is entitled
to sell such shares without complying with the manner of sale, public
information, volume limitation or notice provisions of Rule 144.
RULE 701
Rule 701, as currently in effect, permits resales of shares in reliance upon
Rule 144 but without compliance with certain restrictions, including the holding
period requirement, of Rule 144. Any employee, officer or director of or
consultant to us who purchased shares under a written compensatory plan or
contract may be entitled to rely on the resale provisions of Rule 701. Rule 701
permits affiliates to sell their Rule 701 shares under Rule 144 without
complying with the holding period requirements of Rule 144. Rule 701 further
provides that nonaffiliates may sell such shares in reliance on Rule 144 without
having to comply with the holding period, public information, volume limitation
or notice provisions of Rule 144. All holders of Rule 701 shares are required to
wait until 90 days after the date of this prospectus before selling such shares.
However, all Rule 701 shares are subject to lock-up agreements and will only
become eligible for sale upon the expiration of the 180-day lock-up agreements.
Credit Suisse First Boston may, in their sole discretion and at any time without
notice, release all or any portion of the securities subject to lock-up
agreements.
Within 90 days following the effectiveness of this offering, we will file a
Registration Statement on Form S-8 registering 9,584,386 shares of common stock
subject to outstanding options or reserved for future issuance under our stock
plans. As of May 31, 1999, options to purchase a total of 3,076,478 shares were
outstanding and 2,365,393 shares were reserved for future issuance under our
stock plans. Common stock issued upon exercise of outstanding vested options or
issued under our purchase plan, other than common stock issued to our
affiliates, is available for immediate resale in the open market.
REGISTRATION RIGHTS
Also beginning 180 days after the date of this offering, holders of
34,484,708 restricted shares will be entitled to certain registration rights for
sale in the public market. See "Description of Capital Stock--Registration
Rights." Registration of such shares under the Securities Act would result in
such shares becoming freely tradable without restriction under the Securities
Act, except for shares purchased by affiliates, immediately upon the
effectiveness of such registration.
70
<PAGE>
UNDERWRITING
Under the terms and subject to the conditions contained in the underwriting
agreement dated , 1999, we have agreed to sell to the underwriters
named below, for whom Credit Suisse First Boston Corporation, Hambrecht & Quist
LLC and Charles Schwab & Co., Inc. are acting as representatives, the following
respective number of shares of common stock:
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITER SHARES
- ----------------------------------------------------------------------------------------------------- ----------
<S> <C>
Credit Suisse First Boston Corporation...............................................................
Hambrecht & Quist LLC................................................................................
Charles Schwab & Co., Inc............................................................................
----------
Total............................................................................................ 6,250,000
----------
----------
</TABLE>
The underwriting agreement provides that the underwriters are obligated to
purchase all the shares of common stock in the offering if any are purchased,
other than those shares covered by the over-allotment option described below.
The underwriting agreement also provides that if an underwriter defaults the
purchase commitments of non-defaulting underwriters may be increased or the
offering of common stock may be terminated.
We have granted to the underwriters a 30-day option to purchase on a pro
rata basis up to 937,500 additional shares from us at the initial public
offering price less the underwriting discounts and commissions. This option may
be exercised only to cover any over-allotments of common stock.
The underwriters propose to offer the shares of common stock initially at
the public offering price on the cover page of this prospectus and to selling
group members at that price less a concession of $ per share. The
underwriters and selling group members may allow a discount of $ per share
on sales to other broker/dealers. After the initial public offering, the public
offering price and concession and discount to dealers may be changed by the
representatives.
The following table summarizes the compensation and estimated expenses we
will pay.
<TABLE>
<CAPTION>
PER SHARE TOTAL
------------------------------ ------------------------------
WITHOUT WITH WITHOUT WITH
OVER-ALLOTMENT OVER-ALLOTMENT OVER-ALLOTMENT OVER-ALLOTMENT
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Underwriting discounts and commissions paid by
us.............................................. $ $ $ $
Expenses payable by us............................ $ $ $ $
</TABLE>
In addition, Credit Suisse First Boston Corporation and Hambrecht & Quist
LLC will receive from us an aggregate fee equal to 3% of the gross proceeds from
the common stock offered to Lucent Technologies in a private placement, which is
scheduled to close immediately following the consummation of this offering.
The underwriters have informed us that they do not expect discretionary
sales to exceed 5% of the shares of common stock being offered.
We, our officers and directors and several other stockholders have agreed
not to offer, transfer, directly or indirectly, or file with the Securities and
Exchange Commission a registration statement under the Securities Act relating
to any additional shares of our common stock or securities convertible into or
exchangeable or exercisable for any of our common stock without the prior
consent of Credit Suisse First Boston Corporation for a period of 180 days after
the date of this prospectus. These
71
<PAGE>
restrictions do not prohibit us from issuing employee stock options and common
stock issuable upon the exercise of employee stock options outstanding on the
date of this prospectus.
The underwriters have reserved for sale, at the initial public offering
price, up to 312,500 shares of the common stock for employees, directors and
certain other persons associated with us who have expressed an interest in
purchasing common stock in the offering. The number of shares available for sale
to the general public in the offering will be reduced to the extent such persons
purchase such reserved shares. Any reserved shares not so purchased will be
offered by the underwriters to the general public on the same terms as the other
shares.
We have agreed to indemnify the underwriters against liabilities under the
Securities Act, or contribute to payments which the underwriters may be required
to make in that respect.
We have made application to list our shares of common stock on The Nasdaq
Stock Market's National Market under the symbol "LBRT."
Prior to this offering, there has been no public market for our common
stock. The initial public offering price will be determined by negotiation
between us and the underwriters. The principal factors to be considered in
determining the public offering price include: the information set forth in this
prospectus and otherwise available to the underwriters; the history and the
prospects for the industry in which we will compete; the ability of our
management; the prospects for our future earnings; the present state of our
development and our current financial condition; the general condition of the
securities markets at the time of this offering; and the recent market prices
of, and the demand for, publicly traded common stock of generally comparable
companies.
The representatives on behalf of the underwriters may engage in
over-allotment, stabilizing transactions, syndicate covering transactions and
penalty bids in accordance with Regulation M under the Securities Exchange Act
of 1934.
- Over-allotment involves syndicate sales in excess of the offering size,
which creates a syndicate short position.
- Stabilizing transactions permit bids to purchase the underlying security
so long as the stabilizing bids do not exceed a specified maximum.
- Syndicate covering transactions involve purchases of the common stock in
the open market after the distribution has been completed in order to
cover syndicate short positions.
- Penalty bids permit the representatives to reclaim a selling concession
from a syndicate member when the common stock originally sold by the
syndicate member are purchased in a syndicate covering transaction to
cover syndicate short positions.
These stabilizing transactions, syndicate covering transactions and penalty bids
may cause the price of the common stock to be higher than it would otherwise be
in the absence of such transactions. These transactions may be effected on The
Nasdaq Stock Market's National Market or otherwise and, if commenced, may be
discontinued at any time.
Individuals and entities affiliated with Hambrecht & Quist LLC purchased an
aggregate of 21,872 shares of our Series E preferred stock for a total purchase
price of approximately $210,000, or $9.60 per share, and have agreed not to
sell, pledge, transfer or hypothecate their shares for a one year period from
the effective date of this offering. In addition, a venture capital fund managed
by an entity affiliated with Hambrecht & Quist LLC purchased an aggregate of
82,291 shares of our Series E preferred stock for a total purchase price of
approximately $790,000, or $9.60 per share, and has agreed not to sell, pledge,
transfer or hypothecate 823 shares of such Series E preferred stock for a one
year period from the effective date of this offering.
72
<PAGE>
NOTICE TO CANADIAN RESIDENTS
RESALE RESTRICTIONS
The distribution of the common stock in Canada is being made only on a
private placement basis exempt from the requirement that we prepare and file a
prospectus with the securities regulatory authorities in each province where
trades of common stock are effected. Accordingly, any resale of the common stock
in Canada must be made in accordance with applicable securities laws which will
vary depending on the relevant jurisdiction, and which may require resales to be
made in accordance with available statutory exemptions or pursuant to a
discretionary exemption granted by the applicable Canadian securities regulatory
authority. Purchasers are advised to seek legal advice prior to any resale of
the common stock.
REPRESENTATIONS OF PURCHASERS
Each purchaser of common stock in Canada who receives a purchase
confirmation will be deemed to represent to us and the dealer from whom the
purchase confirmation is received that (1) the purchaser is entitled under
applicable provincial securities laws to purchase the common stock without the
benefit of a prospectus qualified under these securities laws, (2) where
required by law, that the purchaser is purchasing as principal and not as agent,
and (3) the purchaser has reviewed the text above under "Resale Restrictions."
RIGHTS OF ACTION (ONTARIO PURCHASERS)
The securities being offered are those of a foreign issuer and Ontario
purchasers will not receive the contractual right of action prescribed by
Ontario securities law. As a result, Ontario purchasers must rely on other
remedies that may be available, including common law rights of action for
damages or rescission or rights of action under the civil liability provisions
of the U.S. federal securities laws.
ENFORCEMENT OF LEGAL RIGHTS
All of our directors and officers as well as the experts named in this
prospectus, may be located outside of Canada and, as a result, it may not be
possible for Canadian purchasers to effect service of process within Canada upon
us or these people. All or a substantial portion of our assets and the assets of
these people may be located outside of Canada and, as a result, it may not be
possible to satisfy a judgment against us or these people in Canada or to
enforce a judgment obtained in Canadian courts against us or these people
outside of Canada.
NOTICE TO BRITISH COLUMBIA RESIDENTS
A purchaser of common stock to whom the SECURITIES ACT (British Columbia)
applies is advised that a purchaser is required to file with the British
Columbia Securities Commission a report within ten days of the sale of any
common stock acquired by the purchaser in this offering. This report must be in
the form attached to British Columbia Securities Commission Blanket Order BOR
#95/17, a copy of which may be obtained from us. Only one report must be filed
in respect of common stock acquired on the same date and under the same
prospectus exemption.
TAXATION AND ELIGIBILITY FOR INVESTMENT
Canadian purchasers of common stock should consult their own legal and tax
advisors with respect to the tax consequences of an investment in the common
stock in their particular circumstances and with respect to the eligibility of
the common stock for investment by the purchaser under relevant Canadian
legislation.
73
<PAGE>
LEGAL MATTERS
The validity of the issuance of the common stock offered by us in this
offering will be passed upon for us by Gunderson Dettmer Stough Villeneuve
Franklin & Hachigian, LLP, Menlo Park, California. Legal matters in connection
with this offering will be passed upon for the underwriters by Wilson Sonsini
Goodrich & Rosati, Professional Corporation, Palo Alto, California.
EXPERTS
The consolidated financial statements and schedule of Liberate Technologies
and its subsidiaries included in this prospectus and elsewhere in the
registration statement have been audited by Arthur Andersen LLP, independent
public accountants, and are included in this prospectus in reliance upon the
authority of Arthur Andersen LLP as experts in accounting and auditing.
Reference is made to the report of Arthur Andersen LLP, which includes an
explanatory paragraph with respect to the change in accounting for the
acquisition of Navio as discussed in note 3 of the notes to the consolidated
financial statements.
Ernst & Young LLP, independent auditors, have audited our financial
statements at December 31, 1996, and for the period from inception, February 12,
1996, to December 31, 1996, as set forth in their report, which contains an
explanatory paragraph describing conditions that raise substantial doubt about
the Company's ability to continue as a going concern as described in Note 1 to
the financial statements. We have included our financial statements in the
prospectus and elsewhere in the registration statement in reliance on Ernst &
Young LLP's report, given on their authority as experts in accounting and
auditing.
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the Securities and Exchange Commission, Washington, D.C.
20549, a registration statement on Form S-1 under the Securities Act with
respect to the common stock offered by us in this offering. This prospectus,
which constitutes a part of the registration statement, does not contain all of
the information set forth in the registration statement or the exhibits and
schedules to the registration statement. For further information with respect to
us and the common stock offered by us in this offering, reference is made to the
registration statement and the exhibits and schedules filed as a part of the
registration statement. Statements contained in this prospectus concerning the
contents of any contract or any other document referred to are not necessarily
complete; reference is made in each instance to the copy of such contract or
document filed as an exhibit to the registration statement. Each such statement
is qualified in all respects by such reference to such exhibit. The registration
statement and the exhibits and schedules filed with the registration statement
may be inspected without charge at the public reference facilities maintained by
the Commission at 450 Fifth Street, N.W., Washington, D.C. 20549, and at the
regional offices of the Commission located at Seven World Trade Center, 13th
Floor, New York, NY 10048, and at the Northwestern Atrium Center, 500 West
Madison Street, Suite 1400, Chicago, IL 60661. Copies of all or any part of the
registration statement may be obtained from such office after payment of fees
prescribed by the Commission. These reports and other information may also be
obtained without charge at a Web site maintained by the Commission. The address
of the site is http://www.sec.gov.
74
<PAGE>
LIBERATE TECHNOLOGIES
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
AUDITED FINANCIAL STATEMENTS OF LIBERATE TECHNOLOGIES
Report of Independent Public Accountants..................................... F-2
Consolidated Balance Sheets.................................................. F-3
Consolidated Statements of Operations and Comprehensive Loss................. F-4
Consolidated Statements of Stockholders' Equity (Deficit).................... F-5
Consolidated Statements of Cash Flows........................................ F-6
Notes to Consolidated Financial Statements................................... F-7
AUDITED FINANCIAL STATEMENTS OF NAVIO COMMUNICATIONS, INC. AS OF DECEMBER 31,
1996
Report of Independent Auditors............................................... F-27
Balance Sheets............................................................... F-28
Statement of Operations...................................................... F-29
Statement of Shareholders' Equity............................................ F-30
Statement of Cash Flows...................................................... F-31
Notes to Financial Statements................................................ F-32
UNAUDITED INTERIM FINANCIAL STATEMENTS OF NAVIO COMMUNICATIONS, INC. AS OF
JUNE 30, 1997................................................................ F-41
UNAUDITED PROFORMA CONDENSED COMBINED FINANCIAL STATEMENTS OF LIBERATE
TECHNOLOGIES AND NAVIO COMMUNICATIONS, INC................................... F-45
</TABLE>
F-1
<PAGE>
AFTER THE REVERSE STOCK SPLIT DISCUSSED IN NOTE 13 TO LIBERATE TECHNOLOGIES'
CONSOLIDATED FINANCIAL STATEMENTS, WE EXPECT TO BE IN A POSITION TO RENDER THE
FOLLOWING AUDIT REPORT:
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
Liberate Technologies:
We have audited the accompanying consolidated balance sheets of Liberate
Technologies (a Delaware corporation, formerly known as Network Computer, Inc.)
and subsidiaries as of May 31, 1998 and 1999, and the related consolidated
statements of operations and comprehensive loss, stockholders' equity (deficit)
and cash flows for each of the three years in the period ended May 31, 1999.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Liberate Technologies and
subsidiaries as of May 31, 1998 and 1999, and the results of their operations
and their cash flows for each of the three years in the period ended May 31,
1999 in conformity with generally accepted accounting principles.
As explained in Note 3 to the consolidated financial statements, the Company
has given retroactive effect to the change in accounting for its acquisition of
Navio Communications, Inc.
ARTHUR ANDERSEN LLP
San Jose, California
June 24, 1999 (except with
respect to the matters
discussed in Note 13, as to
which the date is , 1999)
F-2
<PAGE>
LIBERATE TECHNOLOGIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
PRO FORMA
MAY 31, LIABILITIES AND
----------------------- STOCKHOLDERS'
1998 1999 EQUITY AT MAY
---------- ---------- 31, 1999 (NOTE
7)
---------------
(UNAUDITED)
ASSETS
<S> <C> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents....................... $ 12,138 $ 33,657
Short-term investments.......................... -- 19,751
Accounts receivable, net of allowance for
doubtful accounts of $278 in 1998 and $247 in
1999.......................................... 820 644
Receivable from affiliate....................... -- 482
Prepaid expenses and other current assets....... 1,600 3,415
---------- ----------
Total current assets.......................... 14,558 57,949
PROPERTY AND EQUIPMENT, net....................... 1,915 2,269
OTHER ASSETS:
Advanced royalties.............................. 570 279
Purchased intangibles, net...................... 13,691 7,606
Other........................................... 78 79
---------- ----------
Total assets.................................. $ 30,812 $ 68,182
---------- ----------
---------- ----------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable................................ $ 1,455 $ 1,643
Accounts payable to affiliate................... 1,252 --
Accrued liabilities............................. 4,411 8,911
Accrued payroll and related expenses............ 1,795 2,248
Deferred revenues............................... 23,868 38,787
Note payable to affiliate....................... 52 52
---------- ----------
Total current liabilities..................... 32,833 51,641 $ 51,641
LONG-TERM DEBT.................................... 4,115 4,315 --
---------- ---------- ---------------
Total liabilities............................. 36,948 55,956 51,641
---------- ---------- ---------------
COMMITMENTS AND CONTINGENCIES (Note 5)
STOCKHOLDERS' EQUITY (DEFICIT):
Convertible preferred stock, $0.01 par value,
aggregate liquidation preferences of $186,182
at May 31, 1999
Authorized--259,749,900 shares
Outstanding--26,998,823 shares and 32,977,699
shares at May 31, 1998 and 1999,
respectively; no shares outstanding pro
forma....................................... 270 330 --
Common stock, $0.01 par value
Authorized--407,500,000 shares
Outstanding--213,328 shares and 617,172 shares
at May 31, 1998 and 1999, respectively;
34,016,811 shares outstanding pro forma..... 2 6 340
Contributed and paid-in-capital................. 110,262 166,979 171,290
Deferred stock compensation..................... -- (6,579) (6,579)
Warrants........................................ -- 1,522 1,522
Stockholder notes receivable.................... (26) (348) (348)
Accumulated other comprehensive income.......... 15 28 28
Accumulated deficit............................. (116,659) (149,712) (149,712)
---------- ---------- ---------------
Total stockholders' equity (deficit).......... (6,136) 12,226 16,541
---------- ---------- ---------------
Total liabilities and stockholders' equity
(deficit)................................... $ 30,812 $ 68,182 $ 68,182
---------- ---------- ---------------
---------- ---------- ---------------
</TABLE>
The accompanying notes are an integral part of these consolidated balance
sheets.
F-3
<PAGE>
LIBERATE TECHNOLOGIES
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE LOSS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
------------------------------------
1997 1998 1999
---------- ----------- -----------
<S> <C> <C> <C>
REVENUES:
License and royalty...................................................... $ 231 $ 4,162 $ 5,281
Service.................................................................. 44 6,110 12,032
---------- ----------- -----------
Total revenues....................................................... 275 10,272 17,313
---------- ----------- -----------
COST OF REVENUES:
License and royalty...................................................... -- 3,779 2,279
Service.................................................................. -- 2,230 8,247
---------- ----------- -----------
Total cost of revenues............................................... -- 6,009 10,526
---------- ----------- -----------
Gross margin......................................................... 275 4,263 6,787
---------- ----------- -----------
OPERATING EXPENSES:
Research and development................................................. 21,721 19,981 18,171
Sales and marketing...................................................... 7,805 14,407 11,730
General and administrative............................................... 1,023 2,453 3,975
Amortization of purchased intangibles.................................... -- 4,563 6,084
Amortization of warrants................................................. -- -- 18
Amortization of deferred stock compensation.............................. -- -- 507
Restructuring charge..................................................... -- 1,175 --
Acquired in-process research and development............................. -- 58,100 --
---------- ----------- -----------
Total operating expenses............................................. 30,549 100,679 40,485
---------- ----------- -----------
Loss from operations................................................. (30,274) (96,416) (33,698)
INTEREST AND OTHER INCOME (EXPENSE), net................................. (465) 10 59
---------- ----------- -----------
Loss before income tax benefit....................................... (30,739) (96,406) (33,639)
INCOME TAX BENEFIT....................................................... (11,750) (2,015) (586)
---------- ----------- -----------
Net loss............................................................. (18,989) (94,391) (33,053)
FOREIGN CURRENCY TRANSLATION ADJUSTMENT.................................. (4) 19 13
---------- ----------- -----------
Comprehensive loss................................................... $ (18,993) $ (94,372) $ (33,040)
---------- ----------- -----------
---------- ----------- -----------
BASIC NET LOSS PER SHARE................................................. $ -- $ (1,780.96) $ (113.23)
---------- ----------- -----------
---------- ----------- -----------
SHARES USED IN COMPUTING BASIC NET LOSS PER SHARE........................ -- 53 292
---------- ----------- -----------
---------- ----------- -----------
PRO FORMA BASIC NET LOSS PER SHARE....................................... $ (1.17)
-----------
-----------
SHARES USED IN COMPUTING PRO FORMA BASIC NET LOSS PER SHARE.............. 28,293
-----------
-----------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
<PAGE>
LIBERATE TECHNOLOGIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
CONVERTIBLE PREFERRED
STOCK COMMON STOCK CONTRIBUTED
------------------------ ---------------------- AND PAID-IN DEFERRED STOCK
SHARES AMOUNT SHARES AMOUNT CAPITAL COMPENSATION
----------- ----------- --------- ----------- ------------ ---------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, MAY 31, 1996..................... -- $ -- 16 $ -- $ 3,354 $ --
Issuance of convertible preferred stock
to affiliate.......................... 14,166,650 142 -- -- 11,270 --
Translation loss........................ -- -- -- -- -- --
Refund of contributed capital........... -- -- -- -- (11,750) --
Net loss................................ -- -- -- -- -- --
----------- ----------- --------- ----------- ------------ -------
BALANCE, MAY 31, 1997..................... 14,166,650 142 16 -- 2,874 --
Value of options assumed in
acquisition........................... -- -- -- -- 18,234 --
Issuance of convertible preferred
stock................................. 12,205,510 122 -- -- 81,613 --
Contribution of capital from
affiliate............................. -- -- -- -- 8,080 --
Stock options exercised................. 626,663 6 213,312 2 598 --
Acceleration of option vesting.......... -- -- -- -- 365 --
Stockholder note repayment.............. -- -- -- -- -- --
Translation gain........................ -- -- -- -- -- --
Refund of contributed capital........... -- -- -- -- (1,502) --
Net loss................................ -- -- -- -- -- --
----------- ----------- --------- ----------- ------------ -------
BALANCE, MAY 31, 1998..................... 26,998,823 270 213,328 2 110,262 --
Stock options exercised................. 770,550 8 403,844 4 2,193 --
Issuance of convertible preferred stock,
net of issuance costs of $2,510....... 5,208,326 52 -- -- 47,438 --
Deferred stock compensation related to
stock options......................... -- -- -- -- 7,086 (7,086)
Amortization of deferred stock
compensation.......................... -- -- -- -- -- 507
Issuance of warrants.................... -- -- -- -- -- --
Translation gain........................ -- -- -- -- -- --
Net loss................................ -- -- -- -- -- --
----------- ----------- --------- ----------- ------------ -------
BALANCE, MAY 31, 1999..................... 32,977,699 $ 330 617,172 $ 6 $ 166,979 $ (6,579)
----------- ----------- --------- ----------- ------------ -------
----------- ----------- --------- ----------- ------------ -------
<CAPTION>
TOTAL
STOCKHOLDER ACCUMULATED OTHER STOCKHOLDERS'
NOTES COMPREHENSIVE ACCUMULATED EQUITY
WARRANTS RECEIVABLE INCOME (LOSS) DEFICIT (DEFICIT)
----------- ------------ ------------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
BALANCE, MAY 31, 1996..................... $ -- $ -- $ -- $ (3,279) $ 75
Issuance of convertible preferred stock
to affiliate.......................... -- -- -- -- 11,412
Translation loss........................ -- -- (4) -- (4)
Refund of contributed capital........... -- -- -- -- (11,750)
Net loss................................ -- -- -- (18,989) (18,989)
----------- ------------ ---------- ------------- -------------
BALANCE, MAY 31, 1997..................... -- -- (4) (22,268) (19,256)
Value of options assumed in
acquisition........................... -- -- -- -- 18,234
Issuance of convertible preferred
stock................................. -- (34) -- -- 81,701
Contribution of capital from
affiliate............................. -- -- -- -- 8,080
Stock options exercised................. -- (2) -- -- 604
Acceleration of option vesting.......... -- -- -- -- 365
Stockholder note repayment.............. -- 10 -- -- 10
Translation gain........................ -- -- 19 -- 19
Refund of contributed capital........... -- -- -- -- (1,502)
Net loss................................ -- -- -- (94,391) (94,391)
----------- ------------ ---------- ------------- -------------
BALANCE, MAY 31, 1998..................... -- (26) 15 (116,659) (6,136)
Stock options exercised................. -- (322) -- -- 1,883
Issuance of convertible preferred stock,
net of issuance costs of $2,510....... -- -- -- -- 47,490
Deferred stock compensation related to
stock options......................... -- -- -- -- --
Amortization of deferred stock
compensation.......................... -- -- -- -- 507
Issuance of warrants.................... 1,522 -- -- -- 1,522
Translation gain........................ -- -- 13 -- 13
Net loss................................ -- -- -- (33,053) (33,053)
----------- ------------ ---------- ------------- -------------
BALANCE, MAY 31, 1999..................... $ 1,522 $ (348) $ 28 $ (149,712) $ 12,226
----------- ------------ ---------- ------------- -------------
----------- ------------ ---------- ------------- -------------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
<PAGE>
LIBERATE TECHNOLOGIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
---------------------------------------
1997 1998 1999
----------- ----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C> <C>
Net loss................................... $ (18,989) $ (94,391) $ (33,053)
Adjustments to reconcile net loss to net
cash used in operating activities:
Write-off of acquired in-process
research and development............. -- 58,100 --
Depreciation and amortization.......... 470 6,070 7,367
Amortization of warrants............... -- -- 18
Provision for doubtful accounts........ 1 329 220
Loss on disposal of fixed assets....... -- 71 --
Non-cash compensation expense.......... -- 365 507
Non-cash tax benefit................... (11,750) (1,502) --
Changes in operating assets and
liabilities, net of acquisition:
(Increase) decrease in accounts
receivable....................... (255) 9 (45)
Increase in prepaid expenses and
other current assets............. (18) (957) (311)
(Increase) decrease in other
assets........................... (2,168) 1,601 290
Increase in accounts payable....... 1,040 141 188
Increase (decrease) in accounts
payable to affiliate............. 18,723 5,529 (1,734)
Increase in accrued liabilities.... 2,591 961 4,500
Increase in accrued payroll and
related expenses................. 886 586 453
Increase in deferred revenues...... 45 20,786 14,919
Increase in interest payable....... -- 115 200
----------- ----------- -----------
Net cash used in operating
activities..................... (9,424) (2,187) (6,481)
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment........ (1,739) (923) (1,635)
Purchase of short-term investments......... -- -- (19,751)
Proceeds from sale of fixed assets......... -- 170 --
Cash acquired in Navio acquisition......... -- 1,970 --
----------- ----------- -----------
Net cash provided by (used in)
investing activities........... (1,739) 1,217 (21,386)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock,
net...................................... -- 161 1,535
Proceeds from issuance of convertible
preferred stock, net..................... 11,000 603 47,838
Contribution of capital.................... 412 8,080 --
Proceeds from notes payable................ -- 4,000 5,000
Repayment of note payable.................. -- -- (5,000)
----------- ----------- -----------
Net cash provided by financing
activities..................... 11,412 12,844 49,373
----------- ----------- -----------
EFFECT OF EXCHANGE RATES ON CASH............. (4) 19 13
NET INCREASE IN CASH AND CASH EQUIVALENTS.... 245 11,893 21,519
CASH AND CASH EQUIVALENTS, BEGINNING OF
PERIOD..................................... -- 245 12,138
----------- ----------- -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD..... $ 245 $ 12,138 $ 33,657
----------- ----------- -----------
----------- ----------- -----------
SUPPLEMENTAL NON-CASH ACTIVITIES:
Conversion of intercompany payable to
convertible preferred stock.............. $ -- $ 23,000 $ --
----------- ----------- -----------
----------- ----------- -----------
Deferred stock compensation................ $ -- $ -- $ 7,086
----------- ----------- -----------
----------- ----------- -----------
Stockholder notes receivable............... $ -- $ 36 $ 322
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND OPERATIONS OF THE COMPANY:
Liberate Technologies (the "Company"), formerly known as Network Computer,
Inc., was incorporated on April 24, 1996, and is a provider of a comprehensive
software platform for delivering internet-enhanced content and applications to a
broad range of information appliances, such as television set-top boxes, game
consoles, smart phones and personal digital assistants. In December 1995, the
Company began operations as a division of Oracle Corporation ("Oracle")
developing technology for use in the network computer. On May 31, 1999, Oracle
owned 58% of the outstanding shares of the Company and the Company was a
consolidated entity of Oracle.
On August 11, 1997, the Company completed the acquisition of Navio
Communications, Inc. ("Navio"), a development stage entity which was in the
process of developing consumer Internet applications software (the
"acquisition"). The acquisition was recorded under the purchase method of
accounting and, therefore, the results of operations of Navio and the fair value
of the acquired assets and liabilities were included in the Company's
consolidated financial statements beginning on the acquisition date (see Note
3).
During fiscal 1998, the Company commenced shipment of its principal products
and emerged from the development stage. Although the Company is no longer in the
development stage, the Company continues to be subject to the risks and
challenges associated with companies in a comparable stage of development,
including: dependence on key individuals; key suppliers and customers;
competition from substitute products and from larger companies; successful
marketing of its products and acceptance of its technology; successful
development of product enhancements on a continuing basis; and the need for
adequate financing to support future growth.
In May 1999, the Company entered into an agreement with Sun Microsystems
("Sun") to transfer their NC Navigator and NC Administration Server software to
Sun while retaining the right to ship, support and maintain these products for
existing customers using this technology. Although the Company does not intend
to actively pursue new sales opportunities in the corporate network computer
market, outside of this market they intend to continue developing new products
based on this technology. For the year ended May 31, 1999, sales of these
products and related services accounted for $2.5 million of total revenues. Sun
has also agreed to co-develop television set-top box technology with the
Company, which will be distributed pursuant to a non-exclusive license with Sun.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All intercompany accounts and transactions have been
eliminated in consolidation.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
F-7
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all
highly liquid investments with an original maturity of three months or less to
be cash equivalents. Cash equivalents consist principally of money market
accounts.
SHORT-TERM INVESTMENTS
The Company classifies its short-term investments as "held-to-maturity"
given the Company's positive intent and ability to hold the investments to
maturity. Held-to-maturity securities are carried at amortized cost, which
approximates the fair market value. As of May 31, 1999, short-term investments
consisted entirely of commercial paper, maturing at various dates through August
1999.
CONCENTRATIONS OF CREDIT RISK
Financial instruments that potentially subject the Company to a
concentration of credit risk principally consist of accounts receivable. As of
May 31, 1998 and 1999, approximately 85% and 80% of accounts receivable were
concentrated with four and two customers, respectively. The Company performs
ongoing credit evaluations of its customers' financial condition, and the risk
of loss with respect to its accounts receivables is further mitigated by the
fact that the Company's customer base is comprised of well established
companies. The Company provides reserves for credit losses which, to date, have
been insignificant.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method over the estimated useful lives of the assets of three
to five years. Leasehold improvements are amortized over the shorter of the
remaining lease term or the estimated useful lives of the improvements using the
straight-line method.
FOREIGN CURRENCY TRANSLATION
The functional currency of the Company's subsidiaries is the local currency.
Accordingly, all assets and liabilities are translated into U.S. dollars at the
current exchange rate as of the applicable balance sheet date. Revenues and
expenses are translated at the average exchange rate prevailing during the
period. Gains and losses resulting from the translation of the financial
statements are reported as a separate component of stockholders' equity.
Foreign currency transaction gains and losses are included in other income
(expense) and have not been material.
SOFTWARE DEVELOPMENT COSTS
Under the criteria set forth in Statement of Financial Accounting Standards
("SFAS") No. 86, "Accounting for the Costs of Computer Software to Be Sold,
Leased, or Otherwise Marketed," capitalization of software development costs
begins upon the establishment of technological feasibility of the product, which
the Company has defined as the completion of beta testing of a working product.
The establishment of technological feasibility and the ongoing assessment of the
recoverability of these costs require considerable judgment by management with
respect to certain external factors, including,
F-8
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
but not limited to, anticipated future gross product revenues, estimated
economic life and changes in software and hardware technology. Amounts that
could have been capitalized under this statement after consideration of the
above factors were immaterial and, therefore, no software development costs have
been capitalized by the Company to date.
REVENUE RECOGNITION
Effective June 1, 1998, the Company adopted Statement of Position ("SOP")
97-2, "Software Revenue Recognition." SOP 97-2 provides guidance on applying
generally accepted accounting principles for recognizing revenue on software
transactions. The adoption of SOP 97-2 did not have a material impact on the
Company's financial position, results of operations or cash flows. In December
1998, the American Institute of Certified Public Accountants issued SOP 98-9
"Modification of SOP 97-2. Software Revenue Recognition With Respect to Certain
Transactions." SOP 98-9 is effective for fiscal years beginning on or before
March 15, 1999. The Company believes that the adoption of SOP 98-9 will not have
a material effect on the Company's results of operations or financial condition.
License revenues consist principally of up front license fees earned from
the licensing of the Company's software and royalty fees earned upon the
shipment of, or activation of products which incorporate, the Company's
software. Revenues from up front software license agreements are recognized when
delivery has occurred, collection of the receivable is probable, the fee is
fixed or determinable and vendor-specific objective evidence exists to allocate
the total fee to all delivered and undelivered elements of the arrangement.
Revenue is deferred in cases where the license arrangement calls for the future
delivery of products or services for which the Company does not have vendor-
specific objective evidence to allocate a portion of the total fee to the
undelivered element. In such cases, revenue is recognized when the undelivered
elements are delivered or vendor-specific objective evidence of the undelivered
elements becomes available. If license arrangements include the rights to
unspecified future products, revenue is recognized over the contractual or
estimated economic term of the arrangement. Royalty revenues are recognized when
reported to the Company after shipment of or activation of the related products.
Prepaid royalties are deferred and recognized when reported.
Service revenues consist of consulting services, training and maintenance,
which includes updates and technical support. Consulting service and training
revenues are generally recognized as services are performed. Maintenance revenue
is recognized ratably over the term of the agreement. In instances where
software license agreements include a combination of consulting services,
training, and maintenance, these separate elements are unbundled from the
arrangement based on the element's relative fair value.
F-9
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
The percentage of sales to significant customers is as follows:
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
-------------------------------------------------
1997 1998 1999
--------------- --------------- ---------------
<S> <C> <C> <C>
Customer A.......................................... * 16% 23%
Customer B.......................................... * * 10%
Customer C.......................................... * 10% *
Customer D.......................................... 16% * *
</TABLE>
* Less than 10%
DEFERRED REVENUES
Deferred revenues consists principally of payments received from customers
for future services, prepaid royalties and license fees for undelivered product.
COMPREHENSIVE INCOME
In fiscal 1999, the Company adopted SFAS No. 130, "Reporting Comprehensive
Income." SFAS No. 130 requires companies to report a new, additional measure of
income on the income statement or to create a new financial statement that shows
the new measure of income. Comprehensive income includes foreign currency
translation gains and losses and unrealized gains and losses on equity
securities that have been previously excluded from net income and reflected
instead in equity. The Company has reported the components of comprehensive
income on its statement of operations.
SEGMENT REPORTING
In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information". SFAS 131
changes the way companies report selected segment information in annual
financial statements and requires companies to report selected segment
information in interim financial reports to stockholders. SFAS 131 is effective
for Liberate's year ending May 31, 1999. Liberate operates solely in one
segment, the development, manufacturing and sale of information appliance
software for consumer, corporate and educational marketplaces. As of May 31,
1998 and 1999, the Company's long-term assets are located primarily in the
United States. The Company's revenues by geographic area are as follows (in
thousands):
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
-------------------------------
1997 1998 1999
--------- --------- ---------
<S> <C> <C> <C>
United States................................................... $ 62 $ 5,137 $ 8,542
Japan........................................................... 17 3,280 4,393
England......................................................... 10 682 2,517
Canada.......................................................... 82 346 587
Other........................................................... 104 827 1,274
--------- --------- ---------
Consolidated.................................................... $ 275 $ 10,272 $ 17,313
--------- --------- ---------
--------- --------- ---------
</TABLE>
Export sales consist of sales to customers in foreign countries. During the
years ended May 31, 1997, 1998 and 1999, export sales were 77%, 50% and 51% of
total revenues, respectively.
F-10
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
COMPUTATION OF BASIC NET LOSS PER SHARE AND PRO FORMA BASIC NET LOSS PER SHARE
Historical net loss per share has been calculated under SFAS No. 128
"Earnings per Share." Basic net loss per share on a historical basis is computed
using the weighted average number of shares of common stock outstanding. No
diluted loss per share information has been presented in the accompanying
consolidated statements of operations since potential common shares from
conversion of preferred stock, stock options, and warrants are antidilutive.
Pro forma basic net loss per share has been calculated assuming the
conversion of preferred stock into an equivalent number of common shares, as if
the shares had converted on the dates of their issuance. It also assumes the
conversion of the outstanding convertible long-term debt (see Note 11) into
common stock, as if the debt had converted upon its original issuance date.
RESTRUCTURING CHARGE
A restructuring charge of $1.2 million was recorded in the fiscal year ended
May 31, 1998. Approximately $1 million of this charge related to severance
payments associated with the termination of two executive officers. The
remaining charge of approximately $200,000 was for severance payments and the
acceleration of stock option vesting related to the termination of 20 employees,
primarily in the sales group. All terminations and termination benefits were
communicated to the affected employees prior to period end. At May 31, 1999,
$266,000 was remaining in accrued liabilities in the accompanying balance sheet
which will be paid out in fiscal 2000. All other severance payments have been
made and actual payments made approximated the original estimates.
RECENT ACCOUNTING PRONOUNCEMENTS
In April 1998, the AICPA issued SOP 98-5, "Reporting on the Costs of
Start-Up Activities." The statement is effective for fiscal years beginning
after December 15, 1998. The statement requires costs of start-up activities and
organization costs to be expensed as incurred. The Company is required to adopt
SOP 98-5 for the year ended May 31, 2000. The adoption of SOP 98-5 is not
expected to have a material impact on the Company's consolidated financial
statements.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which requires
companies to value derivative financial instruments, including those used for
hedging foreign currency exposures, at current market value with the impact of
any change in market value being charged against earnings in each period. SFAS
No. 133 will be effective for and adopted by the Company in the first quarter of
the fiscal year ending May 31, 2001. The Company anticipates that SFAS No. 133
will not have a material impact on its consolidated financial statements.
3. ACQUISITION OF NAVIO COMMUNICATIONS, INC.:
Effective August 11, 1997, the Company acquired Navio. In connection with
the acquisition, the Company issued 8,720,661 shares Series B and C convertible
preferred stock and stock options to acquire 3,157,890 shares Series C
convertible preferred stock in exchange for all of the outstanding common stock,
preferred stock and options to purchase shares of Navio common stock. The
acquisition was accounted for as a purchase and, accordingly, the results of
operations of Navio have been
F-11
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITION OF NAVIO COMMUNICATIONS, INC.: (CONTINUED)
included in the consolidated financial statements commencing on the date of
acquisition. The fair market value of the equity securities issued in the
acquisition was approximately $77.1 million.
In connection with the acquisition, the Company originally wrote off
approximately $75.6 million of acquired in-process research and development
(IPR&D) which, in the opinion of management, had not reached technological
feasibility and had no alternative future use. Subsequent to the Securities and
Exchange Commission's letter to the American Institute of Certified Public
Accountants, dated September 9, 1998, regarding its views on IPR&D, the Company
has revised the purchase price allocations and restated its financial
statements. As a result, the Company has made adjustments to decrease the
amounts previously expensed as IPR&D in fiscal 1998 and increase purchased
intangibles by a similar amount.
The effect of this adjustment on the previously reported May 31, 1998
consolidated financial statements is as follows (in thousands):
<TABLE>
<CAPTION>
AS REPORTED AS RESTATED
----------- -----------
<S> <C> <C>
Amortization of purchased intangibles.............................. $ 200 $ 4,563
Acquired in-process research and development....................... $ 75,554 $ 58,100
Loss before income tax benefit..................................... $ 109,772 $ 96,406
</TABLE>
The adjustment had no impact on the reported income tax benefit.
After the adjustment discussed above, the Company wrote off approximately
$58.1 million of acquired in-process research and development which, in the
opinion of management, had not reached technological feasibility and had no
alternative future use. Purchased intangibles, representing purchase price in
excess of identified tangible and intangible assets, of approximately $18.3
million were recorded and are being amortized on a straight-line basis over a
useful life of three years. Accumulated amortization was approximately $4.6
million and $10.7 million at May 31, 1998 and 1999, respectively.
The value assigned to acquired in-process research and development was
determined by identifying research projects in areas for which technological
feasibility has not been established. The value was determined by estimating the
costs to develop the acquired in-process technology into commercially viable
products, estimating the resulting net cash flows from such projects, and
discounting the net cash flows back to their present values. The discount rate
includes a factor that takes into account the uncertainty surrounding the
successful development of the acquired in-process technology. If these projects
are not successfully developed, future revenue and profitability of the Company
may be adversely affected. Additionally, the value of the other purchased
intangible assets may be impaired.
In connection with the acquisition, net assets acquired were as follows (in
thousands):
<TABLE>
<S> <C>
Purchased intangibles, including in-process technology............. $ 76,354
Property, plant and equipment and other noncurrent assets.......... 1,752
Cash, receivables and other current assets......................... 3,715
Current liabilities assumed........................................ (4,133)
---------
Net assets acquired.............................................. $ 77,688
---------
---------
</TABLE>
F-12
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITION OF NAVIO COMMUNICATIONS, INC.: (CONTINUED)
In connection with the acquisition, for up to 60 days after the closing
date, certain former common stockholders of Navio had the right to put to Oracle
up to 50% of the preferred shares they received, and shares issuable under stock
options assumed by the Company in the acquisition, for a price of $6.70 per
share. A total of 1,909,248 shares of Series C convertible preferred stock for
approximately $12.8 million in proceeds were put to Oracle under this
arrangement.
Additionally, there is a call option held by Oracle to purchase all of the
Series B and Series C convertible preferred stock at a to-be-determined buy-out
price. The buy-out price is determined as follows: (1) if exercised prior to
December 31, 1999, the price would be 120% of the per share price determined by
an independent third party valuation of the Company's shares, or (2) if
exercised after December 31, 1999, the per share price determined by an
independent third party valuation of the Company's shares. The option must be
exercised in whole for all shares of Series B and Series C preferred stock
subject to such call option.
The call option will terminate upon a change in control of the Company or
upon an initial public offering of at least $20.0 million.
The following table presents the unaudited pro forma results assuming that
the Company had merged with Navio at the beginning of fiscal year 1997. Net
income has been adjusted to exclude the write-off of acquired in-process
research and development of $58.1 million and includes amortization of purchased
intangibles of approximately $6.1 million for both of the years ended May 31,
1997 and 1998. This information may not necessarily be indicative of the future
combined results of operations of the Company.
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
--------------------------
1997 1998
------------ ------------
(IN THOUSANDS, EXCEPT
PER SHARE AMOUNTS)
<S> <C> <C> <C>
Revenues............................................ $ 1,090 $ 11,065
Net loss............................................ $ (35,300) $ (42,227)
Basic net loss per share............................ $ -- $ (796.38)
</TABLE>
4. PROPERTY AND EQUIPMENT:
At May 31, 1998 and 1999, property and equipment consisted of the following
(in thousands):
<TABLE>
<CAPTION>
MAY 31,
--------------------------
1998 1999
------------ ------------
<S> <C> <C>
Computer equipment................................................ $ 2,881 $ 4,060
Software.......................................................... 561 816
Furniture and equipment........................................... 209 225
Leasehold improvements............................................ 280 465
------------ ------------
3,931 5,566
Less: Accumulated depreciation and amortization................... (2,016) (3,297)
------------ ------------
$ 1,915 $ 2,269
------------ ------------
------------ ------------
</TABLE>
F-13
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. COMMITMENTS AND CONTINGENCIES:
OPERATING LEASES
The Company has various operating leases (including building, furniture and
equipment and maintenance agreements) that expire at various times through 2009.
Future minimum lease payments relating to these agreements as of May 31, 1999,
are as follows (in thousands):
<TABLE>
<CAPTION>
FISCAL YEAR
- ------------------------------------------------------------
<S> <C>
2000........................................................ $ 4,260
2001........................................................ 4,699
2002........................................................ 4,784
2003........................................................ 3,377
2004........................................................ 2,733
Thereafter.................................................. 15,487
------------
$ 35,340
------------
------------
</TABLE>
Rent expense under the Company's operating leases for the years ended May
31, 1997, 1998 and 1999 were approximately $582,000, $2,031,000 and $2,240,000
respectively. The above future minimum lease payments include a commitment of
approximately $72,000 per month expiring on November 30, 2001, which has been
sub-leased at an amount greater than the monthly commitment and is offset
against rent expenses in the consolidated statements of operations.
On April 27, 1999, the Company entered into a ten-year facility lease for
its new corporate headquarters. Total commitments over the 10-year operating
lease life are approximately $28.0 million. Oracle has provided a $10.0 million
guarantee to the landlord. The guarantee can be terminated upon the Company
completing an IPO with net proceeds of at least $40.0 million and providing an
Irrevocable Letter of Credit covering ten months rent and operating costs. Also,
the Company can eliminate the Irrevocable Letter of Credit by achieving certain
financial benchmarks. The Company has also entered into an agreement for
non-penalty, early termination of the Company's current facility and equipment
leases with Oracle Corporation, due to expire on September 17, 2002. Commitments
under the Oracle leases, subsequent to May 31, 1999, total approximately $7.2
million.
GENERAL INSTRUMENT CORPORATION
In April 1999, the Company entered into a Manufacturer's Representative
Agreement and a Development Agreement with General Instrument Corporation
("GI"). Under the developer's agreement, the Company committed to pay GI $10.0
million in development fees for certain services to be performed by GI. These
fees will be paid out in quarterly installments over a three-year period. Under
the manufacturer's agreement, the Company agreed to pay to GI a "commission" on
all GI terminals deployed by network operators with the Company's products on
them. However, the commissions only become effective after specific sales
thresholds are met. Prior to attaining those thresholds, no commissions are due
to GI on these sales. In connection with this commission, GI has committed to
the Company that certain volumes of GI terminals will be sold. After the three
year period is over, GI may be required to pay the Company for any shortfall of
terminal sales below committed volume levels. In addition to this arrangement,
the Company has also entered into a Series C Preferred Stock Purchase Agreement
dated by and between the Company, GI and Oracle pursuant to which Oracle sold GI
757,575 shares of the Company's Series C Preferred Stock.
F-14
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. COMMITMENTS AND CONTINGENCIES: (CONTINUED)
LEGAL MATTERS
The Company is a defendant in various legal matters arising in the normal
course of business. In the opinion of management, after consultation with legal
counsel, the ultimate resolution of these matters is not expected to have a
material effect on these consolidated financial statements.
6. CONVERTIBLE PREFERRED STOCK:
On October 1, 1996, the Company issued 14,166,650 shares of Series A
convertible preferred stock to Oracle in exchange for a cash payment of $10.0
million, a contribution of tangible assets and certain intangible assets
including intellectual property rights and contractual relationships with
suppliers, customers and contractors. The issuance of these shares was recorded
at the carryover basis of the contributed assets plus the cash received.
In connection with the acquisition of Navio (see Note 3), the Company issued
Series B and C convertible preferred stock and authorized the issuance of Series
A-1 and C-1 convertible preferred stock. In addition, on November 12, 1997, the
Company obtained financing from a third party investor of $4 million. The
financing was obtained through issuance of convertible notes which are
convertible, at the option of the holder, into Series D preferred stock at $9.48
per share (see Note 11).
In May 1999, the Company issued 5,208,326 shares of Series E convertible
preferred stock at $9.60 per share for net proceeds to the Company of
approximately $47.5 million.
The Company has authorized the total number of shares of each series of
convertible preferred stock with rights, preferences and restrictions described
below:
DESIGNATED AND OUTSTANDING SHARES OF PREFERRED STOCK
<TABLE>
<CAPTION>
OUTSTANDING AT MAY 31, 1999
SHARES ----------------------------
DESIGNATED SHARES AMOUNT
------------ ------------ --------------
<S> <C> <C> <C>
Series A preferred stock......................... 84,999,900 14,166,650 $ 11,412,000
Series A-1 preferred stock....................... 25,500,000 3,484,847 23,000,000
Series B preferred stock......................... 14,000,000 2,320,758 15,663,000
Series C/C-1 preferred stock..................... 96,000,000 7,797,118 44,156,000
Series D preferred stock......................... 8,000,000 -- --
Series E preferred stock......................... 31,250,000 5,208,326 47,490,000
------------ --------------
32,977,699 $ 141,721,000
------------ --------------
------------ --------------
</TABLE>
RIGHTS, PREFERENCES AND RESTRICTIONS OF PREFERRED STOCK
(a) Series A, A-1, B, C, C-1, D and E convertible preferred stock have a
liquidation preference of $6.00, $6.60, $6.60, $1.65, $1.65, $9.48 and
$9.60 per share plus declared but unpaid dividends on each such share,
respectively. Additionally, Series A, A-1, B, D and E convertible
preferred stock are senior in liquidation to Series C and C-1 convertible
preferred stock and common stock. Series C and C-1 convertible preferred
stock are senior in liquidation to common stock.
(b) Each holder of Series A, A-1, B, D and E convertible preferred stock is
entitled to receive non-cumulative dividends at the rate of $0.60, $0.66,
$0.66, $0.948 and $0.96 per share,
F-15
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. CONVERTIBLE PREFERRED STOCK: (CONTINUED)
respectively, per annum, payable quarterly, when and as declared by the
Board of Directors, prior to payment of dividends on common stock, Series
C preferred stock or Series C-1 preferred stock. Holders of Series C and
C-1 convertible preferred stock do not have stated dividends.
(c) The holder of each share of Series A, A-1, B, C-1, D and E convertible
preferred stock is entitled to the full voting rights and powers and
shall have the right to one vote for each share of common stock into
which such convertible preferred stock could be converted. The holders of
Series C convertible preferred stock do not have the right to vote for
the election or removal of directors of the Company, but may vote on all
other matters.
(d) Each share of Series A, A-1, B, C-1, D and E preferred stock will be
convertible, at the option of the holder, into one share of Series A
common stock. Each share of Series C preferred stock will be convertible,
at the option of the holder, into (i) one share of Series C-1 preferred
stock or (ii) one share of Series A or B common stock. The conversion
ratio is determined by dividing $6.60 for each share of Series A, A-1, B,
C and C-1 preferred stock, $9.48 for each share of Series D preferred
stock and $9.60 for each share of Series E preferred stock by the
conversion price. The initial conversion price for Series A, A-1, B, C
and C-1 preferred stock is $6.60 per share. The initial conversion price
for Series D preferred stock is $9.48 per share, and Series E preferred
stock is $9.60 per share. The conversion rate is subject to adjustment
upon the occurrence of certain events.
(e) Each share of Series A, A-1, B, C-1, D and E preferred stock will be
automatically converted into one share of Series A common stock upon the
sale of Series A common stock in a public offering pursuant to a
registration statement under the Securities Act of 1933, as amended with
net proceeds of greater than $20.0 million and a price to the public of
at least $12.00 per share (as adjusted for stock splits, stock dividends,
combinations and similar events). Each share of Series C preferred stock
will also be automatically converted into one share of Series A common
stock in the same public offering provided that, if the conversion of
such shares would result in a filing requirement on behalf of a holder of
Series C preferred stock pursuant to the Hart-Scott-Rodino Antitrust
Improvement Act of 1976 (the "HSR Act"), as amended, all shares of Series
C preferred stock held by such holder shall automatically be converted
into shares of Series B common stock. Each share of Series A and A-1
preferred stock shall automatically be converted into shares of Series A
common stock at the conversion price at the time in effect for each such
share of preferred stock on the date specified by written consent or
agreement of the holders of a majority of the then outstanding shares of
Series A and A-1 preferred stock, voting together as a class. Each share
of Series B, C, C-1, D and E preferred stock shall automatically be
converted into shares of Series A common stock at the conversion price at
the time in effect for each such share of preferred stock on the date
specified by written consent or agreement of the holders of a majority of
the then outstanding shares of Series B, C, C-1, D and E preferred stock,
voting together as a class, provided, that no shares of Series B
preferred stock or of Series E preferred stock shall be so converted
without the prior written consent or agreement of eighty-one percent
(81%) of the outstanding shares of the Series B preferred stock or Series
E preferred stock (excluding shares of Series B preferred stock or Series
E preferred stock held by Oracle Corporation or its affiliates), as the
case may be, voting as separate classes, and provided, further that if
the conversion of such shares of Series C preferred stock would result in
a filing requirement on
F-16
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. CONVERTIBLE PREFERRED STOCK: (CONTINUED)
behalf of a holder of Series C preferred stock pursuant to the HSR Act,
all shares of Series C preferred stock held by such holder shall
automatically be converted into shares of Series B common stock.
(f) Holders of a certain number of each class of the preferred stock are
required to consent to any action that: (i) alters or changes the rights,
preferences or privileges of that class of Preferred Stock; (ii)
increases the authorized number of shares of preferred stock; (iii)
creates any class of stock with preferences or priorities superior to or
on a parity with the preferences and priority of the preferred stock; or
(iv) affects the sale of all or substantially all of the assets of the
Company, or any consolidation or merger, or any sale of more than 50% of
the Company's capital stock.
7. COMMON STOCK:
The Company has authorized the total number of shares of common stock with
rights, preferences and restrictions described below:
DESIGNATED SHARES OF COMMON STOCK
<TABLE>
<S> <C> <C>
Series A common stock.................... 365,000,000 shares
Series B common stock.................... 42,500,000 shares
----------
407,500,000
----------
----------
</TABLE>
At May 31, 1999, the Company has reserved the following shares of authorized
but unissued shares of common stock for future issuance:
<TABLE>
<S> <C>
Conversion of Series A preferred stock......... 14,166,650
Conversion of Series A-1 preferred stock....... 3,484,847
Conversion of Series B preferred stock......... 2,320,758
Conversion of Series C/C-1 preferred stock..... 7,797,118
Notes convertible into Series D preferred
stock........................................ 1,255,273
Conversion of Series E preferred stock......... 5,208,326
Employee stock purchase plan................... 833,333
Warrants....................................... 2,299,996
Stock options.................................. 8,768,898
----------
46,135,199
----------
----------
</TABLE>
RIGHTS, PREFERENCES AND RESTRICTIONS OF COMMON STOCK
(a) Each share of Series B common stock shall be convertible, at the option
of the holder, into one share of Series A common stock, at any time after
issuance.
(b) Each share of Series B common stock will automatically be converted into
one share of Series A common stock upon the sale of Series A common stock
in a public offering pursuant to a registration statement under the
Securities Act of 1933, with net proceeds of greater than $20.0 million;
provided, that if the conversion of such shares would result in a filing
F-17
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. COMMON STOCK: (CONTINUED)
requirement on behalf of a holder of Series B common stock pursuant to
the HSR Act, such conversion shall not occur unless and until the
expiration or termination of all waiting and review periods (and any
extensions thereof) applicable thereto under the HSR Act at which time
such conversion shall occur.
(c) The holders of each share of Series A and B common stock are entitled to
the full voting rights and powers equal to one vote for each share of
Series A or B common stock held. The holders of Series B common stock do
not have the right to vote for the election or removal of directors of
the Company, but may vote on all other matters.
WARRANT AGREEMENTS
In April and May of 1999, the Company entered into letter agreements with
several network operators that require the Company to issue warrants to purchase
up to an aggregate of approximately 2,299,996 shares of common stock if the
network operators satisfy commercial milestones. Warrants to purchase up to
208,333 shares of common stock, have an exercise price of $9.60 per share,
warrants to purchase up to 2,041,663 shares of common stock, if issued, will
have an exercise price of $13.80 per share and warrants to purchase up to 50,000
shares of common stock, if issued, will have an exercise price of either $9.60
or $13.80 per share, depending on whether commitments are made by the warrant
holders. In the event the milestones are met, the Company would be required to
record a significant non-cash expense based upon the value of the warrants at
the time the milestones are satisfied. The value of the warrants will be
estimated using the Black-Scholes model as of the earlier of the grant date or
the date that it becomes probable that the warrants will be earned. Pursuant to
the requirements of Emerging Issues Task Force No. 96-18, the warrants will
continue to be revalued in situations where they are granted prior to
establishment of a performance commitment.
As of May 31, 1999, warrants to purchase 208,333 shares of common stock at
$9.60 per share have been issued under the terms of these agreements, all of
which are fully vested. The fair value of the warrants recorded as of May 31,
1999, was approximately $1,522,000, of which $18,000 was charged to operations
and the remaining balance of $1,504,000 was recorded as an intangible asset and
is included in other current assets in the accompanying consolidated balance
sheet. The asset will be amortized over the greater of the warrants' respective
performance period or as royalties are earned under the respective software
license agreements with the network operators.
PRO FORMA STOCKHOLDERS' DEFICIT (UNAUDITED)
In May 1999, the board of directors authorized the filing of a registration
statement with the Securities and Exchange Commission to register shares of its
common stock in connection with a proposed Initial Public Offering ("IPO"). If
the offering is consummated under the terms presently anticipated, all of the
currently outstanding convertible preferred stock will convert to 32,977,699
shares of common stock upon the closing of the IPO. Additionally, the Company
has $4.3 million of outstanding debt (see Note 11) which will automatically
convert to 421,940 shares of common stock upon the closing of the IPO. The
effect of these conversions has been reflected as unaudited pro forma
stockholders' equity (deficit) in the accompanying consolidated balance sheet as
of May 31, 1999.
F-18
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. STOCK PLANS:
OPTIONS ASSUMED FROM NAVIO
In connection with the Company's acquisition of Navio, each outstanding
option to purchase shares of Navio common stock was automatically converted into
an option to purchase Series C convertible preferred stock of the Company based
upon the conversion ratio.
Options assumed are immediately exercisable, and the shares of stock issued
upon exercise are subject to repurchase, at the original purchase price, by the
Company, upon the termination of the option holders service to the Company. The
Company's repurchase right expires generally at the rate of 25% of the original
grant, commencing 12 months after the date of grant or employment, and in
monthly increments over the following 36 months.
At May 31, 1999, 1,052,722 options were outstanding at a weighted average
exercise price of $1.14, of which 450,702 options were vested.
NETWORK COMPUTER, INC. 1996 STOCK OPTION PLAN
On October 1, 1996, the Company adopted the Network Computer, Inc. 1996
Stock Option Plan (the "Plan"). The Plan, as amended, provides for the grant of
both incentive and non-qualified stock options to employees, consultants and
directors for the purchase of up to 5,833,333 shares of Series A common stock.
Incentive stock options may only be granted to employees.
The exercise price of incentive stock options cannot be less than the fair
market value of the common stock on the grant date, as determined by the board
of directors. The Plan also provides for holders of non-qualified options to
purchase shares at not less than 85% of the fair market value on the grant date.
The term of the incentive and non-qualified stock options is generally ten years
from the date of grant or a shorter term as provided in the option agreement.
Options generally vest over four years.
The Company accounts for outstanding stock options under Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees"
("APB No. 25"). In accordance with APB No. 25, no compensation expense has been
recognized related to options granted to employees except as discussed below in
"Deferred Stock Compensation", as all employee options were granted with an
exercise price equal to the fair market value of the underlying stock. If
compensation cost had been determined consistent with SFAS No. 123, "Accounting
for Stock-Based Compensation," the Company's pro forma net loss would have been
as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
-------------------------------
1997 1998 1999
--------- --------- ---------
<S> <C> <C> <C>
Net loss--as reported.......................... $ (18,989) $ (94,391) $ (33,053)
--------- --------- ---------
--------- --------- ---------
Net loss--pro forma............................ $ (19,013) $ (94,415) $ (36,446)
--------- --------- ---------
--------- --------- ---------
</TABLE>
F-19
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. STOCK PLANS: (CONTINUED)
Pursuant to the provisions of SFAS No. 123, the fair value of options
granted was estimated on the grant date using the Black-Scholes option pricing
model and the following assumptions:
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
-------------------------------------------
1997 1998 1999
------------- ------------- -------------
<S> <C> <C> <C>
Risk-free interest rate.............................. 5.98% 5.56% 4.75%
<CAPTION>
Average expected life of option...................... 2.83 years 2.83 years 3.97 years
<S> <C> <C> <C>
Dividend yield....................................... 0% 0% 0%
Volatility of common stock........................... 0% 0% 70%
Weighted average fair value of options granted....... $ 0.02 $ 0.08 $ 4.32
</TABLE>
Stock option activity under the Network Computer, Inc. 1996 Option Plan is
summarized below:
<TABLE>
<CAPTION>
OPTIONS
AVAILABLE OPTIONS WEIGHTED AVERAGE
FOR GRANT OUTSTANDING EXERCISE PRICE
------------ ------------ -----------------
<S> <C> <C> <C>
Balance at May 31, 1996......................... -- -- --
Authorized.................................... 2,500,000 -- --
Granted....................................... (1,166,632) 1,166,632 $ .60
Cancelled..................................... 33,331 (33,331) $ .60
------------ ------------ -----
Balance at May 31, 1997......................... 1,366,699 1,133,301 $ .60
Granted....................................... (1,315,962) 1,315,962 $ 3.38
Exercised..................................... -- (213,312) $ 0.76
Cancelled..................................... 805,246 (805,246) $ 1.21
------------ ------------ -----
Balance at May 31, 1998......................... 855,983 1,430,705 $ 2.80
Authorized.................................... 3,333,333 -- --
Granted....................................... (2,151,729) 2,151,729 $ 6.42
Exercised..................................... -- (178,150) $ 2.16
Cancelled..................................... 327,806 (327,806) $ 3.40
------------ ------------ -----
Balance at May 31, 1999......................... 2,365,393 3,076,478 $ 5.30
------------ ------------ -----
------------ ------------ -----
</TABLE>
Additionally, on October 15, 1998, the Company issued non-qualified stock
options outside of the Plan to an executive officer and to an outside director
for the purchase of 2,499,999 shares of the Company's common stock at a price of
$5.10 per share. As of May 31, 1999, options to purchase 225,694 shares had been
exercised and 2,274,305 shares were still outstanding. The options vest over
four years and have a term of ten years.
F-20
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. STOCK PLANS: (CONTINUED)
A summary of all outstanding options, including those assumed in connection
with the Navio acquisition, to purchase common stock and preferred stock at May
31, 1999 is as follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
----------------------------------------------------------- OPTIONS EXERCISABLE
WEIGHTED AVERAGE -------------------------------------
RANGE OF NUMBER OUTSTANDING REMAINING WEIGHTED AVERAGE NUMBER EXERCISABLE WEIGHTED AVERAGE
EXERCISE PRICES AS OF MAY 31, 1999 CONTRACTUAL LIFE EXERCISE PRICE AS OF MAY 31, 1999 EXERCISE PRICE
- --------------- ------------------- ------------------- ----------------- ------------------ -----------------
<S> <C> <C> <C> <C> <C>
$0.36 $0.60 646,434 7.52 $ 0.44 538,342 $ 0.40
$1.68 $2.16 786,019 7.91 $ 1.79 673,048 $ 1.72
$3.90 $4.50 1,028,571 9.41 $ 4.16 162,067 $ 5.10
$5.10 $5.70 2,786,201 9.33 $ 5.14 43,652 $ 4.50
$7.50 $9.00 1,156,280 9.85 $ 7.62 750 $ 7.50
---------- --- ----- ------------------ -----
6,403,505 9.08 $ 4.42 1,417,859 $ 2.40
---------- --- ----- ------------------ -----
---------- --- ----- ------------------ -----
</TABLE>
DEFERRED STOCK COMPENSATION
In connection with the grant of certain stock options to employees during
the year ended May 31, 1999, the Company recorded deferred compensation of $7.1
million, representing the difference between the estimated fair value of the
common stock for accounting purposes and the option exercise price of such
options at the date of grant. Such amount is presented as a reduction of
stockholders' equity and amortized ratably over the vesting period of the
applicable options (generally four years). Approximately $507,000 was expensed
during the year ended May 31, 1999, and the balance will be expensed ratably
over the period the options vest. Compensation expense is decreased in the
period of forfeiture for any accrued but unvested compensation arising from the
early termination of an option holder's services. In addition, the Company will
record additional deferred stock compensation of approximately $1.6 million for
June 1999 stock option grants. This amount will be expensed over the option
vesting period of four years.
1999 EQUITY INCENTIVE PLAN
On May 17, 1999, the board of directors approved the adoption of the
Company's 1999 Equity Incentive Plan (the "1999 Plan"), subject to stockholder
approval. The types of awards that may be made under the 1999 Plan are options
to purchase shares of common stock, stock appreciation rights, restricted shares
and stock units. Any shares not yet issued under the Company's 1996 Stock Option
Plan as of the date of the Company's initial public offering will be available
for grant under the 1999 Plan. The exercise price for incentive stock options
may not be less than 100% of the fair market value of the Company's common stock
on the date of grant (85% for nonstatutory options). No options have been
granted under the 1999 Plan as of May 31, 1999.
1999 EMPLOYEE STOCK PURCHASE PLAN
On May 17, 1999, the board of directors approved the adoption of the
Company's 1999 Employee Stock Purchase (the "1999 Purchase Plan"), subject to
stockholder approval. A total of 833,333 shares of common stock has been
reserved for issuance under the 1999 Purchase Plan, plus, commencing on June 1,
2000, annual increases equal to the lesser of 833,333 shares, 2% of the
outstanding common shares on such date or a lesser amount determined by the
board of directors. The 1999 Purchase Plan
F-21
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. STOCK PLANS: (CONTINUED)
permits eligible employees to acquire shares of the Company's common stock
through periodic payroll deductions of up to 15% of base cash compensation. No
more than 750 shares may be purchased by each employee on any purchase date.
Each offering period will have a maximum duration of 6 months. The price at
which the common stock may be purchased is 85% of the lesser of the fair market
value of the Company's common stock on the first day of the applicable offering
period or on the last day of the respective purchase period. The initial
offering period will commence on the effectiveness of the initial public
offering and will end on March 31, 2000.
9. INCOME TAXES:
The Company and Oracle have entered into a tax sharing agreement effective
August 12, 1997. Under the terms of the agreement, the Company is responsible
for its share of Oracle's consolidated tax liability, computed as if the Company
had filed a separate return. Further, if the Company would have no tax due on a
separate return basis and the inclusion of the Company's tax operating losses
reduces Oracle's consolidated tax liability, Oracle will pay to the Company the
tax savings generated by including the Company in its consolidated tax return.
Oracle is not required to reimburse the Company for the tax savings obtained by
Oracle prior to August 12, 1997. Oracle realized a tax savings of approximately
$11.8 million and $1.4 million for the year ended May 31, 1997, and the period
from June 1, 1997 to August 11, 1997, respectively. These amounts are reflected
as a tax benefit in the accompanying statement of operations and a corresponding
refund of contributed capital to Oracle in the accompanying consolidated
statement of stockholders' equity (deficit). Subsequent to the acquisition of
Navio on August 12, 1997, the Company is no longer included in Oracle's
consolidated Federal Tax Returns. For the period from August 12, 1997 to May 31,
1998, and for the fiscal year ended May 31, 1999, Oracle will realize state and
local tax savings of approximately $788,000 and $781,000, respectively. These
amounts are reflected as a receivable from affiliate in the accompanying
consolidated balance sheets.
Income taxes have been calculated on a separate company basis pursuant to
the provisions of SFAS No. 109, "Accounting for Income Taxes". The components of
the benefit for income taxes are as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
-------------------------------------
1997 1998 1999
----------- ----------- -----------
<S> <C> <C> <C>
Current:
Federal................................................... $ 10,100 $ 1,303 $ --
State..................................................... 1,650 987 781
Foreign................................................... -- (275) (195)
----------- ----------- -----------
Total benefit........................................... $ 11,750 $ 2,015 $ 586
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
F-22
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. INCOME TAXES: (CONTINUED)
The (provision) benefit for income taxes differs from the amounts which
would result by applying the applicable statutory Federal income tax rate to
income before taxes, as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED MAY 31,
-------------------------------------
1997 1998 1999
----------- ----------- -----------
<S> <C> <C> <C>
Benefit at Federal statutory rate........................... $ 10,700 $ 33,755 $ 11,774
State income taxes, net of Federal benefit.................. 1,750 5,500 1,917
Change in valuation allowance............................... (198) (15,162) (10,926)
Nondeductible write-off of in-process research and
development............................................... -- (20,335) --
Nondeductible goodwill amortization......................... -- (1,610) (2,129)
Other....................................................... (502) (133) (50)
----------- ----------- -----------
Total benefit........................................... $ 11,750 $ 2,015 $ 586
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
Components of the net deferred tax asset are as follows (in thousands):
<TABLE>
<CAPTION>
MAY 31,
-----------------------------------------
1997 1998 1999
------------- ------------ ------------
<S> <C> <C> <C>
Net operating losses................................ $ -- $ 4,573 $ 8,546
Temporary differences............................... 198 9,998 16,306
Tax credits......................................... -- 789 1,434
----- ------------ ------------
Total deferred tax asset............................ 198 15,360 26,286
Valuation allowance................................. (198) (15,360) (26,286)
----- ------------ ------------
Total net deferred tax asset........................ $ -- $ -- $ --
----- ------------ ------------
----- ------------ ------------
</TABLE>
A valuation allowance has been recorded for the entire deferred tax asset as
a result of uncertainties regarding realization of the asset including limited
operating history of the Company, the lack of profitability to date and the
uncertainty over future operating profitability.
At May 31, 1999, the Company had federal net operating loss carryforwards of
approximately $24.4 million and tax credits totaling $1.4 million. The federal
net operating loss carryforwards expire at various dates through 2003 and 2019.
Under current tax law, net operating loss carryforwards available to offset
future operating income in any given year may be limited upon the occurrence of
certain events, including significant changes in ownership interests.
10. RELATED PARTY TRANSACTIONS:
TRANSACTIONS WITH ORACLE
Prior to September 1997, the Company's parent, Oracle, performed certain
services and incurred certain costs for the benefit of the Company. Services
provided included tax, treasury, risk management, employee benefits, legal,
accounting and other general corporate services. The costs of the services
provided by Oracle have been allocated to the Company based upon the relative
headcount of the Company to the total consolidated headcount of Oracle. The
charges for these services totaled approximately $1,000,000 and $250,000 for the
years ended May 31, 1997 and 1998, respectively. In the
F-23
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10. RELATED PARTY TRANSACTIONS: (CONTINUED)
opinion of management, the method of allocating the costs is reasonable and the
cost of the services allocated to the Company is not significantly different
from the costs that would have been incurred had the Company performed these
functions. Commencing in September 1997, the Company ceased obtaining these
services from Oracle.
Prior to the Company's acquisition of Navio, Oracle had provided cash flow
to fund the Company's operations through an intercompany payable account. In
fiscal 1998, in connection with the acquisition of Navio, Oracle converted
approximately $18.0 million of outstanding intercompany payables into 2,727,272
shares of the Company's Series A-1 preferred stock. Additionally, in fiscal
1998, Oracle contributed capital of approximately $8.1 million to the Company.
The Company has entered into a Convertible Note Purchase Agreement dated
July 23, 1997 with Oracle. Pursuant to the Convertible Note Purchase Agreement,
Oracle agreed to provide up to $10.0 million to the Company for general working
capital purposes, as needed, in the form of convertible notes. The convertible
notes bear interest at 8% per annum and are convertible at Oracle's option into
shares of the Company's Series A-1 preferred stock, which is currently $6.60 per
share. As of May 31, 1999, the Company has drawn down approximately $10.0
million under such arrangement. During fiscal 1998, Oracle converted $5.0
million of such indebtedness into 757,575 shares of the Company's Series A-1
Convertible preferred stock. In May 1999, the Company paid the remaining $5
million to Oracle.
The Company has entered into real property leases with Oracle for its
corporate headquarters and for certain of its field offices pursuant to which
the Company is obliged to make monthly rental payments to Oracle of
approximately $124,000 and approximately $4,000, respectively. The Company also
leases furniture and equipment for its corporate headquarters and for its Salt
Lake City facilities from Oracle pursuant to leases that obligate the Company to
make monthly rental payments to Oracle of approximately $57,000 and
approximately $2,700, respectively. In addition, the Company has contracted for
Oracle to perform maintenance at its corporate headquarters. The Company has
also entered into another real property agreement with Oracle for its UK
operations pursuant to which the Company is obligated to make quarterly rental
payments to Oracle of approximately $12,000.
In connection with the Company's acquisition of Navio, the Company, Oracle
and certain of the former Navio stockholders entered into a Put/Call and Voting
Agreement dated August 11, 1997 (the "PCV Agreement"). The PCV Agreement, among
other things, (i) grants Oracle an irrevocable option to purchase all of the
shares of Series B preferred stock and Series C preferred stock of the Company
or securities issuable upon conversion thereof held by the former Navio
stockholders, including Netscape, who are parties to the PCV Agreement, (ii)
contains a tag-along provision that is triggered in certain change-of-control
situations and (iii) contains a voting agreement that provides for the election
of four Oracle designees to the Company's board of directors.
In connection with the acquisition of Navio, certain former Navio
stockholders had the right for a period of 60 days following the closing of the
acquisition to compel Oracle to purchase up to 50% of the shares received by
them in the acquisition or issuable under stock options assumed by the Company
in the acquisition (the "Put"). Pursuant to the Put, a total of 1,909,248 shares
of the Company's Series C preferred stock were put to Oracle for approximately
$12.8 million. Oracle subsequently converted such shares into shares of the
Company's Series C-1 preferred stock.
F-24
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
10. RELATED PARTY TRANSACTIONS: (CONTINUED)
On November 19, 1997, the Company's Board of Directors waived the Company's
right of first offer with respect to 331,537 shares of Series B preferred stock
offered for sale by Sony Corporation. Subsequently, such shares were acquired by
Oracle.
The Company has entered into a Services Agreement dated March 5, 1998 with
Oracle. Pursuant to the Services Agreement, Oracle provides professional
services to certain of the Company's customers.
The Company has entered into a Technology License Agreement with Oracle in
fiscal 1998. Pursuant to the Technology License Agreement, Oracle may promote,
market and distribute sublicenses of the Company's products through its
worldwide distribution channels for a period of three years.
During fiscal 1999, the Company paid approximately $243,000 for commissions
to Oracle Japan related to license of software.
TRANSACTIONS WITH NETSCAPE
As a result of the acquisition of Navio in August 1997, Netscape became a
stockholder of the Company. As of May 31, 1999, Netscape owned approximately 11%
of the outstanding common and preferred stock of the Company.
Navio entered into a Source Code License Agreement with Netscape ("Netscape
Source Code License") dated July 9, 1996, as amended on April 6, 1998 and
September 28, 1998. In connection with the Company's acquisition of Navio and
pursuant to a letter agreement dated May 16, 1997, Netscape consented to the
assignment of the Netscape Source Code License from Navio to the Company.
Pursuant to such letter agreement, Netscape and Oracle also agreed that the
Company's products would be distributed pursuant to an OEM License Agreement by
and between Netscape and Oracle dated October 17, 1996.
Pursuant to this agreement, the Company has the right to use approximately
$1.0 million in prepaid royalties with Netscape. The Company has also paid
Netscape approximately $200,000 for the purchase of certain rights and licenses.
The Company and Netscape, which has merged with America Online ("AOL"), are
also co-sublessors of real property located in Sunnyvale, California. Netscape
and Navio originally leased the property in November 1996, and Navio's rights
and duties under the lease were assigned to the Company in connection with the
Company's acquisition of Navio. Subsequently, the property was subleased to a
third party. The lease terminates in November 2001.
The Company recognized 1% and 10%, or approximately $139,000 and $1.7
million of total revenues from revenue transactions with related parties during
the fiscal years ended May 31, 1998 and 1999, respectively. No amounts were
recognized in fiscal 1997.
11. THIRD PARTY FINANCING AGREEMENTS:
On November 12, 1997, the Company entered into a Convertible Promissory Note
(the "Notes") Purchase and Cooperation Agreement (the "Agreement") with a third
party investor (the "Investor").
The Agreement is for the sale of up to three $4.0 million Notes that are
convertible into Series D convertible preferred stock. The Notes bear interest
at the lesser of 5% or the maximum interest rate
F-25
<PAGE>
LIBERATE TECHNOLOGIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. THIRD PARTY FINANCING AGREEMENTS: (CONTINUED)
permitted under applicable Federal and state laws, which will be converted to
stock if the notes are converted. The principal amount and accrued interest
outstanding under each Note is due five years from the date of issuance unless
converted or accelerated in the event of an initial public offering, a merger or
an asset sale. During the year ended May 31, 1998, the Company sold the first
Note of $4.0 million which is convertible, at the option of the holder (or
automatically on the consummation of an initial public offering), into Series D
convertible preferred stock at $9.48 per share. Should the Company issue the
second and third Note, the conversion price will be the lower of $9.48 or the
price of subsequent preferred stock based on the preceding preferred round.
In the Agreement, the investor agreed to fund $3.0 million of the Company's
non-recurring engineering ("NRE") efforts through December 31, 1999. The Company
recognizes the NRE revenue as services are performed and recognized
approximately $72,000 and $871,000 of revenue during the years ended May 31,
1998 and 1999, respectively. In consideration of the funding, the Company agreed
to pay the investor a royalty for each license of the Company's software
incorporating that technology, up to a maximum of $3.9 million. The obligation
to pay the royalty terminates 4 years after the first commercial shipment of
hardware implementing the Company's software.
12. RETIREMENT PLAN
The Company has a retirement plan under Section 401(k) of the Internal
Revenue Code. Under the retirement plan, participating employees may defer a
portion of their pretax earnings up to the Internal Revenue Service annual
contribution limit. The Company may make contributions to the plan at the
discretion of the Board of Directors. To date, no such contributions have been
made by the Company.
13. SUBSEQUENT EVENT
REVERSE STOCK SPLIT
In May 1999, the Company's Board of Directors approved a one-for-six reverse
stock split of the Company's outstanding shares of common and preferred stock
which will become effective immediately prior to the Company's initial public
offering. All share and per share information included in the accompanying
consolidated financial statements and notes have been adjusted retroactively to
reflect this reverse stock split.
PRIVATE PLACEMENT WITH LUCENT TECHNOLOGIES
In June 1999, the Company entered into a stock purchase agreement with
Lucent Technologies ("Lucent") under which, contingent upon and immediately
following consummation of the sale of shares in the IPO, Lucent agreed to invest
$12.5 million in a private placement of shares of the Company's common stock at
a price per share equal to 96% of the IPO price. Lucent has agreed not to sell,
transfer, encumber or otherwise dispose of any of the shares of common stock
acquired in the private placement in a public or private sale for a period of
180 days following the closing of the IPO.
F-26
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Navio Communications, Inc.
We have audited the accompanying balance sheet of Navio Communications, Inc.
(a development stage company) as of December 31, 1996, and the related
statements of operations, stockholders' equity, and cash flows for the period
from inception (February 12, 1996) to December 31, 1996. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit 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 audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Navio Communications, Inc.
(a development stage company) at December 31, 1996, and the results of its
operations and its cash flows for the period from inception (February 12, 1996)
to December 31, 1996, in conformity with generally accepted accounting
principles.
As more fully described in Note 1 to the financial statements, the Company
is in the development stage, has incurred losses since inception of
approximately $5.6 million and expects to incur substantial and increasing
operating losses in the next year. At December 31, 1996, the Company had working
capital of $8.3 million. These factors raise substantial doubt about the
Company's ability to continue as a going concern. Management's plans as to these
matters are described in Note 1. The 1996 financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
Palo Alto, California /s/ ERNST & YOUNG LLP
March 6, 1997, except for
Note 8 as to which the date is
June 5, 1997
F-27
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
BALANCE SHEET
DECEMBER 31, 1996
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<S> <C>
ASSETS
Current assets:
Cash and cash equivalents........................................................ $ 8,152
Short-term investments........................................................... 2,033
Other current assets............................................................. 174
---------
Total current assets............................................................... 10,359
Property and equipment, net........................................................ 1,290
Other assets....................................................................... 132
---------
$ 11,781
---------
---------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable................................................................. $ 316
Accrued compensation and related liabilities..................................... 235
Other accrued liabilities........................................................ 746
Deferred revenues................................................................ 675
Short-term note payable, stockholder............................................. 51
---------
Total current liabilities.......................................................... 2,023
Commitments and contingencies
Stockholders' equity:
Preferred stock, $0.0001 par value; issuable in series; 7,777,777 shares
authorized; 7,777,777 Series A shares outstanding; aggregate liquidation
preference of $15,556.......................................................... 15,392
Common stock, $0.0001 par value; 55,555,555 shares authorized; 21,111,112 shares
outstanding.................................................................... 154
Note receivable, stockholder..................................................... (150)
Deficit accumulated during the development stage................................. (5,638)
---------
Total stockholders' equity......................................................... 9,758
---------
$ 11,781
---------
---------
</TABLE>
SEE ACCOMPANYING NOTES.
F-28
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENT OF OPERATIONS
PERIOD FROM INCEPTION (FEBRUARY 12, 1996) TO DECEMBER 31, 1996
(IN THOUSANDS)
<TABLE>
<S> <C>
Operating expenses:
Research and development......................................................... $ 4,559
Sales and marketing.............................................................. 839
General and administrative....................................................... 432
---------
Total operating expenses........................................................... 5,830
---------
Operating loss..................................................................... (5,830)
Interest income, net............................................................... 192
---------
Net loss........................................................................... $ (5,638)
---------
---------
</TABLE>
SEE ACCOMPANYING NOTES.
F-29
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENT OF STOCKHOLDERS' EQUITY
PERIOD FROM INCEPTION (FEBRUARY 12, 1996) TO DECEMBER 31, 1996
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
DEFICIT
ACCUMULATED
SERIES A DURING THE TOTAL
PREFERRED COMMON NOTE DEVELOPMENT STOCKHOLDERS'
STOCK STOCK RECEIVABLE STAGE EQUITY
----------- ----------- ----------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Issuance of 21,111,112 shares of common stock to
founders for technology and a note in July
1996............................................. $ -- $ 150 $ (150) $ -- $ --
Issuance of 7,777,777 shares of Series A preferred
stock to investors at $2.00 per share, net of
issuance costs of $163 in July and October
1996............................................. 15,392 -- -- -- 15,392
Issuance of options to purchase 201,000 shares of
common stock for services valued at $0.02 per
share in November 1996........................... -- 4 -- -- 4
Net loss........................................... -- -- -- (5,638) (5,638)
----------- ----- ----- ------------ ------------
Balance at December 31, 1996....................... $ 15,392 $ 154 $ (150) $ (5,638) $ 9,758
----------- ----- ----- ------------ ------------
----------- ----- ----- ------------ ------------
</TABLE>
SEE ACCOMPANYING NOTES.
F-30
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENT OF CASH FLOWS
PERIOD FROM INCEPTION (FEBRUARY 12, 1996) TO DECEMBER 31, 1996
(IN THOUSANDS)
<TABLE>
<S> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss........................................................................... $ (5,638)
Adjustments to reconcile net loss to net cash (used in) provided by operating
activities:
Depreciation and amortization.................................................... 153
Issuance of stock for services................................................... 4
Changes in assets and liabilities:
Other current assets........................................................... (174)
Accounts payable............................................................... 316
Accrued compensation and related liabilities................................... 235
Other accrued liabilities...................................................... 746
Deferred revenues.............................................................. 675
---------
Net cash used in operating activities.............................................. (3,683)
---------
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures............................................................... (1,443)
Increase in other assets........................................................... (132)
Purchase of short-term investments................................................. (4,008)
Maturities of short-term investments............................................... 1,975
---------
Net cash used in investing activities.............................................. (3,608)
---------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of Series A preferred stock, net............................ 15,392
Short-term notes payable, stockholder.............................................. 551
Repayment of short-term notes payable, stockholder................................. (500)
---------
Net cash provided by financing activities.......................................... 15,443
---------
Net increase in cash and cash equivalents.......................................... 8,152
Cash and cash equivalents at beginning of period................................... --
---------
Cash and cash equivalents at end of period......................................... $ 8,152
---------
---------
</TABLE>
SEE ACCOMPANYING NOTES.
F-31
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS
Navio Communications, Inc. ("Navio" or the "Company"), a development stage
company, was incorporated in the State of Delaware on February 12, 1996. The
Company was organized to develop and market Internet solutions to consumers on
non-PC devices.
DEVELOPMENT STAGE COMPANY
Since inception, the Company has been engaged primarily in research and
development activities in connection with the development of its products. Other
activities to date have included raising capital, recruiting managerial and
technical personnel, establishment of business development and marketing
organizations and execution of various license agreements. Accordingly, the
Company is classified as a development stage enterprise at December 31, 1996.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. Since inception, the Company has
incurred cumulative net operating losses of approximately $5.6 million and has
working capital of approximately $8.3 million as of December 31, 1996. These
conditions raise substantial doubt about the Company's ability to continue as a
going concern. Management expects the Company to incur substantial and
increasing operating losses in the next year and recognizes the need for an
infusion of cash during 1997. The Company is actively pursuing various options
which include securing additional equity financing and believes that sufficient
funding will be available to achieve its planned business objectives. However,
if the Company is unable to obtain necessary cash, other more substantial
restructuring options may be necessary, which would have a material adverse
effect on the Company's business, results of operations and prospects. The
financial statements do not include any adjustments to reflect the possible
future effects on the recoverability and classification of assets or the amounts
and classification of liabilities that may result.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts in the financial statements and accompanying
notes. Actual results could differ from those estimates.
CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
Cash and cash equivalents consist of cash on deposit with banks and money
market instruments with original maturities of 90 days or less. Short-term
investments, all of which are classified as available-for-sale, consist of high
quality debt securities with original maturities between 90 days and one year.
F-32
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The following table details the Company's investments at December 31, 1996
(in thousands):
<TABLE>
<S> <C>
U.S. Government agencies............................................ $ 4,624
Money market funds.................................................. 2,268
Corporate bonds and notes........................................... 3,025
---------
$ 9,917
---------
---------
Included in cash and cash equivalents............................... $ 7,884
Included in short-term investments.................................. 2,033
---------
$ 9,917
---------
---------
</TABLE>
The Company invests its excess cash in accordance with a short-term
investment policy set by the board of directors. The policy authorizes
investments in government securities, time deposits and certificates of deposit
in approved financial institutions, commercial paper rated A-1/P-1, and other
money market instruments of similar liquidity and credit quality.
The Company considers its investments in such instruments as
available-for-sale and, in accordance with Financial Accounting Standard No.
115, "Accounting for Certain Investments in Debt and Equity Securities" ("FAS
115"), would record its investments at fair value. However, as the difference
between cost and fair value was immaterial, no adjustment was made to the
historical carrying value of the investments and no unrealized gains and losses
have been recorded as a separate component of stockholders' equity. Realized
gains or losses from available-for-sale investments have not been material.
CONCENTRATION OF CREDIT RISK
Financial instruments which potentially subject the Company to concentration
of credit risk consist principally of cash investments. The Company primarily
invests its excess cash in deposits with major banks, in U.S. Treasury and U.S.
Agency obligations and in money market securities issued by companies with
strong credit ratings and in a variety of industries. Those securities
classified as cash equivalents and short-term investments typically mature
within one year of their purchase date.
PROPERTY AND EQUIPMENT
Property and equipment are depreciated using the straight-line method over
the estimated useful lives of the assets, generally two to five years. Leasehold
improvements are amortized over the lesser of the term of the lease or the
estimated useful life of the underlying asset.
DEFERRED REVENUE
Deferred revenue represents prepayments from customers for future consulting
services and product royalties.
F-33
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
RESEARCH AND DEVELOPMENT
Research and development expenditures are charged to operations as incurred.
Statement of Financial Accounting Standard No. 86, "Accounting for the Costs of
Computer Software to Be Sold, Leased or Otherwise Marketed," requires
capitalization of certain software development costs subsequent to the
establishment of technological feasibility.
Based on the Company's product development process, technological
feasibility is established upon completion of a working model. To date, all
research and development costs have been expensed.
STOCK-BASED COMPENSATION
In accordance with the provisions of Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), the
Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25") and related
interpretations, and to adopt the "disclosure only" alternative described in FAS
123, in accounting for its employee stock option plans. Under APB 25, if the
exercise price of the Company's employee stock options equals or exceeds the
fair value of the underlying stock on the date of grant as determined by the
Company's board of directors, no compensation expense is recognized.
2. PROPERTY AND EQUIPMENT
Property and equipment, at cost, consists of the following at December 31,
1996 (in thousands):
<TABLE>
<S> <C>
Computer and office equipment....................................... $ 595
Purchased computer software......................................... 256
Furniture and fixtures.............................................. 249
Leasehold improvements.............................................. 343
---------
Total property and equipment........................................ 1,443
Accumulated depreciation and amortization........................... (153)
---------
Net property and equipment.......................................... $ 1,290
---------
---------
</TABLE>
3. SHORT-TERM NOTE PAYABLE, STOCKHOLDER
In July 1996, the Company entered into a note with a stockholder for the
purchase of equipment. The note is noninterest bearing, payable on demand and
secured by the equipment. The stockholder maintains the right, until the note is
repaid, to repurchase the equipment for the original purchase price paid by the
Company.
4. COMMITMENTS
The Company leases facilities, as cotenant with Netscape for its principal
office and research facilities under a noncancelable operating lease agreement
expiring in December 2001. Minimum payments are subject to annual increases
based in part on the consumer price index.
F-34
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
4. COMMITMENTS (CONTINUED)
In addition, during 1996, the Company entered into various agreements with
third party vendors requiring minimum royalty and maintenance payments. Certain
third party agreements contain cancelation provisions whereby the Company will
be free of further liability upon cancelation. In addition, certain third party
agreements provide for an irrevocable, worldwide, perpetual license for use in
any application upon payment of the minimum royalty payments.
Future minimum payments as of December 31, 1996 under the lease, net of
sublease income, and under third party royalty and maintenance agreements are as
follows (in thousands):
<TABLE>
<CAPTION>
NONCANCELABLE THIRD-PARTY
OPERATING ROYALTY
LEASE AGREEMENTS
------------- -----------
<S> <C> <C>
1997.............................................................. $ 736 $ 300
1998.............................................................. 843 487
1999.............................................................. 873 200
2000.............................................................. 904 409
2001 and thereafter............................................... 937 409
------ -----------
$ 4,293 $ 1,805
------ -----------
------ -----------
</TABLE>
Rent expense for the period ending December 31, 1996 was $141,000.
Payments under third party agreements for the period ending December 31,
1996, which have been expensed to research and development, were $874,000.
In addition, in July 1996, the Company entered into an employment agreement
with a founder. The agreement is terminable by either party on 30 days' written
notice, and provides for a base salary, subject to adjustment at the discretion
of the board of directors, with bonuses payable on March 31, 1998, 1999 and
2000, respectively. The agreement obligates the Company to loan money to the
founder for the purchase of a residence, which loan will bear interest at 5% and
be payable 12 months following funding. The loan will be secured by a deed of
trust in favor of the Company in the underlying real property, or other
acceptable collateral. The agreement further provides that in the event that (i)
the Company terminates the employment of the founder other than for "cause," as
defined therein, (ii) the founder's employment is "constructively terminated,"
as defined therein, or (iii) a "Change in Control," as defined therein, occurs,
then the founder will be entitled to (w) a severance payment equal to 24 months'
base salary, payable in 24 equal monthly installments, (x) cancelation and
forgiveness of any outstanding loans from the Company, (y) termination of the
Company's repurchase rights in any common stock held by the founder and (z) a
24-month consultancy at $1,000 per month, during which period any options held
by the founder would continue to be exercisable. In the event that the Company
terminates the employment of the founder for "cause," then the founder will be
entitled to receive a severance payment equal to six months' base salary and in
certain circumstances, the benefits prescribed in (y) and (z) above. In the
event the founder voluntarily terminates his employment with the Company, the
founder will be entitled to receive a severance payment equal to six months'
base salary (see Note 8).
F-35
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
5. STOCKHOLDERS' EQUITY
PREFERRED STOCK
During 1996, the Company issued 7,777,777 shares of Series A preferred stock
at $2.00 per share. In the event of a liquidation or winding up of the Company,
holders of Series A preferred stock are entitled to a liquidation preference of
$2.00 per share, together with any declared but unpaid dividends, prior and in
preference to the holders of common stock. Series A preferred stockholders are
entitled to noncumulative dividends at an annual rate of $0.0675 per share, when
and as declared by the board of directors, prior and in preference to dividends
on the common stock. No dividends have been declared by the Company.
The holders of Series A preferred stock are entitled to one vote for each
share of common stock into which such preferred stock is convertible. Each share
of Series A preferred stock is convertible, at an option of the holder, into
common stock on a one-for-one basis. Each share of Series A preferred stock
automatically converts into one share of common stock in the event of an
underwritten public offering of the Company's common stock with a price of at
least $4.00 per share and aggregate gross proceeds of at least $10,000,000 (a
"Qualified IPO") or upon the consent of the holders of a majority of the then
outstanding shares of Series A preferred stock. The conversion rate of the
Series A preferred stock is subject to adjustment in the event of, among other
things, certain dilutive issuances of stock, business combinations, stock splits
and stock dividends. The Company has reserved 7,777,777 shares of common stock
for conversion of preferred stock.
COMMON STOCK
In July 1996, 8,333,334 shares of common stock were issued to a founder in
exchange for technology and a $150,000 promissory note. The outstanding shares
are subject to certain transfer restrictions. Certain of these shares are
subject to repurchase, at $0.10 per share, upon the occurrence of certain
events, including termination of employment. The Company's repurchase option
expires as to 1,388,889 shares of common stock on each of February 12, 1997 and
1998. In addition, as to these 2,777,778 shares, the repurchase option will
expire immediately in the event of a Qualified IPO or upon acquisition of the
Company, subject to certain conditions, by a stockholder. As to an additional
2,777,778 shares of common stock, the Company's repurchase option expires based
on the achievement of specified performance objectives. Regardless of product
sold, the repurchase option shall expire on all such performance shares as of
February 12, 2003 (see Note 8).
As to the shares which are not subject to the repurchase option, the shares
are subject to the Company's right to first refusal on sale or transfer of the
shares. The Company's right of first refusal terminates upon the earliest to
occur of (i) a Qualified IPO, (ii) a merger or consolidation of the Company as a
result of which the Company is not the surviving entity, or any sale, conveyance
or other disposition of the assets of the Company as an entirety or
substantially as an entirety, or (iii) the achievement by the Company of
$100,000,000 in annual sales.
In addition, in July 1996, the Company issued to Netscape 12,777,778 shares
of common stock in exchange for the license of certain intellectual property
rights. Such shares are subject to the Company's right of first refusal on sale
or transfer of the shares. The Company's right of first refusal terminates upon
the earliest to occur of (i) the Company's underwritten initial public offering,
(ii) a merger or consolidation of the Company as a result of which the Company
is not the surviving entity or
F-36
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
5. STOCKHOLDERS' EQUITY (CONTINUED)
any sale, covenance or other disposition of the assets of the Company as an
entirety or substantially as an entirety; (iii) the achievement by the Company
of $100,000,000 in annual sales or (iv) the expiration of the Company's right of
first refusal with respect to the founder's common stock.
STOCKHOLDER AND VOTING AGREEMENT
The Company has an agreement with Netscape, which along with certain
stockholder rights, provides Netscape with the right and option to acquire
substantially all of the outstanding stock, of the Company at fair market value,
if the Company has not completed an underwritten initial public offering of
shares on or before February 12, 2000, or if, prior to that date, the board of
directors of the Company approves the selection of an investment banking firm
for the purpose of serving as lead manager of the Company's initial public
offering, holders of Series A preferred stock may elect not to sell their shares
in connection with such a transaction (see Note 8).
NOTE RECEIVABLE, STOCKHOLDER
In July 1996, the Company issued a full recourse promissory note in the
original principal amount of $150,000 to a founder. The note bears interest at
6.36% per annum and is payable in installments of $50,000 in principal, plus any
accrued but unpaid interest, on each of July 9, 1998, 2000 and 2002.
WARRANTS
In July 1996, the Company issued a warrant to Netscape to purchase up to
50.5% of the total number of shares of authorized capital stock of the Company,
as amended from time to time. The exercise price for each warrant share is equal
to the fair market value of one share of the Company's common stock on the
exercise date, as determined by the Company's board of directors. The warrant
may be exercised by the holder, in whole or in part, at any time or from
time-to-time until the first to occur of (i) the acquisition by the warrant
holder of all of the outstanding equity securities of the Company pursuant to
the Stockholder and Voting Agreement or (ii) upon the closing of a firm
commitment underwritten initial public offering of the Company's common stock
with respect to which the stockholder has declined to exercise its right to
effect an IPO Buyout, as defined therein. The number of shares purchasable under
the warrant and the exercise price are subject to adjustment in the event, among
other things, of a capital reorganization of the Company or business
combination. The Company has reserved 15,277,778 shares for issuance pursuant to
this warrant (see Note 8).
STOCK OPTION PLAN
During 1996, the board of directors of the Company adopted, and the
stockholders approved, the 1996 Stock Option Plan (the "1996 Plan"), which
provides for the grant of incentive stock options and nonstatutory stock options
to employees and consultants of the Company at prices ranging from 85% to 110%
(depending on the type of grant) of the fair market value of the common stock on
the date of grant as determined by the board of directors. The vesting and
exercise provisions of the option grants are determined by the board of
directors. Options expire no later than 10 years from the date of grant.
Options granted are immediately exercisable, and the shares of common stock
issued to employees upon exercise are subject to repurchase, at the original
purchase price, by the Company, at the
F-37
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
5. STOCKHOLDERS' EQUITY (CONTINUED)
discretion of the Company, upon the termination of the individual's employment
or consultancy with the Company. The Company's repurchase right expires
generally at the rate of 25% of the original grant, commencing 12 months after
the date of grant or employment, and in monthly increments over the following 36
months.
STOCK OPTION PLAN
A summary of activity under the 1996 Plan is as follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
SHARES -----------------------------------
AVAILABLE NUMBER OF EXERCISE AGGREGATE
FOR GRANT SHARES PRICE PRICE
------------ ---------- ----------- ----------
<S> <C> <C> <C> <C>
Shares reserved.............................. 10,965,000 -- -- $ --
Options granted.............................. (4,930,000) 4,930,000 $ 0.10 493,000
Options canceled............................. -- -- -- --
Options exercised............................ -- -- -- --
------------ ---------- ----- ----------
Balance at December 31, 1996................. 6,035,000 4,930,000 $ 0.10 $ 493,000
------------ ---------- ----- ----------
------------ ---------- ----- ----------
</TABLE>
The weighted-average per share fair value of options and common stock
granted to employees during 1996 was $0.01 and $0.08, respectively.
No options were exercised or repurchased during the period ended December
31, 1996. The Company has reserved 10,965,000 shares of common stock for
issuance under the Plan.
In the period ended December 31, 1996, the Company granted options, outside
of the 1996 Plan, to certain service providers to purchase 201,000 shares of
common stock at $0.10 per share. The options were recorded at the fair value of
the option at the date of grant ($4,020 in 1996). The options granted are
immediately exercisable and the resulting shares issued are subject to
repurchase by the Company, at the original purchase price, at the discretion of
the Company, upon the termination of the vendor's service with the Company. The
right expires generally at the rate of 25% of the original grant, commencing 12
months after the date of grant or first date of service, and in monthly
increments over the following 36 months.
No options outside of the 1996 Plan were exercised or repurchased during the
period ended December 31, 1996. At December 31, 1996, there were options to
purchase 201,000 shares outstanding outside of the 1996 Plan, of which none were
vested. The Company has reserved 423,888 shares of common stock for current and
future issuance to certain providers of technology and services.
The Company grants stock options for a fixed number of shares to employees
with an exercise price equal to the fair value of the shares at the date of
grant. The Company accounts for stock option grants in accordance with APB
Opinion No. 25, "Accounting for Stock Issued to Employees," and accordingly,
recognizes no compensation expense for stock option grants to employees and
directors.
Companies that continue to apply APB 25 are required to disclose pro forma
results from operations as if the measurement provisions of SFAS 123 had been
adopted in their entirety. The pro forma disclosures include the effects of all
options to employees during the period ended December 31,
F-38
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
5. STOCKHOLDERS' EQUITY (CONTINUED)
1996. In management's opinion, existing stock option valuation models do not
provide a reliable single measure of the fair value of employee stock options
because such models were developed for traded options which have no vesting
provisions and are fully transferable. In addition, stock option pricing models
require the input of highly subjective assumptions, including the expected
future stock price volatility.
The fair value of options at the date of grant, estimated using the minimum
value method, contained the following weighted-average 10-year assumptions (in
thousands):
<TABLE>
<CAPTION>
1996
-----------
<S> <C>
Expected option term from vest date.............................................. 4 months
Interest rate.................................................................... 5.6%
Dividend yield................................................................... 0
</TABLE>
The remaining contractual life of options outstanding at December 31, 1996
was 9.89 years.
For purposes of pro forma disclosures, the estimated fair value of the
options and common stock awards is amortized to pro forma net loss over the
related vesting periods. Pro forma net loss for the period ended December 31,
1996 was $5,988,000.
6. INCOME TAXES
As of December 31, 1996, the Company had federal net operating loss
carryforwards of approximately $4,400,000. The Company also had federal research
and development tax credit carryforwards of approximately $100,000. The net
operating loss and credit carryforwards will expire at various dates in 2011, if
not utilized.
Utilization of the net operating losses and credits may be subject to a
substantial annual limitation due to the ownership change limitations provided
by the Internal Revenue Code of 1986. The annual limitation may result in the
expiration of net operating losses and credits before utilization.
As of December 31, 1996, the Company had deferred tax assets of
approximately $2,800,000 which have been fully offset by a valuation allowance.
Deferred tax assets relate primarily to net operating loss carryforwards,
research credits and capitalized research and development costs.
7. RELATED PARTY TRANSACTIONS
During 1996, the Company entered into short-term loan arrangements totaling
$500,000 with Netscape. The loans were due on demand, unsecured and bore
interest at 8%. The loans were repaid during 1996.
In addition, during 1996, the Company purchased equipment from two
stockholders totaling $76,000 (see Note 3).
8. SUBSEQUENT EVENTS
On March 19, 1997, the board of directors and stockholders approved an
amendment to the Amended and Restated Certificate of Incorporation (a) to reduce
the number of authorized shares of
F-39
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
8. SUBSEQUENT EVENTS (CONTINUED)
preferred stock to 7,777,777, (b) to increase the number of shares of common
stock reserved for issuance under the Company's 1996 Stock Option Plan to
10,965,000, and (c) to reduce the number of shares reserved for issuance to
certain providers of technology and services to 423,888. These changes have been
reflected in the accompanying financial statements and notes.
In January and February 1997, the board of directors granted options to
purchase 1,405,000 shares of common stock at $0.10 per share. In March, the
board of directors granted options to purchase 4,490,000 shares of common stock
at $0.50 per share, pursuant to the 1996 Plan.
On May 16, 1997, the Company signed the Agreement and Plan of Merger (the
"Agreement") with Network Computer, Inc. ("NCI"). In accordance with the
Agreement, NCI proposes to acquire all of the outstanding shares of capital
stock of the Company. The merger will become effective immediately upon approval
by the stockholders of the Company and satisfaction or waiver of all other
conditions precedent in the Agreement. The closing is expected to occur no later
than August 15, 1997. In addition, upon the effective date of the merger, the
Netscape warrant and the Company's Stockholder and Voting Agreement as described
in Note 5 will terminate.
On June 5, 1997, the Company signed a new employment agreement with a
founder that supersedes the agreement described in Note 4 and a previous
agreement signed on May 16, 1997. The June 5, 1997 employment agreement will
become effective upon the earlier of the consummation of the Agreement or the
exercise by the Company of its option in accordance with the Stock Option
Agreement (the "Option") with the founder and Netscape (the "Stockholders"). In
accordance with the Option and upon certain conditions, NCI may elect to pay
either in cash at a price of $2.00 per share or pay in NCI Series C preferred
stock in accordance with the Agreement for the purchase of the Company's stock.
The Option also prevents Netscape from exercising its warrant without prior
consent from NCI. The Option shall expire at the earliest of the effective date
or the termination of the Agreement.
F-40
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
DECEMBER JUNE 30,
31, 1996 1997
----------- -----------
(UNAUDITED)
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents.......................................... $ 8,152 $ 3,650
Short-term cash investments........................................ 2,033 1,014
Accounts receivable, net........................................... -- 396
Other current assets............................................... 174 474
----------- -----------
Total Current Assets............................................. 10,359 5,534
----------- -----------
PROPERTY AND EQUIPMENT, net.......................................... 1,290 1,690
OTHER ASSETS......................................................... 132 89
----------- -----------
Total Assets..................................................... $ 11,781 $ 7,313
----------- -----------
----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Short-term note payable to stockholder............................. $ 51 $ 51
Accounts payable................................................... 316 824
Accrued compensation and related liabilities....................... 235 433
Deferred revenues.................................................. 675 2,427
Other accrued liabilities.......................................... 746 698
----------- -----------
Total Current Liabilities........................................ 2,023 4,433
----------- -----------
STOCKHOLDERS' EQUITY:
Series A Preferred stock; $.0001 par value......................... 1 1
Common stock; $.0001 par value..................................... 2 2
Paid in capital.................................................... 15,543 15,577
Note receivable from stockholder................................... (150) (184)
Deficit accumulated during the development stage................... (5,638) (12,516)
----------- -----------
Total Stockholders' Equity....................................... $ 9,758 $ 2,880
----------- -----------
Total Liabilities and Stockholders' Equity....................... $ 11,781 $ 7,313
----------- -----------
----------- -----------
</TABLE>
See notes to condensed financial statements.
F-41
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED STATEMENT OF OPERATIONS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
FROM INCEPTION
(FEBRUARY 12, 1996) SIX MONTHS ENDED
TO JUNE 30, 1996 JUNE 30, 1997
------------------- -----------------
<S> <C> <C>
REVENUES................................................................... $ -- $ 615
----- -------
OPERATING EXPENSES
Cost of revenues......................................................... -- 707
Sales and marketing...................................................... -- 1,757
Research and development................................................. 395 4,464
General and administrative............................................... 255 762
----- -------
Total Operating Expenses............................................... 650 7,690
----- -------
OPERATING LOSS............................................................. (650) (7,075)
Other income (expense), net.............................................. (4) 197
----- -------
NET LOSS................................................................... $ (654) $ (6,878)
----- -------
----- -------
</TABLE>
See notes to condensed financial statements.
F-42
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
FROM INCEPTION
(FEBRUARY 12, 1996) SIX MONTHS ENDED
TO JUNE 30, 1996 JUNE 30, 1997
------------------- -----------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss................................................................. $ (654) $ (6,878)
Adjustment to reconcile net loss to net cash provided by (used in)
operating activities:
Depreciation and amortization.......................................... -- 320
Changes in assets and liabilities:
Accounts receivable.................................................. -- (396)
Other assets......................................................... (420) (257)
Accounts payable..................................................... 160 508
Deferred revenues.................................................... -- 1,752
Other accrued liabilities............................................ 1,456 150
------ -------
Net cash provided by (used in) operating activities...................... 542 (4,801)
------ -------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sale of investments...................................... -- 2,093
Purchases of short-term investments.................................... -- (1,074)
Capital expenditures................................................... (425) (720)
------ -------
Net cash (used for) provided by investing activities..................... (425) 299
------ -------
Net increase in cash and cash equivalents................................ 117 (4,502)
CASH AND CASH EQUIVALENTS
Beginning of period...................................................... -- 8,152
------ -------
End of period............................................................ $ 117 $ 3,650
------ -------
------ -------
</TABLE>
See notes to condensed financial statements.
F-43
<PAGE>
NAVIO COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONDENSED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The accompanying condensed unaudited financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulations S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring adjustments) considered necessary for a fair presentation
have been included. For further information, refer to the December 31, 1996
audited financial statements and footnotes thereto included in this prospectus.
2. SUBSEQUENT EVENT
On August 11, 1997 the Company entered into an merger agreement (the
"agreement") with Liberate Technologies ("Liberate"), formally known as Network
Computer, Inc. Pursuant to the terms of the agreement, Liberate issued Series B
and C Preferred Stock and stock options to acquire all of the outstanding common
stock, preferred stock and stock options of the Company.
F-44
<PAGE>
LIBERATE TECHNOLOGIES AND NAVIO COMMUNICATIONS, INC.
PRO FORMA CONDENSED COMBINED
FINANCIAL STATEMENTS
(UNAUDITED)
On August 11, 1997, Liberate Technologies (the "Company" or "Liberate")
formally known as Network Computer, Inc., completed the acquisition of Navio
Communications, Inc. ("Navio"), a development stage company in the process of
developing internet application software. The acquisition of Navio has been
accounted for as a purchase. Accordingly, the results of operations of Navio
have been included in the consolidated statement of operations of Liberate
commencing on the date of acquisition.
The accompanying pro forma condensed combined statement of operations for
Liberate's fiscal year ended May 31, 1998 assumes that the acquisition took
place as of the beginning of fiscal 1998 and combines Navio's statement of
operations for the period from June 1, 1997 to the date of acquisition (August
11, 1997) with Liberate's consolidated statements of operations for the year
ended May 31, 1998. The pro forma condensed combined statement of operations for
the fiscal year ended May 31, 1998 does not include the effect of any
nonrecurring charges directly attributed to the acquisition.
The accompanying pro forma condensed combined financial statements should be
read in conjunction with the historical financial statements and related notes
thereto for both Liberate and Navio, which are included in this Prospectus.
F-45
<PAGE>
LIBERATE TECHNOLOGIES AND NAVIO COMMUNICATIONS, INC
PRO FORMA CONDENSED COMBINED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
MAY 31, 1998 JUNE 1 - AUGUST 11, 1997 PRO FORMA PRO FORMA
LIBERATE NAVIO ADJUSTMENTS COMBINED
------------ ------------------------ -------------- ------------
<S> <C> <C> <C> <C>
REVENUES:
License and other................ $ 4,162 $ 55 $ -- $ 4,217
Service.......................... 6110 738 -- 6,848
------------ ------- -------------- ------------
Total revenue.................. 10,272 793 -- 11,065
------------ ------- -------------- ------------
COST OF REVENUES:
License and other................ 3,779 74 -- 3,853
Service.......................... 2,230 438 -- 2,668
------------ ------- -------------- ------------
Total cost of revenue.......... 6,009 512 -- 6,521
------------ ------- -------------- ------------
GROSS MARGIN....................... 4,263 281 -- 4,544
------------ ------- -------------- ------------
OPERATING EXPENSES:
Research and development......... 19,981 1,610 -- 21,591
Sales and marketing.............. 14,407 1,419 -- 15,826
General and administrative....... 2,453 380 -- 2,833
Amortization of purchased
intangible..................... 4,563 -- 1,517(b) 6,080
Restructuring charges............ 1,175 -- -- 1,175
Acquired in-process research and
development.................... 58,100 -- (58,100)(a) --
------------ ------- -------------- ------------
Total operating expenses....... 100,679 3,409 (56,583) 47,505
------------ ------- -------------- ------------
Loss from operations........... (96,416) (3,128) (42,961)
INTEREST AND OTHER INCOME
(EXPENSE), net................... 10 41 -- 51
------------ ------- -------------- ------------
LOSS BEFORE INCOME TAX BENEFIT..... (96,406) (3,087) (42,910)
INCOME TAX BENEFIT................. 2,015 -- (1,332)(c) 683
NET LOSS........................... $(94,391) $(3,087) $(42,227)
------------ ------- ------------
------------ ------- ------------
BASIC AND DILUTED NET LOSS PER
SHARE............................ ($1,780.96) $(796.74)(d)
------------ ------------
------------ ------------
SHARES USED TO IN COMPUTING BASIC
AND DILUTED NET LOSS PER SHARE... 53 53(d)
------------ ------------
------------ ------------
</TABLE>
The accompanying notes are an integral part of this condensed combined financial
statement.
F-46
<PAGE>
LIBERATE TECHNOLOGIES AND NAVIO COMMUNICATIONS, INC.
NOTES TO PRO FORMA CONDENSED COMBINED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. PRO FORMA ADJUSTMENTS
Certain pro forma adjustments have been made to the accompanying pro forma
condensed combined statements of operations as described below:
(a) Eliminates the acquired in-process research and development expense for
approximately $58.1 million associated with the acquisition of Navio.
(b) Reflects amortization for 3 months of the excess of the purchase price over
the fair value of net assets acquired, which is being amortized over 3
years.
(c) Reflects a reduction in the estimated assumed income tax benefit received
from Oracle as a result of inclusion of Liberate's tax operating loss in
Oracles consolidated tax return prior to the acquisition of Navio.
(d) The pro forma basic and diluted net loss per share excludes the preferred
shares of Liberate issued in the acquisition as their inclusion would be
antidilutive.
NOTE 2. PURCHASE PRICE ALLOCATION
In connection with the acquisition, the Company issued Series B and C
convertible preferred stock and stock options to acquire Series C convertible
preferred stock in exchange for all of the outstanding common stock, preferred
stock and options to purchase shares of Navio common stock. The acquisition was
accounted for as a purchase and, accordingly, the results of operations of Navio
have been included in the consolidated financial statements commencing on the
date of acquisition. The fair market value of the equity securities issued in
the acquisition was approximately $77.1 million. In connection with the
acquisition, the Company wrote off approximately $58.1 million of acquired
in-process research and development which, in the opinion of management, had not
reached technological feasibility and had no alternative future use. The
purchased intangible of approximately $18.3 million was recorded and is being
amortized on a straight-line basis over a useful life of three years.
F-47
<PAGE>
[LOGO]
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the costs and expenses, other than
underwriting discounts and commissions, payable by the Company in connection
with the sale of common stock being registered. All amounts are estimates except
the SEC registration fee and the NASD filing fees.
<TABLE>
<S> <C>
SEC registration fee............................................ $ 27,800
NASD fee........................................................ 10,500
Nasdaq National Market initial listing fee...................... 95,000
Printing and engraving.......................................... 300,000
Legal fees and expenses of the Company.......................... 500,000
Accounting fees and expenses.................................... 330,000
Directors and officers liability insurance...................... 400,000
Blue sky fees and expenses...................................... 10,000
Transfer agent fees............................................. 10,000
Miscellaneous................................................... 66,700
---------
Total....................................................... $1,750,000
---------
---------
</TABLE>
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 145 of the Delaware General Corporation Law authorizes a court to
award or a corporation's board of directors to grant indemnification to
directors and officers in terms sufficiently broad to permit such
indemnification under certain circumstances for liabilities (including
reimbursement for expenses incurred) arising under the Securities Act of 1933
(the "Act"). Article VII of the Registrant's Bylaws provides for mandatory
indemnification of its directors and officers and permissible indemnification of
employees and other agents to the maximum extent permitted by the Delaware
General Corporation Law. The Registrant's Sixth Amended and Restated Certificate
of Incorporation provides that, pursuant to Delaware law, its directors shall
not be liable for monetary damages for breach of the directors' fiduciary duty
as directors to the Registrant and its stockholders. This provision in the Sixth
Amended and Restated Certificate of Incorporation does not eliminate the
directors' fiduciary duty, and in appropriate circumstances equitable remedies
such as injunctive or other forms of non-monetary relief will remain available
under Delaware law. In addition, each director will continue to be subject to
liability for breach of the director's duty of loyalty to the Registrant for
acts or omissions not in good faith or involving intentional misconduct, for
knowing violations of law, for actions leading to improper personal benefit to
the director, and for payment of dividends or approval of stock repurchases or
redemptions that are unlawful under Delaware law. The provision also does not
affect a director's responsibilities under any other law, such as the federal
securities laws or state or federal environmental laws. The Registrant has
entered into Indemnification Agreements with its officers and directors, a form
of which is attached as Exhibit 10.1 hereto and incorporated herein by
reference. The Indemnification Agreements provide the Registrant's officers and
directors with further indemnification to the maximum extent permitted by the
Delaware General Corporation Law. The Registrant maintains liability insurance
for its directors and officers. Reference is also made to Section of the
underwriting agreement contained in Exhibit 1.1 hereto, indemnifying officers
and directors of the Registrant against certain liabilities, and Section 1.10 of
the Stockholders Agreement, as amended contained in Exhibit 10.21 hereto,
indemnifying certain of the Company's stockholders, including controlling
stockholders, against certain liabilities.
II-1
<PAGE>
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
(a) Since April 24, 1996 (inception), we have issued and sold the following
securities, all of which reflect the one-for-six reverse stock split to be
effected in July 1999:
1. On May 22, 1996, we issued and sold an aggregate of 16 shares of common
stock to Oracle in exchange for a $10 payment from Oracle.
2. On October 1, 1996, we issued and sold an aggregate of 14,166,650 shares
of our Series A preferred stock to Oracle in exchange for a $10 million
cash payment and the transfer of Oracle's network computer division to
us.
3. On July 23, 1997, we entered into a convertible note purchase agreement
with Oracle. During fiscal 1998, we issued 757,575 shares of Series A-1
preferred stock upon Oracle's conversion of $5 million outstanding under
this agreement.
4. On August 11, 1997, we issued an aggregate of 2,727,272 shares of our
Series A-1 preferred stock, 2,320,758 shares of our Series B preferred
stock and 6,399,902 shares of Series C preferred stock to Oracle and the
former stockholders of Navio pursuant to the agreement and plan of
merger.
5. On November 12, 1997, we issued a promissory note convertible into up to
an aggregate of 421,940 shares of our Series D preferred stock to
Middlefield Ventures for an aggregate consideration of $4 million.
6. On May 12, 1999 we issued an aggregate of 5,208,326 shares of our Series
E preferred stock to a total of 18 investors for $9.60 per share, or an
aggregate of $50 million.
7. On May 31, 1999 we issued warrants to purchase 208,333 shares of common
stock to Comcast and US WEST in connection with their satisfaction of
certain commercial milestones.
8. On June 30, 1999 we entered into an agreement with Lucent Technologies
to issue and sell shares of common stock at a per share price equal to
96% of the initial public offering price, for an aggregate purchase price
of $12.5 million.
9. We issued 1,385,614 shares of Series C preferred stock pursuant to
exercises of options, with exercise prices ranging from $.36 to $1.68,
granted under the Navio 1996 Stock Option Plan.
10. We issued 20,264 shares of Series C preferred stock pursuant to
exercises of options, with exercise prices of $.36, granted pursuant to
Navio non-qualified option grants.
11. We issued 391,462 shares of Series A common stock pursuant to exercises
of options, with exercise prices ranging from $.60 to $9.00, granted
under the Liberate 1996 Stock Plan.
12 We issued 225,694 shares of Series A common stock pursuant to an
exercise of an option, with an exercise price of $5.10 per share, granted
to David J. Roux, our Chairman.
The issuances of the securities described in Items 15(a)(1) through 15(a)(8)
and 15(a)(12) were deemed to be exempt from registration under the Act in
reliance on Section 4(2) of such Act as transactions by an issuer not involving
any public offering. The issuances described in Items 15(a)(9) through 15(a)(11)
were deemed exempt from registration under the Act in reliance upon Rule 701
promulgated under the Act. In addition, the recipients of securities in each
such transaction represented their intentions to acquire the securities for
investment only and not with a view to or for sale in connection with any
distribution thereof and appropriate legends were affixed to the share
certificates issued in such transactions. All recipients had adequate access,
through their relationships with the Registrant, to information about the
Registrant.
II-2
<PAGE>
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------------------------------------------------------------------------------------------------
<C> <S>
1.1* Form of underwriting agreement.
2.1+ Agreement and Plan of Merger, dated May 16, 1997, between Liberate and Navio.
3.1+ Fourth Amended and Restated Certificate of Incorporation of Liberate, as amended to date.
3.2+ Form of Fifth Amended and Restated Certificate of Incorporation of Liberate to be filed prior to the
effectiveness of the offering made pursuant to this Registration Statement.
3.3+ Bylaws of Liberate, as amended.
3.4+ Form of Amended and Restated Bylaws of Liberate.
3.5+ Form of Sixth Amended and Restated Certificate of Incorporation of Liberate to be filed upon the
closing of the offering made pursuant to this Registration Statement.
4.1* Specimen Certificate of Liberate's common stock.
5.1+ Opinion of Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP, counsel to Liberate.
9.1+ Voting Agreement, dated May 12, 1999, among Liberate, Oracle, Comcast Technology, Cox Communications
and MediaOne Interactive Services.
10.1+ Form of Indemnification Agreement entered into between Liberate and its directors and executive
officers.
10.2+ Network Computer, Inc. 1996 Stock Option Plan, and form of Option Agreement.
10.3+ Navio Communications, Inc. 1996 Stock Option Plan and form of Option Agreement.
10.4+ Navio Communications, Inc. 1996 Non-Qualified Option Plan, and form of Option Agreement.
10.5+ 1999 Equity Incentive Plan.
10.6+ 1999 Employee Stock Purchase Plan.
10.7+ Employment Agreement between Liberate and Mitchell E. Kertzman, dated October 12, 1998.
10.8+ Employment Agreement, dated October 17, 1997, with Wei Yen, as amended.
10.9+ Settlement Agreement and Release of Claims, dated October 8, 1998, with Wei Yen.
10.10+ Settlement Agreement and General Release of All Claims, dated March 16, 1998 between Jerry Baker,
Oracle and Liberate.
10.11+ Employment letter between Liberate and Gordon Yamate, dated March 12, 1999.
10.12+ Employment letter between Liberate and Jim Peterson, dated April 6, 1999.
10.13**+ OEM License Agreement, dated December 31, 1997, between Liberate and Wind River Systems, as amended.
10.14+ Technology License Agreement, dated September 8, 1998, between Liberate and Oracle.
10.15+ Letter Agreement, dated May 16, 1997, among Liberate, Oracle and Navio.
10.16+ Source Code License Agreement, dated July 9, 1996, between Netscape and TVSoft, as amended.
</TABLE>
II-3
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------------------------------------------------------------------------------------------------
<C> <S>
10.17+ OEM License Agreement, dated October 17, 1996, between Oracle and Netscape, as amended.
10.18* Cooperation Agreement, dated November 6, 1997, between Liberate and Intel, as amended.
10.19 Convertible Promissory Note, dated November 12, 1997, issued to Middlefield Ventures.
10.20 Convertible Promissory Note Purchase Agreement, dated November 12, 1997, entered into between
Liberate and Middlefield Ventures.
10.21+ Stockholders Agreement, dated August 11, 1997, among Liberate and the investors named therein.
10.22+ Admission Agreement, dated November 12, 1997, among Liberate and the investors named therein.
10.23+ Sublease Agreement for Redwood Shores office space, dated September 17, 1997, between Liberate and
Oracle.
10.24+ Maintenance Agreement for Redwood Shores office space, dated September 17, 1997, between Liberate and
Oracle.
10.25+ Furniture and Equipment Lease for Redwood Shores office space, dated September 17, 1997, between
Liberate and Oracle.
10.26+ Sublease Agreement for Salt Lake City office space, dated September 17, 1997, between Liberate and
Oracle.
10.27+ Letter Agreement for London office space, dated December 1998, between Liberate and Oracle.
10.28+ Lease Agreement for Sunnyvale office space, dated November 4, 1996, between Navio and Netscape.
10.29+ Circle Star Lease Agreement for San Carlos office space, dated April 27, 1999.
10.30+ Guaranty of Lease for San Carlos office space, dated April 27, 1999, between Circle Star Center
Associates and Oracle.
10.31+ Tax Allocation and Indemnity Agreement, dated August 17, 1997, between Liberate and Oracle.
10.32+ Network Computer, Inc. Stock Option Agreement, dated October 15, 1998, with David Roux.
10.33+ Network Computer, Inc. Stock Option Agreement, dated October 15, 1998, with Mitchell Kertzman.
10.34+ Series E Preferred Stock Purchase Agreement, dated May 12, 1999, among Liberate and the investors
named therein.
10.35+ Stock Purchase Agreement, dated June 30, 1999, among Liberate and Lucent Technologies Inc.
10.36 Lease Agreement for Salt Lake City, Utah office space, dated April 1, 1999 between Robert D. Kaufman
and Dale E. Kaufman and Liberate.
21.1+ Subsidiary of Liberate.
23.1 Consent of Independent Public Accountants, Arthur Andersen LLP (see page II-7).
23.2+ Consent of Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP, counsel to Liberate.
Reference is made to Exhibit 5.1.
</TABLE>
II-4
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------------------------------------------------------------------------------------------------
<C> <S>
23.3 Consent of Ernst & Young LLP, Independent Auditors (see page II-8).
24.1+ Power of Attorney.
27.1+ Financial Data Schedule.
</TABLE>
- ------------------------
* To be supplied by amendment.
** Confidential treatment requested as to certain portions of this exhibit.
+ Previously filed.
(b) FINANCIAL STATEMENT SCHEDULE
Schedule II--Valuations and Qualifying Accounts
Schedules not listed above have been omitted because the information
required to be set forth therein is not applicable or is shown in the financial
statements or notes thereto.
ITEM 17. UNDERTAKINGS
We hereby undertake to provide to the underwriters at the closing specified
in the underwriting agreement, certificates in such denominations and registered
in such names as required by the underwriters to permit prompt delivery to each
purchaser.
Insofar as indemnification for liabilities arising under the Act may be
permitted to our directors, officers and controlling persons pursuant to the
Delaware General Corporation Law, our amended and restated certificate of
incorporation or our bylaws, indemnification agreements entered into between us
and our officers and directors, the underwriting agreement, or otherwise, we
have been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Act, and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities, other than the payment by us of expenses incurred or paid by a
director, officer, or controlling person of ours in the successful defense of
any action, suit or proceeding, is asserted by such director, officer or
controlling person in connection with the securities being registered hereunder,
we will, unless in the opinion of its counsel the matter has been settled by
controlling precedent, submit to a court of appropriate jurisdiction the
question of whether such indemnification by it is against public policy as
expressed in the Act and will be governed by the final adjudication of such
issue.
We hereby undertake that:
(1) For purposes of determining any liability under the Act, the
information omitted from the form of prospectus filed as part of this
registration statement in reliance upon Rule 430A and contained in a form of
prospectus filed by us pursuant to Rule 424(b)(1) or (4) or 497(h) under the
Act shall be deemed to be part of this registration statement as of the time
it was declared effective.
(2) For the purpose of determining any liability under the Act, each
post-effective amendment that contains a form of prospectus shall be deemed
to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed to
be the initial bona fide offering thereof.
II-5
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Redwood
Shores, State of California, on this 19th day of July, 1999.
<TABLE>
<S> <C> <C>
LIBERATE TECHNOLOGIES
By: /s/ MITCHELL E. KERTZMAN
-----------------------------------------
Mitchell E. Kertzman
PRESIDENT AND CHIEF EXECUTIVE OFFICER
</TABLE>
Pursuant to the requirements of the Securities Act of 1933, as amended, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated:
<TABLE>
<C> <S> <C>
/s/ MITCHELL E. KERTZMAN President, Chief Executive
- ------------------------------ Officer and Director July 19, 1999
Mitchell E. Kertzman (Principal Executive Officer)
*
- ------------------------------ Chairman July 19, 1999
David J. Roux
Vice President and Chief
/s/ NANCY J. HILKER Financial Officer (Principal
- ------------------------------ Financial and Accounting July 19, 1999
Nancy J. Hilker Officer)
*
- ------------------------------ Director July 19, 1999
James L. Barksdale
*
- ------------------------------ Director July 19, 1999
Charles Corfield
*
- ------------------------------ Director July 19, 1999
Lawrence J. Ellison
*
- ------------------------------ Director July 19, 1999
Jeffrey O. Henley
</TABLE>
<TABLE>
<S> <C> <C> <C>
* /s/ MITCHELL E. KERTZMAN
------------------------------
Mitchell E. Kertzman
(ATTORNEY IN FACT)
</TABLE>
II-6
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the use of our
reports and to all references to our Firm included in or made part of this
registration statement.
/s/ ARTHUR ANDERSEN LLP
San Jose, California
July 19, 1999
II-7
<PAGE>
EXHIBIT 23.3
CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
We consent the reference to our firm under the caption "Experts" and to the
use of our report dated March 6, 1997 (except for Note 8 as to which the date is
June 5, 1997), with respect to the financial statements of Navio Communications,
Inc. as of December 31, 1996 and for the period from inception (February 12,
1996) to December 31, 1996 included in Amendment No. 1 to the Registration
Statement (Form S-1 No. 333-78781) and related Prospectus of Liberate
Technologies for the registration of shares of its common stock.
/s/ ERNST & YOUNG LLP
Palo Alto, California
July 19, 1999
II-8
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULE
To the Board of Directors and Stockholders of
Liberate Technologies, Inc. (formerly Network Computer, Inc.):
We have audited in accordance with generally accepted auditing standards,
the financial statements of Liberate Technologies, Inc. (a Delaware corporation,
formerly known as Network Computer, Inc.) and subsidiaries included in this
registration statement and have issued our report thereon dated June 24, 1999.
Our audits were made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule listed in the index above is
the responsibility of the Company's management and is presented for purposes of
complying with the Securities and Exchange Commission's rules and is not part of
the basic financial statements. This schedule has been subjected to the auditing
procedures applied in the audits of the basic 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 financial statements taken as a
whole.
/s/ ARTHUR ANDERSEN LLP
San Jose, California
June 24, 1999
II-9
<PAGE>
LIBERATE TECHNOLOGIES, INC.
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
DEDUCTIONS,
BALANCE AT ADDITIONS- RETURNS AND BALANCE AT
DESCRIPTION BEGINNING OF YEAR PROVISIONS WRITE-OFFS END OF YEAR
- --------------------------------------------------------- ------------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Allowance for doubtful accounts
Year ending May 31, 1999............................... $ 278 $ 220 $ 251 $ 247
Year ending May 31, 1998............................... 1 329 52 278
Year ending May 31, 1997............................... -- 1 -- 1
</TABLE>
II-10
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT SEQUENTIALLY
NO. EXHIBIT NUMBERED PAGE
- ---------- ---------------------------------------------------------------------------------------- -------------
<C> <S> <C>
1.1* Form of underwriting agreement.
2.1+ Agreement and Plan of Merger, dated May 16, 1997, between Liberate and Navio.
3.1+ Fourth Amended and Restated Certificate of Incorporation of Liberate, as amended to
date.
3.2+ Form of Fifth Amended and Restated Certificate of Incorporation of Liberate to be filed
prior to the effectiveness of the offering made pursuant to this Registration
Statement.
3.3+ Bylaws of Liberate, as amended.
3.4+ Form of Amended and Restated Bylaws of Liberate.
3.5+ Form of Sixth Amended and Restated Certificate of Incorporation of Liberate to be filed
upon the closing of the offering made pursuant to this Registration Statement.
4.1* Specimen Certificate of Liberate's common stock.
5.1+ Opinion of Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP, counsel to
Liberate.
9.1+ Voting Agreement, dated May 12, 1999, among Liberate, Oracle, Comcast Technology, Cox
Communications and MediaOne Interactive Services.
10.1+ Form of Indemnification Agreement entered into between Liberate and its directors and
executive officers.
10.2+ Network Computer, Inc. 1996 Stock Option Plan, and form of Option Agreement.
10.3+ Navio Communications, Inc. 1996 Stock Option Plan and form of Option Agreement.
10.4+ Navio Communications, Inc. 1996 Non-Qualified Option Plan, and form of Option Agreement.
10.5+ 1999 Equity Incentive Plan.
10.6+ 1999 Employee Stock Purchase Plan.
10.7+ Employment Agreement between Liberate and Mitchell E. Kertzman, dated October 12, 1998.
10.8+ Employment Agreement, dated October 17, 1997, with Wei Yen, as amended.
10.9+ Settlement Agreement and Release of Claims, dated October 8, 1998, with Wei Yen.
10.10+ Settlement Agreement and General Release of All Claims, dated March 16, 1998 between
Jerry Baker, Oracle and Liberate.
10.11+ Employment letter between Liberate and Gordon Yamate, dated March 12, 1999.
10.12+ Employment letter between Liberate and Jim Peterson, dated April 6, 1999.
10.13**+ OEM License Agreement, dated December 31, 1997, between Liberate and Wind River Systems,
as amended.
10.14+ Technology License Agreement, dated September 8, 1998, between Liberate and Oracle.
10.15+ Letter Agreement, dated May 16, 1997, among Liberate, Oracle and Navio.
10.16+ Source Code License Agreement, dated July 9, 1996, between Netscape and TVSoft, as
amended.
10.17+ OEM License Agreement, dated October 17, 1996, between Oracle and Netscape, as amended.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT SEQUENTIALLY
NO. EXHIBIT NUMBERED PAGE
- ---------- ---------------------------------------------------------------------------------------- -------------
<C> <S> <C>
10.18* Cooperation Agreement, dated November 6, 1997, between Liberate and Intel, as amended.
10.19 Convertible Promissory Note, dated November 12, 1997, issued to Middlefield Ventures.
10.20 Convertible Promissory Note Purchase Agreement, dated November 12, 1997, entered into
between Liberate and Middlefield Ventures.
10.21+ Stockholders Agreement, dated August 11, 1997, among Liberate and the investors named
therein.
10.22+ Admission Agreement, dated November 12, 1997, among Liberate and the investors named
therein.
10.23+ Sublease Agreement for Redwood Shores office space, dated September 17, 1997, between
Liberate and Oracle.
10.24+ Maintenance Agreement for Redwood Shores office space, dated September 17, 1997, between
Liberate and Oracle.
10.25+ Furniture and Equipment Lease for Redwood Shores office space, dated September 17, 1997,
between Liberate and Oracle.
10.26+ Sublease Agreement for Salt Lake City office space, dated September 17, 1997, between
Liberate and Oracle.
10.27+ Letter Agreement for London office space, dated December 1998, between Liberate and
Oracle.
10.28+ Lease Agreement for Sunnyvale office space, dated November 4, 1996, between Navio and
Netscape.
10.29+ Circle Star Lease Agreement for San Carlos office space, dated April 27, 1999.
10.30+ Guaranty of Lease for San Carlos office space, dated April 27, 1999, between Circle Star
Center Associates and Oracle.
10.31+ Tax Allocation and Indemnity Agreement, dated August 17, 1997, between Liberate and
Oracle.
10.32+ Network Computer, Inc. Stock Option Agreement, dated October 15, 1998, with David Roux.
10.33+ Network Computer, Inc. Stock Option Agreement, dated October 15, 1998, with Mitchell
Kertzman.
10.34+ Series E Preferred Stock Purchase Agreement, dated May 12, 1999, among Liberate and the
investors named therein.
10.35+ Stock Purchase Agreement, dated June 30, 1999, among Liberate and Lucent Technologies
Inc.
10.36 Lease Agreement for Salt Lake City, Utah office space, dated April 1, 1999 between
Robert D. Kaufman and Dale E. Kaufman and Liberate.
21.1+ Subsidiary of Liberate.
23.1 Consent of Independent Public Accountants, Arthur Andersen LLP (see page II-7).
23.2+ Consent of Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP, counsel to
Liberate. Reference is made to Exhibit 5.1.
23.3 Consent of Ernst & Young LLP, Independent Auditors (see page II-8).
24.1+ Power of Attorney.
27.1+ Financial Data Schedule.
</TABLE>
- ------------------------
* To be supplied by amendment.
** Confidential treatment requested as to certain portions of this exhibit.
+ Previously filed.
<PAGE>
CONVERTIBLE PROMISSORY NOTE
THESE SECURITIES HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933.
THEY MAY NOT BE SOLD, OFFERED FOR SALE, PLEDGED FOR HYPOTHECATED IN THE
ABSENCE OF A REGISTRATION STATEMENT IS AN EFFECT WITH RESPECT TO THE
SECURITIES UNDER SUCH ACT OR AN OPINION OF COUNSEL SATISFACTORY TO THE
COMPANY THAT SUCH REGISTRATION IS NOT REQUIRED OR UNLESS SOLD PURSUANT TO
RULE 144 OF SUCH ACT.
CONVERTIBLE PROMISSORY NOTE
$4,000,000 November 12, 1997
Redwood Shores, California
FOR VALUE RECEIVED, Network Computer, Inc., a Delaware corporation
("MAKER" or "NCI"), promises to pay to the order of Middlefield Ventures, Inc.,
a Delaware corporation ("HOLDER" or "MALLARD"), the principal sum of Four
Million Dollars ($4,000,000), together with interest from the date of this
Note on the unpaid principal balance at a rate equal to the lesser of (a) 5.0%
or (b) the maximum interest rate permitted under applicable federal and state
laws. Interest shall be computed as simple annual interest on the basis of a
year of 360 days for the actual number of days occurring in the period for
which such commitment fee or interest is payable. Payment shall be made by
Maker to Holder at the offices of Mallard, located at 2200 Mission College
Blvd., Santa Clara, California 95052, or to such other office and account of
Holder as it from time to time shall designate in a written notice to Maker.
This Note is issued pursuant to that certain Convertible Note
Purchase Agreement dated as of November 12, 1997, between Maker and Holder
(the "AGREEMENT"). Terms used herein have the meanings assigned to those
terms in the Agreement, unless otherwise defined herein.
The terms of payment of principal and accrued interest shall be in
accordance with the terms and conditions of the Agreement. Payment shall be
made in lawful tender of the United States and shall be credited first to
accrued interest then due and payable with the remainder applied to
principal. Prepayment of the principal, together with accrued interest, may
be made at any time without penalty or premium, subject to Section 3.03 of
the Agreement.
The unpaid principal on this Note (or any portion thereof) shall be
convertible at the election of Holder into shares of NCI Series D Preferred
Stock pursuant to the terms and conditions set forth in the Agreement.
If action is instituted to collect this Note, Maker will pay all
costs and expenses, including reasonable attorneys' fees, incurred in
connection with such action. Maker hereby waives notice of default,
presentment or demand for payment, protest or
<PAGE>
notice of nonpayment or dishonor and all other notices or demands relative to
this instrument.
The holding of any provision of this Note to be invalid or
unenforceable by a court of competent jurisdiction shall not affect any other
provisions and the other provisions of this Note shall remain in full force
and effect.
This Note shall be construed in accordance with the laws of the
state of Delaware, without regard to the conflicts of law provisions of the
state of Delaware or of any other state.
The Maker has caused this Convertible Promissory Note to be issued
as of the date first above written.
NETWORK COMPUTER, INC.
By: /s/ Jerry Baker
-------------------------
Title: Chief Executive Officer
-----------------------
--Signature Page to the Convertible Promissory Note--
<PAGE>
CONVERTIBLE PROMISSORY NOTE PURCHASE AGREEMENT
THIS CONVERTIBLE PROMISSORY NOTE PURCHASE AGREEMENT (this
"AGREEMENT") dated as of November 12, 1997, is entered into between Network
Computer, Inc., a Delaware corporation (the "COMPANY" or "NCI"), and
Middlefield Ventures, Inc., a Delaware corporation ("MALLARD").
WHEREAS, Mallard desires to invest in NCI by purchasing convertible
promissory notes with an aggregate principal amount of up to $12,000,000 upon
the terms and subject to the conditions set forth in this Agreement, and NCI
desires such an investment; and
WHEREAS, Mallard and NCI have entered into a Technology Escrow
Agreement of even date herewith; and
WHEREAS, Intel Corporation, a Delaware corporation and the sole
stockholder of Mallard ("Teal"), and NCI have entered into a Cooperation
Agreement involving the contribution of $3,000,000 to NCI's non-recurring
engineering efforts of even date herewith.
Accordingly, the parties hereto agree as follows:
ARTICLE I
DEFINITIONS
As used in this Agreement, the following terms shall have the
following meanings:
"BUSINESS DAY" means a day other than Saturday or Sunday, on which
commercial banks are open for business in San Francisco, California.
"DOLLARS" and the sign "$" each means lawful money of the United
States.
"GOVERNMENTAL AUTHORITY" means any United States federal, state,
local or other governmental department, commission, board, bureau, agency,
central bank, court, tribunal or other instrumentality or authority, domestic
or foreign, exercising executive, legislative, judicial, regulatory or
administrative functions of or pertaining to government.
"INDEBTEDNESS" means: (i) all indebtedness or other obligations
for borrowed money or for the deferred purchase price of property or
services; (ii) all obligations evidenced by notes, bonds, debentures or
similar instruments, including obligations so evidenced incurred in
connection with the acquisition of property, assets or businesses; (iii) all
indebtedness created or arising under any conditional sale or other title
retention agreement with respect to property acquired (even though the rights
and remedies of the seller or lender under such agreement in the event of
default are limited to repossession or sale of such property); (iv) all
obligations under capital leases; (v) all reimbursement or other obligations
under or in respect of letters of credit
<PAGE>
and bankers acceptances; and (vi) all indebtedness secured by any Lien upon
or in property owned whether or not a person assumed or became liable for the
payment of such indebtedness.
"LIEN" means any mortgage, deed of trust, pledge, security
interest, assignment, deposit arrangement, charge or encumbrance, lien
(statutory or other), or other preferential arrangement (including any
conditional sale or other title retention agreement, any financing lease
having substantially the same economic effect as any of the foregoing or any
agreement to give any security interest).
"MATERIAL ADVERSE EFFECT" means any event, matter, condition or
circumstance which: (i) has or would reasonably be expected to have a
material adverse change on NCI's business, prospects, operating results or
financial condition; (ii) would materially impair the ability of NCI to
perform or observe its obligations under or in respect of the Transaction
Documents; or (iii) materially affects the legality, validity, binding effect
or enforceability of any of the Agreement or the Notes.
"MILESTONE" means the Second Note Milestone or the Third Note
Milestone, as applicable.
"NOTE" means the First Note (as defined in Section 2.01(b)), the
Second Note (as defined in Section 2.03(a)) or the Third Note (as defined in
Section 2.03(b)), each of which shall be in substantially the form attached
hereto as EXHIBIT A and shall be issued by NCI to Mallard in accordance with
the terms and conditions set forth herein. Each Note will bear a principal
amount of Four Million Dollars ($4,000,000.00).
"SECOND NOTE MILESTONE" means the milestone detailed as such on
Schedule A attached hereto.
"THIRD NOTE MILESTONE" means the milestone detailed as such on
Schedule A attached hereto.
"TRANSACTION DOCUMENTS" means this Agreement, the Notes, the
Admission Agreement attached hereto as EXHIBIT B and all other certificates,
documents, agreements and instruments delivered to Mallard under or in
connection with this Agreement.
ARTICLE II
PURCHASE AND SALE OF NOTES
SECTION 2.01 SALE AND ISSUANCE OF THE FIRST NOTE.
(a) The Company shall adopt and file with the Secretary
of State of Delaware on or before the Closing (as defined below) the Restated
Certificate of Incorporation in the form attached hereto as EXHIBIT C (the
"RESTATED CERTIFICATE").
2
<PAGE>
(b) Subject to the terms and conditions of this
Agreement, Mallard agrees to purchase at the Closing, and the Company agrees
to sell and issue to Mallard at the Closing, one Note in the principal amount
of Four Million Dollars ($4,000,000) (the "FIRST NOTE") upon receipt of such
amount.
SECTION 2.02 CLOSING. The purchase and sale of the First Note
shall take place at the offices of Gunderson Dettmer Stough Villeneuve
Franklin & Hachigian, LLP, 155 Constitution Drive, Menlo Park, California, at
10:00 a.m. California Time on November 12, 1997 (which time and place is
designated as the "CLOSING"). At the Closing, the Company shall deliver to
Mallard the First Note against payment of the purchase price therefor by
check, wire transfer, or a combination thereof. The "Closing" for the Second
Note and the Third Note shall be the respective date of funding of each Note.
SECTION 2.03 SALE AND ISSUANCE OF THE SECOND NOTE AND THE THIRD
NOTE. At NCI's election, NCI shall issue and sell to Mallard, and Mallard
agrees to purchase from NCI, on the terms and conditions herein set forth:
(a) A second Note with a principal amount of Four
Million Dollars ($4,000,000) (the "SECOND NOTE") upon receipt of such amount
PROVIDED NCI has met the Second Note Milestone; and
(b) A third Note with a principal amount of Four Million
Dollars ($4,000,000) (the "THIRD NOTE") upon receipt of such amount PROVIDED
NCI has met the Third Note Milestone.
(c) If the Second Note Milestone or the Third Note
Milestone is achieved and accepted pursuant to Section 2.03(d) but NCI
chooses not to sell and issue the Second Note or Third Note, respectively, to
Mallard, NCI shall so notify Mallard promptly in writing (the "WAIVER
NOTICE"). Mallard shall then have the right to purchase, and NCI shall issue
and sell to Mallard, that number of shares of the Company's Series D
Preferred Stock as equals Four Million Dollars ($4,000,000) divided by the
Conversion Price of the applicable Note PROVIDED, HOWEVER, Mallard so
notifies NCI within five (5) business days of receipt of the Waiver Notice
and funds the purchase price therefore at a time and to a location specified
by NCI. Documentation of such purchase shall be in a form reasonably
satisfactory to both NCI and Mallard and shall be included in the definition
of "Conversion Shares" as defined in Section 4.01(c) below.
(d) When NCI believes it has appropriately completed the
Milestone, NCI will deliver evidence thereof to Mallard. Mallard will accept
or reject the Milestone within fifteen (15) Business Days after delivery;
failure to give notice of acceptance or rejection within that period will
constitute acceptance. Mallard may reject the Milestone if the Milestone
fails in some material respect to meet the requirements therefor. Any
rejection notice will include a detailed description of any such failures in
a manner sufficient to allow NCI to reproduce and correct them. If Mallard
rejects the Milestone, NCI will use reasonable commercial efforts to correct
promptly the failures specified in the rejection notice and re-deliver the
Milestone to Mallard. The acceptance/rejection/correction provisions above
shall be
3
<PAGE>
reapplied until the Milestone is accepted; provided, however, that upon the
third or any subsequent rejection NCI shall have no continued obligation to
make further correction. Mallard may not reject a resubmitted Milestone for a
failure that was not cited in the immediately preceding rejection notice.
SECTION 2.04 PROCEDURE FOR PURCHASE OF SECOND NOTE AND THIRD
NOTE. The purchase of the Second Note or Third Note, as applicable, shall be
made upon written notice from NCI to Mallard, which notice shall be received
by Mallard not later than 3:00 P.M. California time five days prior to the
proposed date of the sale of the Note. Each such notice (a "NOTICE OF
BORROWING") shall refer to this Agreement and shall specify: (i) that the
Second Note Milestone or Third Note Milestone, as applicable, has been
achieved, (ii) the proposed date of the sale of the Note, which shall be a
Business Day; and (iii) payment instructions with respect to the funds to be
made available to NCI as a result of such borrowing. Upon fulfillment of the
applicable conditions set forth in this Agreement, Mallard shall purchase the
Note from NCI on the date set forth on the Notice of Borrowing.
ARTICLE III
TERMS OF THE NOTES
SECTION 3.01 INTEREST. Interest shall accrue on the unpaid
principal amount of each Note from the date of such Note until the maturity
thereof, at a rate equivalent to the lesser of (a) 5.0% or (b) the maximum
interest rate permitted under applicable federal and state laws. Interest
shall be computed as simple annual interest on the basis of a year of 360
days for the actual number of days occurring in the period for which such
interest is payable. Interest accrued on a particular Note will be forgiven
upon conversion of such Note into shares of Series D Preferred Stock or the
Series A Common Stock issuable upon conversion thereof.
SECTION 3.02 REPAYMENT OF THE NOTES. The principal amount and
accrued interest outstanding under each Note hereunder shall be due and
payable on or before the fifth anniversary of the date of issuance of such
Note (the "MATURITY DATE"), unless earlier prepaid under Section 3.03,
converted under Section 3.05 (in which event interest will be forgiven) or
accelerated in accordance with Section 3.08.
SECTION 3.03 PREPAYMENTS. NCI may, upon prior notice to Mallard
not later than 10 Business Days prior to the date of prepayment, prepay the
outstanding principal amount and interest under any Note in whole or in part,
without premium or penalty. The notice given of any prepayment shall specify
the date and amount of the prepayment and the date of the Note to which such
prepayment shall be applied.
SECTION 3.04 PAYMENTS. NCI shall make each payment under the
Notes, unconditionally and in full without set-off, counterclaim or other
defense, not later than 3:00 p.m. (California Time) on the Maturity Date in
Dollars and in immediately available funds, at the offices of Mallard (as set
forth in Section 8.02 below, which may be amended from time to time in
accordance therewith), or to such other office and account of Mallard as it
from time to time shall designate in a written notice to NCI.
4
<PAGE>
SECTION 3.05 CONVERSION OF NOTES.
(a) RIGHT TO CONVERT. Subject to and upon compliance
with the provisions of this Agreement, Mallard shall have the right at its
option to convert the outstanding principal amount under the First Note, the
Second Note or the Third Note or any portion thereof PROVIDED such portion of
principal amount is at least $1,000,000, into that number of fully paid and
non-assessable shares of NCI Series D Preferred Stock obtained by dividing
the principal amount under such Note surrendered for conversion by the
Conversion Price (as defined below) in effect at such time.
(b) AUTOMATIC CONVERSION OF THE FIRST NOTE. Unless
earlier converted pursuant to Section 3.05(a) above, the outstanding
principal amount under the First Note shall automatically be converted into
that number of fully paid and non-assessable shares of NCI Series D Preferred
Stock obtained by dividing the principal amount under the Note surrendered
for conversion by the Conversion Price (as defined below) in effect at such
time upon the sale by the Company of its Common Stock in a public offering
pursuant to a registration statement filed by the Company under the
Securities Act of 1933, as amended (the "SECURITIES ACT"), with proceeds of
greater than $20,000,000 (an "IPO").
(c) AUTOMATIC CONVERSION OF THE SECOND NOTE AND THE
THIRD NOTE. Unless earlier converted pursuant to Section 3.05(a) above, the
outstanding principal amount under the Second Note and the Third Note shall
automatically be converted into that number of fully paid and non-assessable
shares of NCI Series D Preferred Stock obtained by dividing the principal
amount under the Note surrendered for conversion by the Conversion Price (as
defined below) in effect at such time upon the consummation of an IPO.
(d) EXERCISE OF CONVERSION PRIVILEGE; ISSUANCE OF
PREFERRED STOCK ON CONVERSION; NO ADJUSTMENT FOR INTEREST OR DIVIDENDS. In
order to exercise the right to conversion with respect to a Note, Mallard
shall surrender the Note and shall give written notice of conversion to NCI
that Mallard elects to convert the Note or the specified portion thereof
specified in said notice. Such notice shall also state the name or names
(with address) in which the certificate or certificates for shares of NCI
Series D Preferred Stock which shall be issuable on such conversion shall be
issued.
As promptly as practicable, but in no event more than 15 Business
Days after satisfaction of the requirements for conversion set forth above,
NCI shall issue and shall deliver to Mallard, a certificate or certificates
for the number of full shares issuable upon the conversion of such Note or
portion thereof in accordance with the provisions of this subsection (d) and
a check or cash in respect of any fractional interest in respect of a share
of NCI Series D Preferred Stock arising upon such conversion, as provided
below. In case any Note shall be surrendered for partial conversion, NCI
shall execute and deliver to the holder of the Note so surrendered, without
charge, a new Note or Notes in authorized denominations in an aggregate
principal amount equal to the unconverted portion of the surrendered Note.
Each conversion shall be deemed to have been effected as to any
such Note (or the specified portion thereof) on the date on which the
requirements set forth above in this
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Agreement required to be satisfied by the holder have been satisfied as to
such Note (or portion thereof), and the person whose name any certificate or
certificates for shares of NCI Series D Preferred Stock shall be issuable
upon such conversion shall be deemed to have become on said date the holder
of record of the shares represented thereby.
No fractional shares or scrip representing fractional shares shall
be issued upon conversion of Notes. If any fractional share of stock would be
issuable upon the conversion of any Note or Notes, NCI shall make an
adjustment therefor in cash at the current fair market value thereof.
(e) CONVERSION PRICE. The "CONVERSION PRICE" shall be
(i) in the case of the First Note, $1.58, unless the Company has, between the
date hereof and April 30, 1998, sold its capital stock in a financing in
which the Company has received gross proceeds of an excess of $5,000,000 (a
"SUBSEQUENT FINANCING") at a differing price, in which case such Note will
convert at the lower of $1.58 or such differing price, and (ii) in the case
of the Second Note and Third Note, $1.58, unless the Company has, between the
date hereof and the date on which such Notes are issued, sold its capital
stock in a Subsequent Financing at a differing price, in which case such
Notes shall convert at (A) such differing price if such financing is prior to
an IPO or (B) the average closing sale price of the Company's Common Stock
for the five (5) Business Days preceding the date on which NCI received
notice pursuant to Section 2.05(c) or Section 3.05(d) above, as the case may
be. Notwithstanding the foregoing, a Subsequent Financing shall not include
(i) the issuance or sale of Common Stock (or options therefor) to employees,
consultants and directors, pursuant to plans or agreements approved by the
Board of Directors for the primary purpose of soliciting or retaining their
services, (ii) the issuance of securities pursuant to the conversion or
exercise of convertible or exercisable securities that are outstanding on the
date hereof or that are not outstanding on the date hereof but which NCI is
contractually obligated to issue and sell hereafter, (iii) the issuance of
securities in connection with a bona fide business acquisition by the
Company, whether by merger, consolidation, sale of assets, sale or exchange
of stock or otherwise, (iv) the issuance of securities to financial
institutions or lessors in connection with commercial credit arrangements,
equipment financings or similar transactions, (v) the purchase of shares of
Series B, Series C or Series C-1 Preferred Stock by NCI or Oracle pursuant to
the right afforded by NCI and Oracle to certain holders thereof in Sections 1
and 2 of the Put/Call and Voting Agreement dated August 11, 1997, by and
among NCI, Oracle and certain stockholders of the Company, or (vi) the
issuance after the date hereof of up to 22,000,000 shares of Series A-1
Preferred Stock, at a purchase price of $1.10 per share pursuant to the
Convertible Note Purchase Agreement dated July 23, 1997, between Oracle and
NCI.
(f) EFFECT OF RECLASSIFICATION, CONSOLIDATION, MERGER OR
SALE. If any of the following events occur, namely (i) any reclassification
or change of outstanding shares of NCI Series D Preferred Stock (other than a
change in par value, or from par value to no par value, or from no par value
to par value, or as a result of a subdivision or combination), (ii) any
consolidation, merger or combination of NCI with another corporation as a
result of which holders of NCI Series D Preferred Stock shall be entitled to
receive stock, securities or other property or assets (including cash) with
respect to or in exchange for such Preferred Stock (a
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"Merger"), or (iii) any sale or conveyance of the properties and assets of
NCI as, or substantially as, an entirety to any other corporation as a result
of which holders of Preferred Stock shall be entitled to receive stock,
securities or other property or assets (including cash) with respect to or in
exchange for such Preferred Stock (an "Asset Sale"), then NCI or the
successor or purchasing corporation, as the case may be, shall execute with
Mallard an amendment to this Agreement providing that all issued and
outstanding Notes shall be convertible into the kind and amount of shares of
stock and other securities or property or assets (including cash) receivable
upon such reclassification, change, consolidation, merger, combination, sale
or conveyance by a holder of a number of shares of Preferred Stock issuable
upon conversion of such Notes immediately prior to such reclassification,
change, consolidation, merger, combination, sale or conveyance.
(g) RESERVATION OF SHARES; SHARES TO BE FULLY PAID. NCI
shall provide, free from preemptive rights, out of its authorized but
unissued shares or shares held in treasury, sufficient shares to provide for
the conversion of the Notes from time to time as such Notes are presented for
conversion. From the execution of this Agreement, NCI will take all
corporate action which may, in the opinion of its counsel, be necessary in
order that NCI may validly and legally issue shares of such NCI Series D
Preferred Stock at such adjusted Conversion Price.
NCI covenants that all shares of NCI Series D Preferred Stock (and
the shares of Series A Common Stock issuable upon conversion thereof) which
may be issued upon conversion of Notes will upon issue be fully paid and
non-assessable by NCI and free from all taxes, Liens and other charges with
respect to the issue thereof.
SECTION 3.06 TAXES ON PAYMENTS. To the extent applicable, NCI
shall withhold any present or future income, stamp or other taxes, levies,
imposts, duties, charges, fees, deductions or withholdings, now or hereafter
imposed, levied, collected, withheld or assessed by any Governmental
Authority ("TAXES") from any amounts payable to Mallard hereunder and so
notify Mallard as promptly as possible thereafter, NCI shall send to Mallard
notice showing payment thereof. NCI will not be responsible for any income
tax of Mallard for interest due on the Note, or stamp duty or other tax due
on conversion of the Note into shares of Preferred Stock.
SECTION 3.07 NO REBORROWING. Once repaid or converted, the
principal amount of the Notes may not be reborrowed.
SECTION 3.08 ACCELERATION. Notwithstanding the provisions of
Section 3.05(b), (c) or (f), Mallard may alternatively elect to be repaid the
outstanding principal amount and accrued interest on the Notes (the
"OUTSTANDING BALANCE") in the event of an IPO, a Merger or an Asset Sale.
Such election shall be made by written notice received by NCI within five (5)
Business Days of Mallard's receipt of notice from NCI that it intends to
consummate such IPO, Merger or Asset Sale within the succeeding ninety (90)
days. Such repayment shall be made within 45 Business Days after the
completion of such IPO or upon completion of a Merger or Asset Sale.
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ARTICLE IV
REPRESENTATIONS AND WARRANTIES
SECTION 4.01 REPRESENTATIONS AND WARRANTIES OF NCI. NCI hereby
represents and warrants to Mallard that, except as set forth on the Schedule
of Exceptions (the "SCHEDULE OF EXCEPTIONS") furnished to Mallard which
exceptions shall be deemed to be representations and warranties as if made
hereunder:
(a) ORGANIZATION, GOOD STANDING AND QUALIFICATION. The
Company is a corporation duly organized, validly existing and in good
standing under the laws of the State of Delaware and has all requisite
corporate power and authority to carry on its business as now conducted. The
Company is duly qualified to transact business and is in good standing in
each jurisdiction in which the failure to so qualify would have a Material
Adverse Effect on NCI. The Company does not presently own or control,
directly or indirectly, any interest in any other corporation, association,
or other business entity. The Company is not a participant in any joint
venture, partnership, or similar arrangement.
(b) CAPITALIZATION AND VOTING RIGHTS. The authorized
capital of the Company consists, or will consist immediately prior to the
Closing, of:
(i) PREFERRED STOCK. 375,000,000 shares of
Preferred Stock (the "PREFERRED STOCK"), 84,999,900 shares of which have been
designated Series A Preferred Stock and are outstanding, 70,000,000 shares of
which have been designated Series A-1 Preferred Stock and 20,909,090 shares
are outstanding, 14,500,000 shares of which have been designated Series B
Preferred Stock and 13,924,553 shares are outstanding, 60,000,000 shares of
which have been designated Series C Preferred Stock and 40,003,946 shares are
outstanding, 60,000,000 shares of which are designated Series C-1 Preferred
Stock and none are outstanding, 12,000,000 of which are designated Series D
Preferred Stock and none are outstanding. The rights, privileges and
preferences of the Preferred Stock will be as stated in the Company's
Restated Certificate.
(ii) COMMON STOCK. 425,000,000 shares of common
stock ("COMMON STOCK"), 302,000,000 shares of which have been designated
Series A Common Stock of which 43,850 shares are outstanding, and 60,000,000
shares of which have been designated Series B Common Stock none of which are
issued and outstanding.
(iii) The outstanding shares of Preferred Stock and
Common Stock have all been duly and validly authorized and issued, fully paid
and nonassessable, and were issued in accordance with the registration or
qualification provisions of the Securities Act and any relevant state
securities laws or pursuant to valid exemptions therefrom.
(iv) Except for (A) the conversion privileges of the
Preferred Stock to be issued under this Agreement, (B) the rights provided in
the Stockholders Agreement, dated August 11, 1997, among NCI and certain
stockholders of NCI (the "STOCKHOLDERS AGREEMENT"), (C) the rights provided
in the Put/Call and Voting Agreement dated
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August 11, 1997, among NCI and certain stockholders of NCI (the "P/C VOTING
AGREEMENT") and (D) currently outstanding options to purchase 16,608,881
shares of Series C Preferred Stock and 7,338,517 shares of Series A Common
Stock granted to employees pursuant to the Company's equity incentive plans
(the "OPTION PLANS"), there are not outstanding any options, warrants, rights
(including conversion or preemptive rights) or agreements for the purchase or
acquisition from the Company of any shares of its capital stock. The Company
is not a party or subject to any agreement or understanding, and, to the best
of the Company's knowledge, there is no agreement or understanding between
any persons and/or entities, which affects or relates to the voting or giving
of written consents with respect to any security or by a director of the
Company other than the P/C Voting Agreement and the Stockholders Agreement.
(c) AUTHORIZATION. The execution, delivery and performance
of the Transaction Documents and any other agreement contemplated hereunder
by NCI have been duly authorized by all necessary corporate action of NCI.
The shares of Series D Preferred Stock to be issued upon conversion of the
Notes and the shares of Series A Common Stock issuable upon conversion of
such shares of Series D Preferred Stock (collectively, the "CONVERSION
SHARES") have been or will be duly authorized by all necessary corporate
action of NCI (including, without limitation, approval of the filing of an
appropriate amendment to the Company's Certificate of Incorporation
authorizing the Conversion Shares) and, upon issuance and payment therefor,
will be validly issued, fully paid and non-assessable, and issued, upon
Mallard making appropriate written investment representations to NCI upon the
conversion of each Note into shares of Series D Preferred Stock as provided
in this Agreement, in compliance with the qualification and registration
requirements or exemptions therefrom under all applicable state and federal
securities laws.
(d) VALID ISSUANCE OF PREFERRED AND COMMON STOCK. The
Series D Preferred Stock issuable upon conversion of the Notes and the Series
A Common Stock issuable upon conversion of the shares of Series D Preferred
Stock issuable upon conversion of the have been duly and validly reserved for
issuance and, upon issuance in accordance with the terms of the Restated
Certificate, will be duly and validly issued, fully paid, and nonassessable
and will be free of restrictions on transfer other than restrictions on
transfer under this Agreement and under applicable state and federal
securities laws.
(e) APPROVALS AND CONSENTS. No approval, consent or
authorization of any natural person, firm, corporation or Governmental
Authority which has not heretofore been obtained is necessary for the
execution or delivery of this Agreement, the Transaction Documents or any
other agreement contemplated hereunder by NCI or for the performance by NCI
of any of the terms or conditions thereof, except (i) at NCI's election, the
filing of a Notice of Sale of Securities Pursuant to Regulation D promulgated
under the Securities Act, and (ii) the filing of a Notice with the California
Commissioner of Corporations pursuant to Section 25102(f) of the California
Corporations Code.
(f) OFFERING. Subject in part to the truth and accuracy
of Mallard's representations set forth in Section 4.02 of this Agreement, the
offer, sale and issuance of the Notes as contemplated by this Agreement are
exempt from the registration requirements of the
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Securities Act, and neither the Company nor any authorized agent acting on
its behalf will take any action hereafter that would cause the loss of such
exemption.
(g) LITIGATION. There is no action, suit, proceeding or
investigation pending or currently threatened against the Company that
questions the validity of this Agreement or the Transaction Documents, or the
right of the Company to enter into such agreements, or to consummate the
transactions contemplated hereby or thereby, or that might result, either
individually or in the aggregate, in any Material Adverse Effect on NCI, or
any change in the current equity ownership of the Company. The foregoing
includes, without limitation, actions, suits, proceedings or investigations
pending or threatened involving the prior employment of any of the Company's
officers, their use in connection with the Company's business of any
information or techniques allegedly proprietary to any of their former
employers, or their obligations under any agreements with prior employers.
The Company is not a party or subject to the provisions of any order, writ,
injunction, judgment or decree of any court or government agency or
instrumentality. There is no action, suit, proceeding or investigation by
the Company currently pending or that the Company intends to initiate.
(h) PATENTS AND TRADEMARKS. To its knowledge (but
without having conducted any special investigation or patent search), the
Company has sufficient title and ownership of all patents, trademarks,
service marks, trade names, copyrights, trade secrets, information,
proprietary rights and processes necessary for its business as now conducted
without any conflict with or infringement of the rights of others. The
Company has not received any communications alleging that the Company has
violated or, by conducting its business, would violate any of the patents,
trademarks, service marks, trade names, copyrights or trade secrets or other
proprietary rights of any other person or entity. The Company is not aware
that any of its employees is obligated under any contract (including
licenses, covenants or commitments of any nature) or other agreement, or
subject to any judgment, decree or order of any court or administrative
agency, that would interfere with the use of his or her best efforts to
promote the interests of the Company or that would conflict with the
Company's business as conducted. Neither the execution nor delivery of this
Agreement nor the carrying on of the Company's business by the employees of
the Company, nor the conduct of the Company's business will, to the Company's
knowledge, conflict with or result in a breach of the terms, conditions or
provisions of, or constitute a default under, any contract, covenant or
instrument under which any of such employees is now obligated.
(i) COMPLIANCE WITH LAW. NCI, to its knowledge, is in
material compliance with all applicable statutes, laws, regulations and
executive orders of the United States of America and all states, foreign
countries, and other governmental bodies and agencies having jurisdiction
over its business or properties except to the extent non-compliance would not
have a Material Adverse Effect on NCI, and NCI has received no notice of any
violation of such statutes, laws, regulations or orders which has not been
remedied prior to the date hereof.
(j) AGREEMENTS; CONTRACTS. NCI has not materially
breached, nor does it have knowledge of any claim or threat that it has
materially breached, any terms or conditions of any material agreement,
contract, lease, license, instrument or commitment that,
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individually or in the aggregate, could have a Material Adverse Effect on
NCI, nor is NCI in violation of any term of its Certificate of Incorporation
or Bylaws, as now in effect. The execution, delivery and performance of and
compliance with this Agreement and the other Agreements contemplated hereby,
and the issuance of the Notes or the Conversion Shares, have not resulted and
will not result in any violation of, or conflict with, or constitute a
default under any of the foregoing, or result in the creation of any Lien or
charge upon any of the properties or assets of NCI.
(k) DISCLOSURE. The Company has provided Mallard with
all the information that it has requested for deciding whether to purchase
the Notes. To its knowledge, neither this Agreement nor any other written
statements or certificates made or delivered in connection herewith or
therewith contains any untrue statement of a material fact or omits to state
a material fact necessary to make the statements herein or therein not
misleading.
(l) TITLE TO PROPERTY AND ASSETS. The Company owns its
property and assets free and clear of all Liens, except such Liens that are
immaterial in size (individually or in the aggregate), arise in the ordinary
course of business and do not materially impair the Company's ownership or
use of such property or assets. With respect to the property and assets it
leases, the Company is in compliance with such leases and, to its knowledge,
holds a valid leasehold interest free of any Liens.
(m) FINANCIAL STATEMENTS. NCI has furnished Mallard
with the balance sheet of NCI as of May 31, 1997, and the related statements
of operations and cash flows for the nine-month period ended May 31, 1997 and
the balance sheet of NCI as of September 30, 1997, and the related statement
of operations and cash flows for the four-month period ended September 30,
1997 (together, the "NCI FINANCIAL STATEMENTS"). All of such NCI Financial
Statements, (i) are in accordance with the respective books of NCI; (ii) have
been prepared in all material respects in accordance with GAAP except that
such do not contain any footnotes required by GAAP; (iii) present fairly the
financial position of NCI as of the date thereof and the results of
operations and cash flows of NCI for the respective period indicated therein;
and (iv) do not reflect any material items of nonrecurring income except as
stated therein. NCI has no liabilities of any nature, whether accrued,
absolute, contingent or otherwise, and whether due or to become due, that
would be required to be reflected in a balance sheet, prepared in accordance
with GAAP that were not disclosed or provided for in the NCI Financial
Statements other than liabilities incurred since September 30, 1997, which
were incurred in the ordinary course of business and are not individually or
in the aggregate, material to NCI's business, operating results or financial
condition ("NCI'S BUSINESS"). All reserves set forth on the NCI Financial
Statements were adequate. There are no loss contingencies (as such term is
used in Statement of Financial Accounting Standards No. 5) that were not
adequately provided for in the NCI Financial Statements.
(n) ABSENCE OF CHANGES. Since September 30, 1997: (a)
there has been no material adverse change in NCI's Business or any
development particular to NCI's Business and not generally known to the
public that reasonably could be expected to cause a material adverse change
in NCI's Business; (b) there has been no damage, destruction or loss
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(whether or not covered by insurance) which has had a Material Adverse Effect
on NCI; (c) there has been no change by NCI in accounting principles or
methods except insofar as may be required by a change in generally accepted
accounting principles; (d) there has been no revaluation by NCI of any of its
assets, including, without limitation, writing down the value of inventory or
writing off notes or accounts receivable; and (e) NCI has conducted its
business only in the ordinary course consistent with past practice.
(o) TAX RETURNS, PAYMENTS AND ELECTIONS. The Company
has filed all tax returns and reports as required by law. These returns and
reports are true and correct in all material respects. The Company has paid
all taxes and other assessments due, except those contested by it in good
faith that are listed in the Schedule of Exceptions. The provision for taxes
of the Company as shown in the Financial Statements is adequate for taxes due
or accrued as of the date thereof. The Company has not elected pursuant to
the Internal Revenue Code of 1986, as amended (the "CODE"), to be treated as
a Subchapter S corporation or a collapsible corporation pursuant to Section
1362(a) or Section 341(f) of the Code, nor has it made any other elections
pursuant to the Code (other than elections that relate solely to methods of
accounting, depreciation or amortization) that would have a material effect
on the Company, its financial condition, its business as presently conducted
or any of its properties or material assets.
SECTION 4.02 REPRESENTATIONS AND WARRANTIES OF MALLARD. Mallard
hereby represents and warrants to NCI that:
(a) AUTHORIZATION. Mallard has full power and authority
to enter into this Agreement and the Transaction Documents, and each such
agreement constitutes its valid and legally binding obligation, enforceable
in accordance with its terms.
(b) ORGANIZATION, GOOD STANDING AND QUALIFICATION.
Mallard is a corporation duly organized, validly existing and in good
standing under the laws of the State of Delaware and has all requisite
corporate power and authority to carry on its business as now conducted.
Mallard is duly qualified to transact business and is in good standing in
each jurisdiction in which the failure to so qualify would have a Material
Adverse Effect on Mallard. Other than as disclosed on SCHEDULE A attached
hereto, Mallard does not presently own or control, directly or indirectly,
any interest in any other corporation, association, or other business entity,
and Mallard is not a participant in any joint venture, partnership, or
similar arrangement.
(c) PURCHASE ENTIRELY FOR OWN ACCOUNT. This Agreement
is made with Mallard in reliance upon its representation to NCI, which by its
execution hereof Mallard hereby confirms, that the Notes to be received by
it, the Series D Preferred Stock issuable upon conversion of the Notes and
the Series A Common Stock issuable upon conversion of the shares of Series D
Preferred Stock issuable upon conversion of the Notes (collectively, the
"SECURITIES") will be acquired for investment for its own account, not as a
nominee or agent, and not with a view to the resale or distribution of any
part thereof, and that Mallard has no present intention of selling, granting
any participation in, or otherwise distributing the same. By executing this
Agreement, Mallard further represents that it does not have any contract,
undertaking, agreement
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or arrangement with any person to sell, transfer or grant participations to
such person or to any third person, with respect to any of the Securities.
(d) DISCLOSURE OF INFORMATION. Mallard believes it has
received all the information it considers necessary or appropriate for
deciding whether to purchase the Notes. Mallard further represents that it
has had an opportunity to ask questions and receive answers from the Company
regarding the terms and conditions of the offering of the Notes, and the
business, properties, prospects and financial condition of the Company. The
foregoing, however, does not limit or modify the representations and
warranties of the Company in Section 4.01 of this Agreement or the right of
Mallard to rely thereon.
(e) INVESTMENT EXPERIENCE. Mallard is an investor in
securities of companies in the development stage and acknowledges that it is
able to fend for itself, can bear the economic risk of its investment, and
has such knowledge and experience in financial or business matters that it is
capable of evaluating the merits and risks of the investment in the Notes.
If other than an individual, Investor also represents it has not been
organized for the purpose of acquiring the Notes.
(f) ACCREDITED INVESTOR. Mallard is an "accredited
investor" within the meaning of SEC Rule 501 of Regulation D, as presently in
effect.
(g) RESTRICTED SECURITIES. Mallard understands that the
Securities it is purchasing are characterized as "restricted securities"
under the federal securities laws inasmuch as they are being acquired from
the Company in a transaction not involving a public offering and that under
such laws and applicable regulations such securities may be resold without
registration under the Securities Act, only in certain limited circumstances.
In this connection, Mallard represents that it is familiar with SEC Rule
144, as presently in effect, and understands the resale limitations imposed
thereby and by the Securities Act.
(h) FURTHER LIMITATIONS ON DISPOSITION. Without in any
way limiting the representations set forth above, Mallard further agrees not
to make any disposition of all or any portion of the Securities unless and
until the transferee has agreed in writing for the benefit of the Company to
be bound by this Section 4.02, and:
(i) There is then in effect a Registration
Statement under the Securities Act covering such proposed disposition and
such disposition is made in accordance with such Registration Statement; or
(ii) (1) Mallard shall have notified the Company of
the proposed disposition and shall have furnished the Company with a detailed
statement of the circumstances surrounding the proposed disposition, and (2)
if reasonably requested by the Company, Mallard shall have furnished the
Company with an opinion of counsel, reasonably satisfactory to the Company
that such disposition will not require registration of such shares under the
Securities Act. It is agreed that the Company will not require opinions of
counsel for transactions made pursuant to Rule 144 except in unusual
circumstances.
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(i) LEGENDS. It is understood that the certificates
evidencing the Securities may bear one or all of the following legends:
(i) "These securities have not been registered
under the Securities Act of 1933, as amended. They may not be sold, offered
for sale, pledged or hypothecated in the absence of a registration statement
in effect with respect to the securities under such Securities Act or an
opinion of counsel satisfactory to the Company that such registration is not
required or unless sold pursuant to Rule 144 of such Securities Act."
(ii) Any legend required by the laws of the State of
California, including any legend required by the California Department of
Corporations.
SECTION 4.03 CALIFORNIA COMMISSIONER OF CORPORATIONS AND
CORPORATE SECURITIES LAW. THE SALE OF THE SECURITIES THAT ARE THE SUBJECT OF
THIS AGREEMENT HAS NOT BEEN QUALIFIED WITH THE COMMISSIONER OF CORPORATIONS
OF THE STATE OF CALIFORNIA AND THE ISSUANCE OF SUCH SECURITIES OR THE PAYMENT
OR RECEIPT OF ANY PART OF THE CONSIDERATION FOR SUCH SECURITIES PRIOR TO SUCH
QUALIFICATION IS UNLAWFUL, UNLESS THE SALE OF SECURITIES IS EXEMPT FROM
QUALIFICATION BY SECTION 25100, 25102 OR 25105 OF THE CALIFORNIA CORPORATIONS
CODE. THE RIGHTS OF ALL PARTIES TO THIS AGREEMENT ARE EXPRESSLY CONDITIONED
UPON SUCH QUALIFICATION BEING OBTAINED, UNLESS THE SALE IS SO EXEMPT.
ARTICLE V
CONDITIONS
SECTION 5.01 CONDITIONS OF MALLARD AT THE CLOSING. The
obligation of Mallard to purchase the Notes at the Closing shall be subject
to the satisfaction of each of the following conditions:
(a) The representations and warranties of NCI contained
in Section 4.01 shall be true on and as of the Closing with the same effect
as though such representations and warranties had been made on and as of the
date of such Closing.
(b) The Company shall have performed and complied with
all agreements, obligations and conditions contained in this Agreement that
are required to be performed or complied with by it on or before the Closing.
(c) The President, Chief Executive Officer or Chief
Financial Officer of the Company, on behalf of the Company, shall deliver to
Mallard at the Closing a certificate stating that the conditions specified in
Sections 5.01(a) and (b) have been fulfilled and stating that there shall
have been no Material Adverse Effect on NCI since September 30, 1997.
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(d) All authorizations, approvals, or permits, if any,
of any Governmental Authority that are required in connection with the lawful
issuance and sale of the Securities pursuant to this Agreement shall be duly
obtained and effective as of the Closing.
(e) The Admission Agreement, in substantially the form
attached hereto as EXHIBIT B, shall have been executed by all applicable
parties and the appropriate approvals for amending the P/C Voting Agreement
and the Stockholders Agreement shall have been obtained.
(f) There is no Event of Default (as defined in Section
7.01).
SECTION 5.02 OTHER CONDITIONS OF MALLARD. The obligation of
Mallard to purchase the Second Note or the Third Note, as the case may be,
shall be subject to the satisfaction of each of the following conditions:
(a) the conditions set forth in Section 5.01(a),
5.01(b), 5.01(c) and 5.01(d) shall have been satisfied.
(b) NCI shall have given the Notice of Borrowing as
provided in Section 2.04.
(c) Mallard shall have received, in form and substance
reasonably satisfactory, such additional approvals, opinions, documents and
other information as Mallard may reasonably request.
SECTION 5.03 CONDITIONS OF NCI. The obligations of the Company
to Mallard under this Agreement are subject to each of the following
conditions:
(a) The representations and warranties of Mallard
contained in Section 4.02 shall be true on and as of the Closing and the date
on which the Second Note and Third Note, if applicable, are issued, with the
same effect as though such representations and warranties had been made on
and as of such dates.
(b) Mallard shall have funded the principal amount of
the Notes as specified in Sections 2.01(b) and 2.03(a) and (b).
(c) All authorizations, approvals, or permits, if any,
of any Governmental Authority that are required in connection with the lawful
issuance and sale of the Securities pursuant to this Agreement shall be duly
obtained and effective as of the Closing.
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<PAGE>
ARTICLE VI
COVENANTS
SECTION 6.01 AFFIRMATIVE COVENANTS. So long as any of the Notes
shall remain unpaid or Mallard shall have any obligation to purchase Notes
hereunder, NCI agrees that:
(a) PRESERVATION OF EXISTENCE. NCI will maintain and
preserve, through itself or any successor to its business, its corporate
existence, its rights to transact business and all other rights, franchises
and privileges necessary or desirable in the normal course of its business
and operations and the ownership of its material properties.
(b) PAYMENT OF TAXES. NCI will pay and discharge all
taxes, fees, assessments and governmental charges or levies imposed upon it
or upon its properties or assets prior to the date on which penalties attach
thereto, and all lawful claims for labor, materials and supplies which, if
unpaid, might become a Lien upon any properties or assets of NCI, except to
the extent such taxes, fees, assessments or governmental charges or levies,
or such claims, are being contested in good faith by appropriate proceedings
and are adequately reserved against in accordance with generally accepted
accounting principles.
(c) COMPLIANCE WITH LAWS. NCI will comply in all
material respects with the requirements of all applicable laws, rules,
regulations and orders of any Governmental Authority and the terms of any
material indenture, contract or other instrument to which it may be a party
or under which it or its properties may be bound, except to the extent
failure to so comply would not have a Material Adverse Effect.
(d) MAINTENANCE OF PROPERTIES. NCI will use
commercially reasonable efforts to maintain and preserve all of its material
properties necessary or useful in the proper conduct of its business in good
working order and condition in accordance with the general practice of other
corporations of similar character and size, ordinary wear and tear excepted.
(e) LICENSES. NCI will use commercially reasonable
efforts to obtain and maintain all licenses, authorizations, consents,
filings, exemptions, registrations and other governmental approvals necessary
in connection with the execution, delivery and performance of the Transaction
Documents, the consummation of the transactions therein contemplated or the
operation and conduct of its business and ownership of its properties.
(f) FURTHER ASSURANCES AND ADDITIONAL ACTS. NCI will
execute, acknowledge, deliver, file, notarize and register at its own expense
all such further agreements, instruments, certificates, documents and
assurances and perform such acts as Mallard shall deem reasonably necessary
or appropriate to effectuate the purposes of the Transaction Documents, and
promptly provide Mallard with evidence of the foregoing reasonably
satisfactory in form and substance to Mallard.
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<PAGE>
(g) PLACE OF BUSINESS. The Company shall provide
Mallard prompt written notice of any change in the location of its principal
place of business and its chief executive office from 1000 Bridge Parkway,
Redwood Shores, California.
(h) INSPECTION RIGHTS. The Company shall permit
Mallard, at Mallard's expense, to visit and inspect the Company's properties,
to examine its books of account and records and to copy the same and to make
excerpts therefrom, and to discuss the Company's affairs, finances and
accounts with its officers, all at such reasonable times during normal
business hours as may be reasonably requested by Mallard, so long as such
inspection, examination, copying and discussions do not unreasonably
interfere with the business of the Company and Mallard agrees to keep any and
all information obtained during inspection, examination, copying and
discussions confidential, not disclose such information (except as may be
required by law or court order, such information and not otherwise known to
Mallard through other sources or publicly known).
ARTICLE VII
EVENTS OF DEFAULT
SECTION 7.01 EVENTS OF DEFAULT. Any of the following events that
shall occur shall constitute an "EVENT OF DEFAULT":
(a) PAYMENTS. NCI shall fail to pay when due any amount
of principal of, or interest on, any Note, or any other amount payable under
any Transaction Document, and such failure shall remain unremedied by NCI for
a period of 30 days following the date of notice that such payment is due.
(b) REPRESENTATIONS AND WARRANTIES. Any representation
or warranty by NCI in the Transaction Documents shall prove to have been
incorrect in a material respect when made or deemed made.
(c) FAILURE BY NCI TO PERFORM CERTAIN COVENANTS. NCI
shall fail to perform or observe any material term, covenant or agreement
contained in this Agreement and any such failure shall remain unremedied for
a period of 30 days from the notice by Mallard of the occurrence thereof.
(d) BANKRUPTCY. NCI shall admit in writing its
inability to, or shall fail generally or be generally unable to, pay its
debts (including its payrolls) as such debts become due, or shall make a
general assignment for the benefit of creditors; or NCI shall file a
voluntary petition in bankruptcy or a petition or answer seeking
reorganization, to effect a plan or other arrangement with creditors or any
other relief under the Bankruptcy Reform Act of 1978 (the "BANKRUPTCY CODE")
or under any other state or federal law relating to bankruptcy or
reorganization granting relief to debtors, whether now or hereafter in
effect, or shall file an answer admitting the jurisdiction of the court and
the material allegations of any involuntary petition filed against NCI
pursuant to the Bankruptcy Code or any such other state or federal law;
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<PAGE>
or NCI shall be adjudicated a bankrupt, or shall make an assignment for the
benefit of creditors, or shall apply for or consent to the appointment of any
custodian, receiver or trustee for all or any substantial part of NCI's
property, or shall take any action to authorize any of the actions or events
set forth above in this subsection; or an involuntary petition seeking any of
the relief specified in this subsection shall be filed against NCI; or any
order for relief shall be entered against NCI in any involuntary proceeding
under the Bankruptcy Code or any such other state or federal law referred to
in this subsection (d).
(e) DEFAULT UNDER OTHER INDEBTEDNESS. NCI shall: (i)
fail to make any payment of any principal of, or interest or premium on, any
material Indebtedness (other than in respect of the Notes) when due (whether
by scheduled maturity, required prepayment, acceleration, demand or
otherwise) and such failure shall continue after the applicable grace period,
if any, specified in the agreement or instrument relating to such
Indebtedness as of the date of such failure or otherwise agreed to by the
parties; or (ii) fail to perform or observe any material term, covenant or
condition on its part to be performed or observed under any material
agreement or instrument relating to any other Indebtedness, when required to
be performed or observed, and such failure shall continue after the
applicable grace period, if any, specified in such agreement or instrument,
if the effect of such failure to perform or, observe accelerates the maturity
of such Indebtedness.
SECTION 7.02 CURE. Upon each of such Event of Default, the
Company shall have thirty (30) days to cure such default after receipt of
written notice of default from Mallard specifying the nature of the Company's
default. If the Company is unable to cure its default within such thirty
(30) day period, Mallard may, at its option, accelerate repayment of the
Outstanding Balance in which case the Outstanding Balance shall be due and
payable immediately. Upon any default of the Company hereunder, Mallard may
pursue any remedies that are available to it. In addition, Mallard shall
have a right to offset any amounts due upon such a default against any
amounts (including royalties, if any) payable by Mallard or its parent to the
Company.
ARTICLE VIII
MISCELLANEOUS
SECTION 8.01 AMENDMENTS AND WAIVERS. Any term of this Agreement
may be amended and the observance of any term of this Agreement may be waived
(either generally or in a particular instance and either retroactively or
prospectively), only with the written consent of NCI and Mallard. Any
amendment or waiver effected in accordance with this paragraph shall be
binding upon both parties hereto.
SECTION 8.02 NOTICES. Except as may be otherwise provided
herein, all notices, requests, waivers and other communications made pursuant
to this Agreement shall be in writing and shall be conclusively deemed to
have been duly given (a) when hand delivered to the other party; (b) when
received when sent by facsimile at the address and number set forth below
(provided, however, that notices given by facsimile shall not be effective
unless either (i) a
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<PAGE>
duplicate copy of such facsimile notice is promptly given by one of the other
methods described in this Section 8.02, or (ii) the receiving party delivers
a written confirmation of receipt for such notice either by facsimile or any
other method described in this Section 8.02; (c) three business days after
deposit in the U.S. mail with first class or certified mail receipt requested
postage prepaid and addressed to the other party as set forth below; or (d)
the next business day after deposit with a national overnight delivery
service, postage prepaid, addressed to the parties as set forth below with
next-business-day delivery guaranteed, provided that the sending party
receives a confirmation of delivery from the delivery service provider.
To Mallard: To the Company:
Middlefield Ventures, Inc. Network Computer, Inc.
2200 Mission College Blvd. 1000 Bridge Parkway
Santa Clara, CA 95052 Redwood Shores, CA 94065
Attn: Treasurer Attn: Nancy Hilker
Fax Number: (408) 765-6038 Attn: Roger Ross, Esq.
Fax Number: (650) 631-4683
with copies to: with copies to:
Intel Corporation Gunderson Dettmer et.al.
220 Mission College Blvd. 155 Constitution Drive
Mail Stop SC4-203 Menlo Park, CA 94025
Santa Clara, CA 95052 Attn: Buddy Arnheim
Attn: General Counsel Fax Number: (650) 321-2800
Fax Number: (408) 765-7630
SECTION 8.03 SURVIVAL. All covenants, agreements,
representations and warranties made herein shall, except to the extent
otherwise provided herein, survive the execution and delivery of this
Agreement, the execution and delivery of the Notes, and shall continue in
full force and effect so long as Mallard has any commitment, any Notes remain
outstanding or unpaid or any obligation to perform any other act under this
Agreement or the Transaction Documents otherwise remains unsatisfied.
SECTION 8.04 BENEFITS OF AGREEMENT. The Transaction Documents
are entered into for the sole protection and benefit of the parties hereto
and their successors and assigns, and no other person shall be a direct or
indirect beneficiary of, or shall have any direct or indirect cause of action
or claim in connection with, any Transaction Document.
SECTION 8.05 BINDING EFFECT; ASSIGNMENT. This Agreement shall
become effective when it shall have been executed by NCI and Mallard and
thereafter shall be binding upon, inure to the benefit of and be enforceable
by NCI, Mallard and their respective successors and assigns; PROVIDED that
NCI may not assign any of its rights, interests or obligations under this
Agreement or the other Transaction Documents, and any attempt to do so shall
be null and void without Mallard's prior written consent, which consent shall
not be unreasonably withheld. NCI
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<PAGE>
hereby consents to the assignment or transfer of all or any part of the
obligations and rights by Mallard to Mallard's parent or to one or more
subsidiaries of Mallard or of Mallard's parent.
SECTION 8.06 GOVERNING LAW. This Agreement shall be governed by,
and construed in accordance with the law of the State of Delaware without
regard to application of principles of conflicts of laws.
SECTION 8.07 ENTIRE AGREEMENT. This Agreement and the documents
referred to herein constitute the entire agreement between the parties and no
party shall be liable or bound to any other party in any manner by any
warranties, representations, or covenants except as specifically set forth
herein or therein.
SECTION 8.08 SEVERABILITY. If one or more provisions of this
Agreement are held to be unenforceable under applicable law, such provision
shall be excluded from this Agreement and the balance of the Agreement shall
be interpreted as if such provision were so excluded and shall be enforceable
in accordance with its terms.
SECTION 8.09 COUNTERPARTS. This Agreement may be executed in any
number of counterparts and by different parties hereto in separate
counterparts, each of which when so executed shall be deemed to be an
original and all of which taken together shall constitute but one and the
same agreement.
SECTION 8.10 PUBLIC ANNOUNCEMENTS. Neither party shall use the
other's name nor refer to the other directly or indirectly in connection with
the investment contemplated herein in any advertisement, news release or
professional or trade publication, or in any other manner, unless otherwise
required by law, or with prior written consent. The parties agree that there
will be no press release or other public statement issued by either party
relating to this Agreement unless required by law or mutually agreed to, and
further agree to keep the terms and conditions of such in strictest
confidence, it being understood that this restriction shall not prohibit
disclosure to the parties counsel, accountants and professional advisors. If
either party determines that it is required by law to disclose the terms and
conditions of this Agreement and the Notes, or to file this Agreement or the
Notes with any governmental agency or authority, it shall, a reasonable time
before making any such disclosure or filing, consult with the other regarding
such filing and seek confidential treatment for such portions of those
agreements as may be reasonably requested by the other.
Notwithstanding the above, the Company may disclose the existence
of this Agreement and the Notes to bona fide potential investors who are
under obligations of nondisclosure, similar to those contained herein and
which the Company believes in good faith are seriously considering investing
in the Company. In addition, the Company may disclose that a financial
relationship exists between the parties hereto (but not the terms of such
financial relationship) to customers, potential customers, strategic partners
or potential strategic partners.
SECTION 8.11 DISPUTE RESOLUTION. The parties agree to negotiate
in good faith to resolve any dispute between them regarding this Agreement.
If the negotiations do not resolve the dispute to the reasonable satisfaction
of both parties, then each party shall nominate
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<PAGE>
one officer as its representative. These representatives shall, within thirty
(30) days of a written request by either party to call such a meeting, meet
in person and alone (except for one assistant for each party) and shall
attempt in good faith to resolve the dispute. If the disputes cannot be
resolved in such meeting, the parties agree that they shall, if requested in
writing by either party, meet within thirty (30) days after such written
notification for one day with an impartial mediator and consider dispute
resolution alternatives other than litigation. If an alternative method of
dispute resolution is not agreed upon within thirty (30) days after the one
day mediation, either party may begin litigation proceedings. This procedure
shall be a prerequisite before taking any additional action hereunder.
[SIGNATURE PAGE FOLLOWS]
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<PAGE>
IN WITNESS WHEREOF, the parties hereto have duly executed this
Agreement, as of the date first above written.
NETWORK COMPUTER, INC.
By:
------------------------------------
Title: Chief Executive Officer
---------------------------------
MIDDLEFIELD VENTURES, INC.
By:
------------------------------------
Title:
---------------------------------
--Signature Page to the Convertible Note Purchase Agreement--
<PAGE>
EXHIBIT A
FORM OF CONVERTIBLE PROMISSORY NOTE
THESE SECURITIES HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933.
THEY MAY NOT BE SOLD, OFFERED FOR SALE, PLEDGED FOR HYPOTHECATED IN THE
ABSENCE OF A REGISTRATION STATEMENT IS AN EFFECT WITH RESPECT TO THE
SECURITIES UNDER SUCH ACT OR AN OPINION OF COUNSEL SATISFACTORY TO THE
COMPANY THAT SUCH REGISTRATION IS NOT REQUIRED OR UNLESS SOLD PURSUANT TO
RULE 144 OF SUCH ACT.
CONVERTIBLE PROMISSORY NOTE
$______ ______, 199__
Redwood Shores, California
FOR VALUE RECEIVED, Network Computer, Inc., a Delaware corporation
("MAKER" or "NCI"), promises to pay to the order of Middlefield Ventures,
Inc., a Delaware corporation ("HOLDER" or "MALLARD"), the principal sum of
Four Million Dollars ($4,000,000), together with interest from the date of
this Note on the unpaid principal balance at a rate equal to the lesser of
(a) 5.0% or (b) the maximum interest rate permitted under applicable federal
and state laws. Interest shall be computed as simple annual interest on the
basis of a year of 360 days for the actual number of days occurring in the
period for which such commitment fee or interest is payable. Payment shall
be made by Maker to Holder at the offices of Mallard, located at 2200 Mission
College Blvd., Santa Clara, CA 95052, or to such other office and account of
Holder as it from time to time shall designate in a written notice to Maker.
This Note is issued pursuant to that certain Convertible Note
Purchase Agreement dated as of November 12, 1997, between Maker and Holder
(the "AGREEMENT"). Terms used herein have the meanings assigned to those
terms in the Agreement, unless otherwise defined herein.
The terms of payment of principal and accrued interest shall be in
accordance with the terms and conditions of the Agreement. Payment shall be
made in lawful tender of the United States and shall be credited first to
accrued interest then due and payable with the remainder applied to
principal. Prepayment of the principal, together with accrued interest, may
be made at any time without penalty or premium, subject to Section 3.03 of
the Agreement.
The unpaid principal on this Note (or any portion thereof) shall be
convertible at the election of Holder into shares of NCI Series D Preferred
Stock pursuant to the terms and conditions set forth in the Agreement.
If action is instituted to collect this Note, Maker will pay all
costs and expenses, including reasonable attorneys' fees, incurred in
connection with such action. Maker hereby waives notice of default,
presentment or demand for payment, protest or notice of nonpayment or
dishonor and all other notices or demands relative to this instrument.
<PAGE>
The holding of any provision of this Note to be invalid or
unenforceable by a court of competent jurisdiction shall not affect any other
provisions and the other provisions of this Note shall remain in full force
and effect.
This Note shall be construed in accordance with the laws of the
state of Delaware, without regard to the conflicts of law provisions of the
state of Delaware or of any other state.
The Maker has caused this Convertible Promissory Note to be issued
as of the date first above written.
NETWORK COMPUTER, INC.
By:
------------------------------------
Title:
---------------------------------
<PAGE>
EXHIBIT B
ADMISSION AGREEMENT
<PAGE>
EXHIBIT C
RESTATED CERTIFICATE
<PAGE>
- -------------------------------------------------------------------------------
WILLOWCREEK MEDICAL BUILDING
LEASE AGREEMENT
Suite 300
- -------------------------------------------------------------------------------
Tenant Name: NETWORK COMPUTER INC.
Date: APRIL 1, 1999
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
<S> <C>
I. PREMISES
II. TERM COMMENCEMENT
2.1 Term of Lease
2.2 Commencement of Term
III. MONTHLY RENT
3.1 Base Monthly Rent
IV. SECURITY DEPOSIT
V. LATE CHARGES
VI. INSURANCE
6.1 Tenant's Insurance Coverage
6.2 Insurance Policies
6.3 Payment of Increased Premiums
VII. UTILITIES AND JANITORIAL SERVICE
7.1 Utilities and Services
7.2 Electricity and Natural Gas Use
7.3 Meters
7.4 Interruption of Service
7.5 Additional Power
VIII. USE OF PREMISES
8.1 Use
8.2 Suitability
8.3 Prohibited Use
IX. FIXTURES AND ALTERATIONS
9.1 Alterations
9.2 Signs, Posters, Window Coverings on Premises
9.3 Conditions and Limitations
9.4 Contractors and Materialmen
9.5 Additional HVAC
X. MAINTENANCE AND REPAIRS
10.1 Landlord's Obligations
10.2 Tenant's Obligations
XI. DAMAGE OR DESTRUCTION
11.1 Partial Damage - Insured
11.2 Partial Damage - Uninsured
<PAGE>
11.3 Total Destruction
11.4 Landlord's Obligations
11.5 Tenant's Claims Against Landlord
XIII. CONDEMNATION
XIII. ASSIGNMENT AND SUBLETTING
13.1 Landlord's Consent Required
13.2 Reasonable Consent
13.3 No Release of Tenant
13.4 Increased Expenses
13.5 Assignment and Subletting
XIV. SUBORDINATION, QUIET ENJOYMENT AND ATTORNMENT
14.1 Subordination
14.2 Subordination Agreement
14.3 Quiet Enjoyment
14.4 Attornment
XV. DEFAULT AND REMEDIES
15.1 Default
15.2 Nonexclusive Remedies
15.3 Additional Remedies, Costs and Expenses
15.4 Default by Landlord
XVI. ENTRY BY LANDLORD
XVII. INDEMNITY
17.1 Indemnity
17.2 Attorney's Fees and Costs
XVIII. ESTOPPEL CERTIFICATES
18.1 Requirements
18.2 Failure to Deliver
XIX. PARKING
XX. MISCELLANEOUS
20.1 Transfer of Landlord's Interest
20.2 Captions
20.3 Entire Agreement
20.4 Severability
20.5 Cost of Suit
20.6 Times and Remedies
20.7 Binding Effect, Successors and Choice of Law
20.8 Waiver
<PAGE>
20.9 Surrender of Premises
20.10 Holding Over
20.11 Signs
20.12 Rules and Regulations
20.13 Notice
20.14 No Partnership
20.15 Force Majeure
20.16 Tenant Authorization
20.17 Special Provisions
EXHIBIT A: DESCRIPTION OF PREMISES
EXHIBIT B: DESCRIPTION OF BUILDING
RULES AND REGULATIONS
</TABLE>
<PAGE>
LEASE AGREEMENT
THIS LEASE (the "Lease") is made and entered into this ____day of
_________ 1999, by and between ROBERT D. KAUFMAN & DALE E. KAUFMAN, as
individuals, (hereinafter referred to as "Landlord") and NETWORK COMPUTER
INC. (hereinafter referred to as "Tenant").
W I T N E S S E T H:
In consideration of the rents, covenants and agreements hereinafter
set forth, Landlord and Tenant mutually agree as follows:
ARTICLE I: PREMISES:
Landlord hereby leases and demises to Tenant and Tenant hereby leases
from Landlord those certain premises described on Exhibit "A", attached
hereto and incorporated herein by reference (hereinafter referred to as the
"Premises") and located in that certain office building complex (hereinafter
referred to as the "Building") situated in Salt Lake City, Salt Lake County,
Utah, commonly known as Willowcreek Medical Building on the property more
particularly described on Exhibit "B," attached hereto and incorporated
herein by reference (hereinafter referred to as the "Land").
ARTICLE II: TERM COMMENCEMENT
2.1 TERM OF LEASE. The term of this Lease shall be for a period of
THREE (3) years commencing on the Commencement Date (as hereinafter defined
in Section 2.2) and ending at midnight on the day THREE years following the
commencement date, unless otherwise earlier terminated pursuant to the terms,
covenants and conditions of this Lease or pursuant to law.
2.2 COMMENCEMENT OF TERM. The commencement date shall be the later of
(a) substantial completion of the improvements, or
(b) APRIL 1, 1999
ARTICLE III: MONTHLY RENT
3.1 BASE MONTHLY RENT. Tenant shall pay Landlord as rent for the
Premises in advance on the first day of each calendar month for the TERM of
the lease term without deduction, offset, prior notice or demand, the sum of
FIVE THOUSAND FOUR HUNDRED SIXTY-
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<PAGE>
EIGHT AND 69/100 DOLLARS ($5,468.69) per month. If the Commencement Date is
not on the first day of the month, or if this Lease terminates on a day other
than the last day of the month, then the Base Monthly Rent, shall be prorated
at the then current rate for the fractional month or months, if any, during
which this Lease commences or terminates (hereinafter referred to as the
"Base Monthly Rent.")
ARTICLE IV: SECURITY DEPOSIT
Concurrently with Tenant's execution of this Lease, Tenant shall
deposit with Landlord the sum of ______________ ($5,468.69) (hereinafter
referred to as the "Security Deposit.") The Security Deposit shall be held by
Landlord for the faithful performance by Tenant of the terms, covenants, and
conditions of this Lease. If Tenant defaults with respect to any provision of
this Lease, including but not limited to the provisions relating to the
payment of Base Monthly Rent, expenses and charges payable under the
provisions of this Lease, Landlord may, but shall not be obligated to use,
apply or retain all or a part of the Security Deposit for the payment of any
amount which Landlord may spend reasonably by reason of Tenant's default or
to compensate Landlord for any other loss or damage which Landlord may suffer
by reason of Tenant's default. If any portion of the Security Deposit is so
used or applied, Tenant shall, within ten (10) days after written demand,
deposit with Landlord an amount sufficient to restore the Security Deposit to
its original amount; and Tenant's failure to do so shall constitute a
material breach of this Lease. Landlord shall not be required to keep the
Security Deposit separate from Landlord's general funds, and Tenant shall not
be entitled to interest on the Security Deposit. If Tenant shall fully and
faithfully perform every provision of this Lease to be performed by Tenant,
the Security Deposit or any balance thereof shall be returned to Tenant or,
at Landlord's option, to the last permitted assignee of Tenant's interest
under this Lease at the expiration of the term of this Lease and after Tenant
or Tenant's permitted assignee has vacated the Premises. In the event of
termination of Landlord's interest in this Lease, Landlord shall transfer the
Security Deposit to Landlord's successor in interest, whereupon Tenant shall
release Landlord from liability for the return of the Security Deposit or any
accounting therefor.
ARTICLE V: LATE CHARGES
If Tenant fails to pay any Base Monthly Rent (as may be adjusted in
accordance with Article III of this Lease or if Tenant fails to pay any
additional amounts or charges of any character which are payable under this
Lease, such unpaid amounts shall bear interest from the date such payment is
due to the date of payment at the rate of eighteen percent (18%) per annum.
In addition, Landlord, at Landlord's election, may assess and collect a late
fee charge equal to five percent (5%) of each payment of Base Monthly Rent
(as may be adjusted in accordance with Section 3.2) not received within ten
(10) days from the date such payment is due.
ARTICLE VI: INSURANCE
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<PAGE>
6.1 TENANT'S INSURANCE COVERAGE. Tenant shall, at all times during the
term of this lease, and at Tenant's own cost and expense, procure and
continue in force bodily injury and property damage liability insurance with
a single limit of not less than One Million Dollars ($1,000,000.00) per
occurrence insuring against any and all liability of the insured with respect
to the Premises or arising out of the maintenance, use or occupancy thereof,
and for the protection of the Tenant to maintain in force Fire Legal
Liability insurance in the amount of no less than Three Hundred Thousand
Dollars ($300,000.00) All such bodily injury liability insurance and property
damage liability insurance shall specifically insure the performance by
Tenant of the indemnity provision contained in Article XVII of this Lease as
to liability for injury to or death of persons, and injury or damage to
property. Tenant shall also maintain glass insurance to provide replacement
for any glass broken within the Premises.
6.2 INSURANCE POLICIES. The insurance policies shall name Landlord as
an additional insured and shall be with companies having a rate of not less
than "A" company rating and a Financial Rating of Class VI in "Best's
Insurance Reports." Tenant shall furnish from the insurance companies or
cause the insurance companies to furnish to Landlord certificates of
coverage. No such policy shall be cancelable or subject to reduction of
coverage or other modification or cancellation except after thirty (30) days
prior to written notice to Landlord by the insurer. All such policies shall
be written as primary policies, not contributing with and not in excess of
any coverage which Landlord may carry. Tenant shall at least twenty (20) days
prior to the expiration of such policies furnish Landlord with renewals or
binders. If Tenant does not procure and maintain such insurance, Landlord
may, but is not obligated to, procure such insurance on Tenant's behalf and
all sums paid by Landlord shall bear interest at the annual rate of eighteen
percent (18%) until paid and shall be immediately due and payable.
6.3 PAYMENT OF INCREASED PREMIUMS. Tenant shall pay to Landlord upon
demand the amount of any increase in premiums for insurance against loss by
fire or other casualty that may be charged during the term of this Lease on
the amount of the insurance to be carried by Landlord on the Premises or the
Building resulting from Tenant doing any act in or about the Premises which
increases the insurance rates, whether or not Landlord shall have consented
to such act on the part of Tenant.
ARTICLE VII: UTILITIES AND JANITORIAL SERVICE
7.1 UTILITIES AND SERVICES.
(a) Landlord shall furnish to the Premises during reasonable
hours of generally recognized business days, as determined in Landlord's
reasonable discretion, from 7:00 a.m. until 6:00 p.m., Mondays through
Fridays and from 8:00 a.m. until 12:00 noon on Saturdays, water, electricity
and natural gas suitable for the intended use of the Premises; heat and air
conditioning; window washing services and elevator services to the extent
required, in Landlord's reasonable discretion for the comfortable use and
occupancy of the Premises.
3
<PAGE>
Landlord shall maintain, repair, clean, and keep lighted the common stairs,
entries, restrooms and other areas used in common by the tenants of the
Building. At the request of Tenant, Landlord shall provide the Premises with
after hours HVAC and utilities. Tenant shall be liable to Landlord for
Landlord's actual costs of supplying such services.
(b) Tenant shall be responsible for janitorial services within
the confines of the demised Premises.
7.2 ELECTRICITY AND NATURAL GAS USE. Tenant shall reimburse Landlord
its proportionate share of all electricity and natural gas used on the
premises. The percentage of participation is determined by the square footage
of the premises as compared to the total area of the Building. Tenant will
not, without the written consent of Landlord, use any apparatus or device in
the Premises, including without limitation electronic data processing
machines, punch card machines, vending, printing, and other types of machines
using current in excess of 110 volts, which will in any way increase the
amount of electricity usually furnished or supplied for use of the Premises
as a general business office space; nor connect any apparatus or device with
electrical current except through existing electrical outlets in the Premises.
7.3 METERS. If Tenant shall require water or electrical current in
excess of that usually furnished or supplied for use of the Premises as
GENERAL OFFICE, SOFTWARE DEVELOPMENT AND OTHER LEGAL RELATED USES space,
Tenant shall first procure the consent of Landlord for the use thereof, which
consent Landlord shall not unreasonably delay or withhold. If Landlord
consents, Landlord may calculate the cost of such service or may cause a
water meter or electric current meter to be installed in the Premises, so as
to measure the amount of water and electrical current consumed for any such
other use. The cost of such meters and of installation, maintenance, and
repair thereof shall be paid by Tenant, and Tenant shall pay Landlord
promptly upon demand by Landlord for all such water and electrical current
consumed as calculated by Landlord or as shown by the meters, at the rates
charged for such services by the local public utility furnishing the same,
plus any additional expense incurred in keeping account of the water and
electric current so consumed.
7.4 INTERRUPTION OF SERVICE. Landlord, except for acts of gross
negligence or willful negligence, shall not be liable in the event of any
interruption in the supply of utilities or services to Tenant, to the
Premises, or to the Building.
7.5 ADDITIONAL POWER. Notwithstanding anything to the contrary
contained in this Lease, Tenant shall have the option and Landlord hereby
consents to Tenant's installation of additional electrical capacity to and
within the Premises at Tenant's sole cost and expense. If Tenant so improves
the current electrical systems, Tenant shall also cause to be installed at
its sole cost and expense an electrical submeter or other device in order to
accurately have measured Tenant's electricity consumption. If Tenant does not
contract directly with the appropriate utility, which Tenant may do at its
sole option, then Landlord shall bill Tenant
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for the actual electricity used, at the rates charged by the local utility,
plus any reasonable additional expense incurred in keeping account of the
electricity so used by Tenant.
ARTICLE VIII: USE OF PREMISES
8.1 USE. The Premises shall be used and occupied by Tenant as a
GENERAL OFFICE, SOFTWARE DEVELOPMENT AND OTHER LEGAL RELATED USES and for no
other purpose without the prior written consent of Landlord. Tenant shall
have access to the Building and the Premises 24 hours per day, 7 days per
week.
8.2 SUITABILITY. Tenant acknowledges that neither Landlord nor any
agent of Landlord has made any representation or warranty with respect to the
Premises or the Building or with respect to the suitability of either for the
conduct of Tenant's business, nor has Landlord agreed to undertake any
modification, alteration or improvement to the Premises except as provided in
this Lease. The taking of possession of the Premises by Tenant shall
conclusively establish that the Premises and the Building are at the date of
possession in satisfactory condition. Landlord shall not be responsible for
any latent defects or deficiencies in the construction of the Premises or the
Building or any improvements or fixtures therein, unless Tenant shall, within
one (1) year from the Commencement Date, provide Landlord with written notice
which specifies in reasonable detail the nature and character of the defect
or deficiency. Landlord shall, within ninety (90) days from the date of
notice from Tenant, compete reasonable repairs and changes to eliminate such
defects and deficiencies; provided, however, that if such repairs cannot be
completed within ninety (90) days in the opinion of a registered architect or
engineer appointed by Landlord, Landlord, at Landlord's election, may give
notice to Tenant terminating this Lease as of the date specified in the
notice, which date shall not be less than thirty (30) days after giving
notice. This Lease shall continue in full force and effect during any period
of repair; provided, however, that the rent shall be reduced by a
proportionate reduction based upon the extent, if any, to which the defects
or deficiencies interfere with the use and occupancy of Tenant.
Notwithstanding anything to the contrary in this Lease:
(a) Landlord at its sole cost and expense shall recarpet and
repaint the Premises to landlord's building standard quality and design.
Landlord shall also replace damaged ceiling tiles, replace lights as needed
and clean light lens covers and replace damaged lens.
(b) To the best of Landlord's knowledge at the commencement of
the Lease term the Premises comply with all regulations, local, state and
federal laws, ordinances and codes, and the electrical, plumbing, HVAC, and
roof system are in good working condition.
In the event of any breach of any of the foregoing warranties, Landlord shall
promptly rectify the same at its sole cost and expense and shall indemnify,
defend, and hold Tenant harmless from and against any damages, liability,
suits, losses, claims, actions, costs or expense (including attorneys' and
consultants' fees and costs) suffered by Tenant in connection with any such
breach.
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8.3 PROHIBITED USES.
(a) Tenant shall not do or permit anything to be done in or
about the Premises, nor bring or keep anything therein which will in any way
increase the existing premium rate or affect any fire or other insurance upon
the Building or any of the Building's contents, unless Tenant shall pay any
increased premium as a result of such use or acts, or cause a cancellation of
any insurance policy covering the Building or any part of the Building or any
of the Building's contents, nor shall Tenant sell or permit to be kept, used
or sold in or about the Premises any articles which may be prohibited by a
standard form policy of fire insurance.
(b) Tenant shall not do or permit anything to be done in or
about the Premises which will in any way unreasonably obstruct or interfere
with the rights of other tenants or occupants of the Building or injure or
annoy them, or use or allow the Premises to be used for any unlawful or
objectionable purpose, nor shall tenant cause, maintain or permit any
nuisance in or about the Premises. Tenant shall not commit or suffer to be
committed any waste in or upon the Premises.
(c) Tenant shall not use the Premises or permit anything to be
done in or about the Premises which will in any way conflict with any law,
statute, ordinance or governmental rule or regulation or requirement of duly
constituted public authorities now in force or which may hereafter be
enacted, promulgated or created. Tenant shall, at Tenant's sole cost and
expense, promptly comply with all laws, statutes, ordinances and governmental
rules, regulations or requirements now in force or which may hereafter be in
force and with the requirements of force or which may hereafter be in force
and with the requirements of any board of fire underwriters or other similar
body now or hereafter constituted relating to or affecting the use or
occupancy of the Premises, excluding structural changes not relating to or
affecting the use or occupancy of the Premises, or not related or afforded by
Tenant's improvements or acts. Notwithstanding the foregoing or anything to
the contrary contained in this Lease, Tenant shall not be responsible for
compliance with any laws, codes, ordinances or other governmental directives
where such compliance is not related specifically to Tenant's use and
occupancy of the Premises. For example, if any governmental authority should
require the Building or the Premises to be structurally strengthened against
earthquake, or should require the removal of asbestos from the Premises and
such measures are imposed as a general requirement applicable to all tenants
rather than as a condition to Tenant's specific use or occupancy of the
Premises, such work shall be performed by and at the sole cost of Landlord.
ARTICLE IX: FIXTURES AND ALTERATIONS
9.1 ALTERATIONS. Tenant shall not make any physical alterations in the
Premises or any of the fixtures located therein or install or cause to be
installed any trade fixtures, exterior signs, floor coverings, interior or
exterior lighting, plumbing fixtures, shades or awnings or make any changes
to the Premises or Building without first obtaining the written consent of
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Landlord, which consent shall not be unreasonably withheld. Tenant shall present
to Landlord plans and specifications for the installation of any improvements or
fixtures at the time approval is sought from Landlord. Any physical change and
all rearrangements which are made by Tenant with the approval of Landlord shall
be made at Tenant's expense. Such alternations, decorations, additions and
improvements shall not be removed from the Premises during the term of this
Lease without the prior written consent of Landlord. Upon expiration of this
Lease all such alterations, decorations, additions and improvements shall at
once become the Property of landlord, without payment to Tenant. Notwithstanding
the provisions of Paragraph 9.1:
(a) Tenant shall be entitled to make alterations, additions, improvements
and utility installations in or to the Premises, without the prior consent of
Landlord, so long as each of the same (i) that the total cost of any single
alterations, additions, improvements and utility installations do not exceed the
sum of $2,500 in cost, (ii) do not affect any structural or exterior portions of
the Building or adversely affect the Building electrical, plumbing or HVAC
systems, and (iii) Tenant will not permit mechanics' liens to be filed against
the Building or Premises, and if a lien is filed then the Tenant will remove
lien or post a bond for at lease 2-times the amount of the lien within ten (10)
days from written notice of Landlord.
(b) Tenant shall not be required to remove any alterations, additions,
improvements or Utility Installations for which Tenant has obtained Landlord's
consent, unless Landlord has indicated at the time of granting such consent,
that such removal will be required at the end of the Lease term.
(C) At the expiration, or at any time during the term of this Lease,
Tenant shall be entitled to remove, in addition to its furniture, trade
fixtures, and other personal property, any fixtures, alterations additions and
improvements including but not limited to any Tenant installed HVAC systems,
provided that Tenant repairs any damage caused by such removal.
9.2 SIGNS, POSTERS, WINDOW COVERINGS ON PREMISES. Tenant shall not
affix any signs, posters, window coverings, or other materials to the inside
surface of the exterior windows of the premises, or to any glass partitions,
if any, separating the Premises from the Common Areas of the building without
first obtaining the written consent of Landlord.
9.3 CONDITIONS AND LIMITATIONS. Landlord may impose as a condition to
granting any consent required by Section 9.1, such reasonable requirements,
restrictions and limitations as Landlord may deem necessary in Landlord's
reasonable discretion, and as agreed upon in Section 9.1, including without
limitation, the manner in which the work is done, the contractors by whom it is
performed, and the time during which the work is accomplished.
9.4 CONTRACTORS AND MATERIALMEN. If any fixtures, alterations or
improvements are allowed by Landlord, Tenant shall promptly pay all contracts
and materialmen, so as to eliminate the possibility of a lien attaching to the
Building or the Land, and should any such lien be made or filed, for any reason,
Tenant shall discharge the same within ten (10) days after written request by
Landlord or, with the written consent of the Landlord, Tenant may obtain a bond,
in an amount satisfactory to Landlord, insuring the discharge of any mechanic's
lien or liens for labor or materials arising out of work by Tenant upon the
Premises, and further indemnifying and holding Landlord harmless from any
actions, proceedings, claims, demands, losses, outlays, damage or expenses,
including legal fees, which may in any way arise out of or be caused by the lien
or liens. Landlord shall have the right, but not the obligation, to pay
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and discharge any such lien that attaches to the Premises or the Land, and
Tenant shall reimburse Landlord for any such sums paid, together with
interest at the rate of eighteen percent (18%) [per annum] within ten (10)
days after written demand by Landlord.
9.5 ADDITIONAL HVAC. Subject to Sections 9.3 and 9.4, Landlord
hereby consents to Tenant's installation at Tenant's sole cost and expense of
additional HVAC systems to service the Premises.
ARTICLE X: MAINTENANCE AND REPAIRS
10.1 LANDLORD'S OBLIGATIONS. Landlord shall maintain in good order,
condition and repair the Building, the Common Areas, the Land and all
portions of the Premises which are not the obligation of Tenant or any other
tenant in the Building, including, but not limited to, the roof, bearing
walls or supports, exterior surfaces and foundation of the Building, window
frames, gutters and downspouts, heating, refrigeration, air
conditioning, central electrical, plumbing and sewage systems, elevators,
landscaping, real estate taxes, fire and liability insurance and common area
janitorial services.
10.2 TENANT'S OBLIGATIONS. Tenant's obligations shall include,
but are not limited to, the following:
(a) In addition to all other payments by Tenant to Landlord
required by this Lease, Tenant shall pay to Landlord, for each year or
portion thereof after the "Base Year" during the term of this Lease, Tenant's
Proportionate Share of annual Common Area, Building and Land Expenses,
described in item 10.1, over the amount incurred in the "Base Year." As used
herein, the "Base Year" shall mean the calendar commencing January 1 and
ending December 31 of the year in which the Commencement Date occurs and the
"Base Year Expense" shall mean the total amount of Common Area, Building and
Land Expenses incurred in such Base Year. Notwithstanding anything to the
contrary contained in this Lease, the following shall not be included within
Common Area, Building and Land Expenses:
Leasing commissions, attorneys' fees, costs, disbursements, and
other expenses incurred in connection with negotiations or disputes with
tenants, or in connection with leasing, renovating, or improving space for
tenants or other occupants or prospective tenants or other occupants of the
Building.
The cost of any service sold to any tenant (including Tenant) or
other occupant for which Landlord is entitled to be reimbursed as an additional
charge or rental over and above the basic rent and escalations payable under the
lease with that tenant.
Any depreciation on the Building or Property.
Costs of a capital nature, including but not limited to capital
improvements and alterations, capital repairs, capital equipment, and capital
tools as determined in accordance with generally accepted accounting principles.
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Expenses in connection with services or other benefits of a type
that are not provided to Tenant but which are provided another tenant or
occupant of the Building or Property.
Costs incurred due to Landlord's violation of any terms or
conditions of this Lease or any other lease relating to the Building or
Property.
Overhead profit increments paid to Landlord's subsidiaries or
affiliates for management or other services on or to the building or for
supplies or other materials to the extent that the cost of the services,
supplies, or materials exceeds the cost that would have been paid had the
services, supplies, or materials exceeds been provided by unaffiliated parties
on a competitive basis.
All interest, loan fees, and other carrying costs related to any
mortgage or deed of trust or related to any capital item, and all rental and
other payable due under any ground or underlying lease, or any lease for any
equipment ordinarily considered to be of a capital nature (except janitorial
equipment which is not affixed to the Building.)
Any compensation paid to clerks, attendants, or other persons in
commercial concessions operated by Landlord.
Advertising and promotional expenditures.
Costs of repairs and other work occasioned by fire, windstorm, or
other casualty of an insurable nature.
Any costs, fines, or penalties incurred due to violations by
Landlord of any governmental rule or authority, this Lease or any other lease in
the Property, or due to Landlord's negligence or willful misconduct.
Management costs to the extent they exceed management costs
charged for similar facilities in the area and in any event, to the extent they
exceed 5% of all other Common Area, Building and Land Expenses.
Costs for sculpture, paintings, or other objects of art (nor
insurance thereon or extraordinary security in connection therewith).
Wages, salaries, or other compensation paid to any executive
employees above the grade of building manager.
The cost of correcting any building code or other violations which
were violations prior to the Commencement Date.
The cost of containing, removing, or otherwise remediating any
contamination of the Property (including the underlying land and ground
water) by any toxic or hazardous materials (including, without limitations,
asbestos and "PCB's") where such contamination was not caused by Tenant.
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Any other expense that under generally accepted accounting
principles and practice consistently applied would not be considered a normal
maintenance or operating expense.
(b) Tenant, at Tenant's sole cost and expense, shall maintain
the Premises in good order, condition and repair including the interior
surfaces of the ceilings, walls and floors, along with all doors, windows,
fixtures, furnishings and equipment including electrical and plumbing. Tenant
shall also replace all light bulbs and florescent tubes as necessary and
shall be responsible for janitorial service within the leased premises.
(c) The cost of any maintenance and repair, janitorial or other
services which become necessary as a result of any wrongful or negligent act or
omission of Tenant or Tenant's employees, invitees or licensees shall be borne
by Tenant.
(d) Upon the expiration or earlier termination of this Lease,
Tenant shall surrender the Premises in the same condition as received,
ordinary wear and tear and damage due to acts of God; strikes, lockouts, or
other industrial disturbances; acts of public enemy, blockades, wars,
insurrections, or riots; epidemics; landslides, earthquakes, fires, storms,
floods, or washouts; arrests, title disputes, or other litigation;
governmental restraints, either federal or state, civil or military; civil
disturbances; explosions; inability to obtain necessary materials, supplies,
labor, or permits due to existing or future rules, regulations, orders, laws,
or proclamations, either federal or state, civil or military; and other
causes beyond the control of such party or condemnation excepted, and shall
promptly remove or cause to be removed at Tenant's expense from the Premises
and the Building any signs, notices and displays placed by Tenant.
(e) Tenant shall repair any damage to the Premises or the
Building caused by or in connection with the removal of any articles of
personal property, machinery, equipment, or furniture, including, without
limitation thereto, repairing the floor and patching and painting the walls
where required by Landlord to Landlord's reasonable satisfaction, all at
Tenant's cost and expense. Tenant shall indemnify Landlord against any loss
or liability resulting from delay by Tenant in so surrendering the Premises,
including without limitation any claims made by any succeeding tenant founded
on such delay.
(f) In the event Tenant fails to maintain the Premises in good
order, condition and repair, Landlord shall give Tenant notice to do such
acts as are reasonably required to so maintain the Premises. In the event
Tenant fails to promptly commence such work and diligently prosecute it to
completion, then Landlord shall have the right to do such acts and expend
such funds at the expense of Tenant as are reasonably required to perform
such maintenance. Any amount so expended by Landlord shall be paid by Tenant
together with interest thereon at the rate of eighteen percent (18%) per
annum from the date of such repairs or maintenance upon written demand from
Landlord. Landlord shall have no liability to Tenant for any damage,
inconvenience or interference with the use of the Premises by Tenant as a
result of performing any such maintenance.
ARTICLE XI: DAMAGE OR DESTRUCTION
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11.1 PARTIAL DAMAGE - INSURED. In the event the Premises or the Building
are damaged by any casualty which is covered under fire and extended coverage
insurance carried by Landlord, then Landlord shall restore the Building,
provided insurance proceeds are available to pay eighty percent (80%) or more
of the cost of restoration and provided such restoration can be completed within
ninety (90) days after the commencement of the restoration in the opinion of a
registered architect or engineer appointed by Landlord. In such event, this
Lease shall continue in full force and effect, except that Tenant shall be
entitled to a proportionate reduction of rent while such restoration takes
place. Such proportionate reduction of rent shall be based upon the extent to
which the damaged portion of the Premises or the restoration efforts interfere
with Tenant's business in the Premises.
11.2 PARTIAL DAMAGE - UNINSURED. In the event the Premises or the
Building are damaged by a risk not covered by the Landlord's fire and
extended coverage insurance or if the proceeds of the available insurance are
less than eighty percent (80%) of the cost of restoration, or if the
restoration cannot be completed within ninety (90) days after the
commencement of the restoration, in the opinion of the registered architect
or engineer appointed by Landlord, then Landlord shall have the option either
to (1) repair or restore such damage, and if Landlord so elects to repair,
this Lease shall continue in full force and effect, but the rent shall be
proportionately abated as provided in Section 11.1 of this Lease, or (2)
terminate this lease by giving written notice to Tenant, at any time within
thirty (30) days after such damage. In the event Landlord give Tenant the
notice of termination required by this Section 11.2, this Lease shall expire
and all interest of Tenant in the Premises shall terminate on the date
specified in the notice, and the rent, reduced by a proportionate reduction
based upon the extent, if any, to which such damage interfered with the use
and occupancy of Tenant, shall be paid to the date of termination. Landlord
shall refund to Tenant any rent paid in advance for any period of time
subsequent to the date of termination. Notwithstanding anything to the
contrary contained herein, if Tenant's use of the Premises is substantially
impaired for a period of more than 90 days after the date of casualty, Tenant
shall have the right to terminate this Lease by written notice to Landlord at
any time thereafter until Tenant's use of the Premises is substantially
restored.
11.3 TOTAL DESTRUCTION. In the event the Premises are totally destroyed
or the Premises cannot be restored as required in this Lease, or as required
under applicable laws, notwithstanding the availability of insurance proceeds,
this Lease shall terminate as of the date of damage.
11.4 LANDLORD'S OBLIGATIONS. Landlord shall not be required to repair any
injury or damage by fire or other cause, or to make any restoration or
replacement of any panelings, decorations, partitions, railing, floor covering,
office fixtures or any other improvements or property installed in the Premises
by Tenant or at the direction or indirect expense of Tenant.
11.5 TENANT'S CLAIMS AGAINST LANDLORD. Except for abatement of rent, if
any, Tenant shall have no claim against Landlord for any damage suffered by
reason of any such damage, destruction repair or restoration unless such damage
is caused by the intentional act or negligence of Landlord or Landlord's
designated agents or employees.
ARTICLE XII: CONDEMNATION
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If all or any part of the Premises is taken or appropriated for public
or quasi-public use by right of eminent domain with or without litigation or
transferred by agreement in connection with such public or quasi-public use,
Landlord and Tenant shall each have the right within thirty (30) days of
receipt of notice of taking, to terminate this Lease as of the date
possession is taken by the condemning authority; provided, however, that
before Tenant may terminate this Lease by reason of taking or appropriation,
such taking or appropriation shall be of such an extent and nature as to
substantially handicap, impede or impair Tenant's use of the Premises. If any
part of the Building other than the Premises shall be so taken or
appropriated, Landlord shall have the right at Landlord's option to terminate
this Lease. No award for any entire taking shall be apportioned, and Tenant
hereby assigns to Landlord any award which may be made in such taking or
condemnation, together with any and all rights of Tenant now or hereafter
arising in or to the award of any portion thereof; provided, however, that
nothing contained herein shall be deemed to give Landlord any interest in or
to require Tenant to assign to Landlord any award made to Tenant for the
taking of personal property belonging to Tenant, and for the interruption of
or damage to Tenant's business. In the event of a partial taking which does
not result in a termination of this Lease, the Base Monthly Rent shall be
abated in the proportion which the part of the Premises so made unusable
bears to the rented area of the Premises; and any award made to Tenant by
reason of any such temporary taking shall belong entirely to Tenant, and
Landlord shall not be entitled to any portion thereof.
ARTICLE XIII: ASSIGNMENT AND SUBLETTING
13.1 LANDLORD'S CONSENT REQUIRED. Tenant shall not assign, transfer,
mortgage, pledge, hypothecate or encumber this Lease or any interest therein
either voluntarily or involuntarily by operation of law or otherwise, and Tenant
shall not sublet the Premises or any part thereof, without the prior written
consent of Landlord, and any attempt to do so shall be wholly void and shall, at
Landlord's election constitute a default under this Lease.
13.2 REASONABLE CONSENT. If Tenant complies with the following
conditions, Landlord shall not unreasonably withhold Landlord's consent to the
subletting of the Premises or any portion thereof or the assignment of this
Lease. Tenant shall submit in writing to Landlord (a) the name and legal
composition of the proposed subtenant or assignee; (b) the nature of the
business proposed to be carried on in the Premises; (c) the terms and provisions
of the proposed sublease; and (d) such reasonable financial information as
Landlord may request concerning the proposed subtenant or assignee.
13.3. NO RELEASE OF TENANT. No consent by Landlord to any assignment
or subletting by Tenant shall relieve Tenant of any obligation to be
performed by Tenant under this Lease, whether occurring before or after such
consent, assignment or subletting. The consent by Landlord to any assignment
or subletting shall not relieve Tenant from the obligation to obtain
Landlord's express written consent to any other assignment or subletting. The
acceptance of rent by Landlord from any other person or legal entity shall
not be deemed to be a waiver by assignment, subletting or other transfer.
Consent to one assignment, subletting or other transfer shall not be deemed
to constitute consent to any subsequent assignment, subletting or other
transfer.
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13.4 INCREASED EXPENSES. Tenant shall pay Landlord the amounts of any
increase in costs or expenses incident to the occupancy of the Premises by
such assignee or subtenant, including but not limited to, any increase in
Landlord's insurance premiums and reasonable attorney's fees incurred in
connection with giving such consent.
13.5 ASSIGNMENT AND SUBLETTING. Tenant may not assign this Lease or
sublet the Premises, or any portion thereof, without Landlord's prior written
consent, except to any entity which controls, is controlled by, or is under
common control with Tenant; to any entity which results from a merger of,
reorganization of, or consolidation with Tenant; to any entity engaged in a
joint venture with Tenant; or to any entity which acquires substantially all
of the stock or assets of Tenant, as a going concern, with respect to the
business that is being conducted in the Premises (hereinafter each a
"Permitted Transfer"). In addition, a sale or transfer of the capital stock
of Tenant shall be deemed a Permitted Transfer if (1) such sale or transfer
occurs in connection with any BONA FIDE financing or capitalization for the
benefit of Tenant, or (2) Tenant is or becomes a publicly traded corporation.
Landlord shall have no right to terminate the Lease in connection with, and
shall have no right to any sums or other economic consideration resulting
from any Permitted Transfer. Anything to the contrary notwithstanding Tenant
shall remain jointly or severly liable for the Lease.
ARTICLE XIV: SUBORDINATION, QUIET ENJOYMENT AND ATTORNMENT
14.1 SUBORDINATION. Subject to Tenant's receipt of a reasonably
satisfactory non-disturbance agreement the approval of which shall not be
unreasonably withheld or delayed, this Lease at Landlord's option shall be
subject and subordinate to the lien of any mortgages or deed of trust in any
amount or amounts whatsoever now or hereafter placed on or against the Land,
the Building, on or against Landlord's interest or estate therein, without
the necessity of the execution and delivery of any further instruments on the
part of Tenant to effectuate such subordinations.
14.2 SUBORDINATION AGREEMENT. Subject to Tenant's receipt of a
reasonably satisfactory non-disturbance agreement the approval of which shall
not be unreasonably withheld or delayed, Tenant shall execute and deliver
upon demand, without charge therefor, such further instruments evidencing
such subordination of this Lease to the lien of any such mortgages or deeds
of trust as may be required by Landlord. Tenant hereby irrevocably appoints
Landlord as Tenant's attorney-in-fact, coupled with an interest (which power
shall not be affected by the disability of Tenant) to execute and deliver any
such agreements, instruments, releases or other documents.
14.3 QUIET ENJOYMENT. Upon paying rent and other sums or amounts due
under the Lease, and performing Tenant's covenants and conditions under the
Lease, Tenant shall and may peaceably and quietly have, hold and enjoy the
Premises for the term of this Lease, subject, however, to the terms,
covenants and conditions of this Lease and of any mortgage or deed of trust
described in Section 14.1.
14.4 ATTORNMENT. In the event of foreclosure or the exercise of the
power of sale under any mortgage or deed of trust made by Landlord covering the
Premises or the Building, Tenant shall attorn to the purchaser upon any such
foreclosure or sale and recognize such
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purchaser as the Landlord under this Lease, provided said purchaser expressly
agrees in writing to be bound by the terms of this Lease.
ARTICLE XV: DEFAULT AND REMEDIES
15.1 DEFAULT. The occurrence of any of the following shall constitute
a material default and breach of this Lease by Tenant:
(a) Any failure by Tenant to pay the Base Monthly Rent, Base
Monthly Rent Adjustments or any other monetary sums required to be paid under
this Lease, where such failure continues for five (5) business days after
written notice thereof by Landlord to Tenant:
(b) The abandonment of the Premises by Tenant;
(c) A failure by Tenant to observe and perform any other terms,
covenants or condition of this Lease to be observed or performed by Tenant,
where such failure continues for twenty (20) days after written notice
thereof by Landlord to Tenant; provided, however, that if the nature of the
default cannot reasonably be cured within the twenty (20) days period, Tenant
shall not be deemed to be in default if Tenant shall within the twenty (20)
day period commence action to cure the default and thereafter diligently
prosecutes the same to completion;
(d) The making by Tenant of any general assignment or general
arrangement for the benefit of creditors; the filing by or against Tenant or
a petition to have Tenant adjudged a bankrupt or of a petition for
reorganization or arrangement under any law relating to bankruptcy (unless,
in the case of a petition filed against Tenant, the same is dismissed within
sixty (60) days); the appointment of a trustee or receiver to take possession
of substantially all of Tenant's assets located at the Premises or of
Tenant's interest in this Lease, where possession is not restored to Tenant
within sixty (60) days; or the attachment, execution, or other judicial
seizure of substantially all of Tenant's assets located at the Premises or of
Tenant's interest in this Lease, where such seizure is not discharged within
sixty (60) days.
15.2 NONEXCLUSIVE REMEDIES. In the event of any such material default by
Tenant, Landlord shall have the right to continue this Lease in full force and
effect and to collect all Base Monthly Rent, Base Monthly Rent Adjustments, and
other fees to be paid by Tenant under this Lease as and when due. During any
period that Tenant is in default, Landlord shall have the right, pursuant to
legal proceedings or pursuant to any notice provided for by law, to enter and
take possession of the Premises, without terminating this Lease, for the purpose
of reletting the Premises or any part thereof and making any alterations and
repairs that may be necessary or desirable in connection with such reletting.
Any such reletting or relettings may be for such term or terms (including
periods that exceed the balance of the term of this Lease), and upon such other
terms, covenants and conditions as Landlord may in Landlord's sole discretion
deem advisable. Upon each and any such reletting , the rent or rents received by
Landlord from such reletting shall be applied as follows: (1) to the payment of
any indebtedness (other than rent) due hereunder from Tenant to Landlord; (2) to
the payment of costs and expenses of such reletting, including brokerage fees,
attorney's fees, court costs, and costs of any alterations or repairs; (3) to
the payment of Base Monthly Rent, Base Monthly
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Rent Adjustments and other amounts due and unpaid hereunder; and (4) the
residue, if any, shall be held by Landlord and applied in payment of future
Base Monthly Rent, Base Monthly Rent Adjustments and other amounts as they
become due and payable hereunder. If the rent or rents received during any
month and applied as provided above shall be insufficient to cover all such
amounts including the Base Monthly Rent, Base Monthly Rent Adjustments and
other amounts to be paid by Tenant pursuant to this Lease for such month,
Tenant shall pay to Landlord any deficiency; such deficiencies shall be
calculated and paid monthly. No entry or taking possession of the Premises by
Landlord shall be construed as an election by Landlord to terminate this
Lease, unless Landlord gives written notice of such election to Tenant or
unless such termination shall be decreed by a court of competent
jurisdiction. Notwithstanding any reletting by Landlord without termination,
Landlord may at any time thereafter terminate this Lease for such previous
default by giving written notice thereof to Tenant.
(b) Terminate Tenant's right to possession by notice to Tenant,
in which case this Lease shall terminate and Tenant shall immediately
surrender possession of the Premises to Landlord. In such event Landlord
shall be entitled to recover from Tenant all damages incurred by Landlord by
reason of Tenant's default, including without limitation the following: (1)
all unpaid rent which has been earned at the time of such termination
(together with interest thereon at the rate of eighteen (18%) per annum to
the time of award) plus (2) the amount by which the unpaid rent which would
have been earned after termination until the time of award (together with
interest thereon at the rate of eighteen percent (18%) per annum) exceeds
the amount of such rental loss that is proved could have been reasonably
avoided; and (3) any other amount necessary to compensate Landlord for all
the detriment proximately caused by Tenant's failure to perform Tenant's
obligations under this Lease as may be permitted form time to time. Upon any
such re-entry, Landlord shall have the right to make any reasonable repairs,
alterations or modifications to the Premises which Landlord in Landlord's
reasonable discretion deems reasonable and necessary.
15.3 ADDITIONAL REMEDIES, COSTS AND EXPENSES. In addition to the
nonexclusive remedies provided in Section 15.2 above, Landlord shall have all
remedies now or hereafter provided by law for enforcing the provisions of
this Lease and Landlord's rights hereunder. In the event of any default under
this Lease, Landlord shall be entitled to recover from Tenant all costs and
expenses, including reasonable attorney's fees and court costs, incurred by
Landlord (with or without suit and before or after judgment) in obtaining
possession of the Premises, in collecting any Base Monthly Rent and any
adjustments thereto or other amounts due under the terms of this Lease and in
enforcing the provisions of this Lease or any right of Landlord under this
Lease.
15.4 DEFAULT BY LANDLORD. Landlord shall not be in default unless
Landlord fails to perform obligations required of Landlord within a
reasonable time, but in no event later than thirty (30) days after written
notice by Tenant to Landlord, specifying the nature of Landlord's default;
provided, however, that if the nature of the Landlord's obligation is such
that more than thirty (30) days are required for performance, then Landlord
shall not be in default if Landlord commences performance within the thirty
(30) day period and thereafter proceeds with reasonable diligence and in good
faith to complete the required performance.
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ARTICLE XVI: ENTRY BY LANDLORD
Landlord shall, during the term of this Lease, have the right to enter
the Premises to inspect the same at reasonable time and upon reasonable
notice to Tenant (taking into consideration the nature of Tenant's business),
to submit the Premises to prospective purchasers or tenant (but only after
Tenant's normal business hours) and to alter, improve or repair the Premises
and any portion of the Building without abatement of rent. Landlord may for
that purpose erect scaffolding and other necessary structures where
reasonably required by the character of the work to be performed; provided
however, that the entrance to the Premises shall not be blocked thereby, and
further provided that the business of Tenant shall not be interfered with
unreasonably. For each of the aforesaid purposes, Landlord shall at all times
have and retain a key with which to unlock all of the doors in, upon and
about the Premises, excluding Tenant's vaults and safes. Landlord shall have
the right to use any and all means which Landlord may deem proper to open the
doors in an emergency, in order to obtain entry to the Premises, and any
entry to the Premises obtained by Landlord by such means or otherwise shall
not under any circumstances be construed or deemed to be a forcible or
unlawful entry into, a detainer of the Premises, or any eviction of Tenant
from the Premises or any portion thereof. Notwithstanding the provisions of
Article XVI, Landlord shall provide Tenant with at least 48 hours' prior
actual notice before entering the Premises. In the event of an emergency, the
determination of which shall require Landlord to be reasonable, Landlord
shall use its best efforts to provide Tenant with notice reasonable in such
situation.
ARTICLE XVII: INDEMNITY
17.1 INDEMNITY. Tenant shall indemnify and hold Landlord harmless from
any and all claims of liability for any injury or damage to any person or
property whatsoever (a) occurring in, on or about the Premises or any part
thereof; and (b) occurring in, on or about any common area, including, but
not limited to, all elevators, stairways, passageways, hallways and parking
areas, and the use of which Tenant may have in conjunction with other tenants
of the Building, when such injury or damage is caused in part or in whole by
the negligence or willful misconduct of Tenant, Tenant's agents, contractors,
employees, licensees or invitees. Tenant shall further indemnify and hold
Landlord harmless from and against any and all claims arising from any breach
or default in the performance of any obligation on Tenant's part to be
performed under the terms of this Lease, or arising from any negligence of
Tenant, or any of Tenant's agents, contractors, employees, licensees or
invitees and from and against all costs, attorney's fees, expenses and
liabilities incurred in the defense of any such claim or any action or
proceeding brought thereon. Tenant shall not, however, be liable for damage
or injury occasioned by the negligence or intentional acts of Landlord and
Landlord's designated agents or employees, or a breach of this Lease by
Landlord.
17.2 ATTORNEY'S FEES AND COSTS. The obligation to indemnify shall include
reasonable legal and investigation costs and all other reasonable costs,
expenses and liabilities from the first notice that any claim or demand is to be
made or may be made.
ARTICLE XVIII: ESTOPPEL CERTIFICATES
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18.1 REQUIREMENTS. Tenant shall, within ten (10) days from receipt or
prior written notice from Landlord, execute, acknowledge and deliver to Landlord
a statement in writing (a) certifying that this Lease is unmodified and in full
force and effect or, if modified, stating the nature of such modification and
certifying that this Lease, as so modified, is in full force and effect and the
date to which the rent and other charges have been paid, and if to Tenant's
knowledge, there are any uncured defaults on the part of Landlord hereunder, or
specifying such defaults if any are claimed. Any such statement may be
conclusively relied upon by any prospective purchaser or encumbrancer of the
Premises or the Building.
18.2 FAILURE TO DELIVER. If Tenant fails to deliver such statement within
the time period referred to in Section 18.1, it shall be deemed conclusive upon
Tenant (a) that this Lease is in full force and effect, without modification
except as may be represented by Landlord, (b) that there are no uncured defaults
in Landlord's performance, and (c) that not more than one month's rent has been
paid in advance.
ARTICLE XIX: PARKING
Tenant shall have the right to use free of charge and in common with
other tenants or occupants of the Building its pro-rata share of the parking
facilities of the Building, if any, subject to the rules and regulations of
Landlord for such parking facilities which may be established or altered by
Landlord at any time or from time to time during the term thereof.
ARTICLE XX: MISCELLANEOUS
20.1 TRANSFER OF LANDLORD'S INTEREST. In the event of a sale or
conveyance by Landlord of Landlord's interest in the Premises or the Building
other than a transfer for security purposes only, Landlord shall be relieved
from and after the date specified in any such notice of transfer of all
obligations and liabilities accruing after such sale or conveyance on the part
of Landlord, provided that any funds in the possession of Landlord at the time
of transfer in which Tenant has an interest shall be delivered to the successor
of Landlord.
20.2 CAPTIONS. The captions of the Articles and Section of this Lease
are for convenience only and shall not be deemed to be relevant in resolving any
question of interpretation or construction of any Section of this Lease.
20.3 ENTIRE AGREEMENT. This Lease constitutes the entire agreement
between Landlord and Tenant relative to the Premises, and this Lease may be
altered, amended or revoked only by an instrument in writing signed by both
Landlord and Tenant. All prior or contemporaneous oral agreements between and
among the Landlord and Tenant and their agents or representatives relative to
the leasing of the Premises are merged in or revoked by this Lease. This Lease
is the product of negotiations between the parties.
20.4 SEVERABILITY. If any term or provision of this lease shall, to any
extent, be determined by a court of competent jurisdiction to be invalid or
unenforceable, the remainder of this Lease shall not be affected thereby, and
each term and provision of this Lease shall be valid and be enforceable and to
the fullest extent permitted by law.
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20.5 COST OF SUIT.
(a) If Tenant or Landlord shall bring any action for any relief
against the other, declaratory or otherwise, arising out of this Lease,
including any suit by Landlord for the recovery of rent or possession of the
Premises, the losing party shall pay the successful party a reasonable sum for
attorney's fees and costs whether or not such action is prosecuted to judgment.
(b) Should Landlord, without fault on Landlord's part, be made a
party to any litigation instituted by Tenant or by any third party against
Tenant, or by or against any person holding under or using the Premises by
license or Tenant, or for the foreclosure of any lien for labor or material
furnished to or for Tenant or any such other person or otherwise arising out of
or resulting from any act or transaction of Tenant or of any such person, Tenant
shall save and hold Landlord harmless from any judgment rendered against
Landlord, the Land or the Building or any apart thereof, and all costs and
expenses, including reasonable attorneys' fees and costs, incurred by Landlord
in or in connection with such litigation.
20.6 TIMES AND REMEDIES. Time is of the essence of this Lease and every
provision hereof, except as to the conditions relating to the delivery of
possession of the Premises to Tenant. All rights and remedies of the parties
shall be cumulative and nonexclusive of any other remedy at law or in equity.
20.7 BINDING EFFECT, SUCCESSORS AND CHOICE OF LAW. Subject to any
provisions restricting assignment or subletting by Tenant, all of the terms
hereof shall bind and inure to the benefit of the parties hereto and their
respective heirs, legal representatives, successors and assigns. This Lease
shall be governed by the laws of the State of Utah.
20.8 WAIVER. No term, covenant or condition of this Lease shall be deemed
waived, except by written consent of the party against whom the wavier is
claimed, and any waiver of the breach of any covenant, term or condition shall
not be deemed to be a waiver of any preceding or succeeding breach of the same
or any other term, covenant or condition. Acceptance by Landlord of any
performance by Tenant after the time the same shall have become due shall not
constitute a waiver by Landlord of the breach or default of any term, covenant
or condition unless otherwise expressly agreed to by Landlord in writing.
Acceptance by Tenant of any performance by Landlord after the time the same
shall have become due, shall not constitute a waiver by Tenant of the breach by
default of any term, covenant or condition unless otherwise expressly agreed to
by Tenant in writing.
20.9 SURRENDER OF PREMISES. The voluntary or other surrender of this
Lease by Tenant, or a mutual cancellation of this Lease shall, at Landlord's
election, terminate all or any existing subleases or subtenancies, or may, at
Landlord's election, operate as an assignment to Landlord of any or all such
subleases or subtenancies provided, however, that such surrender, cancellation
or termination shall not relieve Tenant of any obligation under this Lease.
20.10 HOLDING OVER. If Tenant remains in possession of all or any part of
the Premises after the expiration of the term of this Lease, with or without the
express or implied consent of Landlord, such tenancy shall be from month to
month only, and not a renewal hereof or
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an extension for any further term, and in such case, the rent and other sums
due hereunder shall be payable in an amount equal to one hundred twenty-five
percent (125%) of the adjusted annual rental specified in the lease
immediately prior to the expiration and at the time specified in this Lease
and such month-to-month tenancy shall be subject to every other term,
covenant and condition contained in this Lease.
20.11 SIGNS. Landlord reserves the right in Landlord's sole discretion to
place and locate on the roof, exterior of the Building, and in any area of the
Building not leased to Tenant such signs, notices, displays and similar items as
Landlord deems appropriate in the proper operation of the Building. Landlord
shall at its sole cost and expense provide signage on the Building directory, in
the lobby, on the floor on which the Premises are located, and a door plate for
Tenant's entry door.
20.12 RULES AND REGULATIONS. Tenant and Tenant's agents, servants,
employees, visitors and licensees shall observe and comply fully and faithfully
with all reasonable and nondiscriminatory rules and regulations adopted by
Landlord for the care, protection, cleanliness and operation of the Building,
and any modification or addition thereto adopted by Landlord, provided Landlord
shall give written notice thereof to Tenant. Landlord shall not be responsible
to Tenant for the non-performance by any other tenant or occupant of the
building of any rule or regulation.
20.13 NOTICE. Any notice required to be given under this Lease shall be
given in writing and shall be delivered in person or by mail, postage prepaid,
and addressed to the following:
If to Landlord:
Robert D. Kaufman and Dale E. Kaufman
P.O. Box 17346
Salt Lake City, Utah 84107
and
Prowswood Management, a division of Prowswood
4885 South 900 East, Suite 101
Salt Lake City, Utah 84117
If to Tenant: (SEND TO BOTH)
1) NETWORK COMPUTER INC.
7050 SOUTH 2000 EAST, SUITE 300
SALT LAKE CITY, UTAH 84121
2) ATTN: FACILITIES MANAGER
NETWORK COMPUTER INC.
1000 BRIDGE PARKWAY
REDWOOD SHORES, CA 94065
Such notice shall be deemed delivered when actually delivered or upon deposit of
the notice in the United States mail.
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20.14. NO PARTNERSHIP. Landlord does not, as a result of entering into
this Lease, in any way or for any purpose become a partner of Tenant in the
conduct of Tenant's business, or otherwise, or joint venturer or a member of a
joint enterprise with Tenant.
20.15 FORCE MAJEURE. In the event that either party hereto shall be
delayed or hindered in or prevented from the performance of any act required
hereunder by reason of strikes, lockouts, riots, insurrection, war or other
reason of a like nature not the fault of the party delayed in performing work or
doing acts required under the terms of this Lease, then performance of such act
shall be excused for the period of the delay and the period for the performance
of any such act shall be extended for a period equivalent to the period of such
delay. The provisions of this section shall not operate to excuse Tenant from
prompt payment of rent or any other payments required by the terms of this
Lease.
20.16 TENANT AUTHORIZATION. In the event Tenant is a corporation, then
Tenant represents and warrants that this Lease is made and entered into with
full and complete authorization and approval of said corporation's board of
directors. Further, Tenant represents and warrants that the individual signing
and executing this Lease for said corporation is fully authorized and empowered
by said corporation to so sign.
20.17 SPECIAL PROVISIONS. Special Provisions numbered one (1) through N/A
are attached hereto and made a part hereof. If none, so state in the following
space: NONE.
IN WITNESS WHEREOF, Landlord and Tenant have executed this lease the date
and year first above written.
LANDLORD:
ROBERT D. KAUFMAN
---------------------------------
DALE E. KAUFMAN
---------------------------------
TENANT:
NETWORK COMPUTER INC.
---------------------------------
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EXHIBIT "A"
DESCRIPTION OF PREMISES
The premises consist of suite known as 300 of the Willowcreek
Medical Building, 7050 South 2000 East; Salt Lake City, Utah, with
a combined leased area of 5,147 rentable square feet.
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EXHIBIT "B"
DESCRIPTION OF BUILDING
The following described real property situated in the County of
Salt Lake, State of Utah, more particularly described as follows:
Beginning at a point 53 feet West and 22.09 rods South from the
Northeast corner of Section 28. Township 2 South, Range 1 East,
Salt Lake Base and Meridian, and running thence South 4.25 rods;
thence West 211 feet; thence North 10.894 rods; thence East 211
feet to the West boundary line of Highland Drive extended; thence
South along the West boundary line of Highland Drive extended
6.644 rods to the point of beginning.
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RULES AND REGULATIONS
1. ADVERTISING. Landlord shall have the right to prohibit any advertising
by any Tenant which, in Landlord's reasonable opinion, tends to impair
the reputation of the building or its desirability as a building for
offices, and upon written notice from Landlord, such Tenant shall
refrain from or discontinue such advertising.
2. HALLWAYS AND STAIRWAYS. The sidewalks, passages, elevators, and
stairways shall not be obstructed by any of the Tenants or used by them
for any purpose other than for ingress and egress from their respective
premises. The halls, passages, entrances, elevators, stairways,
balconies, and roof are not for the use of the general public, and
Landlord shall in all cases retain the right of control and prevent
access thereto of all persons whose presence, in the reasonable
judgement of the Landlord, shall be prejudicial to the safety,
character, reputation, and interests of the building and its Tenants,
provided that nothing herein contained shall be construed to prevent
such access to persons with whom Tenants normally deal in the ordinary
course of Tenants' business unless such persons are engaged in illegal
activities. No Tenant and no employee of any Tenant shall go upon the
roof of the building without the written consent of the Landlord.
3. STEREO SYSTEMS, ETC. No Tenant shall install or operate any stereo, loud
speaker system, or similar device in the building in such manner as to
disturb or annoy other tenants of the building or the neighborhood. No
Tenant shall install any antennae, aerial wires, or the equipment
outside the building without the prior written approval of Landlord.
4. WINDOW SHADES. No Tenant will install blinds, shades, awnings, or other
form of inside or outside window covering, or window ventilators or
similar devices without the prior written consent of Landlord.
5. OBSTRUCTING LIGHT, DAMAGE. The sash doors, sashes, windows, glass doors,
lights, and skylights that reflect or admit light into the halls or
other places of the building shall not be covered or obstructed. The
toilets and urinals shall not be used for any purpose other than those
for which they were constructed, and no rubbish, newspapers or other
substance of any kind shall be thrown into them. Waste and excessive or
unusual use of water shall not be allowed. No Tenant shall mark, drive
nails, screw or drill into, paint, or in any way deface the walls,
ceilings, partitions, floors, wood, stone or iron work. The expense of
any breakage, stoppage, or damage resulting from a violation of this
rule by a Tenant shall be borne by such Tenant. Tenants shall be
permitted to hang pictures on the walls of Tenant's offices, but it must
be done in a workmanlike manner and in such a way as not to damage or
deface such walls in an abnormal manner.
6. SIGNS. Except for signs approved by Landlord if provided in this Lease,
no sign, advertisement, notice, or other lettering shall be inscribed,
painted, exhibited, or affixed on or to any part of the outside or
inside of the building.
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7. SAFES, MOVING, FURNITURE, ETC. Landlord shall reasonably prescribe the
weight, size, and position of all safes and other property brought into
the building, and also the times of moving the same in and out of the
building, and all such moving must be done under the supervision of
Landlord. Landlord will not be responsible for any loss of or damage to
any such safe or property from any cause; but all damage done to the
building by moving or maintaining any such safe or property shall be
repaired at the expense of such Tenant. Nor furniture, package, or
merchandise will be received in the building or carried up or down in
the elevators, except between such hours, in such elevators, and in such
a manner as shall be reasonably designated by landlord.
8. WIRING. Electric wiring of every kind shall be introduced and connected
as directed by Landlord and no boring or cutting for wires shall be
allowed except with the prior consent of Landlord. The location of
telephone, call boxes, and similar equipment shall be subject to
approval by Landlord.
9. REQUIREMENTS OF TENANTS. The requirements of Tenants will be attended
to only upon application at the office of Landlord. Landlord's employees
shall not perform any work nor do anything outside of their regular
duties unless under special instruction from the office and shall not
admit any persons (Tenants or otherwise) to any office without
instruction from the office of Landlord.
10. ACCESS TO BUILDING. Landlord reserves the right to close and keep locked
all entrances and exit doors of the building during hours Landlord may
deem advisable for the adequate protection of the property. Use of the
building and the premises before or after normal business hours or at
any time during Saturdays, Sundays, and legal holidays shall be
permissive and subject to the rules and regulations Landlord may
prescribe. Tenants, Tenant's employees, agents or associates, or other
persons entering or leaving the building at any time, when it is so
locked, may be required to sign a building register, and the watchman or
Landlord's agent in charge shall have the right to refuse admittance to
any person into the building without satisfactory identification showing
such person's right to access the building at such time. Landlord
assumes no responsibility and shall not be liable for any loss or damage
resulting from the admission of any authorized or unauthorized person to
the building.
11. IMPROPER CONDUCT. Landlord reserves the right to exclude or expel from
the building any person, including any Tenant, who in the judgement of
Landlord is intoxicated or under the influence of liquor or drugs, or
who shall do any act in violation of the rules and regulations of the
building.
12. STORAGE. No tenant shall conduct any auction or store goods, wares, or
merchandise on the premises. Articles of unreasonable size and weight
shall not be permitted in the building.
13. VEHICLES, ANIMALS, REFUSE. Tenants shall not allow anything to be placed
on the outside window ledges of the premises or to be thrown out of any
outside opening of the building. No bicycles or other vehicles, and no
animal shall be brought into the offices, halls, corridors, elevators
or any other part of the building by Tenants or the
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agents, employees or invitees of Tenants, and Tenants shall not place or
permit to be placed any obstruction of refuse in any public part of the
building.
14. EQUIPMENT DEFECTS. Tenants shall give Landlord prompt notice of any
accidents to or defects in the water pipes, electric lights and
fixtures, heating apparatus, or any other service equipment.
25
