<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JANUARY 24, 2000
REGISTRATION NO. 333-86901
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
--------------------------
AMENDMENT NO. 4
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
--------------------------
QUANTUM EFFECT DEVICES, INC.
(Exact name of Registrant as specified in its charter)
<TABLE>
<S> <C> <C>
DELAWARE 3674 77-0290544
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification
Number)
</TABLE>
3255-3 SCOTT BOULEVARD, SUITE 200
SANTA CLARA, CALIFORNIA 95054
(408) 565-0300
(Address, including zip code, and telephone number, including
area code, of Registrant's principal executive offices)
THOMAS J. RIORDAN
PRESIDENT AND CHIEF EXECUTIVE OFFICER
QUANTUM EFFECT DEVICES, INC.
3255-3 SCOTT BOULEVARD, SUITE 200
SANTA CLARA, CALIFORNIA 95054
(408) 565-0300
(Name, address, including zip code, and telephone number, including area code,
of agent for service)
------------------------------
COPIES TO:
ALAN C. MENDELSON, ESQ. JEFFREY R. VETTER, ESQ.
MATTHEW W. SONSINI, ESQ. CRAIG A. MENDEN, ESQ.
Cooley Godward LLP Fenwick & West LLP
Five Palo Alto Square Two Palo Alto Square
3000 El Camino Real 3000 El Camino Real
Palo Alto, CA 94306-2155 Palo Alto, CA 94306-2155
(650) 843-5000 (650) 494-0600
--------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
AS SOON AS PRACTICABLE AFTER THE REGISTRATION STATEMENT BECOMES EFFECTIVE.
--------------------------
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, as amended (the "Securities Act"), 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, 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
number 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 number of the earlier effective registration statement for the same
offering. / / ______
If delivery of the prospectus is expected to be made pursuant to Rule 434,
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 WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PROSPECTUS (SUBJECT TO COMPLETION)
ISSUED JANUARY 24, 2000
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 we are not soliciting offers to buy these
securities in any state where the offer or sale is not permitted.
<PAGE>
3,720,000 SHARES
[LOGO]
COMMON STOCK
-----------------
QUANTUM EFFECT DEVICES, INC. IS OFFERING 3,000,000 SHARES, AND THE SELLING
STOCKHOLDER IS OFFERING 720,000 SHARES. THIS IS OUR INITIAL PUBLIC OFFERING AND
NO PUBLIC MARKET CURRENTLY EXISTS FOR OUR SHARES. WE ANTICIPATE THAT THE INITIAL
PUBLIC OFFERING PRICE WILL BE BETWEEN $10 AND $12 PER SHARE.
-------------------
WE HAVE FILED AN APPLICATION FOR OUR COMMON STOCK TO BE QUOTED ON THE NASDAQ
NATIONAL MARKET UNDER THE SYMBOL "QEDI."
-------------------
INVESTING IN OUR COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" BEGINNING ON
PAGE 6.
------------------------
PRICE $ A SHARE
------------------------
<TABLE>
<CAPTION>
UNDERWRITING PROCEEDS TO
PRICE TO DISCOUNTS AND SELLING
PUBLIC COMMISSIONS PROCEEDS TO QED STOCKHOLDER
------------------ ------------------ ------------------ ------------------
<S> <C> <C> <C> <C>
PER SHARE..................... $ $ $ $
TOTAL......................... $ $ $ $
</TABLE>
QED AND THE SELLING STOCKHOLDER HAVE GRANTED THE UNDERWRITERS THE RIGHT TO
PURCHASE UP TO AN ADDITIONAL 558,000 SHARES TO COVER OVER-ALLOTMENTS.
THE SECURITIES AND EXCHANGE COMMISSION AND STATE SECURITIES REGULATORS HAVE NOT
APPROVED OR DISAPPROVED THESE SECURITIES, OR DETERMINED IF THIS PROSPECTUS IS
TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
MORGAN STANLEY & CO. INCORPORATED EXPECTS TO DELIVER THE SHARES TO PURCHASERS ON
, 2000.
-------------------
MORGAN STANLEY DEAN WITTER
LEHMAN BROTHERS
ROBERTSON STEPHENS
, 2000
<PAGE>
[DESCRIPTION OF INSIDE FRONT COVER GRAPHICS:
- - Photograph of a portion of QED's RM7000 embedded microprocessor
- - Overlaying the photograph of the RM7000 are stylized renditions of:
- a television set, set top box and satellite;
- a lap-top computer connected to an image of the world; and
- a laser printer.
- - at the top of the graphic are the names and logos of the following
significant representative customers of QED: Cisco Systems, Hewlett-Packard
Company, Lexmark International Group, Echostar Communications Corporation,
Extreme Networks, Inc., EFI Electronics Corporation, Pairgain Technologies,
Inc., Aeroflex Inc., Cosign Communications and ConvergeNet.
- - at the bottom of the page are the phrase "Powering the Communications
Revolution" and QED's name and logo.]
[DESCRIPTION OF GATEFOLD GRAPHICS:
- - in the background, photograph of a portion of a semiconductor wafer
containing numerous individual semiconductors;
- - graphics depicting the evolution of each of QED's target markets:
- networking/communication infrastructure equipment: pictures of an
elderly woman listening to a gramophone, an early version of the
telephone, a more modern image of a telephone, a satellite dish and a
lap-top computer connected to an image of the world (with the captions
"telegraph", "telephone", "modem" and "world wide web").
- business network equipment: pictures of letters carved in stone, an
early printing press, a letter from a typewriter and a laser printer
(with the captions "printing press", "typewriter" and "networked
printer").
- consumer network products: pictures of a woman in old-fashioned dress,
an early movie camera, a black and white television set, a hand-held
video camera, a modern television set, together with pictures of a set
top box and a satellite (with the captions "black and white movies",
"color video", "cable television" and "internet access"), all of which
overlay a schematic diagram of connections among consumer products.
- - on the left-hand side of the gatefold, the following captions, representing
QED's three target markets, and associated text:
- "Networking/Communication Infrastructure Equipment," with the following
text, "QED designs its newest embedded microprocessor products to meet
the high-performance needs of the most complex network infrastructure
equipment."
- "Business Network Equipment," with the following text, "QED's embedded
microprocessors are used in business network equipment to print complex
images, send documents and connect to enterprise networks."
- "Consumer Network Products," with the following text, "QED's embedded
microprocessors power a new class of network products that enable
access to the Internet through the television."
- - in the top right-hand corner of the gatefold, the caption, "Focus on High
Performance," with the following text: "Network users today seek immediate
access to more information and entertainment content from their intranets
and the Internet. Manufacturers of high performance products connected to
the network, from network infrastructure equipment, to business network
equipment, to consumer
<PAGE>
network equipment, use our embedded microprocessors to deliver, access and
present this network content."
- - in the lower right-hand corner of the gatefold, the caption "Quantum Effect
Devices," with the following text: "QED is a leading developer of 64-bit
embedded microprocessors for use in information-intensive products requiring
high performance. Our embedded microprocessors use the standard MIPS
architecture to achieve high system performance at a reasonable cost. QED's
embedded microprocessors also include proprietary features designed
specifically for our target markets."
- - in the lower left-hand corner and the center of the gatefold, QED's name and
logo.]
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
-----------
<S> <C>
Prospectus Summary............................. 4
Risk Factors................................... 6
Special Note Regarding Forward-Looking
Statements................................... 17
Use of Proceeds................................ 18
Dividend Policy................................ 18
Capitalization................................. 19
Dilution....................................... 20
Selected Financial Data........................ 21
Management's Discussion and Analysis of
Financial Condition and Results of
Operations................................... 22
<CAPTION>
PAGE
---------
<S> <C>
Business....................................... 31
Management..................................... 44
Certain Transactions........................... 55
Principal and Selling Stockholders............. 57
Description of Capital Stock................... 60
Shares Eligible for Future Sale................ 64
Underwriters................................... 66
Legal Matters.................................. 68
Experts........................................ 68
Where You Can Find More Information............ 68
Index to Financial Statements.................. F-1
</TABLE>
------------------------
You should rely only on the information contained in this prospectus. We
have not authorized anyone to provide you with information different from that
contained in this prospectus. We and the selling stockholder are offering to
sell, and seeking offers to buy, shares of common stock only in jurisdictions
where offers and sales are permitted. The information contained in this
prospectus is accurate only as of the date of this prospectus, regardless of the
time of delivery of the prospectus or of any sale of the common stock.
UNTIL , 2000 (25 DAYS AFTER THE COMMENCEMENT OF THIS OFFERING), ALL
DEALERS THAT BUY, SELL OR TRADE OUR COMMON STOCK, WHETHER OR NOT PARTICIPATING
IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS DELIVERY
REQUIREMENT IS IN ADDITION TO THE DEALERS' OBLIGATION TO DELIVER A PROSPECTUS
WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR
SUBSCRIPTIONS.
For investors outside the United States: neither we nor any of the
underwriters have done anything that would permit this offering or possession or
distribution of this prospectus in any jurisdiction where action for that
purpose is required, other than in the United States. You are required to inform
yourselves about and to observe any restrictions relating to this offering and
the distribution of this prospectus.
3
<PAGE>
PROSPECTUS SUMMARY
YOU SHOULD READ THE FOLLOWING SUMMARY TOGETHER WITH THE ENTIRE PROSPECTUS,
INCLUDING THE MORE DETAILED INFORMATION IN OUR FINANCIAL STATEMENTS AND
ACCOMPANYING NOTES APPEARING ELSEWHERE IN THIS PROSPECTUS. YOU SHOULD CAREFULLY
CONSIDER, AMONG OTHER THINGS, THE MATTERS SET FORTH IN "RISK FACTORS."
QED is a leading developer of high-performance embedded microprocessors that
perform information processing in networking/communications infrastructure
equipment, such as routers and switches; business network equipment, such as
laser printers, network computers and data storage systems; and consumer network
products, such as set-top boxes and cable modems. Each of our target markets has
experienced rapid growth as a result of the widespread deployment of networks
such as intranets and the Internet. These networks have increased in number and
complexity as has the volume of traffic they carry. The network infrastructure
and devices used to access network content must be able to cost-effectively
process increasing amounts of information, which requires larger numbers of
increasingly high-performance embedded microprocessors. Dataquest, Inc.
estimates that approximately 106 million high-performance embedded
microprocessors were shipped in 1998, and that this number will grow to
approximately 228 million in 2002.
The key advantages of our embedded microprocessors include their high levels
of information processing performance, reduced time to market and
price-competitiveness. We believe that our newest generation product, the
RM7000, is the highest-performance 64-bit embedded microprocessor in commercial
production. This product is designed for demanding networking applications, such
as high-speed routers and switches. As the cost of manufacturing our products
declines, we broaden our target markets to include customers that demand a
balance of price and performance. We consider our ability to migrate our
products into new markets to be a key advantage for us.
Embedded microprocessors are often based on a high-efficiency design
approach known as reduced instruction set computing, or RISC, which is
fundamentally different from the design approach used in most desktop computer
microprocessors. The leading RISC architecture is known as MIPS, and we
incorporate this architecture into our products. We believe that we have
assembled one of the foremost MIPS architecture design teams, with engineers
averaging approximately 13 years of microprocessor design experience. We use
third parties to fabricate our microprocessors, and by doing so seek to take
advantage of the semiconductor process expertise of leading manufacturers. This
also allows us to work with those manufacturers offering the most advanced
manufacturing processes and competitive prices.
Our objective is to maintain a leadership position in designing and
developing high-performance embedded microprocessors. In addition, we intend to
continue to introduce our products into the high-performance segments of the
embedded microprocessor market, eventually migrating these products into more
price-sensitive segments within our target markets. Further, we intend to
continue establishing relationships with customers that are market leaders in
order to be on the leading edge of new technologies and market trends.
We generate revenue primarily from direct sales of our products to systems
manufacturers and to a lesser extent from royalties associated with our license
of microprocessor designs to third parties. We have customer relationships with
market leaders in each of our target markets, including Cisco Systems, Inc.,
Hewlett-Packard Company and WebTV Networks, Inc.
We have incurred net losses in each quarter since we began developing and
marketing our own products. As of December 31, 1999, we had an accumulated
deficit of $26.6 million, and we may not achieve or sustain profitability.
We incorporated in California in August 1991 and reincorporated in Delaware
in December 1999. Our principal executive offices are located at 3255-3 Scott
Boulevard, Suite 200, Santa Clara, California 95054, and our telephone number is
(408) 565-0300. We maintain a worldwide web site at www.qedinc.com. The
information on our web site is not incorporated by reference into this
prospectus. All trademarks and trade names appearing in this prospectus are the
property of their respective holders.
Unless otherwise indicated, all information in this prospectus:
- gives effect to the conversion of each outstanding share of preferred
stock into one share of common stock effective upon the closing of the
offering; and
- assumes no exercise of the underwriters' over-allotment option.
4
<PAGE>
THE OFFERING
<TABLE>
<S> <C>
Common stock to be offered by us............ 3,000,000 shares
Common stock to be offered by the selling 720,000 shares
stockholder...............................
Common stock to be outstanding after this 25,912,501 shares
offering..................................
Use of proceeds to us....................... We intend to use the net proceeds from this
offering for general corporate purposes,
including capital expenditures and working
capital. See "Use of Proceeds."
Proposed Nasdaq National Market symbol...... QEDI
</TABLE>
The number of shares of our common stock to be outstanding immediately after
this offering is based on the number of shares outstanding at December 31, 1999.
This number does not take into account:
- 4,704,201 shares of common stock issuable upon exercise of outstanding
options at an average exercise price of $2.02 per share;
- 177,750 shares of common stock issuable upon exercise of outstanding
warrants at an average exercise price of $2.03 per share; and
- 1,839,635 shares of common stock reserved for issuance under our stock
plans, which are not subject to outstanding options.
SUMMARY FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The pro forma basic and diluted share calculation below reflects the
conversion upon the closing of this offering of all outstanding shares of
preferred stock into 13,618,837 shares of common stock as if the conversion
occurred at the date of original issuance.
<TABLE>
<CAPTION>
SIX MONTHS
YEAR ENDED JUNE 30, ENDED DECEMBER 31,
----------------------------------------------------- ------------------------
1995 1996 1997 1998 1999 1998 1999
--------- --------- --------- --------- --------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Product revenue........................ $ -- $ -- $ -- $ 1,428 $ 10,937 $ 2,810 $ 19,338
Total revenue.......................... 7,870 5,827 10,063 6,480 15,362 5,127 21,227
Gross profit........................... 7,870 5,827 10,063 2,766 6,849 2,007 9,138
Operating income (loss)................ 1,445 (2,041) (1,481) (9,915) (11,745) (6,885) (2,395)
Net income (loss)...................... 890 (1,041) (1,201) (9,883) (11,769) (6,865) (2,259)
Basic income (loss) per share.......... $ .19 $ (.20) $ (.21) $ (1.53) $ (1.45) $ (.87) $ (.25)
Diluted income (loss) per share........ $ .14 $ (.20) $ (.21) $ (1.53) $ (1.45) $ (.87) $ (.25)
Basic average common shares
outstanding.......................... 4,644 5,320 5,746 6,451 8,111 7,901 8,911
Diluted average common shares
outstanding.......................... 6,444 5,320 5,746 6,451 8,111 7,901 8,911
Pro forma basic and diluted net loss
per share............................ $ (.63) $ (.10)
Shares used in pro forma per share
calculation.......................... 18,717 22,530
</TABLE>
The "as adjusted" column below reflects the issuance and sale of 3,000,000
shares of our common stock by us, at an assumed initial public offering price of
$11.00 per share, and the application of the net proceeds to us from the
offering, after deducting estimated underwriting discounts and commissions and
estimated offering expenses payable by us.
<TABLE>
<CAPTION>
DECEMBER 31, 1999
----------------------
ACTUAL AS ADJUSTED
--------- -----------
<S> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents, short-term investments and restricted cash........................ $ 11,595 $ 41,335
Working capital........................................................................... 15,343 45,083
Total assets.............................................................................. 28,869 58,609
Long-term liabilities, less current portion............................................... 1,542 1,542
Total stockholders' equity................................................................ 16,496 46,236
</TABLE>
5
<PAGE>
RISK FACTORS
YOU SHOULD CAREFULLY CONSIDER THE RISKS DESCRIBED BELOW, TOGETHER WITH ALL
OF THE OTHER INFORMATION INCLUDED IN THIS PROSPECTUS, BEFORE MAKING AN
INVESTMENT DECISION. IF ANY OF THE FOLLOWING RISKS ACTUALLY OCCURS, OUR
BUSINESS, FINANCIAL CONDITION OR OPERATING RESULTS COULD BE MATERIALLY ADVERSELY
AFFECTED. IN THIS CASE, THE TRADING PRICE OF OUR COMMON STOCK COULD DECLINE, AND
YOU MAY LOSE ALL OR PART OF YOUR INVESTMENT.
RISKS RELATED TO OUR BUSINESS
WE HAVE A LIMITED OPERATING HISTORY UNDER OUR CURRENT BUSINESS MODEL, WHICH
MAKES IT DIFFICULT TO PREDICT OUR FUTURE OPERATING RESULTS.
We were incorporated in 1991 and began business as a provider of proprietary
microprocessor designs to semiconductor companies. In 1996, we obtained a
license to design, manufacture and sell embedded microprocessors using
intellectual property developed by MIPS Computer Systems, Inc., currently known
as MIPS Technologies, Inc. Since obtaining this license, we have transitioned to
a company that develops and markets its own products. Therefore, we have
operated under our current business model for a short period of time. This
limited operating history makes it difficult to predict our future revenue and
expenses.
WE HAVE NOT BEEN PROFITABLE OPERATING UNDER OUR CURRENT BUSINESS MODEL, AND
WE MAY NOT ACHIEVE PROFITABILITY.
In 1997, we began transitioning from a provider of proprietary
microprocessor designs to a company that develops and markets its own products,
and since then we have lost money in each quarter. Although product revenue has
increased significantly in the year ended June 30, 1999 and in the six months
ended December 31, 1999, we still have not achieved profitability. If our
revenue does not increase, we may not achieve or sustain profitability.
WE EXPERIENCE FLUCTUATIONS IN OUR OPERATING RESULTS DUE TO A NUMBER OF
FREQUENTLY CHANGING BUSINESS CONDITIONS, WHICH MAY CAUSE OUR STOCK PRICE TO
DECLINE.
We experience fluctuations in our operating results due to a variety of
factors, including:
- the timing and amount of orders from our customers, including
cancellations and reschedulings;
- the gain or loss of significant customers, including as a result of
industry consolidation;
- seasonality in some of our target markets;
- changes in the mix of products we sell;
- changes in demand by the end users of our customers' products;
- market acceptance of our current and future products;
- variability of our customers' product life cycles;
- changes in the average selling prices of embedded microprocessors or the
products that incorporate them due to our customers reaching volume
production, technological change, product obsolescence or otherwise; and
- cancellations, changes or delays of deliveries to us by our manufacturers,
including as a result of the availability and terms of manufacturing
capacity.
Revenue from the sale of our embedded microprocessors is dependent upon
companies designing our microprocessors into their products, which we refer to
as "design wins." Our gross margin is impacted by the mix of revenue among our
products. As a result of these factors and those listed above, our lengthy sales
cycle and our dependence on relatively few customers whose order cycles vary
significantly, our revenue and gross margin could fluctuate significantly.
6
<PAGE>
We cannot accurately forecast all of the above factors. As a result, we
believe that period-to-period comparisons do not indicate future operating
results. Our operating results in a future quarter or quarters may fall below
the expectations of public market analysts or investors. If this were to occur,
the price of our common stock could decline.
THE INABILITY OF OUR RM7000 EMBEDDED MICROPROCESSOR TO ACHIEVE CONTINUED
MARKET ACCEPTANCE COULD HARM OUR NEAR-TERM GROWTH.
We believe that our RM7000 embedded microprocessor, which we began shipping
in the second half of 1998, will form the basis for our next-generation family
of embedded microprocessors. Although we have achieved design wins for the
RM7000, some of them may not result in revenue to us. If the RM7000 does not
achieve continued market acceptance:
- revenue from our existing products could be inadequate to cover our
expenses, including the cost of selling, marketing, developing and
manufacturing the RM7000 and other new products;
- our brand and reputation could be damaged; and
- our competitors' products could achieve greater market share as our market
share declines.
OUR FAILURE TO DEVELOP AND INTRODUCE NEW PRODUCTS ON A TIMELY BASIS COULD
IMPAIR OUR ABILITY TO ATTRACT AND RETAIN CUSTOMERS.
The semiconductor industry is characterized by rapidly changing technology,
frequent product introductions and ongoing demands for greater speed and
functionality. Therefore, we must continually design, develop and introduce new
products with improved features to be competitive. To introduce these products
on a timely basis we must:
- design innovative and performance-improving features that differentiate
our products from those of our competitors;
- transition our products to new manufacturing process technologies;
- identify emerging technological trends in our target markets, including
new standards for our products;
- accurately define and design new products to meet market needs;
- anticipate changes in end-user preferences with respect to our customers'
products;
- bring products to market on a timely basis at competitive prices; and
- respond effectively to technological changes or product announcements by
others.
We cannot assure you that we will be able to meet the design and market
introduction schedules for our new products or enhancements to our existing
products or that these products will achieve market acceptance.
WE MUST ACHIEVE NEW DESIGN WINS, AND THESE DESIGN WINS MUST TRANSLATE INTO
CUSTOMER PURCHASES, FOR OUR PRODUCT REVENUE TO INCREASE.
Our success depends in large part upon achieving design wins for our
products with current and future customers. Design wins are indications by
existing and potential customers that they intend to incorporate our products
into new designs. To achieve design wins, we must continually increase the
performance levels of our embedded microprocessors, keep pace with evolving
industry standards and introduce new products in a timely manner. If we fail to
achieve design wins, we will lose potential sales opportunities.
7
<PAGE>
Design wins, however, do not necessarily result in purchase orders for our
products. Our design wins are solely an expression of interest by customers and
are not supported by binding contracts of any nature. Design wins also may not
result in future revenue for the following reasons:
- consolidation of our customer base or acquisitions of our customers;
- failure of our customers' products to compete in their respective markets;
and
- cancellation of development of a customer's product that incorporates our
embedded microprocessors.
WE FACE INTENSE COMPETITION IN THE MARKET FOR EMBEDDED MICROPROCESSORS.
Competition in the market for embedded microprocessors is intense, and we
expect it to increase in the future. We face competition from:
- other licensees of technology from MIPS Technologies, including NEC
Corporation, Toshiba Corporation and Integrated Device Technology, Inc.;
- companies utilizing alternative reduced instruction set computing, or
RISC, technologies, including ARM/Strong Arm, developed by ARM Holdings
plc and Intel; Hitachi SH, developed by Hitachi; and PowerPC, developed by
Motorola, Inc. and IBM Corporation; and
- companies utilizing technologies other than RISC.
Many of our existing competitors, as well as a number of potential new
competitors, have longer operating histories, greater brand recognition, larger
customer bases and greater financial and marketing resources than we do. They
may therefore be able to respond more quickly than we can to new or emerging
technologies and changes in customer requirements. They may also be able to
devote greater resources than we can to the development and promotion of their
technologies and products. We also face competition from several private
companies in various stages of development. In addition, our competitors that
are licensees of MIPS Technologies may obtain more favorable terms under their
current or future licenses, which would place us at a competitive disadvantage.
Furthermore, many of our existing and potential customers have the resources
to internally develop microprocessors and other devices that perform all or a
portion of the functions performed by our products. If these customers decided
to develop embedded microprocessors internally rather than purchasing our
products, we would lose sales opportunities.
IF OUR TARGET MARKETS REJECT THE MIPS MICROPROCESSOR ARCHITECTURE, SUPPORT
AND DEMAND FOR OUR PRODUCTS WILL DECLINE.
We have derived and expect to continue to derive substantially all of our
product revenue from products based on the MIPS microprocessor architecture.
Therefore, our success is dependent on continued acceptance of this architecture
within our target markets. Moreover, a large number of companies currently
develop semiconductor design tools, components and products that are compatible
with and optimized for the MIPS microprocessor architecture. If these companies
ceased to provide these tools for any reason, it could become more difficult or
less desirable for manufacturers and others to continue to support the MIPS
microprocessor architecture. If the markets for embedded microprocessors adopt
an alternative technology, we could lose the support of these MIPS
architecture-based tools, components and products and the demand for our
products would decline.
IF MIPS TECHNOLOGIES DEVELOPS FUTURE GENERATIONS OF ITS TECHNOLOGY, WE MAY
NOT BE ABLE TO OBTAIN A LICENSE ON REASONABLE TERMS.
MIPS Technologies has introduced, and will likely continue to introduce, new
generations of its microprocessor technology architecture containing
improvements that are not covered by the technology
8
<PAGE>
we are currently licensing from MIPS Technologies. Our success could depend on
our ability to develop products that incorporate those improvements. We may not
be able to license the technology for any new improvements from MIPS
Technologies on commercially reasonable terms or at all. If we cannot obtain
required licenses from MIPS Technologies, we could encounter delays in product
development while we attempt to develop similar technology, or we may not be
able to develop, manufacture and sell products incorporating this technology.
WE DEPEND UPON OUR LICENSE OF MICROPROCESSOR TECHNOLOGY FROM MIPS
TECHNOLOGIES AS THE BASIS FOR OUR PRODUCTS, AND WE WILL BE UNABLE TO MARKET
OUR PRODUCTS IF THIS LICENSE IS TERMINATED.
All of our current products and planned future products are based upon the
microprocessor technology we license from MIPS Technologies. Our failure to
comply with any of the terms of our license agreement could result in the
termination of our rights, preventing us from marketing our current and planned
products.
THE LOSS OF ANY OF OUR KEY PERSONNEL OR THE FAILURE TO HIRE AND RETAIN
ADDITIONAL QUALIFIED PERSONNEL COULD IMPAIR OUR ABILITY TO DEVELOP AND
MARKET OUR PRODUCTS.
Our success depends to a significant degree upon the continued contributions
of our key management, engineering and sales and marketing personnel, especially
our design engineers, who we believe are difficult to replace. We are
particularly dependent upon the continued services of Thomas J. Riordan, our
Chief Executive Officer, President and a director, and Raymond Kunita, our Chief
Operating Officer and Vice President of Engineering. Competition for highly
skilled managerial, engineering and sales and marketing personnel in the
semiconductor industry is intense, and we may not succeed in attracting and
retaining these personnel. Our inability to attract and retain qualified
personnel in the future or delays in hiring required personnel could impair our
ability to meet customer and technological demands or our ability to develop and
market our products. We do not have either employment contracts with, or key
person life insurance on, any of our key personnel.
OUR DEPENDENCE ON THIRD PARTIES TO FABRICATE OUR EMBEDDED MICROPROCESSORS
REDUCES OUR CONTROL OVER THE PRODUCTION, SUPPLY AND DELIVERY OF OUR
PRODUCTS.
We currently rely on third parties to fabricate our products. In the year
ended June 30, 1999 and the six months ended December 31, 1999, IBM and Taiwan
Semiconductor Manufacturing Company Ltd., or TSMC, performed all of our product
fabrication. We recently amended our contract with IBM, which expires no sooner
than November 14, 2002. IBM is not obligated under this contract to provide us
with any specified number of products, at any specified price. TSMC fabricates
our microprocessors on a purchase order basis, and we do not currently have a
long-term contract with TSMC.
There are significant risks associated with our reliance on third parties to
fabricate our products, including:
- manufacturing capacity may be unavailable to us, even though we may have
submitted a product order;
- we have limited control over product delivery schedules, and we may not
receive products within the time frames and in the volumes required by us
at a favorable cost or at all;
- we could face delays in obtaining, or we might not be able to obtain
access to, key fabrication process technologies; and
- we have limited control over quality assurance, manufacturing yields and
production costs.
Currently, our semiconductor manufacturers require approximately 13 to 15
weeks to deliver new orders, which often requires us to place orders in advance
of expected purchase orders from our
9
<PAGE>
customers. As a result, we have only a limited ability to react to fluctuations
in demand for our products, which could cause us to have an excess or a shortage
of inventory of a particular product.
If our manufacturers are unable or unwilling to continue to manufacture our
products in required volumes or at commercially acceptable costs, we may be
forced to seek other manufacturing sources for our products. Transferring to
another manufacturer would require a significant amount of time, and we cannot
assure you that we could make a smooth and timely transition.
In the past, we have experienced delays in the delivery of products by our
manufacturers, and we may experience delays in the future. As a result of the
September 21, 1999 earthquake in Taiwan, many semiconductor manufacturers,
including TSMC, experienced disruptions in their operations resulting in the
temporary cessation of semiconductor fabrication, the loss of some work in
process, delays in semiconductor shipments and limitations on manufacturing
capacity. To date, the earthquake has not had a material impact on our
operations. At this time, it is difficult to predict whether the earthquake will
have a material impact on our operations in the future. The disruption in
semiconductor manufacturing may result in product shortages that exceed our
current inventory reserves. Furthermore, even if we do not experience product
shortages, suppliers of other components incorporated into our customers'
products may experience shortages, which could affect the demand for our
products.
OUR DEPENDENCE UPON THIRD PARTIES TO ASSEMBLE AND TEST SUBSTANTIALLY ALL OF
OUR PRODUCTS REDUCES OUR CONTROL OF PRODUCT DELIVERY SCHEDULES AND QUALITY
ASSURANCE.
Because third parties assemble and test substantially all of our products,
we do not directly control our product delivery schedules and quality assurance.
This lack of control could result in product shortages, particularly in the case
of new products. Product shortages could increase our fabrication, assembly or
testing costs or delay delivery of our products. We do not have long-term
contracts with the companies that test and assemble our products, and we
typically procure services from them on a per order basis. Therefore, we may not
be able to continue to obtain assembly and testing services for our products on
acceptable terms, or at all. If we are required to find and qualify alternative
assemblers or testers for our products, we could experience delays in product
shipments or a decline in product quality.
WE MAY NOT ACHIEVE ACCEPTABLE PRODUCT YIELDS FROM OUR THIRD-PARTY
MANUFACTURERS, WHICH COULD INCREASE THE COST AND REDUCE THE SUPPLY OF OUR
PRODUCTS.
In the process of manufacturing embedded microprocessors, contaminants,
manufacturing errors and other factors can result in a substantial percentage of
nonfunctional products, and many semiconductor companies frequently encounter
difficulties in achieving acceptable product yields. The proportion of
functional products derived from a particular manufacturing process is referred
to as product "yield." If we do not achieve planned yields, our product costs
would increase and product availability would decrease. Yield problems may not
be identified and resolved, if ever, until a product has been manufactured and
can be analyzed and tested. As a result, yield problems are often difficult,
time consuming and expensive to correct. The risk of low yields is compounded by
the offshore location of some of our third-party manufacturing facilities,
increasing the effort and time required to identify, communicate and resolve
manufacturing yield problems.
In the past, we have experienced lower yields and related problems more
often with newer products than with mature products. For example, shipments to
customers have been delayed by as much as three weeks because of low-yielding
manufacturing processes on new products. Other companies have experienced poor
yields with respect to mature products, and we may also experience poor yields
on mature products. While we believe that our manufacturing yields have
generally been consistent with industry norms, we may experience yield problems
in the future that have a significant impact on our operating results and our
ability to deliver our products to our customers in a timely manner. If we do
not deliver our products to our customers in a timely manner, they may choose
other suppliers.
10
<PAGE>
WE RELY ON FOREIGN THIRD-PARTY MANUFACTURING OPERATIONS, WHICH EXPOSES US TO
RISKS INHERENT IN INTERNATIONAL OPERATIONS.
We are subject to risks associated with conducting business outside of the
United States because a large portion of our semiconductor fabrication and
substantially all of our assembly and testing operations occur in foreign
countries. These risks include:
- unexpected changes in U.S. or foreign regulatory requirements;
- additional costs and delays associated with tariffs, quotas and other
trade barriers and restrictions; and
- uncertainties relating to political, social and economic conditions.
In addition, all of our current arrangements with third-party manufacturers
provide for pricing and payment in U.S. dollars. Fluctuations in currency
exchange rates, therefore, could cause our third-party manufacturers to increase
their prices, which would reduce our gross margin.
OUR FAILURE TO PROTECT OUR PROPRIETARY RIGHTS, OR THE COSTS OF PROTECTING
THESE RIGHTS, MAY HARM OUR ABILITY TO COMPETE.
Third parties may be able to copy or reverse engineer aspects of our
products or obtain and use information that we regard as proprietary. Our
success and ability to compete is dependent in part upon continued protection of
our proprietary rights. Our failure to adequately protect our proprietary rights
could result in our competitors offering similar products, potentially resulting
in our loss of a competitive advantage and decreased revenue. In addition, as a
licensee of patent rights relating to the MIPS architecture, we rely upon MIPS
Technologies to enforce its patent rights against infringers. If MIPS
Technologies fails to enforce its patent rights, we might not be able to compete
successfully. We also seek to protect our trade secrets and proprietary
information through confidentiality agreements with our employees and
consultants and with other parties. However, we may not have an adequate remedy
in the event these agreements are breached or any remedy if our trade secrets
are independently developed by others. Despite our efforts to protect our
proprietary rights, existing intellectual property laws afford only limited
protection. In addition, the laws of some foreign countries provide only limited
proprietary rights protection.
Litigation may be necessary in the future to enforce our intellectual
property rights, to protect our trade secrets or to determine the validity and
scope of the proprietary rights of others. This litigation could result in
substantial costs and diversion of resources.
WE COULD BE SUBJECT TO CLAIMS OF INFRINGEMENT OF THIRD-PARTY INTELLECTUAL
PROPERTY, WHICH COULD RESULT IN SIGNIFICANT EXPENSE AND LOSS OF INTELLECTUAL
PROPERTY RIGHTS.
The semiconductor industry is characterized by uncertain and conflicting
intellectual property claims and frequent intellectual property litigation,
especially regarding patent rights. From time to time, third parties may assert
patent, copyright, trademark and other intellectual property rights to
technologies that are important to our business. We may receive notices of
claims that our products infringe or may infringe these rights. Any litigation
to determine the validity of these claims, including claims arising through our
contractual indemnification of our customers, regardless of their merit or
resolution, would likely be costly and divert the efforts and attention of our
management and technical personnel. We cannot assure you that we would prevail
in this litigation given the complex technical issues and inherent uncertainties
in intellectual property litigation. If this litigation resulted in an adverse
ruling, we could be required to:
- pay substantial damages;
- cease the manufacture, use or sale of infringing products;
11
<PAGE>
- discontinue the use of certain technology; or
- obtain a license under the intellectual property rights of the third party
claiming infringement, which license may not be available on reasonable
terms, or at all.
OUR LENGTHY SALES CYCLE MAKES IT DIFFICULT FOR US TO PREDICT IF OR WHEN A
SALE WILL BE MADE, WHICH INCREASES OUR RISKS RELATED TO CUSTOMER
CANCELLATIONS.
The timing of our sales revenue is difficult to predict because of the
length and variability of the sales cycle for our products. Our sales cycle
typically includes a three- to six-month period prior to our achieving a design
win and an additional 12- to 24-month period before a customer commences volume
production of products incorporating our embedded microprocessors. While
potential customers are evaluating our products and before they place an order
with us, we may incur sales and marketing expenses and expend significant
management effort. Therefore, we take risks related to product cancellations or
changed product plans, which could result in the loss of anticipated sales or
missed sales opportunities.
OUR REVENUE AND PROFITS MAY DECREASE IF WE LOSE ANY OF OUR SIGNIFICANT
CUSTOMERS.
Historically, a relatively small number of customers have accounted for a
significant portion of our total revenue in any particular period. The loss of
any significant customer could cause our revenue to decline. In the year ended
June 30, 1999, our four largest customers, including sales to their respective
manufacturing subcontractors, accounted for 23%, 20%, 15% and 12% of our total
revenue. In the six month period ended December 31, 1999, these same four
customers accounted for 34%, 16%, 14%, and 5% of our total revenue. We
anticipate that sales of our products to relatively few customers will continue
to account for a significant portion of our total revenue. We have no long-term
purchase commitments with any of our significant customers. Therefore, these
customers could cease purchasing our products with limited notice and with
little or no penalty.
Our dependence on a small number of customers increases the risks associated
with our potential loss of customers resulting from business combinations or
consolidations. If a customer or potential customer were acquired or combined
with another company, the resulting company could cancel development efforts,
design wins or purchase orders as part of the integration process.
IF WE FAIL TO ESTABLISH AND MAINTAIN OUR RELATIONSHIPS WITH KEY PARTICIPANTS
IN OUR TARGET MARKETS, WE MAY HAVE DIFFICULTY MARKETING OUR PRODUCTS.
It is important to our success to establish and maintain relationships with
customers who are technology or market-share leaders in our target markets. We
believe that we need to work closely with these customers to gain valuable
insight into market demands for new products and in order to help us design new
embedded microprocessors. If we fail to establish and maintain these
relationships, it would be more difficult for us to develop and market products
offering features that address emerging market trends.
In addition, to help sell our products, we rely upon our relationships with
vendors of collateral products and tools, such as companion integrated circuits,
operating systems and a variety of system design tools. If we fail to maintain
current relationships and to develop new relationships with these vendors, our
products may not remain compatible with other products and tools. This lack of
compatibility could affect our ability to acquire greater market share.
12
<PAGE>
MANY OF OUR SALES REPRESENTATIVES ARE NEW TO THE COMPANY, AND IF THEY FAIL
TO SUCCESSFULLY MARKET OUR PRODUCTS OR IF WE FAIL TO EXPAND THE NUMBER OF
OUR SALES REPRESENTATIVES, WE MAY NOT BE ABLE TO INCREASE SALES AND MARKET
AWARENESS OF OUR PRODUCTS.
We depend on sales representatives to sell a substantial portion of our
products. We have established relationships with many of our sales
representatives within the last year, and we are unable to predict how
successful these sales representatives will be in marketing and selling our
products. In addition, we must expand the number of sales representatives both
domestically and internationally. Without this increase, we may not be able to
increase sales and market awareness of our products. Competition for qualified
sales representatives is intense. We may not be able to retain our existing
sales representatives or engage the type and number of sales representatives
that we require on a timely basis or at all. In addition, all of our sales
representatives' agreements may be terminated upon 30-days notice by either
party.
OUR RAPID GROWTH HAS STRAINED OUR RESOURCES, AND WE MAY NOT BE ABLE TO
MANAGE FUTURE GROWTH.
We have experienced a period of rapid growth and expansion, which has
placed, and continues to place, a significant strain on our resources. This
growth has required us to increase the number of our employees from 48 as of
September 30, 1997 to 97 as of December 31, 1999, and otherwise expand our
operations, which has resulted in increased responsibilities for our management.
If we continue to expand our operations, we may significantly strain our
management, manufacturing, financial, information systems and other resources.
Moreover, we cannot be certain that our systems, procedures, controls and
existing space will be adequate to support our operations. We are currently
implementing a new enterprise resource planning system to accommodate the growth
in our operations, and we may not be able to implement this system effectively
or on a timely basis.
IF OUR PRODUCTS CONTAIN DEFECTS OR FAIL TO ACHIEVE INDUSTRY RELIABILITY
STANDARDS, OUR BUSINESS REPUTATION WILL BE HARMED, AND WE MAY INCUR
SIGNIFICANT UNEXPECTED EXPENSES AND LOSE SALES OPPORTUNITIES.
Our products have in the past contained, and may in the future contain,
undetected errors. Errors are more common when products are introduced or as new
versions are released. We may find errors, defects or failures in our products
after commencement of commercial shipments. If this happens, we may experience:
- delay in or loss of market acceptance and sales;
- product returns;
- diversion of development resources;
- injury to our reputation; or
- increased service and warranty costs.
Moreover, because we design many of our embedded microprocessors for
products that provide critical communications services, we may be subject to
significant liability claims. Our agreements with customers typically contain
provisions intended to limit our exposure to liability claims. These limitations
may not, however, preclude all potential claims from being made. We do not
currently have product liability insurance, and our general liability insurance
generally would not cover any claims sought against us. Furthermore, our
agreements with our manufacturers contain limitations on their obligations to
indemnify us if our embedded microprocessors contain manufacturing defects.
Liability claims could require us to spend significant time and money in
litigation or to pay significant damages. As a result, any of these claims,
whether or not successful, could seriously damage our reputation and our
business.
13
<PAGE>
RISKS RELATED TO OUR INDUSTRY
THE GROWTH OF OUR TARGET MARKETS DEPENDS UPON THE CONTINUED GROWTH OF THE
INTERNET, AND, THEREFORE, OUR OPERATING RESULTS COULD BE HARMED IF THE
INTERNET AND, HENCE, OUR TARGET MARKETS FAIL TO GROW OR GROW MORE SLOWLY
THAN EXPECTED.
We derive our revenue from the sale of embedded microprocessors targeted at
the networking/communications infrastructure equipment, business network
equipment and consumer network products markets. In particular, we depend on the
continued growth of the Internet, which largely dictates the demand for the
products incorporating our embedded microprocessors. The continued growth of the
Internet depends on various factors, many of which are outside our control.
Risks related to continued growth of the Internet include that:
- Internet infrastructure may not be able to support the demands placed on
it;
- performance and reliability of the Internet may decline as usage grows;
and
- privacy, security and authentication concerns with respect to the
transmission of confidential information over the Internet may result in
decreased usage.
Although our target markets have experienced significant growth in recent
years, they may not continue to grow as rapidly or at all. If they fail to grow,
or grow more slowly than expected, our operating results could be harmed.
THE CYCLICALITY OF THE SEMICONDUCTOR INDUSTRY MAY IMPACT OUR OPERATING
RESULTS.
The semiconductor industry is highly cyclical and subject to rapid
technological change. From time to time, the semiconductor industry has
experienced significant economic downturns, characterized by diminished product
demand, accelerated erosion of prices and excess production capacity. Our
industry also periodically experiences increased demand and production capacity
constraints. Accordingly, our operating results may vary significantly as a
result of general conditions in the semiconductor industry.
OUR FAILURE AND THE FAILURE OF OUR KEY MANUFACTURERS AND CUSTOMERS TO BE
YEAR 2000 COMPLIANT MAY HARM OUR BUSINESS AND RESULTS OF OPERATIONS.
The Year 2000 computer issue creates a significant risk for us in at least
three areas:
- systems we use to run our business;
- systems used by our manufacturers; and
- warranty or other claims arising from our products.
A failure in any of these areas to be Year 2000 compliant may seriously harm
our business and results of operations. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Year 2000 Computer
System Compliance."
RISKS RELATED TO THIS OFFERING
OUR STOCK PRICE MAY BE VOLATILE, AND YOU MAY NOT BE ABLE TO RESELL YOUR
SHARES AT OR ABOVE THE OFFERING PRICE.
The market for the securities of high technology companies in general, and
of companies in the semiconductor industries in particular, has been highly
volatile. It is likely that the price of our common stock will fluctuate widely
in the future. Factors that could affect the trading price of our common stock
include:
- quarterly variations in our operating results;
14
<PAGE>
- changes in the general conditions of the embedded microprocessor or
semiconductor markets;
- changes in financial estimates or recommendations by stock market analysts
regarding us or our competitors;
- our sales of common stock or other securities in the future;
- the hiring or departure of our key personnel;
- announcements by us or our competitors of significant contracts, new
products or product enhancements, acquisitions, distribution
relationships, joint ventures or capital commitments; and
- changes in market valuations of other embedded microprocessor companies.
PURCHASERS OF COMMON STOCK IN THIS OFFERING WILL SUFFER IMMEDIATE AND
SUBSTANTIAL DILUTION.
The initial public offering price is substantially higher than the book
value per share of our common stock. As a result, you will experience immediate
and substantial dilution of $9.22 in the pro forma net tangible book value per
share, based on an assumed initial public offering price of $11.00 per share.
This dilution is in large part because our earlier investors paid substantially
less than the initial public offering price in this offering when they purchased
their shares of common stock. You will experience additional dilution upon
exercise of outstanding stock options and warrants.
MANAGEMENT HAS BROAD DISCRETION ON HOW TO USE THE PROCEEDS FROM THIS
OFFERING AND MAY NOT APPLY THE PROCEEDS IN A MANNER THAT INCREASES THE VALUE
OF YOUR INVESTMENT.
Management will have broad discretion with respect to the expenditure of the
net proceeds from this offering. The proceeds have not been allocated for
specific purposes. You will be entrusting your funds to our management, upon
whose judgment you must depend, with limited information concerning the specific
working capital requirements and general corporate purposes to which the funds
will ultimately be applied. We may not be able to yield a significant return on
any investment of the proceeds.
WE MAY ENGAGE IN ACQUISITIONS THAT MAY HARM OUR OPERATING RESULTS, DILUTE
OUR STOCKHOLDERS AND CAUSE US TO INCUR DEBT OR ASSUME CONTINGENT
LIABILITIES.
As part of our business strategy, we may make investments in complementary
companies, products or technologies that we believe would be advantageous to the
development of our business. If we acquire a company, we could have difficulty
in assimilating that company's personnel and operations. In addition, the key
personnel of the acquired company may decide not to work for us. If we make
other types of acquisitions, we could have difficulty in assimilating the
acquired technology or products into our operations. These difficulties could
disrupt our ongoing business, distract our management and employees and increase
our expenses. Furthermore, we may issue equity securities to pay for any future
acquisitions, which could be dilutive to our existing stockholders. We may also
incur debt or assume contingent liabilities in connection with acquisitions,
which could harm our operating results.
PROVISIONS OF OUR CERTIFICATE OF INCORPORATION AND BYLAWS OR DELAWARE LAW
MAY DELAY OR PREVENT A CHANGE OF CONTROL TRANSACTION AND, THEREFORE, DEPRESS
THE MARKET PRICE OF OUR STOCK.
Delaware corporate law and our certificate of incorporation and bylaws
contain provisions that could delay, defer or prevent a change in control of our
company on terms which you may deem advantageous. These provisions could limit
the price that investors might be willing to pay in the future for shares of our
common stock. These provisions:
- authorize the issuance of "blank check" preferred stock, which is
preferred stock that our board of directors can create and issue without
prior stockholder approval, with rights senior to those of common stock;
15
<PAGE>
- provide for a board of directors with staggered terms;
- prohibit stockholder action by written consent; and
- establish advance notice requirements for submitting nominations for
election to the board of directors and for proposing matters that can be
acted upon by stockholders at a meeting.
A LIMITED NUMBER OF STOCKHOLDERS WILL HAVE THE ABILITY TO INFLUENCE THE
OUTCOME OF DIRECTOR ELECTIONS AND OTHER MATTERS REQUIRING STOCKHOLDER
APPROVAL.
After completion of this offering, our officers and directors and parties
affiliated with or related to these persons or to us will own approximately
39.9% of the outstanding shares of our common stock. Accordingly, these
stockholders will likely determine the outcome of director elections and other
matters submitted to our stockholders for approval, including potential mergers
or acquisitions and amendments to our certificate of incorporation. Stockholders
other than these principal stockholders are therefore likely to have little or
no influence on decisions regarding these matters.
THE PRICE OF OUR STOCK COULD DECREASE AS A RESULT OF SHARES BEING SOLD IN
THE MARKET AFTER THE OFFERING.
Sales of a substantial number of shares of our common stock in the public
market following this offering could cause the market price of our common stock
to decline. The number of shares of common stock available for sale in the
public market is limited by restrictions under federal securities law and under
lockup agreements that our stockholders have entered into with the underwriters,
and with us. Those lockup agreements restrict our stockholders from selling,
pledging or otherwise disposing of their shares for a period of 180 days after
the date of this prospectus without the prior written consent of Morgan
Stanley & Co. Incorporated. However, Morgan Stanley & Co. Incorporated may, in
its sole discretion, release all or any portion of the common stock from the
restrictions of the lockup agreements. The following table indicates
approximately when the 22,192,501 shares of our common stock that are not being
sold in the offering, but which were outstanding as of December 31, 1999,
assuming the conversion of all outstanding preferred stock, will be eligible for
sale into the public market:
<TABLE>
<CAPTION>
ELIGIBILITY OF
RESTRICTED
SHARES FOR SALE IN
PUBLIC MARKET
---------------------
<S> <C>
On the date of this prospectus......................................... --
180 days after the date of this prospectus............................. 11,668,412
180 days after the date of this prospectus, subject to volume
limitations.......................................................... 10,341,726
More than 180 days after the date of this prospectus................... 182,363
</TABLE>
Additionally, of the 4,881,951 shares issuable upon exercise of outstanding
options and warrants to purchase our common stock outstanding as of
December 31, 1999, approximately 2,072,574 shares will be vested and eligible
for sale 180 days after the date of this prospectus. For a further description
of the eligibility of shares for sale into the public market following the
offering. See "Shares Eligible for Future Sale."
In addition, as soon as practicable after the date of this prospectus, we
intend to file a registration statement on Form S-8 with the Securities and
Exchange Commission covering the 11,000,000 shares of common stock reserved for
issuance under our 1999 Equity Incentive Plan, 1999 Non-Employee Directors'
Stock Option Plan and 1999 Employee Stock Purchase Plan and for options issued
under our previous plans.
16
<PAGE>
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Some of the statements under "Prospectus Summary," "Risk Factors,"
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," "Business" and elsewhere in this prospectus constitute
forward-looking statements. In some cases, you can identify forward-looking
statements by terms such as "may," "will," "should," "expect," "plan,"
"anticipate," "believe," "estimate," "predict," "potential," or "continue," or
the negative of such terms or other comparable technology. The forward-looking
statements contained in this prospectus involve known and unknown risks,
uncertainties and other factors that may cause our or our industry's actual
results, level of activity, performance or achievements to be materially
different from any future results, levels of activity, performance or
achievements expressed or implied by these statements. These factors include
those listed under "Risk Factors" and elsewhere in this prospectus.
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. You should not place undue reliance on
these forward-looking statements, which apply only as of the date of this
prospectus.
17
<PAGE>
USE OF PROCEEDS
We estimate that our net proceeds from the sale of 3,000,000 shares of
common stock we are offering will be approximately $29.7 million, at an assumed
initial public offering price of $11.00 per share, after deducting estimated
underwriting discounts and commissions and after deducting estimated offering
expenses payable by us. If the underwriters exercise their over-allotment option
in full, we estimate that our net proceeds will be approximately $34.3 million.
We will not receive any proceeds from the sale of shares of common stock by the
selling stockholder. The primary purposes of this offering are to obtain
additional equity capital, create a public market for our common stock and
facilitate future access to public markets.
We intend to use the net proceeds we receive from this offering for general
corporate purposes, including capital expenditures and working capital. The
amounts that we expend for these purposes will depend on a number of factors,
including future revenue growth, if any, and the amount of cash we generate from
operations. As a result, we will retain broad discretion in the allocation of
the net proceeds of this offering. A portion of the net proceeds may also be
used to acquire or invest in complementary businesses, technologies, product
lines or products. We have no current agreements or commitments with respect to
any acquisition or investment, and we are not currently engaged in negotiations
with respect to any acquisition or investment. Pending these uses, we intend to
invest the net proceeds of this offering in investment grade, interest-bearing
securities.
DIVIDEND POLICY
We have never declared nor paid any cash dividends on our capital stock. We
currently intend to retain any future earnings to finance the growth and
development of our business and therefore do not anticipate paying any cash
dividends in the foreseeable future. Any future determination to pay cash
dividends will be at the discretion of our board of directors and will depend on
our financial condition, results of operations, capital requirements, general
business condition and other factors as our board of directors may deem
relevant.
18
<PAGE>
CAPITALIZATION
The following table sets forth QED's capitalization as of December 31, 1999
(1) on an actual basis, (2) on a pro forma basis to reflect the conversion of
all outstanding shares of preferred stock into an aggregate of 13,618,837 shares
of common stock upon consummation of this offering, and (3) on a pro forma as
adjusted basis to give effect to the sale of the 3,000,000 shares of common
stock by QED in this offering, at an assumed initial public offering price of
$11.00 per share, and after deducting estimated underwriting discounts and
commissions and estimated offering expenses payable by QED.
<TABLE>
<CAPTION>
DECEMBER 31, 1999
------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
---------- ----------- -----------
(IN THOUSANDS, EXCEPT SHARE
AND PER SHARE DATA)
<S> <C> <C> <C>
Long-term debt and leases, less current portion............................. $ 1,542 $ 1,542 $ 1,542
Stockholders' equity:
Preferred stock, $.001 par value, 13,897,750 shares authorized, 13,618,837
shares issued and outstanding, actual; 10,000,000 shares authorized, no
shares issued and outstanding pro forma and pro forma as adjusted....... 14 -- --
Common stock, $.001 par value, 29,000,000 shares authorized, 9,293,664
shares issued and outstanding, actual; 100,000,000 shares authorized,
22,912,501 shares issued and outstanding, pro forma; 100,000,000 shares
authorized, 25,912,501 shares issued and outstanding, pro forma as
adjusted................................................................ 9 23 26
Additional paid-in capital................................................ 43,846 43,846 73,583
Notes receivable from stockholder......................................... (42) (42) (42)
Deferred stock-based compensation......................................... (708) (708) (708)
Accumulated deficit....................................................... (26,623) (26,623) (26,623)
---------- --------- ---------
Total stockholders' equity.............................................. 16,496 16,496 46,236
---------- --------- ---------
Total capitalization.................................................. $ 18,038 $ 18,038 $ 47,778
========== ========= =========
</TABLE>
See Notes 4 and 9 of Notes to Financial Statements for a description of our
long-term debt and leases.
The share numbers in the table above exclude:
- 4,704,201 shares of common stock issuable upon exercise of options
outstanding at December 31, 1999 at a weighted average price of $2.02 per
share;
- outstanding warrants for the purchase of 177,750 shares of our common
stock at a weighted average exercise price of $2.03 per share; and
- an aggregate of 1,839,635 shares reserved for issuance under our 1999
Equity Incentive Plan, 1999 Non-Employee Directors' Stock Option Plan and
1999 Employee Stock Purchase Plan.
You should read this table in conjunction with "Management--Employee Stock
Plans," "Description of Capital Stock" and Note 7 of Notes to Financial
Statements.
19
<PAGE>
DILUTION
Pro forma net tangible book value as of December 31, 1999 was
$16.5 million, or $.72 per share, after giving effect to the conversion of all
outstanding shares of preferred stock into an aggregate of 13,618,837 shares of
common stock which will occur upon the closing of this offering. Pro forma net
tangible book value per share before the offering has been determined by
dividing pro forma net tangible book value, total tangible assets less total
liabilities by the pro forma number of shares of common stock outstanding at
December 31, 1999. After giving effect to the sale of the common stock by QED in
this offering, at an assumed initial public offering price of $11.00 per share,
and after deducting estimated underwriting discounts and commissions and
estimated expenses of the offering payable by QED, the pro forma net tangible
book value as of December 31, 1999, would have been $46.2 million, or $1.78 per
share. This represents an increase in pro forma net tangible book value per
share of $1.06 to existing stockholders and dilution in pro forma net tangible
book value per share of $9.22 to new investors who purchase shares in the
offering. The following table illustrates this per share dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share.............................. $ 11.00
Pro forma net tangible book value per share as of December 31, 1999........ $ .72
Increase in pro forma net tangible book value per share attributable to new
investors................................................................ 1.06
---------
Pro forma net tangible book value per share after this offering.............. 1.78
---------
Dilution per share to new investors.......................................... $ 9.22
=========
</TABLE>
The following table sets forth, on the pro forma basis described above, as
of December 31, 1999 the difference between the number of shares of common stock
purchased from QED, the total consideration paid, and the average price per
share paid by the existing stockholders and by investors purchasing shares in
this offering, based upon an assumed initial public offering price of $11.00 per
share, before deducting estimated underwriting discounts and commissions and
estimated offering expenses:
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION AVERAGE
------------------------- -------------------------- PRICE PER
NUMBER PERCENT AMOUNT PERCENT SHARE
------------ ----------- ------------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Existing stockholders.................................. 22,912,501 88.4% $ 41,563,000 55.7% $ 1.81
New investors.......................................... 3,000,000 11.6 33,000,000 44.3 11.00
------------ --------- ------------- ---------
Totals............................................... 25,912,501 100.0% $ 74,563,000 100.0%
============ ========= ============= =========
</TABLE>
The following table indicates the effect of sales by the selling stockholder
on existing and new stockholders:
<TABLE>
<CAPTION>
SHARES HELD ASSUMING
SHARES HELD BEFORE THE SHARES HELD AFTER THE EXERCISE OF OVER-
OFFERING OFFERING ALLOTMENT OPTIONS
------------------------- ------------------------- -------------------------
NUMBER PERCENT NUMBER PERCENT NUMBER PERCENT
------------ ----------- ------------ ----------- ------------ -----------
<S> <C> <C> <C> <C> <C> <C>
Existing stockholders...................... 22,912,501 88.4% 22,192,501 85.6% 22,084,501 83.8%
New investors.............................. 3,000,000 11.6 3,720,000 14.4 4,278,000 16.2
------------ --------- ------------ --------- ------------ ---------
Total................................ 25,912,501 100.0% 25,912,501 100.0% 26,362,501 100.0%
============ ========= ============ ========= ============ =========
</TABLE>
For a description of the stock owned by the selling stockholder, see
"Principal and Selling Stockholders."
The discussion and tables above exclude 4,704,201 shares of common stock
issuable upon exercise of outstanding stock options at a weighted average
exercise price of $2.02 per share and warrants to purchase 177,750 shares of
common stock at a weighted average exercise price of $2.03 per share. To the
extent that outstanding options are exercised in the future, investors in this
offering will experience further dilution.
20
<PAGE>
SELECTED FINANCIAL DATA
You should read the selected financial data set forth below in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the financial statements and related notes included elsewhere in
this prospectus. The balance sheet data as of June 30, 1998 and 1999 and the
statement of operations data for the years ended June 30, 1997, 1998 and 1999
have been derived from the audited financial statements of QED included
elsewhere in this prospectus. The balance sheet data as of June 30, 1995, 1996
and 1997 and the statement of operations data for the years ended June 30, 1995
and 1996 have been derived from audited financial statements of QED not included
in this prospectus. The balance sheet data as of December 31, 1999 and the
statement of operations data for the six months ended December 31, 1999 and 1998
have been derived from the unaudited financial statements of QED included
elsewhere in this prospectus. The unaudited financial data is not indicative of
the results for our full fiscal year or any other period.
<TABLE>
<CAPTION>
SIX MONTHS
ENDED
DECEMBER
YEAR ENDED JUNE 30, 31,
----------------------------------------------------- -----------
1995 1996 1997 1998 1999 1998
--------- --------- --------- --------- --------- -----------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenue:
Product revenue................................... $ -- $ -- $ -- $ 1,428 $ 10,937 $ 2,810
Royalty revenue................................... 2,363 2,712 8,850 5,052 4,425 2,317
Contract development revenue...................... 5,507 3,115 1,213 -- -- --
--------- --------- --------- --------- --------- ---------
Total revenue................................... 7,870 5,827 10,063 6,480 15,362 5,127
--------- --------- --------- --------- --------- ---------
Cost of product revenue............................. -- -- -- 3,714 8,513 3,120
--------- --------- --------- --------- --------- ---------
Gross profit........................................ 7,870 5,827 10,063 2,766 6,849 2,007
--------- --------- --------- --------- --------- ---------
Operating expenses:
Research and development.......................... 5,605 6,733 9,421 9,552 12,381 6,337
Selling, general and administrative............... 820 1,135 2,123 2,979 5,436 2,275
Stock-based compensation.......................... -- -- -- 150 777 280
--------- --------- --------- --------- --------- ---------
Total operating expenses........................ 6,425 7,868 11,544 12,681 18,594 8,892
--------- --------- --------- --------- --------- ---------
Income (loss) from operations....................... 1,445 (2,041) (1,481) (9,915) (11,745) (6,885)
Interest income (expense), net...................... 64 350 340 121 (24) 20
--------- --------- --------- --------- --------- ---------
Net income (loss) before taxes...................... 1,509 (1,691) (1,141) (9,794) (11,769) (6,865)
Provision (benefit) for income taxes................ 619 (650) 60 89 -- --
--------- --------- --------- --------- --------- ---------
Net income (loss)................................... $ 890 $ (1,041) $ (1,201) $ (9,883) $ (11,769) $ (6,865)
========= ========= ========= ========= ========= =========
Basic income (loss) per share....................... $ .19 $ (.20) $ (.21) $ (1.53) $ (1.45) $ (.87)
========= ========= ========= ========= ========= =========
Diluted income (loss) per share..................... $ .14 $ (.20) $ (.21) $ (1.53) $ (1.45) $ (.87)
========= ========= ========= ========= ========= =========
Basic average common shares outstanding............. 4,644 5,320 5,746 6,451 8,111 7,901
--------- --------- --------- --------- --------- ---------
Diluted average common shares outstanding........... 6,444 5,320 5,746 6,451 8,111 7,901
--------- --------- --------- --------- --------- ---------
Pro forma basic and diluted net loss per share...... $ (.63)
=========
Shares used in pro forma per share calculation...... 18,717
---------
<CAPTION>
1999
-----------
<S> <C>
STATEMENT OF OPERATIONS DATA:
Revenue:
Product revenue................................... $ 19,338
Royalty revenue................................... 1,889
Contract development revenue...................... --
---------
Total revenue................................... 21,227
---------
Cost of product revenue............................. 12,089
---------
Gross profit........................................ 9,138
---------
Operating expenses:
Research and development.......................... 6,561
Selling, general and administrative............... 4,300
Stock-based compensation.......................... 672
---------
Total operating expenses........................ 11,533
---------
Income (loss) from operations....................... (2,395)
Interest income (expense), net...................... 136
---------
Net income (loss) before taxes...................... (2,259)
Provision (benefit) for income taxes................ --
---------
Net income (loss)................................... $ (2,259)
=========
Basic income (loss) per share....................... $ (.25)
=========
Diluted income (loss) per share..................... $ (.25)
=========
Basic average common shares outstanding............. 8,911
---------
Diluted average common shares outstanding........... 8,911
---------
Pro forma basic and diluted net loss per share...... $ (.10)
=========
Shares used in pro forma per share calculation...... 22,530
---------
</TABLE>
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
----------------------------------------------------- -------------
1995 1996 1997 1998 1999 1999
--------- --------- --------- --------- --------- -------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents, short-term investments and
restricted cash.......................................... $ 2,005 $ 8,215 $ 6,973 $ 9,756 $ 19,465 $ 11,595
Working capital surplus (deficit).......................... (498) 5,036 4,027 8,221 18,174 15,343
Total assets............................................... 5,791 12,243 10,657 15,856 27,879 28,869
Long-term liabilities, less current portion................ -- -- -- 1,621 2,375 1,542
Total stockholders' equity................................. 2,061 7,156 5,995 8,509 17,606 16,496
</TABLE>
21
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
YOU SHOULD READ THE FOLLOWING DISCUSSION OF OUR FINANCIAL CONDITION AND
RESULTS OF OPERATIONS WITH THE FINANCIAL STATEMENTS AND THE NOTES TO THE
FINANCIAL STATEMENTS INCLUDED ELSEWHERE IN THIS PROSPECTUS. THIS DISCUSSION AND
ANALYSIS CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS, UNCERTAINTIES
AND ASSUMPTIONS. THE ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE ANTICIPATED
IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF MANY FACTORS, INCLUDING THOSE
SET FORTH UNDER "RISK FACTORS" AND ELSEWHERE IN THIS PROSPECTUS.
OVERVIEW
We are a leading developer of high-performance embedded microprocessors for
use in information-intensive products such as networking/communications
infrastructure equipment, business network equipment and consumer network
products. We began operations in 1991 as an intellectual property company,
developing and licensing microprocessor designs for third parties in exchange
for royalty payments. During the year ended June 30, 1997, we began
transitioning to a semiconductor company that designs, develops, markets and
sells its own high-performance microprocessors using the MIPS microprocessor
architecture. Volume shipments of our products began during the three months
ended March 31, 1998.
Continuous growth in our product revenue is dependent upon an increasing
number of customers incorporating our microprocessors into their end product
designs. We have achieved numerous design wins with existing and new customers.
There is generally a time lag ranging from 12 to 24 months between a design win
and volume shipments of our products. Design wins are only an expression of
interest by potential customers and are not binding contracts of any nature. We
cannot assure you that design wins will result in future revenue or that such
revenue will be derived in a predictable manner.
As a result of changes in our business model, we have not entered into any
third-party licensing agreements since June 1996 and currently have no plans to
do so. Consequently, royalty revenue relates primarily to products sold by our
licensees based on designs that are maturing and will become obsolete. We
believe that our royalty revenue will continue to decline both in absolute
dollars and as a percentage of total revenue.
We sell our products primarily to original equipment manufacturers and
recognize product revenue at the time of product shipment, net of accruals for
sales returns and allowances. We recognize royalty revenue when third parties
and related parties sell products we have designed.
We market and sell our products primarily through a direct sales force and
through sales representatives in the United States. Although we have sales
contracts with representatives in Europe and Asia, substantially all of our
product sales to date have been to U.S.-based original equipment manufacturers
and their manufacturing subcontractors. In both the year ended June 30, 1999 and
the six months ended December 31, 1999, product sales to U.S.-based customers
and their manufacturing subcontractors accounted for 96% of our product revenue.
Also, sales to our four largest customers, including sales to their respective
manufacturing subcontractors, accounted for 23%, 20%, 15% and 12% of total
revenue in the year ended June 30, 1999 and 34%, 16%, 14%, and 5% of total
revenue in the six months ended December 31, 1999.
Cost of revenue includes product costs, salaries and overhead costs
associated with employees engaged in activities related to the manufacturing of
our products. Research and development expense consists primarily of salaries
and related overhead costs associated with employees engaged in research, design
and development activities as well as the cost of mask sets, wafers and other
materials and related services used in the development process. Selling, general
and administrative expense consists of salaries, commissions paid to internal
and external sales representatives, third party certification and testing costs
and legal and accounting services. Stock-based compensation expense relates both
to stock-based
22
<PAGE>
employee and consultant compensation arrangements. Employee-related stock-based
compensation expense is based on the deemed fair value of our common stock and
the exercise price of options to purchase that stock on the date of grant and is
being recognized on an accelerated basis over the vesting periods of the related
options, usually four years. Consultant stock-based compensation expense is
based on the Black-Scholes option pricing model.
We currently use independent suppliers to manufacture, test and assemble all
of our products. This business model allows us to focus our resources on the
design, development and marketing of our products, rather than on building and
maintaining manufacturing facilities. Because we must often place orders for
products with our vendors prior to entering into sales contracts, we may be
exposed to the risks associated with holding obsolete or excess inventory.
Our gross margin is affected by the mix of products sold, the position of a
product in its life cycle and expenses in connection with the manufacturing
process. For example, newly-introduced products generally have higher average
selling prices, which typically decline over product life cycles due to
competitive pressures and technological advances.
From July 1, 1997 through December 31, 1999, we have incurred losses in each
quarter. If our revenue does not increase, our operating results will be
adversely affected, and we may not be able to achieve profitability. At
December 31, 1999, we had an accumulated deficit of $26.6 million.
QUARTERLY RESULTS OF OPERATIONS
Because we have a limited operating history under our current business
model, we believe that year-to-year comparisons prior to 1999 are less
meaningful than an analysis of recent quarterly operating results. Accordingly,
we are providing a discussion and analysis of our results of operations for the
six quarters ended December 31, 1999.
The following tables present selected unaudited quarterly financial
information for each of the six quarters through December 31, 1999 and the
percentage of total revenue represented by each item in our statement of
operations. This information has been presented on the same basis as the audited
financial statements appearing elsewhere in this prospectus and, in the opinion
of management, reflects all adjustments necessary for a fair presentation of
this information under generally accepted accounting principles. These quarterly
results are not necessarily indicative of results for any future period.
23
<PAGE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------------------
SEPT.
SEPT. 30, DEC. 31, MAR. 31, JUN. 30, 30, DEC. 31,
1998 1998 1999 1999 1999 1999
--------- -------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Revenue:
Product revenue.................. $ 1,383 $ 1,427 $ 2,512 $ 5,615 $ 9,808 $ 9,530
Royalty revenue.................. 507 255 246 380 50 730
Royalty revenue from related
parties........................ 732 823 837 645 609 500
------- ------- ------- ------- ------- -------
Total revenue.................. 2,622 2,505 3,595 6,640 10,467 10,760
Cost of product revenue............ 1,845 1,275 1,951 3,442 6,414 5,675
------- ------- ------- ------- ------- -------
Gross profit....................... 777 1,230 1,644 3,198 4,053 5,085
Operating expenses:
Research and development......... 2,933 3,404 2,917 3,127 3,141 3,420
Selling, general and
administrative................. 1,147 1,128 1,274 1,887 2,125 2,175
Stock-based compensation......... 132 148 238 259 654 18
------- ------- ------- ------- ------- -------
Total operating expenses....... 4,212 4,680 4,429 5,273 5,920 5,613
Loss from operations............... (3,435) (3,450) (2,785) (2,075) (1,867) (528)
Interest income (expense), net..... 41 (21) (155) 111 113 23
------- ------- ------- ------- ------- -------
Net loss before income taxes....... (3,394) (3,471) (2,940) (1,964) (1,754) (505)
Provision for income taxes......... -- -- -- -- -- --
------- ------- ------- ------- ------- -------
Net loss........................... $(3,394) $(3,471) $(2,940) $(1,964) $(1,754) $ (505)
======= ======= ======= ======= ======= =======
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------------------
SEPT.
SEPT. 30, DEC. 31, MAR. 31, JUN. 30, 30, DEC. 31,
1998 1998 1999 1999 1999 1999
--------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
AS A PERCENTAGE OF TOTAL REVENUE:
Revenue:
Product revenue.................. 52.8 % 57.0 % 69.9 % 84.6 % 93.7 % 88.6 %
Royalty revenue.................. 19.3 10.2 6.8 5.7 .5 6.8
Royalty revenue from related
parties........................ 27.9 32.8 23.3 9.7 5.8 4.6
------- ------- ------- ------- ------- -------
Total revenue.................. 100.0 100.0 100.0 100.0 100.0 100.0
Cost of product revenue............ 70.4 50.9 54.3 51.8 61.3 52.7
------- ------- ------- ------- ------- -------
Gross profit....................... 29.6 49.1 45.7 48.2 38.7 47.3
Operating expenses:
Research and development......... 111.9 135.9 81.1 47.2 30.0 31.8
Selling, general and
administrative................. 43.7 45.0 35.5 28.4 20.3 20.2
Stock-based compensation......... 5.0 5.9 6.6 3.9 6.2 .2
------- ------- ------- ------- ------- -------
Total operating expenses....... 160.6 186.8 123.2 79.5 56.5 52.2
------- ------- ------- ------- ------- -------
Loss from operations............... (131.0) (137.7) (77.5) (31.3) (17.8) (4.9)
Interest income (expense), net..... 1.6 (.8) (4.3) 1.7 1.0 .2
------- ------- ------- ------- ------- -------
Net loss before income taxes....... (129.4) (138.5) (81.8) (29.6) (16.8) (4.7)
Provision for income taxes......... -- -- -- -- -- --
------- ------- ------- ------- ------- -------
Net loss........................... (129.4)% (138.5)% (81.8)% (29.6)% (16.8)% (4.7)%
======= ======= ======= ======= ======= =======
</TABLE>
PRODUCT REVENUE. Product revenue has increased each quarter since we began
commercial volume shipments of products in the quarter ended March 31, 1998,
except for the quarter ended December 31, 1999. This growth is attributable to
new product introductions and enhancements and an increasing number of design
wins for our products. In addition, the increase in product revenue reflects
growth in our overall number of customers, as well as in the number of customers
reaching volume production. The 2.8% decrease in product revenue in the December
1999 quarter was due to a decrease in sales to the consumer appliance market,
which was almost entirely offset by an increase in sales to other markets.
Consumer appliances such as set-top boxes have a seasonal sales cycle that
generally peaks in the September quarter.
ROYALTY REVENUE AND ROYALTY REVENUE FROM RELATED PARTIES. Royalty revenue
has decreased as a percentage of total revenue as we continue to transition from
a license model to a product model. Royalty revenue is dependent upon shipments
of products by third parties and related third parties. We have no
24
<PAGE>
control over the volume or timing of these shipments, which vary from quarter to
quarter. Therefore, royalty revenue for a particular quarter could fluctuate
based on the volume or timing of shipments. Royalty revenue for the quarter
ended December 31, 1999 was positively impacted by a non-recurring receipt of
$500,000 arising from the sub-licensing of our technology by an unrelated
licensee.
GROSS PROFIT. During the quarter ended September 30, 1998, when we first
hired employees such as test engineers to support the manufacturing process, the
low volume of product sales negatively affected our gross profit. Our product
gross profit improved from the quarter ended December 31, 1998 as a result of
our products maturing and sales volumes increasing. The decrease in our gross
profit during the quarter ended September 30, 1999 was due to a decline in
royalty revenue, changes in product mix, and higher than normal yield losses.
There are no direct costs associated with our royalty revenue, which therefore
has a high gross profit margin. During the quarter ended September 30, 1999, a
relatively high percentage of our revenue derived from the sale of our
lowest-margin consumer appliance products in conjunction with Christmas
production increases. Additionally, we experienced low wafer yields on one of
our high-margin products that further reduced our gross profit. We have revised
the mask set for this product, which helped to increase wafer yields and gross
profits in the quarter ended December 31, 1999. The increase in gross profit
during the quarter ended December 31, 1999 was also attributable to a favorable
product mix and a higher level of royalty revenue.
OPERATING EXPENSES
RESEARCH AND DEVELOPMENT. Research and development expenses have fluctuated
on a quarterly basis due to the timing of product development activities. Prior
to releasing new products, we incur one-time charges for test wafers and mask
set revisions. We have also incurred additional expenses related to hiring
contractors to assist in the development effort. In addition, the number of our
full-time employees has increased over the six quarters ended December 31, 1999,
as have related overhead expenses. To maintain our competitiveness, we expect to
continue to increase our research and development expenses in absolute dollars
each fiscal year for the foreseeable future.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses have generally increased over the six quarters ended December 31, 1999
in response to the growth in product revenue and our overall growth. The number
of our employees has increased on a quarterly basis during this period, as have
our related overhead expenses. In addition, some of the fluctuations in
quarterly selling, general and administrative expenses in the table above are
related to the timing of third party certification expenses, such as Microsoft
Windows CE certification. We expect selling, general and administrative expenses
to increase in absolute dollars as we add personnel, increase our sales and
marketing activities and incur additional costs related to being a public
company.
STOCK-BASED COMPENSATION. In connection with the granting of stock options
to our employees and consultants, we have recorded deferred stock-based
compensation totaling approximately $2.3 million through December 31, 1999, of
which $708,000 remains to be amortized. This amount is included as a component
of stockholders' equity and is being amortized by charges to operations over the
vesting period of the related options, on an accelerated basis. The amortization
of the remaining deferred stock-based compensation at December 31, 1999 will
result in additional charges to operations through the year ended June 30, 2003.
Future compensation charges would be reduced if any employee or consultant
terminates employment or consultation prior to the expiration of the option
vesting periods. During the quarter ended December 31, 1999, we terminated
certain consulting agreements. As a result, approximately $177,000 of previously
recognized compensation expense associated with unvested options was reversed.
The amortization of stock-based compensation is classified as a separate
component of operating expenses in our statement of operations.
Our quarterly results of operations have fluctuated significantly in the
past and may continue to fluctuate in the future based on a number of factors,
not all of which are in our control. If revenue declines
25
<PAGE>
in a given quarter, our operating results will be adversely affected because
many of our expenses are relatively fixed. As a result, we believe
period-to-period comparisons are not necessarily meaningful and should not be
relied upon as indicative of future results.
RESULTS OF OPERATIONS
The following table sets forth certain operating data as a percentage of
total revenue for the periods indicated:
<TABLE>
<CAPTION>
SIX
MONTHS
ENDED
DECEMBER
YEAR ENDED JUNE 30, 31,
------------------------------- ---------
1997 1998 1999 1998
-------- --------- -------- ---------
<S> <C> <C> <C> <C>
AS A PERCENTAGE OF TOTAL REVENUE:
Revenue:
Product revenue...................................................................... -- % 22.0 % 71.2 % 54.8 %
Royalty revenue...................................................................... 26.7 27.7 9.0 14.9
Royalty revenue from related parties................................................. 73.3 50.3 19.8 30.3
------ ------- ------ -------
Total revenue...................................................................... 100.0 100.0 100.0 100.0
Cost of product revenue................................................................ -- 57.3 55.4 60.9
------ ------- ------ -------
Gross profit....................................................................... 100.0 42.7 44.6 39.1
Operating expenses:
Research and development............................................................. 93.6 147.4 80.6 123.6
Selling, general and administrative.................................................. 21.1 46.0 35.4 44.4
Stock-based compensation............................................................. -- 2.3 5.1 5.5
------ ------- ------ -------
Total operating expenses........................................................... 114.7 195.7 121.1 173.5
------ ------- ------ -------
Loss from operations................................................................... (14.7) (153.0) (76.5) (134.4)
Interest income (expense), net......................................................... 3.4 1.9 (.2) .4
------ ------- ------ -------
Net loss before income taxes........................................................... (11.3) (151.1) (76.7) (134.0)
Provision for income taxes............................................................. .6 1.4 -- --
------ ------- ------ -------
Net loss............................................................................... (11.9)% (152.5)% (76.7)% (134.0)%
====== ======= ====== =======
<CAPTION>
1999
--------
<S> <C>
AS A PERCENTAGE OF TOTAL REVENUE:
Revenue:
Product revenue...................................................................... 91.1 %
Royalty revenue...................................................................... 3.7
Royalty revenue from related parties................................................. 5.2
------
Total revenue...................................................................... 100.0
Cost of product revenue................................................................ 57.0
------
Gross profit....................................................................... 43.0
Operating expenses:
Research and development............................................................. 30.9
Selling, general and administrative.................................................. 20.3
Stock-based compensation............................................................. 3.2
------
Total operating expenses........................................................... 54.3
------
Loss from operations................................................................... (11.3)
Interest income (expense), net......................................................... .6
------
Net loss before income taxes........................................................... (10.7)
Provision for income taxes............................................................. --
------
Net loss............................................................................... (10.7)%
======
</TABLE>
COMPARISON OF THE SIX MONTHS ENDED DECEMBER 31, 1998 AND 1999
PRODUCT REVENUE. Product revenue increased from $2.8 million for the six
months ended December 31, 1998 to $19.3 million for the six months ended
December 31, 1999. The increase was due to a large increase in our number of
customers as well as an increase in the number of customers reaching volume
production. The increase was also due to the introduction of our communications
and networking products in the second half of the year ended June 30, 1999.
ROYALTY REVENUE AND ROYALTY REVENUE FROM RELATED PARTIES. Total royalty
revenue decreased from $2.3 million for the six months ended December 31, 1998
to $1.9 million for the six months ended December 31, 1999. We did not license
any new integrated circuit designs during the six months ended December 31, 1999
and do not intend to do so in the future.
GROSS PROFIT. Overall gross margin increased from 39.1% in the six months
ended December 31, 1998 to 43.0% in the six months ended December 31, 1999. This
increase largely reflects the absorption of fixed manufacturing costs over
higher revenues, offset by the negative impact on gross margin from decreased
royalty revenue. Our September quarter is generally the quarter with the lowest
product gross margin due
26
<PAGE>
to product mix. In anticipation of the holiday shopping season, our consumer
network products customers increase production, and we sell a larger volume of
lower-margin products than during other times of the year. As overall revenues
grow, we expect our gross margin to remain more consistent from quarter to
quarter.
RESEARCH AND DEVELOPMENT. Research and development expenses increased from
$6.3 million for the six months ended December 31, 1998 to $6.6 million for the
six months ended December 31, 1999, primarily due to an increase in the number
of engineers and consultants from 56 at December 31, 1998 to 64 at December 31,
1999.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses increased from $2.3 million for the six months ended December 31, 1998
to $4.3 million for the six months ended December 31, 1999. This increase is due
to an increase in personnel and related expenses, as well as to increases in
commissions corresponding to the increases in our product revenue. Over this
period, headcount increased from 18 to 31 employees.
STOCK-BASED COMPENSATION. In connection with certain stock option grants,
we recorded total stock-based compensation expense in the six months ended
December 31, 1998 and 1999 of $280,000 and $672,000. The increase was the result
of an increase in the number of options granted to non-employee consultants.
COMPARISON OF THE YEARS ENDED JUNE 30, 1997, 1998 AND 1999
PRODUCT REVENUE. We did not have any product revenue during the year ended
June 30, 1997. Product revenue increased from $1.4 million in the year ended
June 30, 1998 to $10.9 million in the year ended June 30, 1999. The increase in
product revenue in the year ended June 30, 1999 was due to the sale of products
based primarily upon design wins achieved during the year ended June 30, 1998.
ROYALTY REVENUE AND ROYALTY REVENUE FROM RELATED PARTIES. Combined royalty
revenue decreased from $10.1 million in the year ended June 30, 1997 to
$5.1 million in the year ended June 30, 1998 to $4.4 million in the year ended
June 30, 1999. In the year ended June 30, 1997, all of our total revenue was
derived from royalty agreements, including a one-time payment of $5.1 million
from a related party.
GROSS PROFIT. There were no product sales in the year ended June 30, 1997,
and, therefore, there were no direct product costs, resulting in an overall
gross margin of 100%. Overall gross margin increased from 42.7% in the year
ended June 30, 1998 to 44.6% in the year ended June 30, 1999. We incurred a
gross loss from product sales of $2.3 million in the year ended June 30, 1998
due to the low volumes of products initially introduced by us. Gross profit from
product sales improved to $2.4 million or 22.2% of product revenue in the year
ended June 30, 1999. This increase was due to the maturing of our products, an
increase in sales volume and the absorption of fixed costs, including overhead,
over a larger unit volume.
RESEARCH AND DEVELOPMENT. Research and development expenses increased from
$9.4 million in the year ended June 30, 1997 to $9.6 million in the year ended
June 30, 1998 and to $12.4 million in the year ended June 30, 1999. The majority
of the increase in spending on research and development during these periods
reflects the increase in hiring of engineers and consultants to develop new
microprocessor products, as well as to enhance the design of existing products.
From the year ended June 30, 1997 to the year ended June 30, 1998, spending on
salaries and consultants increased by $1.2 million, or 84%, and from the year
ended June 30, 1998 to the year ended June 30, 1999, this spending increased by
$1.9 million, or 85%. The increase also reflects our increasing investment in
hardware and software design tools used to develop and test new products.
Additionally, the cost of materials and related services grew significantly over
these periods.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses increased from $2.1 million in the year ended June 30, 1997 to
$3.0 million in the year ended June 30, 1998 and to
27
<PAGE>
$5.4 million in the year ended June 30, 1999. From the year ended June 30, 1997
to the year ended June 30, 1998, $390,000, or 30%, of the increase was due to an
increase in personnel and related expenses. From the year ended June 30, 1998 to
the year ended June 30, 1999, $1.4 million, or 53%, of the increase was due to
an increase in personnel and related expenses. Additionally, over this period,
commissions increased corresponding to the increase in product revenue, and
marketing expenses, professional services fees and occupancy costs increased due
to our overall growth.
STOCK-BASED COMPENSATION. We recorded deferred stock-based compensation
costs in the years ended June 30, 1998 and 1999 of $1.0 million and
$1.4 million, in connection with certain stock option grants made during these
periods. This increase was primarily the result of increases in the number of
options granted due to the increased hiring of employees and an increase in the
utilization of the services of consultants. We recognized $150,000 and $777,000
of stock-based compensation expense in the years ended June 30, 1998 and 1999.
INTEREST INCOME (EXPENSE), NET. Interest income decreased from $340,000 in
the year ended June 30, 1997 to $325,000 in the year ended June 30, 1998, and
then increased to $472,000 in the year ended June 30, 1999. The fluctuations in
interest income resulted from changes in our average cash and investment
balances. In March 1999, we raised approximately $20.0 million from the sale of
our Series D preferred and common stock. We did not have any interest expense in
the year ended June 30, 1997. Interest expense increased from $204,000 in the
year ended June 30, 1998 to $496,000 in the year ended June 30, 1999. Interest
payments are related to our equipment lease lines and borrowings.
INCOME TAXES
Federal and state income taxes were minimal during the years ended June 30,
1997, 1998 and 1999 as a result of our net operating losses. As of June 30,
1999, we had available federal net operating loss carryforwards of approximately
$18.0 million and state net operating loss carryforwards of approximately
$10.0 million. We also had research and development tax credit carryforwards of
approximately $1.0 million. The net operating loss and credit carryforwards will
expire at various times through 2019. As of June 30, 1999, we had deferred tax
assets of approximately $9.5 million, for which no benefit has been recorded in
our financial statements, and which consist primarily of net operating loss and
research and development tax credit carryforwards. This deferred tax asset will
be recognized in future periods as any taxable income is realized and consistent
profits are reported.
BACKLOG
At December 31, 1999, our backlog was $10.1 million compared to
$3.9 million at December 31, 1998. Our backlog consists of product orders for
which a customer purchase order has been received and accepted and which is
scheduled for shipment within 12 months. Orders that are scheduled for shipment
beyond the 12-month window are not included in backlog until they fall within
the 12-month window. Orders are subject to rescheduling or cancellation by the
customer, usually without penalty. Because of possible changes in product
delivery schedules and cancellation of product orders and because our sales will
sometimes reflect orders shipped in the same quarter that they are received, our
backlog at any particular date is not necessarily indicative of actual sales for
any succeeding period.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, we have financed our operations through a combination of
sales of equity securities, cash generated by operations during our early years,
and borrowings. As of December 31, 1999, we had $9.6 million in cash, cash
equivalents and short-term investments and $2.0 million of restricted cash. Net
cash used by operating activities during the years ended June 30, 1997, 1998 and
1999 and the six months ended December 31, 1999 was $96,000, $10.9 million,
$11.0 million and $6.1 million, respectively. During these periods, cash used by
operating activities consisted primarily of cash utilized to fund operating
losses
28
<PAGE>
and for working capital. During the year ended June 30, 1999 and the six months
ended December 31, 1999, the items that significantly impacted cash balances
were accounts receivable and inventories, both of which increased as the volume
of product sales increased.
Net cash provided by (used in) investing activities for the years ended
June 30, 1997, 1998 and 1999 and the six months ended December 31, 1999 was
$2.0 million, $(76,000), $(18.5) million and $8.4 million, respectively. Net
cash used in investing activities was related to the acquisition of property and
equipment and the purchase of short-term investments. Capital expenditures in
the years ended June 30, 1997, 1998 and 1999 and the six months ended
December 31, 1999 were $936,000, $76,000, $493,000 and $1.5 million,
respectively. Additionally, equipment acquired under capital lease arrangements
was $825,000 in the year ended June 30, 1998 and $367,000 in the year ended
June 30, 1999. No equipment was acquired under a capital lease during the six
months ended December 31, 1999. Overall capital spending during these periods
was the result of hiring additional employees and upgrading our design tools.
This transition required us to increase our investment in hardware
infrastructure, as well as in software tools, furniture and fixtures. As of
December 31, 1999, we had no material outstanding commitments to purchase or
lease capital equipment. However, we expect to continue investing in software
and hardware design tools in future periods and do not expect capital spending
to decline in absolute dollars in any future period.
Net cash provided by (used in) financing activities in the years ended
June 30, 1997, 1998 and 1999 and the six months ended December 31, 1999 was
$(210,000), $13.8 million, $21.2 million and $(284,000). The net cash provided
by financing activities in the years ended June 30, 1998 and 1999 related to the
sale of shares of our preferred stock. Net cash provided by financing activities
also related to proceeds from the issuance of common stock and proceeds from
borrowings. Net cash used in financing activities related to principal payments
under capital leases and repayment of borrowings.
In January 1999, we obtained a $6.0 million line of credit expiring on
December 31, 2000. Borrowings under this line of credit currently bear interest
at an annual rate of 8.5%. This line of credit is secured by substantially all
of our tangible assets and contains financial and other covenants that arise
after more than $2.0 million has been drawn down. As of December 31, 1999,
$1.7 million was outstanding under this line.
We believe that cash and cash equivalents, cash generated from operations,
if any, and the net proceeds from this offering will be sufficient to satisfy
our working capital requirements for the next 18 months. After that time, we may
require additional funds for working capital and operating expenses or for other
purposes. Our future operating expenses and capital requirements are difficult
to predict with accuracy. We believe that success in our industry requires
substantial capital in order to maintain the flexibility to take advantage of
opportunities as they may arise. Therefore, we may, from time to time, invest in
or acquire complementary businesses, products or technologies. We may effect
additional equity or debt financing to fund such activities or to satisfy our
future capital requirements. The sale of additional equity or convertible debt
could result in additional dilution to our stockholders.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not use derivative financial instruments in our investment portfolio.
We only invest in instruments that meet high credit and quality standards, as
specified in our investment policy guidelines. We had an investment portfolio of
money market funds, commercial securities and U.S. Government bonds, including
those classified as short-term investments and restricted cash, of
$18.8 million and $11.6 million, as of June 30, 1999 and December 31, 1999.
These instruments, like all fixed income instruments, are subject to interest
rate risk. The fixed income portfolio will fall in value if there were an
increase in interest rates. If market interest rates were to increase
immediately and uniformly by 10% from levels as of June 30, 1999 and
December 31, 1999, the decline of the fair value of the fixed income portfolio
would not be material. All of our revenue is denominated in U.S. dollars, and
therefore, we do not currently engage in any currency hedging transactions.
29
<PAGE>
YEAR 2000 COMPUTER SYSTEM COMPLIANCE
BACKGROUND OF YEAR 2000 ISSUES. The Year 2000 Issue is the result of
computer programs being written using two digits rather than four to define the
applicable year. Any of our computer programs that have date-sensitive software
may recognize a date using "00" as the year 1900 rather than the year 2000. This
could result in a system failure or miscalculations causing the disruptions of
operations, including among other things, a temporary inability to process
transactions, send invoices or engage in similar normal business activities.
We have established a task force with the responsibility of addressing
internal and external year 2000 issues. Although we believe that our products
and internal systems are currently Year 2000 compliant, and we have not
experienced any significant Year 2000 issues to date, we cannot guarantee that
our suppliers, vendors or other enterprises with which we interact are or will
be Year 2000 compliant. Failure of these enterprises to achieve Year 2000
compliance could have a material adverse effect on our business.
OUR EXTERNAL VENDORS. We have identified and contacted our significant
suppliers and service providers to determine the extent to which our business is
vulnerable to those third parties' failure to remediate their own Year 2000
issues. All of our significant suppliers and service providers have indicated
that they were expecting to achieve Year 2000 compliance by December 31, 1999.
We are continuing to monitor the progress of third parties critical to our
business. We cannot be certain that the representations of these third parties
are accurate or that they have reached Year 2000 compliance.
OUR INTERNAL BUSINESS SOFTWARE. During the year ended June 30, 1999, we
installed an internal business software package. The developer of this system
has represented to us that the system is Year 2000 compliant. As a result, we
believe our internal financial systems are Year 2000 compliant.
OUR INTERNAL NON-FINANCIAL SOFTWARE AND EQUIPMENT. We have taken an
inventory of all our non-financial software and equipment that may be affected
by the Year 2000 and have identified the non-financial software and equipment
that is critical to our operations. We believe that our non-financial software
and equipment is Year 2000 compliant. If our major non-financial systems and
equipment are not Year 2000 compliant, the Year 2000 could have a material
impact on our operations.
COSTS OF ADDRESSING YEAR 2000 COMPLIANCE. We have incurred less than
$100,000 in costs in our Year 2000 compliance efforts, excluding costs
associated with our adoption of a Year 2000 compliant enterprise software
system. Based on our preliminary evaluations, we do not believe that in the
future we will incur significant expenses or be required to invest heavily in
additional computer system improvements to be Year 2000 compliant. However,
significant uncertainty exists concerning the potential costs and effects
associated with Year 2000 compliance. Any Year 2000 compliance problem
experienced by us or our customers could decrease demand for our products, which
could harm our business.
CONTINGENCY PLANNING. We have developed a contingency plan for critical
individual information technology systems and non-information technology systems
to address Year 2000 risks not fully resolved by our Year 2000 program. We
believe that the Year 2000 risk will not present significant operational
problems for us.
RECENT LEGISLATION. Legislation was recently passed by Congress that
purports to limit liability for failure to be Year 2000 compliant. We cannot
assure you that this legislation will limit our liability.
WORST CASE SCENARIO. We believe that the likely worst case scenario for our
business would be if IBM and TSMC, our semiconductor manufacturers, have
inadequate Year 2000 programs, and we are unable to obtain products from them on
a timely basis. This would cause us to miss shipments, and our revenue and
results of operations would be materially impacted.
If our Year 2000 program or any third-party Year 2000 programs are
inadequate, and our business operations are materially impacted, we could incur
additional costs to recover any lost information and replace affected systems.
We believe that our systems could be replaced without significant difficulty, as
replacement systems are generally available on commercially reasonable terms. We
also have regular data back-up procedures that would assist in our recovery of
lost business information.
30
<PAGE>
BUSINESS
OVERVIEW
QED is a leading developer of high-performance embedded microprocessors that
perform information processing in networking/communications infrastructure
equipment, business network equipment and consumer network products. We believe
that we have one of the industry's most experienced microprocessor development
teams. While we focus our development efforts on the high-performance segments
of the embedded microprocessor market, we also offer our mature products to the
more price sensitive segments of our target markets. We sell our products
directly to systems manufacturers, and we outsource the fabrication of our
microprocessors to third parties. We have customer relationships with market
leaders in each of our target markets, including Cisco Systems, Hewlett-Packard
and WebTV.
INDUSTRY BACKGROUND
EMBEDDED MICROPROCESSORS
Microprocessors are generally thought of as the integrated circuits that
perform sophisticated computations and control the flow of information within
desktop computers. The majority of microprocessors, however, are hidden, or
embedded, in products and systems where they perform specialized tasks. A
microprocessor is typically classified by the number of fundamental elements of
data, or bits, that it can process at one time. Low-performance 4- and 8-bit
embedded microprocessors perform simple tasks in products such as microwave
ovens and thermostats. Complex tasks, such as delivering e-mail messages over
the Internet or presenting web pages clearly on televisions and printers,
require a high level of computing power, which can only be delivered by
high-performance 32- and 64-bit embedded microprocessors.
High-performance embedded microprocessors are configured in a system much
like a small, general-purpose computer and must support advanced software
operating systems and high-level programming languages to enable complex
application software. Uses for high-performance embedded microprocessors include
networking/communications infrastructure equipment, such as routers and
switches; business network equipment, such as laser printers, network computers
and data storage systems; and consumer network products, such as
Internet-enabled televisions and cable modems.
While the desktop microprocessor market is dominated by Intel Corporation's
"x86" complex instruction set computing, or CISC, architecture, several
microprocessor architectures have emerged within the high-performance embedded
microprocessor market. A microprocessor's architecture refers to its fundamental
operations and organization, which enable it to perform computations and to
control the flow of information. Embedded microprocessors achieve high
performance and silicon-area efficiency because they are based on reduced
instruction set computing, or RISC, architectures. The leading RISC architecture
is known as MIPS. Microprocessors based on the MIPS architecture standard have
been developed for applications ranging from game consoles such as the Sony
Playstation, to routers and switches, to multiprocessor enterprise servers. The
MIPS architecture is widely supported by independent suppliers of software and
hardware.
MARKET OPPORTUNITY FOR HIGH-PERFORMANCE EMBEDDED MICROPROCESSORS
Dataquest, Inc. estimates that worldwide unit shipments of high-performance
32-bit and 64-bit embedded microprocessors will grow from approximately
106 million in 1998 to approximately 228 million in 2002. Demand from numerous
applications for the rapid transfer and processing of digital information and
the increasing need for more complex control functions is driving the growth in
shipments of high-performance 64-bit embedded microprocessors.
31
<PAGE>
One of the most powerful drivers of the need for increased embedded
microprocessor performance has been the rapid development of intranets and the
Internet, as businesses and consumers seek immediate access to more information
and entertainment in an increasingly networked society. International Data
Corporation, or IDC, estimates that between 1995 and 1998 the number of devices
worldwide with access to the Internet grew from approximately 14 million to
120 million and estimates that there will be approximately 515 million by the
end of 2002. Similarly, the amount of content available on the Internet is
increasing rapidly. IDC estimates that the number of web pages worldwide grew
from approximately 18 million in 1995 to approximately 829 million in 1998, and
will increase to approximately 7.7 billion by 2002.
In addition to this increased volume of network traffic, the emergence of
multimedia and streaming audio and video content and transaction-intensive
e-commerce web sites have strained the ability of networks to process and
transmit information quickly. These factors have created the need for increased
network capacity, or bandwidth. Advances in communication technology are helping
to alleviate bandwidth constraints by providing higher transmission capacity. To
accommodate this increased bandwidth, intelligent devices within a network's
infrastructure, such as routers and switches, as well as those used to access
information at a network's interface, such as network printers and cable modems,
are increasingly required to quickly process greater amounts of more complex
information. All of these devices therefore need high levels of performance from
the microprocessors embedded within them.
As the bandwidth and information transmission capabilities of networks have
increased, so have users' expectations for their performance. Network service
providers have responded by broadening their product offerings, allowing users
to select between varied levels of information transmission service. To provide
different levels of service, networking equipment vendors are seeking ways to
cost-effectively incorporate more processing capability within their systems. In
addition, new data communication standards and protocols are frequently being
introduced into network infrastructures to support their expanded capabilities.
Hence, networks are now required to support many standards and protocols
simultaneously. This increase in complexity requires higher performance as well
as increased flexibility from the embedded microprocessors within the devices
that manage networks.
As the popularity of the Internet has increased, more powerful and
sophisticated products have emerged to provide additional connections to
Internet users. These devices require new generations of high-performance
microprocessors that must also meet strict power consumption and heat
dissipation requirements as well as the cost constraints of systems
manufacturers.
With growing demands on network capabilities and increasing business and
consumer expectations for performance, new generations of high-performance
embedded microprocessors are required to enable cost-effective deployment of
advanced communications products, both within network infrastructures and at
network interfaces.
THE QED ADVANTAGE
QED is a leading developer of 64-bit embedded microprocessors for use in
information-intensive products requiring the highest level of performance. Our
embedded microprocessors use a RISC architecture designed to achieve high system
performance cost-effectively. Our products are based on the MIPS architecture
standard and include proprietary features designed specifically for our target
markets. We believe that our newest generation product, the RM7000, is the
highest-performance 64-bit embedded microprocessor in commercial production.
We believe that we have one of the foremost MIPS architecture design teams.
From 1988 to 1991, Thomas Riordan, our Chief Executive Officer and a co-founder
of QED, was the Director of Research and Development at MIPS Computer
Systems, Inc., now known as MIPS Technologies, Inc., where he helped develop the
original MIPS architecture. At MIPS Computer Systems, Mr. Riordan was the
principal logic designer of the first commercial RISC-based embedded
microprocessor. He also led the development of
32
<PAGE>
the product that established the current 64-bit MIPS architecture standard.
Raymond Kunita, our Chief Operating Officer, Vice President of Engineering and
co-founder, as well as seven of our engineers, were also employees of MIPS
Computer Systems and contributed to the development of the MIPS architecture
standard.
Each generation of our products is built around successively more advanced
microprocessor cores that are designed to remain compatible with previous
generations. This approach enables us to design a range of products including
our high-performance standard products, our market-specific derivative products
and our microprocessors with integrated components. We believe that our embedded
microprocessors offer several distinct advantages to our customers over
competing products:
HIGH PERFORMANCE. Our products are designed to deliver high levels of
processing performance to all of our target applications. This processing
performance is primarily attributable to a combination of four key features:
- 64-bit processing, which gives our embedded microprocessors up to twice
the peak data transfer rate of competing 32-bit architectures;
- superscalar technology, which enables microprocessors to issue and execute
two or more instructions simultaneously;
- two-level cache memory, which allows for substantially more memory to be
integrated with the microprocessor core, minimizing the delay associated
with moving data between the microprocessor and external memory without
slowing the microprocessor's speed; and
- multi-stage pipeline technology, which allows the microprocessor to
process several different stages of instructions simultaneously.
REDUCED TIME TO MARKET. Our microprocessors are compatible with the most
robust operating systems and powerful software programming languages. By using
the MIPS architecture standard for our products, we leverage industry support of
a wide range of operating systems, such as WindowsCE, pSOS, QNX, Linux and
support from third-party proprietary tool vendors. These attributes enable
original equipment manufacturers to incorporate our products into their systems
more quickly and easily. In addition, we design our products to maintain a high
level of hardware and software compatibility between product generations, which
we believe enables our customers to easily upgrade to our new products.
PRICE-COMPETITIVENESS. All of our products are fabricated by established
manufacturing facilities using industry-standard semiconductor fabrication
processes. Our proprietary design methodology allows our designs to be
efficiently moved from one manufacturer to another and from one fabrication
process to another. By using leading fabrication processes, we believe we can
take advantage of new processes that allow microprocessors to be made smaller
and, therefore, at lower cost. We believe this approach also enables us to move
our products quickly from prototype into production, which can reduce
development costs. Finally, implementation of higher-density fabrication
processes allows us to integrate additional features into our products, which
reduces total solution costs for our customers.
THE QED STRATEGY
Our objective is to be the leading developer and supplier of
high-performance embedded microprocessors for information-intensive products.
Key elements of our strategy to achieve this objective include:
MAINTAINING TECHNICAL LEADERSHIP IN HIGH-PERFORMANCE EMBEDDED MICROPROCESSOR
MARKETS. We believe that maintaining a technical leadership position in
developing high-performance microprocessors is critical to our success. Our
product development efforts are focused on the high-performance segments of
information-intensive markets for embedded microprocessors. We believe that our
three target markets,
33
<PAGE>
networking/communications infrastructure equipment, business network equipment
and consumer network products, will continue to experience significant growth
for the foreseeable future and to demand increased microprocessor performance
and functionality. We intend to maintain a technical leadership position by
continuing to invest substantially in research and development resources.
LEVERAGING PERFORMANCE LEADERSHIP TO OFFER A BROAD RANGE OF
PRICE/PERFORMANCE OPTIONS. We believe that technological advances gradually
reduce the cost of a given product over time. Therefore, we seek to take
advantage of this technological evolution by focusing our design efforts on the
segments of our target markets that demand the highest performance. As our
products mature and their manufacturing costs decline, we believe that we will
be able to migrate our products to more price-sensitive segments within our
target markets. In this way, we focus our resources on developing the
highest-performance embedded microprocessors while offering products with a
broad range of price/performance options targeted at a wide variety of
applications.
CAPITALIZING ON RELATIONSHIPS WITH MARKET LEADERS TO DEFINE STANDARD
PRODUCTS. We have customer relationships with technology and market leaders in
each of our target markets, including Cisco Systems, Hewlett-Packard and WebTV.
We work closely with market leaders to define standard products and features
that meet their current and anticipated product needs. We believe that these
collaborations will enable us to remain on the leading edge of new technologies
and market trends for high-performance embedded microprocessors.
CONTINUING TO ESTABLISH MIPS ARCHITECTURE SUPPORT RELATIONSHIPS. We have
relationships with key industry participants such as vendors of companion
integrated circuits, operating systems and third-party support tools. Through
these relationships we seek to offer more complete product solutions to our
customers by offering our products with those of complementary vendors. We
intend to continue to establish and maintain these relationships to help ensure
that our products achieve widespread industry adoption.
LEVERAGING FABLESS SEMICONDUCTOR MODEL. We use third parties to manufacture
our microprocessors. This "fabless" model allows us to focus resources on our
design competencies, while reducing capital and operating infrastructure
requirements. We believe this approach reduces our product development risks,
and the time to market of our new products, relative to semiconductor companies
with manufacturing facilities. By using third-party manufacturers, we can
leverage the research and development efforts of leading manufacturers and
maintain flexibility in choosing those suppliers that meet our technology or
cost requirements.
USING ADVANCED STANDARD TECHNOLOGIES. We seek to use the most advanced
standard semiconductor fabrication, testing and packaging technologies. By using
these technologies, we believe that we can reduce our time to market,
development risk and costs, help ensure product supply and improve the
reliability of our products. Our use of standard technologies also provides
flexibility, allowing us to transfer our manufacturing operations to other
suppliers or facilities more quickly and reliably.
MARKETS AND APPLICATIONS
Each of our three target markets is information-intensive and requires high
bandwidth and increasing computational performance.
NETWORKING/COMMUNICATIONS INFRASTRUCTURE EQUIPMENT
As greater numbers of devices access intranets and the Internet and the
speed of those devices increases, the capacity of network infrastructures must
grow to accommodate the increased traffic. In addition, network content is
increasingly data-intensive. Although primarily text and graphics-based today,
34
<PAGE>
information and services available on networks, particularly the Internet, are
increasingly incorporating video and audio. To meet this bandwidth demand:
- Internet backbone speeds are being upgraded to higher data rates;
- high speed Internet access is being deployed to the home through
technologies such as xDSL and ISDN;
- networks are being upgraded to higher-speed communications protocols; and
- data and voice communications are being unified in the same network
infrastructure.
Accordingly, we design our newest microprocessors to meet the high-performance
needs of the most complex network infrastructure equipment. Our products are
designed into the following network infrastructure applications:
- ROUTERS. Routers and switch routers direct data and information packets to
the correct destinations within a network. High-performance routers are
equipped with multiple embedded microprocessors to manage different
functions such as routing packets of information, translating between
communication protocols and adding higher levels of transmission services
to a network.
- LAN SWITCHES. Local area network, or LAN, switches are intranet network
devices that provide a direct connection from the sender of information to
the receiver within an intranet. Embedded microprocessors are used to
manage information flow through LAN switches. Multiple embedded
microprocessors may be used in each LAN switch to increase the data
movement capabilities of the switch.
- ACCESS SERVERS. The server nearest to a network user is the access server,
which uses embedded microprocessors to combine discrete data streams, such
as information from individual modem lines, into fewer streams of
high-speed data.
- NETWORK INTERFACE CARDS. Network interface cards provide the physical
connection between networking equipment and a user's access device.
Network interface cards are used at all levels in a network infrastructure
from the access server connecting modem, to xDSL or ISDN connections, to
high speed routers. Performance increases within network interface cards
have been driven by the requirement to make more physical connections in a
limited space. Consequently, network interface cards are incorporating
high-performance embedded microprocessors, with at least one
microprocessor embedded into each.
- STORAGE AREA NETWORKS. The growth in the amount of critical information
processed and stored by businesses has increased the need for more
sophisticated data storage systems. Storage area networks have been
developed to address this need by distributing data storage over a network
of storage devices. The complexity of managing information within storage
area networks requires high levels of embedded microprocessor performance.
BUSINESS NETWORK EQUIPMENT
Businesses are increasingly deploying LANs as their central communications
infrastructure to perform a range of important tasks such as sending documents,
accessing databases and other enterprise-wide information, connecting with
vendors and suppliers on-line and connecting to larger networks, including the
Internet. Highly sophisticated business network equipment has been developed to
manage these tasks at the network interface. Designers of business network
equipment generally require moderate to high processing performance, but must
balance this need against the power consumption and cost of the microprocessor
embedded into their products. Products within this market include:
- PRINTERS. We believe that printers will continue to require additional
embedded microprocessor performance to manage increases in print speed,
image complexity and the addition of color.
35
<PAGE>
Multifunction printers can combine the functions of copiers, scanners, fax
equipment and printers in one device. All of these devices incorporate
embedded microprocessors for processing the increasingly sophisticated
data comprising color images, web sites and other network content.
- NETWORK COMPUTERS. The primary purpose of a network computer is to serve
as an input/output device for accessing information stored on a network.
Network computers are designed to be less expensive than traditional
desktop computers. The processing capability of a network computer is
optimized by an embedded microprocessor's ability to move and format data
for presentation to the user.
- DISK ARRAYS. Disk arrays have been developed in response to the increasing
volume of data being stored by businesses. They consist of multiple hard
drives configured to operate like a single, large disk drive. Servers can
read data from drive arrays faster and achieve greater protection from
data loss relative to traditional hard drives. Microprocessors are used in
disk arrays to control the flow of data among their component hard drives
and the server.
CONSUMER NETWORK PRODUCTS
A new class of network products has been developed to provide consumers with
additional means of accessing the Internet beyond desktop computers. Because
these are retail products, most suppliers to this market are sensitive to the
price of the microprocessors that they incorporate into their products. They are
also concerned with the power consumption and heat dissipation of the
microprocessors because the devices into which they are installed are often
relatively small. There are two principal categories of products in this market:
- CONSUMER INTERNET APPLIANCES. Products such as set-top boxes provide an
alternative way to access the Internet through services such as WebTV and
are designed to be significantly easier to install and operate and less
expensive than a PC. These devices may offer a range of services such as
digital recording and customization for each user. The challenge in this
market is to offer full-speed multimedia performance at competitive
prices. We believe that as expectations for the performance of Internet
appliances rise and as multimedia information on the Internet becomes more
sophisticated, the need for increased performance provides a significant
opportunity for our products.
- DIGITAL NETWORK TRANSMISSION PRODUCTS. In order to access new digital data
services, two classes of products, the cable modem and the "x" digital
subscriber line, or xDSL, modem, have been developed. Cable modem and xDSL
modem technology offer significantly higher network speeds than analog
modems, therefore requiring higher microprocessor performance to manage
information flow. Some cable television operators are upgrading their
networks to enable two-way communications through the use of a cable
modem. High speed access services such as Excite@Home have also emerged to
provide network infrastructure and services to cable modem customers. In
addition, xDSL modem technology has been developed to provide high speed
digital communications through existing telephone lines to the home. This
service may be offered in areas where the local telephone switch network
has been upgraded to offer digital service.
36
<PAGE>
PRODUCTS
The following chart summarizes our line of microprocessor products:
<TABLE>
<CAPTION>
PRODUCT SYSTEM
PRODUCT INTRODUCTION PERFORMANCE MEMORY INTERFACE TARGET APPLICATION
<S> <C> <C> <C> <C> <C>
RM5230 Q3 1997 175MHz 16K/16K 32-bit Consumer
RM5260 Q3 1997 175MHz 16K/16K 64-bit Business
RM5270 Q4 1997 200MHz 16K/16K 64-bit Networking
RM5231 Q3 1998 250MHz 32K/32K 32-bit Business and Consumer
RM5261 Q3 1998 266MHz 32K/32K 64-bit Business
RM5271 Q3 1998 300MHz 32K/32K 64-bit Networking and Business
RM7000 Q4 1998 266MHz 16K/16K/256K 64-bit Networking and Business
</TABLE>
In the above table, Product Introduction refers to the calendar quarter in
which the product was first commercially shipped. Performance indicates maximum
available execution speed. Memory indicates the amount of memory contained in
the instruction cache and data cache, and for the RM7000, in the level-two
cache. System Interface indicates the width of the microprocessor's path to
external input/output and memory devices.
QED PRODUCTS
In 1997, we introduced the first microprocessors supplied directly by QED,
which we named RISCMark-TM-. As of December 31, 1999, we have introduced three
generations of our products, all of which are in production:
RM5230, RM5260 AND RM5270. Introduced in 1997, this series of products is
based on the same microprocessor core. The RM5230 is currently the largest
volume product we ship and is primarily used by manufacturers of consumer
Internet appliances. The RM5260 is a higher-performance, 64-bit version of the
RM5230. The 64-bit RM5270, the highest-performance product in the series,
supports an external secondary-cache memory interface for more demanding
computing applications.
RM5231, RM5261 AND RM5271. This series of products is an upgrade to the
RM52x0 series and provides higher execution speeds and additional performance
features. The RM52x1 is currently supplied in processing speeds up to 300MHz.
These devices are designed to be compatible with the prior generation RM52x0.
RM7000. The RM7000 is the highest-performance product in our product line,
and we believe it is the highest-performance 64-bit embedded microprocessor in
commercial production. We developed the RM7000 to be the microprocessor core for
our new generation of products. This product incorporates significant design and
performance enhancements while maintaining compatibility with prior product
generations. The RM7000 is incorporated primarily into networking infrastructure
products, such as routers and switches.
LICENSED PRODUCTS. Our initial business model was to develop and license
proprietary designs based on a microprocessor architecture developed by MIPS
Computer Systems. Under this business model, we developed five microprocessors
under contract with various manufacturers. Since beginning the transition to our
new business model in June 1996, we have not entered into any new third-party
licensing agreements and currently have no plans to do so.
37
<PAGE>
TECHNOLOGY
Our design efforts are focused on creating high-performance embedded
microprocessors based on the MIPS architecture.
PROPRIETARY MIPS ARCHITECTURE DESIGNS
Our microprocessor designs based on the MIPS architecture use proprietary
logic and circuit design techniques to achieve high performance:
LOGIC DESIGN. Our microprocessors use proprietary techniques similar to
those used in high-performance workstation and mainframe microprocessor designs,
including:
- superscalar, or parallel, instruction issue, which is a way to increase
processor performance by allowing multiple operations to occur
simultaneously;
- multistage pipelines, which are a way to allow operations to be broken
down into discrete steps that can then be overlapped;
- a two-level, integrated, cache memory hierarchy, which is a design that
allows instructions and data to be delivered to and processed by a
processor's operational units at an average rate substantially greater
than that achievable with single-level caches;
- flexible cache memory management that allows a processor's cache memory to
be optimized for a specific application; and
- dynamic power management that allows elements of the processor not used
for a particular operation to be shut down.
CIRCUIT DESIGN. Rather than using commercially available circuit libraries,
we have developed proprietary circuits that are designed for building
high-performance microprocessors. Commercially available circuits are generally
optimized for the development of specific purpose integrated circuits and are
usually a poor fit for high-performance designs. Our proprietary circuits that
increase speed and/or lower power consumption include:
- asynchronous circuits, which allow high-speed functional units of the
embedded microprocessor to be built in a small area on the integrated
circuit;
- charge/discharge circuits, which allow high-speed operation by minimizing
electrical inefficiencies;
- constant current source circuits, which high-speed performance for the
most critical operations; and
- reduced voltage swing circuits, which use low power for relatively
non-critical operations.
PROPRIETARY DESIGN AND VERIFICATION ENVIRONMENT
Our embedded microprocessor development environment uses a combination of
industry standard development tools augmented and integrated together by our
proprietary design tools. Some of our proprietary tools supplement the
capabilities of commercially available tools that are optimized for specific
purpose integrated circuit development. Examples of our proprietary tools
include:
- a MIPS architecture random-sequence generator/checker, which permits
billions of verification operations to be performed on our designs prior
to manufacture;
- an in-process design database consistency manager, which permits a full
design team to work on the same design simultaneously;
- a logic synthesizer, which offers more control to the designer than
commercially available synthesizers; and
38
<PAGE>
- semiconductor manufacturing process technology conversion programs, which
are designed to permit us to move our products efficiently from one
manufacturer or manufacturing process technology to another.
RESEARCH AND DEVELOPMENT
We have assembled a core team of experienced engineers averaging
approximately 13 years of microprocessor design experience. As of December 31,
1999, 30 of our 53 research and development employees had advanced degrees.
We have three design teams. One concentrates on new product development with
the objective of developing our next generation high performance microprocessor.
A second team works on integrating more functions with existing products. The
third team transfers products to new manufacturing technologies and modifies
existing products to adapt them to new applications. Because we rely upon third
parties to manufacture our products, we do not use research and development
resources on manufacturing process technology.
Our research and development expenses were $6.6 million for the six months
ended December 31, 1999, $12.4 million for the year ended June 30, 1999,
$9.6 million for the year ended June 30, 1998, and $9.4 million for the year
ended June 30, 1997. These expenses consisted primarily of salaries and related
costs of employees engaged in ongoing research.
We are designing two new microprocessors for end markets requiring a balance
between price and performance. The RM7061 will be marketed as a lower-cost
version of the RM7000 for consumer Internet appliances. The RM5720 will
integrate industry-standard connections and is intended to lower the cost of a
high performance system by eliminating the need for an external input/output and
memory controller. It will be marketed to networking infrastructure and business
network equipment manufacturers.
CUSTOMERS
We have several key customers in each of our three target markets. Because
we leverage our technology across these markets, our products may be
incorporated into equipment that is sold in several markets. For example, our
products are used in WebTV's set top boxes, Hewlett-Packard's printers and Cisco
Systems' network switching equipment. Revenue from WebTV, Hewlett-Packard and
Cisco, including sales to manufacturing subcontractors, accounted for
approximately 34%, 2% and 16% of our total revenue for the six months ended
December 31, 1999. Based on our product revenue after June 30, 1998, our 20
largest customers are:
<TABLE>
<S> <C>
Aeroflex Inc.
Assured Access
Cisco Systems
Cobalt Group Inc.
Cosine Communications
Echostar Communications Corporation
EFI Electronics Corporation
Extreme Networks, Inc.
Genicom Corporation
Hewlett-Packard Company
Lexmark International Group
Lucent Technologies Inc.
Midway Games, Inc.
Netscreen Technologies, Inc.
Pairgain Technologies, Inc.
Primary Image Visions Systems Ltd.
Silicon Graphics, Inc.
Thompson Consumer Electronics (a division of
Thompson Multimedia)
Transmedia Communications, Inc.
WebTV Networks, Inc.
</TABLE>
Historically, a small number of customers have accounted for a substantial
portion of our total revenue. Sales to WebTV, Integrated Device
Technology, Inc. (consisting only of royalty revenue), Cisco Systems and
Echostar Communications, including sales to their manufacturing subcontractors,
accounted
39
<PAGE>
for approximately 23%, 20%, 15% and 12%, of our total revenue for the year ended
June 30, 1999 and accounted for 34%, 5%, 16% and 14% of our total revenue for
the six months ended December 31, 1999.
From January 1, 1998 through June 30, 1999, we achieved approximately 100
design wins with more than 30 companies. Of these design wins, 38 are in
production, and we believe ten are considered unlikely to go into production. We
define a design win as a measurable commitment from a customer to use our
products. These measures include parts taken by the customer, a completed
printed circuit board design or a funded program that is targeted for
production. A particular design win may not result in significant product
revenue to us.
SALES AND MARKETING
In North America, we sell our products through a direct sales force of seven
people, with four based in our corporate headquarters in Santa Clara,
California, one based in a regional office in Research Triangle Park, North
Carolina, one based in a regional office in Massachusetts and one in Europe. We
also sell our products in North America through 12 sales representatives. We
sell our products in Europe through five sales representatives. We sell our
products in Korea through a sales representative, and we sell our products in
Japan through a distributor. Our sales effort is supported by a marketing staff
of five and five applications engineers who work directly with our customers on
technical issues.
MANUFACTURING
SEMICONDUCTOR FABRICATION. We use independent semiconductor manufacturers to
fabricate our microprocessors. By subcontracting our manufacturing, we focus our
resources on product design to eliminate the high cost of owning and operating a
semiconductor fabrication facility. This fabless business model also allows us
to take advantage of the research and development efforts of manufacturers,
permitting us to work with those manufacturers offering the most advanced
manufacturing processes and competitive prices.
Taiwan Semiconductor Manufacturing Corporation, or TSMC, at its
manufacturing plants in Taiwan and the United States, and IBM Corporation, at
its manufacturing plants in the states of Vermont and New York, have
manufactured all of our products to date. We currently use only these two
independent manufacturers, and few of our products have been manufactured at
both manufacturing companies at any given time. As a result, any inability of
TSMC or IBM to provide the necessary capacity or output could result in
significant production delays, which could seriously harm our business. In the
event either TSMC or IBM suffers any damage to their manufacturing facilities,
or in the event of any other disruption of manufacturing capacity, we may not be
able to qualify alternative manufacturing sources for our products in a timely
manner.
We have entered into a manufacturing agreement with IBM, which expires no
sooner than November 14, 2002. However, the contract does not guarantee any
level of production capacity or any particular price. We operate with TSMC on a
purchase order basis and do not have a long-term agreement with TSMC.
Our designs are compatible with industry-standard manufacturing processes.
We believe this compatibility permits the use of multiple manufacturers,
mitigating the risk of using a single source for a product. Our products are
currently fabricated using .25 micron and .35 micron process technologies. We
continuously evaluate the benefits, on a product by product basis, of migrating
to a smaller geometry process technology in order to reduce costs and increase
the performance of our embedded microprocessors. For example, we are preparing
to transition our high-end products to a .18 micron process as soon as it is
available at one of our manufacturer's facilities.
TESTING AND ASSEMBLY. Initial testing of the silicon wafers containing our
microprocessors is primarily performed by a subcontractor located in Taiwan.
Following completion of initial testing, the silicon wafers
40
<PAGE>
are cut into individual semiconductors and assembled into packages. All testing
is performed on standard test equipment using proprietary test programs
developed by our test engineering group. The test facilities are periodically
audited to ensure that their procedures remain consistent with those required
for the production of leading-edge devices. We use a subcontractor based in
Korea to package all of our products. We use standard, readily available
packages for all of our products. Following packaging, a subcontractor performs
final testing. We rely upon third parties to assemble and test substantially all
of our products. While we have not experienced significant problems in the past,
this reliance upon third parties could result in product shortages or delays in
the future. If these shortages or delays were significant, our customers might
seek alternative sources of supply, which could harm our operating results and
reputation. Like many companies in the semiconductor industry, we maintain
excess levels of inventory to mitigate the risk of product shortages or delays.
Although our inventory has been sufficient to cover periodic delays and
shortages in the past, our inventory may not be sufficient if a significant
production shortage or delay occurs in the future. We believe that our past
experience with production shortages and delays has been generally consistent
with industry norms.
QUALITY ASSURANCE AND RELIABILITY. We prequalify each manufacturing plant.
We also participate in quality and reliability monitoring through each stage of
the production cycle by reviewing data from our wafer manufacturing plant and
assembly subcontractors. We closely monitor wafer manufacturing plant production
to enhance product quality and reliability and yield levels. We purchase wafers
on a fixed-cost basis and, therefore, any improvement in manufacturing yields
reduces our cost per product. Like many semiconductor companies, we have
experienced our most significant yield problems with our newer products. The
manufacture of new products often requires the implementation of new circuit
designs or new manufacturing processes, which generally require time and
experience to refine so that acceptable yields are achieved. Other companies
have experienced poor yields with respect to mature products, and we may also
experience poor yields on mature products. In general, yield fluctuations on
mature products may impact the cost of manufacturing but will not result in
product shortages or delays. We believe that our experience with poor yields has
been generally consistent with industry norms.
COMPETITION
The embedded microprocessor market is intensely competitive and
characterized by continual technological change and price erosion. We expect
competition to increase as our target markets continue to grow and to present
increasingly attractive business opportunities. Many of our direct and indirect
competitors are large corporations with substantially greater technical,
financial and marketing resources and name recognition than QED. In addition,
many of these competitors have a much larger installed customer base than we do.
Competition within our industry is based on a variety of factors, including:
- microprocessor performance;
- product functionality;
- product price;
- product reliability;
- software compatibility;
- financial strength;
- name recognition;
- marketing and distribution capability; and
- customer support.
41
<PAGE>
We believe that we compete favorably with respect to each of these factors.
We face competition from the following sources:
OTHER MIPS LICENSEES. We license the MIPS instruction set architecture on a
non-exclusive basis. MIPS Technologies has licensed and, we believe, will
continue to license its technology to other companies that compete or may
compete with us. Other licensees of MIPS Technologies that currently compete
with us in our target markets include NEC Corporation, Toshiba Corporation and
Integrated Device Technology.
COMPANIES UTILIZING ALTERNATIVE RISC ARCHITECTURES. We face competition
from companies that use alternative RISC architectures. These architectures
include ARM/Strong Arm, developed by ARM Holdings plc and Intel; Hitachi SH,
developed by Hitachi; and PowerPC, developed by Motorola, Inc. and IBM. While
some of these companies have targeted the lower-end segments of the embedded
microprocessor market and, therefore, do not currently compete with us, these
companies may develop products for the high-end segments of the market.
COMPANIES UTILIZING NON-RISC TECHNOLOGIES. The embedded microprocessor
market is mostly comprised of companies utilizing RISC technology. Nonetheless,
CISC architectures, including the x86 architecture, have been introduced into
our target markets and represent a source of competition.
We believe that our high-end products generally exhibit higher performance,
as measured in terms of execution speed, than those of our competitors that
license the MIPS instruction set architecture. In addition, we believe that our
latest product, the RM7000, incorporate more memory, measured in terms of
kilobytes, than our competitors' current product offerings. Our competitors that
license the MIPS instruction set architecture offer products with a 64-bit
interface, as do all of our products other than the RM 5231. Our competitors
that do not license the MIPS instruction set architecture do not currently offer
products with a 64-bit interface.
MIPS LICENSE AND INTELLECTUAL PROPERTY
Our success and ability to compete is dependent in part upon our proprietary
technology. We rely upon a combination of patent, mask work, copyright,
trademark and trade secret laws and other means to protect our technology. We
have four issued patents that expire in 2014 through 2016. We also seek to
protect our trade secrets and proprietary technology through confidentiality
agreements with employees, consultants and other parties.
We currently derive and expect to continue to derive a substantial majority
of our revenue from the sale of products incorporating microprocessor technology
of MIPS Technologies. We have obtained the right to use this technology in our
products under a Technology License Agreement with MIPS Technologies. The
technology license granted under this agreement is perpetual and bears a royalty
based upon a percentage of our revenue derived from sales of products
incorporating the licensed technology. Our breach of this agreement could result
in our loss of these rights, which would harm our business. We also depend on
MIPS Technologies to enforce these patents against third-party infringement.
Because this license is non-exclusive, MIPS Technologies has licensed, and could
in the future license, its technologies to third parties, including our
competitors. If our competitors obtain a license from MIPS Technologies on more
favorable terms than ours, or if MIPS Technologies fails to enforce its patent
rights against infringers, we might not be able to compete successfully.
EMPLOYEES
As of December 31, 1999, we had a total of 97 employees, including 53 in
research and development, 19 in sales and marketing, 13 in manufacturing and 12
in general administration. As of December 31, 1999, we had 11 contractors in
research and development. None of our employees is represented by a collective
42
<PAGE>
bargaining agreement or an employment agreement. We have never experienced any
work stoppage. We consider our relations with our employees to be good.
FACILITIES
Our corporate headquarters, which serves as our principal sales, marketing,
research and development and administrative office, occupies 38,593 square feet
in two adjacent buildings in Santa Clara, California under a 15,218 square foot
lease and a 23,375 square foot lease. The 15,218 square foot lease expires on
June 30, 2001, and the 23,375 square foot lease expires on October 31, 2004.
We also have small sales offices in Raleigh, North Carolina, Burlington,
Massachusetts and Roswell, Georgia. The leases for these offices expire on
March 15, 2000, October 14, 2000 and October 1, 2000.
We believe that our existing facilities are adequate to meet our current
needs.
43
<PAGE>
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth certain information regarding our directors
and executive officers.
<TABLE>
<CAPTION>
NAME AGE POSITION
- ----------------------------------------------------- ----------- -----------------------------------------------------
<S> <C> <C>
Thomas J. Riordan.................................... 43 Chief Executive Officer, President and Director
Barry L. Cox......................................... 57 Chairman of the Board of Directors
Raymond Kunita....................................... 44 Chief Operating Officer and Vice President of
Engineering
Howard M. Bailey..................................... 53 Chief Financial Officer, Vice President of Finance
and Secretary
William S. Thomas.................................... 47 Vice President of Sales
Andrew J. Keane...................................... 37 Vice President of Marketing
Lester M. Crudele.................................... 50 Director
Bruce K. Graham...................................... 39 Director
Christopher J. Schaepe............................... 36 Director
</TABLE>
THOMAS J. RIORDAN, a co-founder of QED, has served as our Chief Executive
Officer, President and director since our inception in August 1991. From
February 1985 to June 1991, Mr. Riordan served in various design and managerial
roles most recently as director of research and development at MIPS Computer
Systems, Inc., a semiconductor design company. From March 1983 to January 1985,
Mr. Riordan served as a design engineer at Weitek Corporation, a semiconductor
company. From October 1979 to February 1983, Mr. Riordan was a design engineer
at Intel Corporation, a semiconductor company. Mr. Riordan holds B.S. and M.S.
degrees in Electrical Engineering as well as a B.A. degree in Government from
the University of Central Florida and has done post-graduate work in electrical
engineering at Stanford University.
BARRY L. COX joined QED in July 1998 and has served as our Chairman of the
Board of Directors since September 1999. From January 1996 to July 1998,
Mr. Cox served as a consultant for various companies. Currently, he is a member
of the board of directors of DynaChip Corporation, SUMMIT
Microelectronics, Inc. and Real 3D, each a privately-held company, and Photon
Dynamics, Inc., a publicly-held flat panel display equipment company. From
October 1993 to December 1995, Mr. Cox was President and Chief Executive Officer
of Weitek Corporation and from April 1992 to October 1993, Mr. Cox served as
President and Chief Operating Officer. In August 1984, Mr. Cox co-founded ATEQ
Corp., a semiconductor capital equipment manufacturing company, and from
October 1987 to December 1991, Mr. Cox served as its President, Chief Executive
Officer and director. From June 1980 to April 1983, he was President of Intel
Europe. Mr. Cox holds a B.S. degree in General Engineering from the U.S. Air
Force Academy and an M.B.A. degree from Boston University.
RAYMOND KUNITA, a co-founder of QED, has served as our Chief Operating
Officer and Vice President of Engineering, among other positions, since our
inception in August 1991. From February 1986 to July 1991, Mr. Kunita served in
various design and managerial roles at MIPS Computer Systems and most recently
as Director of Engineering. From August 1984 to January 1986, Mr. Kunita served
as a design engineer responsible for the development of a RISC microprocessor at
Weitek Corporation. From February 1983 to August 1984, Mr. Kunita served as a
design engineer responsible for the development of a graphics display processor
at Mindset Corporation, a computer systems company. From July 1977 to February
1983, Mr. Kunita served in various technology development roles at Intel
Corporation. Mr. Kunita holds a B.S. degree in Electrical Engineering from the
University of Illinois.
HOWARD M. BAILEY has served as our Chief Financial Officer, Vice President
of Finance and Secretary since June 1998. From August 1994 to June 1998,
Mr. Bailey served as Chief Financial Officer of Photon
44
<PAGE>
Dynamics. From August 1992 to August 1994, Mr. Bailey was a partner in the
Financial Services Division of David Powell, Inc., a financial services company,
where he provided financial consulting services. From 1989 to 1991, Mr. Bailey
was the Chief Financial Officer at Plus Logic Corporation, which was later
acquired by Xilinx, Inc. From 1978 to 1983, Mr. Bailey served as a controller at
Intel Corporation. Mr. Bailey holds a B.S. degree in Economics from the
University of Maryland and an M.B.A. degree in Finance from the University of
Utah.
WILLIAM S. THOMAS has served as QED's Vice President of Sales since
October 1996. From October 1995 to October 1996, Mr. Thomas served as Director
of Strategic Sales at Power Trends, Inc., an integrated switching regulator
company. From November 1994 to October 1995, Mr. Thomas served as Director of
Semiconductor Sales at Celeritek, Inc., a semiconductor company. From
August 1992 to November 1994, Mr. Thomas served as director of Communication
Product Marketing at Sierra Semiconductor Corp., and from October 1989 to
August 1992, as Western Area Sales Manager. Mr. Thomas holds a B.S. degree in
Electrical Engineering from the University of Florida.
ANDREW J. KEANE has served as QED's Vice President of Marketing since
February 1999. From August 1998 to February 1999, Mr. Keane worked as a
marketing consultant in various marketing positions. From March 1995 to
April 1996, Mr. Keane served as Director of Product Marketing at 3dfx
Interactive, Inc., a 3D graphics company, and from April 1996 to August 1998
served as Vice President, Marketing. From August 1994 to February 1995,
Mr. Keane served as the Product Line Manager at Xilinx, Inc. From June 1990 to
August 1994, Mr. Keane served as the Marketing Manager at MIPS Computer
Systems, Inc. From August 1986 to August 1988, Mr. Keane served as an engineer
at Intel Corporation. From June 1984 to August 1986, Mr. Keane was an engineer
at Signetics Corporation, a division of Philips Electronics. Mr. Keane holds a
B.S. degree in Physics from Rensselaer Polytechnic Institute and an M.B.A.
degree from the University of California, Berkeley.
LESTER M. CRUDELE has served as a director of QED since December 1999. From
April 1999 to August 1999, Mr. Crudele was Vice President of the Enterprise
Computing Group of Compaq Computer Corporation. From March 1997 to April 1999,
Mr. Crudele was Vice President and General Manager of the Workstation Division
of Compaq Computer Corporation. From August 1991 to March 1997, he was Vice
President and General Manager of the RISC Microprocessor Division of Motorola,
Inc. Prior to Motorola, Mr. Crudele served in various capacities at Stardent
Computer, Inc., Stellar Computer Systems, Inc. and MIPS Computer Systems, Inc.
Mr. Crudele holds a B.S. degree in Electrical Engineering from Florida Atlantic
University.
BRUCE K. GRAHAM has served as a director of QED since May 1998. Mr. Graham
is a General Partner of Bessemer Venture Partners, a venture capital firm, which
he joined in December 1996. From September 1995 to November 1996, Mr. Graham was
a Vice President at Vertex Management, a venture capital firm. Mr. Graham is a
director of GenOA, HiQ Networks, LightLogic, Optical Micromachines and Summit
Microelectronics, Inc., each of which is a privately held company. Mr. Graham
holds a B.S. degree in Chemical Engineering from Princeton University and an
M.B.A. degree from Stanford Graduate School of Business.
CHRISTOPHER J. SCHAEPE has served as a director of QED since March 1997.
Mr. Schaepe is a General Partner of Weiss, Peck & Greer Venture Partners, a
technology-focused venture capital firm, which he joined in 1991. Previously,
Mr. Schaepe served in corporate finance and capital markets roles for three
years at Goldman, Sachs & Co. after his employment as a software engineer at IBM
Corporation. Mr. Schaepe is a director of Galileo Technology Ltd. and Terayon
Communication Systems, as well as several privately held companies. Mr. Schaepe
holds B.S. and M.S. degrees in Computer Science from the Massachusetts Institute
of Technology and an M.B.A. degree from Stanford Graduate School of Business.
45
<PAGE>
Under a voting agreement dated April 16, 1998 that we entered into with a
number of our stockholders, the following stockholders or their affiliated
entities have appointed a member to our board of directors:
- Weiss, Peck & Greer Venture Partners, L.P., whose representative is
Mr. Schaepe;
- Bessemer Venture Partners, whose representative is Mr. Graham; and
- the common stockholders, whose representative is Mr. Riordan.
This voting agreement will terminate upon the closing of this offering.
BOARD OF DIRECTORS
Upon completion of the offering, the terms of the board of directors will be
divided into three classes each with a term of three years: Class I, whose term
will expire at the annual meeting of stockholders to be held in 2000; Class II,
whose term will expire at the annual meeting of stockholders to be held in 2001;
and Class III, whose term will expire at the annual meeting of stockholders to
be held in 2002. The Class I directors are Messrs. Cox and Riordan, the
Class II directors are Messrs. Schaepe and Graham, and the Class III director is
Mr. Crudele. At each annual meeting of stockholders after the initial
classification, the successors to directors whose terms expire will be elected
to serve a term of three years. This classification of directors may have the
effect of delaying or preventing changes in our control.
BOARD COMMITTEES
AUDIT COMMITTEE. The board of directors has established an audit committee
consisting of Messrs. Graham and Schaepe. The audit committee reviews with our
independent accountants the scope and timing of their audit services and any
other services that they are asked to perform, the independent accountants'
report on our financial statements following completion of their audit, and our
policies and procedures with respect to internal accounting and financial
controls. In addition, the audit committee makes annual recommendations to our
board of directors for the appointment of independent accountants for the
upcoming year.
COMPENSATION COMMITTEE. The board of directors has established a
compensation committee consisting of Messrs. Graham and Schaepe. The
compensation committee makes recommendations to the board concerning salaries
and compensation for our officers and employees and administers our employee
benefit plans.
DIRECTOR COMPENSATION
Our directors do not currently receive any cash compensation for services on
the board of directors or any committee of our board, but directors may be
reimbursed for certain expenses in connection with attendance at board of
directors and committee meetings. All directors are eligible to participate in
our 1999 Equity Incentive Plan. Non-employee directors are eligible to
participate in our 1999 Non-Employee Directors' Stock Option Plan.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
None of our executive officers currently serves, or in the past has served,
as a member of the board of directors or compensation committee of any entity
that has one or more executive officers who serve as a member of our board or
compensation committee.
46
<PAGE>
EXECUTIVE COMPENSATION
The following table presents information regarding the compensation paid to
our chief executive officer and our four other most highly compensated executive
officers whose salary and bonus exceeded $100,000 for the fiscal year ended
June 30, 1999:
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
AWARDS
ANNUAL COMPENSATION ---------------------
--------------------- SECURITIES ALL OTHER
NAME AND PRINCIPAL POSITION SALARY BONUS UNDERLYING OPTIONS COMPENSATION
- -------------------------------------------------- ---------- --------- --------------------- -----------------
<S> <C> <C> <C> <C>
Thomas J. Riordan
President and Chief Executive Officer........... $ 152,442 $ 60,105 150,000 $ 432(1)
Barry L. Cox
Chairman of the Board of Directors.............. 238,414 61,706 650,000 694(1)
Raymond Kunita
Chief Operating Officer and
Vice President of Engineering................... 152,442 60,105 150,000 432(1)
Howard M. Bailey
Chief Financial Officer,
Vice President of Finance
and Secretary................................... 152,385 26,545 35,000 622(1)
William S. Thomas
Vice President of Sales......................... 124,961 51,891 60,000 6,644(2)
</TABLE>
- ------------------------
(1) Represents term life insurance premiums paid on the officers' behalfs.
(2) Represents a $6,000 car allowance and $644 in term life insurance premiums
paid on Mr. Thomas' behalf.
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth information regarding each grant of stock
options during the fiscal year ended June 30, 1999 to our chief executive
officer and our four other most highly compensated executive officers whose
salary and bonus exceeded $100,000 for the fiscal year ended June 30, 1999:
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS POTENTIAL REALIZABLE
------------------------------------------------ VALUE AT ASSUMED
% OF TOTAL ANNUAL RATES OF
NUMBER OF OPTIONS STOCK PRICE
SECURITIES GRANTED TO APPRECIATION
UNDERLYING EMPLOYEES EXERCISE FOR OPTION TERM
OPTIONS IN FISCAL PRICE PER EXPIRATION ----------------------
NAME GRANTED 1999 SHARE DATE 5% 10%
- ----------------------------------------- ---------- ----------- ----------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Thomas J. Riordan........................ 50,000 1.9% $ 1.00 10/20/08 $ 31,445 $ 79,687
100,000 3.9 3.00 3/29/09 188,668 478,123
Barry L. Cox............................. 600,000 23.2 1.00 6/30/08 377,337 956,245
50,000 1.9 3.00 3/29/09 94,334 239,061
Raymond Kunita........................... 50,000 1.9 1.00 10/20/08 31,445 79,687
100,000 3.9 3.00 3/29/09 188,668 478,123
Howard M. Bailey......................... 35,000 1.4 3.00 3/29/09 66,034 167,343
William S. Thomas........................ 60,000 2.3 3.00 3/29/09 113,201 286,874
</TABLE>
In fiscal year 1999, we granted to our employees options to purchase an
aggregate of 2,589,300 shares. Options were granted at an exercise price equal
to the fair market value of our common stock, as
47
<PAGE>
determined by the board of directors on the date of grant. In making this
determination, the board considered a number of factors, including:
- our historical and prospective revenue and profitability;
- our cash balance and rate of cash consumption;
- the development and size of the market for our products;
- the status of our financing activities;
- the stability and tenure of our management team; and
- the breadth of our product offerings.
Potential realizable values are computed by (a) multiplying the number of
shares of common stock subject to a given option by the exercise price per
share, (b) assuming that the aggregate stock value derived from that calculation
compounds at the annual 5% or 10% rates shown in the table for the entire ten
year term of the option and (c) subtracting from that result the aggregate
option exercise price. The 5% and 10% assumed annual rates of compounded stock
price appreciation are mandated by rules of the Securities and Exchange
Commission, or SEC. We can provide no assurance to any executive officer or any
other holder of our securities that any stock price appreciation over the option
term will be at the assumed 5% and 10% levels or at any other defined level.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION
VALUES
The following table sets forth the number and value of securities underlying
unexercised options held by our chief executive officer and our four other most
highly compensated executive officers whose salary and bonus exceeded $100,000
for the fiscal year ended June 30, 1999:
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS
SHARES AT JUNE 30, 1999 AT JUNE 30, 1999
ACQUIRED ON VALUE -------------------------- --------------------------
NAME EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- -------------------------------- ----------- ---------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Thomas J. Riordan............... -- $ -- 145,833 304,167 $ 670,832 $ 1,399,168
Barry L. Cox.................... 20,000 75,000 -- 650,000 -- 2,990,000
Raymond Kunita.................. -- -- 145,833 304,167 670,832 1,399,168
Howard M. Bailey................ 25,000 100,000 25,000 185,000 100,000 740,000
William S. Thomas............... 48,334 153,336 3,750 127,916 15,750 391,914
</TABLE>
- ------------------------
In the table above, the value of unexercised in-the-money options is based
on the fair market value of QED's common stock, determined by our board of
directors as discussed above to be $4.75 per share on or about June 30, 1999,
minus the per share exercise price multiplied by the number of shares.
EMPLOYEE STOCK PLANS
1999 EQUITY INCENTIVE PLAN
Our board of directors adopted and our stockholders approved the 1997 Stock
Option Plan in April 1997. We reserved an aggregate of 4,500,000 shares of our
common stock for issuance under the 1997 plan. Our board and stockholders
approved the 1992 Stock Option Plan in July 1992. We reserved an aggregate of
4,600,000 shares of our common stock for issuance under the 1992 plan. Our board
amended and restated both plans as the 1999 Equity Incentive Plan in
September 1999 and increased the combined common stock reserves of 9,100,000
shares by 1,400,000, to a total of 10,500,000 shares of common stock. The 1999
Equity Incentive Plan was approved by the stockholders in November 1999.
48
<PAGE>
SHARE RESERVE. We have reserved a total of 10,500,000 shares of our common
stock under the 1999 Equity Incentive Plan. On the last day of each fiscal year
for 10 years, starting with the fiscal year ending June 30, 2000, the share
reserve will automatically be increased by a number of shares equal to the
greater of:
- 5% of our outstanding shares on a fully-diluted basis, or
- that number of shares subject to awards granted under the incentive plan
during the prior 12-month period.
The automatic increase in the number of shares available for grants under
incentive stock options may not exceed 14,000,000 shares over the 10-year
period. If the recipient of a stock award does not purchase the shares subject
to a stock award before the stock award expires or otherwise terminates, the
shares that are not purchased again become available for issuance under the
incentive plan.
ADMINISTRATION. Our board administers the incentive plan unless it
delegates administration to a committee. Our board has the authority to
construe, interpret and amend the incentive plan as well as to determine:
- the grant recipients;
- the grant dates;
- the number of shares subject to the award;
- the exercisability of the award and vesting;
- the exercise price;
- the type of consideration; and
- the other terms of the award.
ELIGIBILITY. Our board may grant incentive stock options that qualify under
Section 422 of the Internal Revenue Code to our employees and to the employees
of our affiliates. Our board also may grant nonstatutory stock options, stock
bonuses and restricted stock purchase awards to our employees, directors and
consultants as well as to the employees, directors and consultants of our
affiliates.
- A stock option is a contractual right to purchase a specified number of
our shares at a specified price, or exercise price, for a specified period
of time.
- An incentive stock option is a stock option that has met the
requirements of Section 422 of the Internal Revenue Code. This type of
option is free from regular tax at both the date of grant and the date
of exercise. If two holding period tests are met--two years between
grant date and sale date and one year between exercise date and sale
date--the profit on the option is long-term capital gain income. If the
holding periods are not met, there has been a disqualifying
disposition, and generally the difference between the exercise price
and the fair market value of the shares on the exercise date will be
taxed at ordinary income rates. The difference between the fair market
value on date of exercise and the exercise price is an item of
alternative minimum tax unless there is a disqualifying disposition in
the year of exercise.
- A nonstatutory stock option is a stock option not meeting the Internal
Revenue Code criteria for qualifying incentive stock options and,
therefore, triggering a tax upon exercise. This type of option requires
payment of state and federal income tax and, if applicable, FICA/FUTA
on the difference between the exercise price and the fair market value
on the exercise date.
- A restricted stock purchase award is an offer to purchase shares at a
price either at or near the fair market value of the shares. A stock
bonus, on the other hand, is a grant of our shares at no cost to the
recipient in consideration for past services rendered. However, we may
reacquire the shares
49
<PAGE>
under either type of award at the original purchase price, which is zero
in the case of a stock bonus, if the recipient's service to us and to our
affiliates terminates before the shares vest.
Our board may not grant an incentive stock option to any person who, at the
time of the grant, owns or is deemed to own stock possessing more than 10% of
our total combined voting power or the total combined voting power of an
affiliate of ours, unless the exercise price is at least 110% of the fair market
value of the stock on the grant date and the option term is five years or less.
LIMITS ON OPTION GRANTS. There are limits on the number of shares that our
board may grant under an option.
- Section 162(m) of the Internal Revenue Code, among other things, denies a
deduction to publicly held corporations for compensation paid to the chief
executive officer and the four other highest compensated officers in a
taxable year to the extent that the compensation for each such officer
exceeds $1.0 million. When we become subject to Section 162(m), in order
to prevent options granted under the incentive plan from being included in
such compensation, our board may not grant options under the incentive
plan to an employee covering an aggregate of more than 700,000 shares in
any calendar year; and
- An employee may not receive incentive stock options that exceed the
$100,000 per year limitation set forth in Section 422(d) of the Internal
Revenue Code. In calculating the $100,000 per year limitation, we
determine the aggregate number of shares under all incentive stock options
granted to that employee that will become exercisable for the first time
during a calendar year. For this purpose, we include incentive stock
options granted under the incentive plan as well as under any other stock
plans that we or our affiliates maintain. We then determine the aggregate
fair market value of such stock as of the grant date of the option. Taking
the options into account in the order in which they were granted, we treat
only the options covering the first $100,000 worth of stock as incentive
stock options. We treat any options covering stock in excess of $100,000
as nonstatutory stock options.
OPTION TERMS. The board may grant incentive stock options with an exercise
price of 100% or more of the fair market value of a share of our common stock on
the grant date. It may grant nonstatutory stock options with an exercise price
as low as 85% of the fair market value of a share on the grant date. If the
value of our shares declines after the grant date, the board may offer
optionholders the opportunity to replace such outstanding higher-priced options
with new lower-priced options. To the extent required by Section 162(m) of the
Internal Revenue Code, the old repriced option is deemed to be canceled and a
new option granted, but both options will be counted against the Section 162(m)
limit discussed above.
The maximum option term is 10 years. The board may provide for exercise
periods of any length in individual option grants. However, generally an option
terminates three months after the optionholder's service to us and to our
affiliate terminates. If this termination is due to the optionholder's
disability, the exercise period generally is extended to 12 months. If this
termination is due to the optionholder's death or if the optionholder dies
within three months after his or her service terminates, the exercise period
generally is extended to 18 months following death.
The board may provide for the transferability of nonstatutory stock options
but not incentive stock options. However, the optionholder may designate a
beneficiary to exercise either type of option following the optionholder's
death. If the optionholder does not designate a beneficiary, the optionholder's
option rights will pass by his or her will or by the laws of descent and
distribution.
TERMS OF OTHER STOCK AWARDS. The board determines the purchase price of
other stock awards, which may not be less than 85% of the fair market value of
our common stock on the grant date. However, the board may award stock bonuses
in consideration of past services without a purchase payment. Shares that we
sell or award under the incentive plan may, but need not be, restricted and
subject to a repurchase
50
<PAGE>
option in our favor in accordance with a vesting schedule that the board
determines. The board, however, may accelerate the vesting of such restricted
stock.
OTHER PROVISIONS. Transactions not involving our receipt of consideration,
such as a merger, consolidation, reorganization, stock dividend, or stock split,
may change the class and number of shares subject to the incentive plan and to
outstanding awards. In that event, the board will appropriately adjust the
incentive plan as to the class and the maximum number of shares subject to the
incentive plan, to the cap on the number of shares available for incentive stock
options, and to the Section 162(m) limit. It also will adjust outstanding awards
as to the class, number of shares and price per share subject to these awards.
If we dissolve or liquidate, then outstanding stock awards will terminate
immediately before this event. However, we treat outstanding stock awards
differently in the following situations:
- a sale, lease or other disposition of all or substantially all of our
assets;
- a sale of 50% or more of the combined voting power of our stock to another
corporation;
- a merger or consolidation in which we are not the surviving corporation;
or
- a merger in which we are the surviving corporation but the shares of our
common stock outstanding immediately before the merger are converted by
virtue of the merger into other property, such as securities or cash.
In these situations, the surviving entity will either assume or replace all
outstanding awards under the incentive plan. If it declines to do so, then
generally the vesting and exercisability of the awards will accelerate.
STOCK AWARDS GRANTED. As of December 31, 1999, we have issued 4,468,029
shares upon the exercise of options under the 1999 plan, 11,865 of which have
been repurchased, 266,630 shares of which are subject to repurchase at the
original exercise price, and none of which are subject to repurchase at fair
market value; options to purchase 4,704,201 shares at a weighted average
exercise price of $2.02 were outstanding; and 1,539,635 shares remained
available for future grant. As of December 31, 1999, the board had not granted
any stock bonuses or restricted stock under the incentive plan.
PLAN TERMINATION. The incentive plan will terminate in 2009 unless the
board terminates it sooner.
1999 NON-EMPLOYEE DIRECTORS' STOCK OPTION PLAN
In September 1999, our board adopted the 1999 Non-Employee Directors' Stock
Option Plan. The plan was approved by the stockholders in November 1999. The
directors' plan provides for the automatic grant to our non-employee directors
of options to purchase shares of our common stock.
SHARE RESERVE. We have reserved a total of 200,000 shares of our common
stock for issuance under the directors' plan. On the last day of each fiscal
year for 10 years, starting with the fiscal year ending June 30, 2000, the share
reserve will automatically be increased by a number of shares equal to the
greater of:
- .5% of our outstanding shares on a fully-diluted basis; or
- that number of shares subject to options granted under the directors' plan
during the prior 12-month period.
If the optionholder does not purchase the shares subject to the option
before the option expires or otherwise terminates, the shares that are not
purchased again become available for issuance under the directors' plan.
51
<PAGE>
ADMINISTRATION. The board administers the directors' plan unless it
delegates administration to a committee. The board has the authority to
construe, interpret and amend the directors' plan but the directors' plan
specifies the essential terms of the options, including:
- the option recipients;
- the grant dates;
- the number of shares subject to the option;
- the exercisability and vesting of the option;
- the exercise price; and
- the type of consideration.
ELIGIBILITY. We automatically will grant an option covering 30,000 shares
to each non-employee director on the day after each annual meeting of our
stockholders, starting in 2000, at which the director is elected or re-elected
to a full three-year term of office. For non-employee directors who are elected
or appointed mid-term, the number of shares subject to the option will be pro
rated for each remaining month of the term of office, rounded to the nearest
whole month. The options will vest monthly over the number of months remaining
in the non-employee director's term of office.
As long as a non-employee director who is an optionholder continues to serve
with us or with an affiliate of ours, whether in the capacity of a director, an
employee or a consultant, the optionholder may exercise the option.
OPTION TERMS. Options have an exercise price equal to 100% of fair market
value of our common stock on the grant date. The option term is 10 years but it
terminates three months after the optionholder's service terminates. If this
termination is due to the optionholder's disability, the exercise period is
extended to 12 months. If this termination is due to the optionholder's death or
if the optionholder dies within three months after his or her service
terminates, the exercise period is extended to 18 months following death.
The optionholder may transfer the option by gift to immediate family or for
estate-planning purposes. The optionholder also may designate a beneficiary to
exercise the option following the optionholder's death. Otherwise, the option
exercise rights will pass by the optionholder's will or by the laws of descent
and distribution.
OTHER PROVISIONS. Transactions not involving our receipt of consideration,
such as a merger, consolidation, reorganization, stock dividend, or stock split,
may change the class and number of shares subject to the directors' plan and to
outstanding options. In that event, the board will appropriately adjust the
directors' plan as to the class and the maximum number of shares subject to the
directors' plan. It also will adjust outstanding options as to the class, number
of shares and price per share subject to these options.
If we dissolve or liquidate, then the outstanding options will terminate
immediately before this event. However, we treat outstanding options differently
in the following situations:
- a sale, lease or other disposition of all or substantially all of our
assets;
- a sale of 50% or more of the combined voting power of our stock to another
corporation;
- a merger or consolidation in which we are not the surviving corporation;
or
- a merger in which we are the surviving corporation but the shares of our
common stock outstanding immediately before the merger are converted by
virtue of the merger into other property, such as securities or cash.
In these situations, the surviving entity will either assume or replace all
outstanding options under the directors' plan. If it declines to do so, then
generally the vesting and exercisability of the options will accelerate.
52
<PAGE>
OPTIONS ISSUED. We have not issued any options under the directors' plan.
PLAN TERMINATION. The directors' plan will terminate in 2009 unless the
board terminates it sooner.
1999 EMPLOYEE STOCK PURCHASE PLAN
In September 1999, our board adopted the 1999 Employee Stock Purchase Plan.
The stockholders approved the plan in November 1999.
SHARE RESERVE. We have authorized the issuance of 300,000 shares of our
common stock pursuant to purchase rights granted to eligible employees under the
purchase plan. On November 1 of each year for 10 years, starting with the year
2000, the number of shares in the reserve will be increased by the greater of 1%
of our outstanding shares on a fully-diluted basis or that number of shares that
have been issued under the purchase plan during the prior 12-month period. The
automatic share reserve increase in the aggregate may not exceed 3,000,000
shares over the 10-year period.
ELIGIBILITY. The purchase plan is intended to qualify as an employee stock
purchase plan within the meaning of Section 423 of the Internal Revenue Code.
The purchase plan provides a means by which eligible employees may purchase our
common stock through payroll deductions. We implement the purchase plan by
offerings of purchase rights to eligible employees. Generally, all of our
full-time employees and full-time employees of our affiliates incorporated in
the United States who have been employed for at least five days may participate
in offerings under the purchase plan. However, no employee may participate in
the purchase plan if, immediately after we grant the employee a purchase right,
the employee has voting power over 5% or more of our outstanding capital stock.
Currently, no shares of common stock had been purchased under the purchase plan.
ADMINISTRATION. Under the purchase plan, the board may specify offerings of
up to 27 months. Unless the board otherwise determines, common stock is
purchased for accounts of participating employees at a price per share equal to
the lower of:
- 85% of the fair market value of a share on the first day of the offering;
or
- 85% of the fair market value of a share on the purchase date.
For the first offering period, which will begin on the effective date of
this initial public offering, we will offer shares registered on a Form S-8
registration statement. The fair market value of the shares on the first date of
this offering will be the price per share at which our shares are first sold to
the public as specified in the final prospectus with respect to our initial
public offering. Otherwise, fair market value generally means the closing sales
price, rounded up where necessary to the nearest whole cent for the shares, or
the closing bid, if no sales were reported as quoted on the Nasdaq National
Market on the trading day prior to the relevant determination date, as reported
in THE WALL STREET JOURNAL.
The board may provide that employees who become eligible to participate
after the offering period begins nevertheless may enroll in the offering. These
employees will purchase our stock at the lower of:
- 85% of the fair market value of a share on the day they began
participating in the purchase plan; or
- 85% of the fair market value of a share on the purchase date.
Generally, participating employees may authorize payroll deductions of up to
10% of their compensation for the purchase of stock under the purchase plan.
Generally, employees may end their participation in the offering at any time up
to 10 days before a offering period begins. Their participation ends
automatically on termination of their employment.
OTHER PROVISIONS. The board may grant eligible employees purchase rights
under the purchase plan only if the purchase rights together with any other
purchase rights granted under other employee stock purchase plans established by
us or by our affiliates, if any, do not permit the employee's rights to purchase
our stock to accrue at a rate which exceeds $25,000 of fair market value of our
stock for each calendar year in which the purchase rights are outstanding.
53
<PAGE>
Upon a change in control, the board may provide that the successor
corporation will assume or substitute for outstanding purchase rights.
Alternatively, the board may shorten the offering period and provide that our
stock will be purchased for the participants immediately before the change in
control.
DESCRIPTION OF 401(K) PLAN
We maintain a 401(k) retirement savings plan for our U.S. employees. This
plan is intended to qualify as a tax-qualified plan under Section 401 of the
Internal Revenue Code and provides that each participant may contribute a
percentage of his or her pre-tax compensation. A participant's pre-tax savings
contributions may not be more than 20% of the participant's pay for the plan
year, up to a statutory limit, which is $10,000 in calendar year 1999. Under
this plan, each employee is fully vested in his or her deferred salary
contributions. Employee contributions are held and invested by the plan trustee.
This plan also permits us to make discretionary contributions, subject to
established limits. To date, we have not made any matching contributions to this
plan.
LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS
As permitted by the Delaware General Corporation Law, we have adopted
provisions in our certificate of incorporation and bylaws that limit or
eliminate the personal liability of our directors for a breach of their
fiduciary duty of care as a director. The duty of care generally requires that,
when acting on behalf of the corporation, directors exercise an informed
business judgment based on all material information reasonably available to
them. Consequently, a director will not be personally liable to us or our
stockholders for monetary damages or 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;
- acts or omissions not in good faith or that involve intentional misconduct
or a knowing violation of law;
- unlawful payments of dividends or unlawful stock repurchases, redemptions
or other distributions; or
- any transaction from which the director derived an improper personal
benefit.
Our certificate of incorporation allows us to indemnify our officers,
directors and other agents to the fullest extent permitted by Delaware law. We
intend to enter into indemnification agreements with each of our directors and
officers that are, in some cases, broader than the specific indemnification
provisions permitted by Delaware law, and that may provide additional procedural
protection. The indemnification agreements require us, among other things, to:
- indemnify officers and directors against certain liabilities that may
arise because of their status as officers or directors; and
- advance expenses, as incurred, to officers and directors in connection
with a legal proceeding, subject to limited exceptions.
Additionally, we anticipate obtaining directors' and officers' liability
insurance.
Our bylaws also permit us to purchase insurance on behalf of any officer,
director, employee or other agent for any liability arising out of his or her
actions in such capacity, regardless of whether Delaware law would permit
indemnification, and to provide indemnification in circumstances in which
indemnification is otherwise discretionary under Delaware law.
At present, there is no pending litigation or proceeding involving any of
our directors, officers or employees in which indemnification is sought, nor are
we aware of any threatened litigation that may result in claims for
indemnification.
54
<PAGE>
CERTAIN TRANSACTIONS
Other than compensation agreements and other arrangements, which are
described as required in "Management," and the transactions described below,
since July 1, 1996, there has not been, nor is there currently proposed, any
transaction or series of similar transactions to which we were or will be a
party:
- in which the amount involved exceeded or will exceed $60,000; and
- in which any director, executive officer, holder of more than 5% of our
common stock on an as-converted basis or any member of their immediate
family had or will have a direct or indirect material interest.
FINANCING TRANSACTIONS
Purchasers of our preferred and common stock include, among others, the
following of our executive officers, directors and holders of more than 5% of
our outstanding stock:
<TABLE>
<CAPTION>
SHARES OF PREFERRED STOCK
COMMON ------------------------------------------------------
PURCHASER STOCK SERIES A SERIES B SERIES C SERIES D
- ---------------------------------------------------- ---------- ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
DIRECTORS AND EXECUTIVE OFFICERS
Thomas J. Riordan................................... 1,000,000 -- -- -- --
Barry L. Cox........................................ 20,000 -- -- -- --
Raymond Kunita...................................... 1,000,000 -- -- -- --
Howard M. Bailey.................................... 35,000 -- -- -- --
William S. Thomas................................... 75,000 -- -- -- --
Christopher J. Schaepe.............................. -- -- -- 28,000 --
ENTITIES AFFILIATED WITH DIRECTORS
Entities Affiliated with Bessemer Venture
Partners.......................................... -- -- -- 1,400,000 591,609
Entities Affiliated with Weiss, Peck & Greer Venture
Partners.......................................... -- -- 2,500,000 1,840,000 1,141,283
5% HOLDERS
Integrated Device Technology, Inc................... 2,200,000 1,440,000 -- -- --
Norwest Venture Partners VI, L.P.................... -- -- -- 1,200,000 507,094
Cisco Systems, Inc.................................. 237,500 -- -- -- 1,047,454
Price Per Share..................................... $ 0.001- $ 1.40 $ 2.40 $ 2.50 $ 4.32
$2.00
Date(s) of Purchase................................. 11/15/91- 1/24/92 3/5/97 4/16/98 3/1/99
8/31/99 and and
5/15/98 3/16/99
</TABLE>
The shares shown as held by Weiss, Peck & Greer in the above table include
shares held by Christopher J. Schaepe. Mr. Schaepe, one of our directors, is a
general partner of Weiss, Peck and Greer Venture Partners.
We have entered into an investors' rights agreement with each of the
purchasers of preferred stock set forth above and with Messrs. Riordan and
Kunita, as purchasers of the common stock set forth above. Under this agreement,
these and other stockholders are entitled to registration rights with respect to
their shares of common stock or common stock issuable upon conversion of their
preferred stock upon the closing of this offering.
55
<PAGE>
AGREEMENTS WITH IDT
In January 1992, we entered into a development and license agreement with
Integrated Device Technology, or IDT, a 5% stockholder. Under this agreement, we
developed and delivered embedded microprocessor products in exchange for
milestone payments and continuing royalty payments by IDT to us. In June 1996,
we entered into a development agreement with IDT under which we agreed to modify
an embedded microprocessor for IDT and IDT agreed to make royalty payments to us
based on the product's net sales. We recognized aggregate royalty revenue from
IDT under the two agreements of $2.3 million in the year ended June 30, 1997,
$3.3 million in the year ended June 30, 1998 and $3.0 million in the year ended
June 30, 1999. We recognized aggregate royalty revenue from IDT of $1.1 million
in the six months ended December 31, 1999.
AGREEMENTS WITH CISCO
In connection with a purchase of QED capital stock on March 1, 1999, Cisco
Systems, a 5% stockholder, and QED entered into an agreement granting Cisco
Systems a right of first negotiation in the event of a proposed change in
control of QED. This agreement will terminate upon the closing of this offering.
In the fiscal year ended June 30, 1998, Cisco Systems purchased $5,685 worth of
our products. In the fiscal year ended June 30, 1999, Cisco Systems purchased
approximately $255,000 worth of our products. In the six months ended
December 31, 1999, Cisco Systems purchased approximately $100,000 worth of our
products. These amounts exclude product sales to Cisco Systems' manufacturing
subcontractors, which amounts are substantially larger than direct sales to
Cisco Systems and totalled approximately $2 million in fiscal year 1999 and
$3.3 million in the six months ended December 31, 1999.
OTHER TRANSACTIONS WITH EXECUTIVE OFFICERS AND DIRECTORS
In November 1997, we entered into a consulting agreement with Barry L. Cox
under which we paid Mr. Cox an aggregate of $106,800 and granted him options to
purchase 20,000 shares of common stock. This agreement terminated in July 1998
when Mr. Cox became an employee of QED.
In June 1998, we granted Barry L. Cox an option to purchase 600,000 shares
of our common stock at an exercise price of $1.00 per share. The option vests
over five years, with 20% of the shares subject to the option vesting and
becoming exercisable upon the closing of this offering.
In May 1998, we granted Howard M. Bailey an option to purchase 200,000
shares of our common stock at an exercise price of $.75 per share. The option
vests over four years, with 50% of the shares subject to the option vesting and
becoming exercisable in the event of a change of control of QED.
In February 1999, we granted Andrew J. Keane an option to purchase 250,000
shares of our common stock at an exercise price of $2.00 per share. The option
vests over four years.
In December 1999, we granted Lester M. Crudele an option to purchase 45,000
shares of our common stock at an exercise price of $10.00 per share. The option
vests over three years.
INDEMNIFICATION AGREEMENTS
We have entered into indemnification agreements with our directors and our
executive officers for the indemnification of and advancement of expenses to
these persons to the fullest extent permitted by law. We also intend to enter
into indemnification agreements with our future directors and officers.
We believe that all of the transactions set forth above were made on terms
no less favorable to us than could have been obtained from unaffiliated third
parties. All future transactions, including loans, between us and our officers,
directors, principal stockholders and their affiliates will be approved by a
majority of the board of directors, including a majority of the independent and
disinterested directors, and will be on terms no less favorable to us than could
be obtained from unaffiliated third parties.
56
<PAGE>
PRINCIPAL AND SELLING STOCKHOLDERS
The following table sets forth information regarding beneficial ownership of
our common stock as of December 31, 1999 and as adjusted to reflect our sale of
shares offered and conversion of all outstanding shares of preferred stock into
shares of common stock held by the following persons:
- each person who we know to own beneficially more than five percent of the
common stock;
- each of our directors;
- each executive officer listed in the summary compensation table; and
- all directors and executive officers as a group.
Unless indicated below, to our knowledge the persons named have sole voting
and investment power with respect to all shares shown as beneficially owned by
them, subject to community property laws where applicable. Percentage of
beneficial ownership is based on 22,912,501 shares of common stock outstanding
on an as-converted basis as of December 31, 1999. If the underwriters'
over-allotment option is exercised in full, we will sell up to an aggregate of
3,450,000 shares of common stock and up to 26,362,501 shares of common stock
will be outstanding after the completion of this offering.
The number of shares beneficially owned by each stockholder is determined
under rules promulgated by the SEC, and the information is not necessarily
indicative of beneficial ownership for any other purpose. Under these rules,
beneficial ownership includes any shares as to which the individual or entity
has sole or shared voting power or investment power and any shares as to which
the individual or entity has the right to acquire beneficial ownership within
60 days after December 31, 1999 through the exercise of any stock option or
other right. The inclusion of these shares in the table, however, does not
constitute an admission that the named stockholder is a direct or indirect
beneficial owner of, or receives the economic benefit from, these shares.
Unless indicated below, each person or entity named below has an address in
care of QED's principal executive offices located at 3255-3 Scott Boulevard,
Suite 200, Santa Clara, California 95054.
<TABLE>
<CAPTION>
SHARES
ISSUABLE
SHARES UPON
SUBJECT TO A EXERCISE OF PERCENTAGE BENEFICIALLY
RIGHT OF OPTIONS THAT
NUMBER OF REPURCHASE AS VEST WITHIN OWNED
SHARES OF 60 DAYS OF SHARES ------------------------
BENEFICIALLY DECEMBER 31, DECEMBER 31, BEING PRIOR TO AFTER
NAME AND ADDRESS OF BENEFICIAL OWNER OWNED(1) 1999 1999 OFFERED OFFERING OFFERING
- ------------------------------------------------ ------------ ------------- ------------ --------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
EXECUTIVE OFFICERS AND DIRECTORS
Christopher J. Schaepe(2)..................... 5,509,283 -- -- -- 24.0% 21.3%
Thomas J. Riordan............................. 1,224,167 -- 229,167 -- 5.3 4.7
Raymond Kunita................................ 1,223,567 -- 229,167 -- 5.3 4.7
Bruce K. Graham(3)............................ 1,991,609 -- -- -- 8.7 7.7
Barry L. Cox.................................. 210,000 190,000 -- * *
Howard M. Bailey.............................. 83,333 -- 48,333 -- * *
William S. Thomas............................. 87,500 7,916 12,500 -- * *
OTHER 5% STOCKHOLDERS
Entities Affiliated with Weiss, Peck & Greer
Venture Partners(2)........................... 5,481,283 -- -- -- 23.9 21.2
555 California Street, Suite 3130
San Francisco, CA 94104
</TABLE>
57
<PAGE>
<TABLE>
<CAPTION>
SHARES
ISSUABLE
SHARES UPON
SUBJECT TO A EXERCISE OF PERCENTAGE BENEFICIALLY
RIGHT OF OPTIONS THAT
NUMBER OF REPURCHASE AS VEST WITHIN OWNED
SHARES OF 60 DAYS OF SHARES ------------------------
BENEFICIALLY DECEMBER 31, DECEMBER 31, BEING PRIOR TO AFTER
NAME AND ADDRESS OF BENEFICIAL OWNER OWNED(1) 1999 1999 OFFERED OFFERING OFFERING
- ------------------------------------------------ ------------ ------------- ------------ --------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Integrated Device Technology, Inc............... 3,640,000 -- -- 720,000 15.9 11.3
2975 Stender Way
Santa Clara, CA 95054
Entities Affiliated with Bessemer Venture
Partners(3)................................... 1,991,609 -- -- -- 8.7 7.7
1400 Old Country Road, Suite 407
Westbury, NY 11590
Norwest Venture Partners VI, L.P.(4)............ 1,707,094 -- -- -- 7.5 6.6
245 Lytton Avenue, Suite 250
Palo Alto, CA 94301
Cisco Systems, Inc.............................. 1,284,954 -- -- -- 5.6 5.0
255 West Tasman Drive, Bldg. J
San Jose, CA 95134
The Goldman Sachs Group, Inc.................... 1,157,408 -- -- -- 5.1 4.5
85 Broad Street
New York, NY 10004
All executive officers and directors as a group
(9 persons)................................... 10,331,126 7,916 710,834 720,000 45.1 39.9
</TABLE>
- ------------------------
* Represents beneficial ownership of less than 1%.
(1) These numbers may include shares subject to a right of repurchase by QED as
of December 31, 1999 and shares issuable upon the exercise of options that
vest within 60 days of December 31, 1999.
(2) Includes:
- 2,029,216 shares held by WPG Enterprise Fund II, L.L.C.;
- 1,687,297 shares held by Weiss Peck & Greer Venture Associates III,
L.L.C.;
- 865,267 shares held by Weiss Peck & Greer Venture Associates VI,
L.L.C.;
- 756,733 shares held by WPG Enterprise Fund III, L.L.C.;
- 109,239 shares held by Weiss Peck & Greer Venture Associates IV Cayman,
L.P.; and
- 33,531 shares held by WPG Information Sciences Entrepreneur Fund, L.P.
WPG Venture Partners III, L.P. is the fund investment advisory member of WPG
Enterprise Fund II, L.L.C. and Weiss Peck & Greer Venture Associates III,
L.L.C. Christopher J. Schaepe, one of our directors, is the general partner
of WPG Venture Partners III, L.P., and, as such, may be deemed to share
voting and investment power with respect to the shares held by these
entities. WPG VC Fund Advisor L.L.C. is the fund investment advisory member
of Weiss, Peck & Greer Venture Associates IV, L.L.C. and WPG Enterprise
Fund III, L.L.C., and is the general partner of WPG Information Sciences
Entrepreneur Fund, L.P. Mr. Schaepe is the managing member of WPG VC Fund
Advisor, L.L.C., and, as such, may be deemed to share voting and investment
power with respect to the shares held by these entities. WPG Fund Advisor
L.L.C. is the administrative general partner of Weiss, Peck & Greer Venture
Associates IV Cayman, L.P. Mr. Schaepe is a non-managing member of
58
<PAGE>
WPG Fund Advisor, L.L.C. and, as such, may be deemed to share voting and
investment power with respect to the shares held by Weiss, Peck & Greer
Venture Associates IV Cayman, L.P. Mr. Schaepe disclaims beneficial
ownership of all shares with respect to which he may be deemed to share
voting and investment power except to the extent of his pecuniary interests
therein. Mr. Schaepe's shares also include 24,000 shares held by
Mr. Schaepe's family living trust of which he is a trustee and 4,000 shares
held by his son's irrevocable trust. Mr. Schaepe disclaims beneficial
ownership of the shares held by his son's irrevocable trust.
(3) Includes (1) 1,050,328 shares held by Bessemer Venture Partners IV L.P.,
(2) 199,160 shares held by Bessemer Venture Investors L.P., and (3) 742,121
shares held by Bessec Ventures IV L.P. Deer IV & Co. LLC is the general
partner of Bessemer Venture Partners IV L.P., Bessemer Venture Investors
L.P. and Bessec Ventures IV L.P. Bruce K. Graham, one of our directors, is a
general partner of Deer IV & Co. LLC, and may be deemed to share voting and
investment power with respect to these shares. He disclaims beneficial
ownership of such shares except to the extent of his pecuniary interests
therein.
(4) Kevin Hall, Promod Haque, Ernie Parizeau and George Still are general
partners of Norwest Venture Partners VI, L.P. and, as such, may be deemed to
share voting and investment power with respect to the shares held by this
entity.
If the underwriters' over-allotment option is exercised, up to an additional
108,000 shares may be sold by the selling stockholder.
59
<PAGE>
DESCRIPTION OF CAPITAL STOCK
GENERAL
Upon completion of this offering, our authorized capital stock will consist
of 100,000,000 shares of common stock, $.001 par value, and 10,000,000 shares of
undesignated preferred stock, $.001 par value. As of December 31, 1999, there
were 22,912,501 shares of common stock outstanding held of record by
approximately 134 stockholders assuming the conversion of all outstanding
preferred stock into common stock. There will be 25,912,901 shares of common
stock outstanding after giving effect to the sale of the shares of common stock
offered under this prospectus.
COMMON STOCK
The holders of common stock are entitled to one vote for each share held of
record on all matters submitted to a vote of the stockholders. Subject to
preferences that may be applicable to any outstanding shares of preferred stock,
the holders of common stock are entitled to receive ratably such dividends as
may be declared by the board of directors out of funds legally available at
times and in amounts as the board may determine from time to time. See "Dividend
Policy." Upon completion of this offering, the board representation rights of
currently outstanding preferred stock will terminate and the holders of common
stock will be the only voting class for board elections. In the event of our
liquidation, dissolution or winding up, holders of the common stock are entitled
to share ratably in all assets remaining after payment of liabilities and the
liquidation preferences of any outstanding shares of preferred stock. Holders of
common stock have no preemptive rights 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, and
all shares of common stock to be outstanding upon completion of this offering
will be, fully-paid and nonassessable.
PREFERRED STOCK
Upon completion of this offering, all currently outstanding shares of
preferred stock will be converted into common stock. The preferred stock
liquidation, dividend and voting rights described in Notes to Financial
Statements will be extinguished upon the conversion of preferred stock into
common stock.
We will have authorized 10,000,000 shares of undesignated preferred stock.
The board of directors will have the authority to issue the undesignated
preferred stock in one or more series and to determine the powers, preferences
and rights and the qualifications, limitations or restrictions granted to or
imposed upon any wholly unissued series of undesignated preferred stock and to
fix the number of shares constituting any series and the designation of such
series, without any further vote or action by the stockholders. The issuance of
preferred stock may have the effect of delaying, deferring or preventing any
change in control without further action by the stockholders and may adversely
affect the voting and other rights of holders of common stock, and the
likelihood that such holders will receive dividend payments and payments upon
liquidation could have the effect of delaying, deferring or preventing a change
in control. Currently, we have no plans to issue any shares of preferred stock.
OPTIONS
As of December 31, 1999, options to purchase a total of 4,704,201 shares of
common stock were outstanding and up to 1,539,635 additional shares of common
stock may be issued upon exercise of options granted in the future under the
1999 Equity Incentive Plan and the 1999 Non-Employee Directors' Stock Option
Plan. Recommendations for option grants under our stock plans are made by our
compensation committee, subject to ratification by the full board of directors.
Our compensation committee may issue options with varying vesting schedules, but
all options granted under our stock plans must be exercised within 10 years from
the date of grant.
60
<PAGE>
WARRANTS
In September 1997, in conjunction with the execution of a secured promissory
note and a lease agreement, we issued two six-year warrants to purchase an
aggregate of 93,750 shares of Series B preferred stock at an exercise price of
$1.60 per share.
In July 1998, in conjunction with the execution of an amendment to the
equipment financing agreement, we issued a warrant to purchase 4,000 shares of
Series C preferred stock at an exercise price of $2.50 per share. The number and
price of such shares are subject to adjustment, including a right to purchase
additional stock. If our total cost of equipment leased pursuant to the lease
exceeds $1.2 million, the warrantholder has the right to purchase an additional
number of shares as determined by multiplying the amount by which the
warrantholder's total equipment cost exceeds $1.2 million by 5%, and dividing
the product thereof by the exercise price per share. At December 31, 1999,
borrowings under the line had not exceeded $1.2 million.
In January 1999, in conjunction with the execution of a line of credit
agreement, we issued a six-year warrant to purchase 80,000 shares of common
stock at an exercise price of $2.50 per share plus additional shares calculated
as follows: (1) 10% of the aggregate loan amounts made to us under the loan
agreement in excess of $2.0 million after the date thereof divided by (2) the
price per share of our preferred stock issued in the most recent round of
venture capital equity financing prior to the funding of the loan. At
December 31, 1999, borrowings under the line had not exceeded $2.0 million.
All outstanding warrants are currently exercisable. Upon the closing of this
offering, all warrants described in this section will become exercisable for our
common stock at the rate of one share of common stock for each share of
preferred stock underlying the warrants.
REGISTRATION RIGHTS
After this offering, the holders of approximately 22,192,501 shares of
common stock and warrants to acquire 177,750 shares of common stock will be
entitled to rights with respect to the registration of those shares under the
Securities Act.
PIGGYBACK RIGHTS. Under the terms of the agreements 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 registration and are entitled to include shares of
their common stock in the registration.
DEMAND RIGHTS. These holders are also entitled to certain demand
registration rights under which they may require us, on up to two occasions, to
file a registration statement under the Securities Act at our expense with
respect to our shares of common stock. We are required to use our best efforts
to effect a registration.
FORM S-3 RIGHTS. These holders may require us to file additional
registration statements on Form S-3 at our expense. All of these registration
rights are subject to conditions and limitations, among them the right of the
underwriters of an offering to limit the number of shares included in a
registration and our right not to effect a requested registration within six
months following an offering of our securities, including this offering.
Additionally, the holders of registration rights have agreed not to exercise
such rights for at least 180 days after the offering without the prior written
consent of Morgan Stanley & Co. Incorporated.
61
<PAGE>
ANTI-TAKEOVER EFFECTS OF PROVISIONS OF THE CERTIFICATE OF INCORPORATION, BYLAWS
AND DELAWARE LAW
CERTIFICATE OF INCORPORATION AND BYLAWS
Our certificate of incorporation provides that, effective upon the closing
of this offering, all stockholder actions must be effected at a duly called
meeting and not by a consent in writing. The bylaws provide that at any time we
are subject to section 2115(b) of the California General Corporation Code, our
stockholders may call a special meeting of stockholders only upon a request of
stockholders owning at least 5% of our capital stock. These provisions of the
certificate of incorporation and bylaws could discourage potential acquisition
proposals and could delay or prevent a change in control of QED. These
provisions are intended to enhance the likelihood of continuity and stability in
the composition of the board of directors and in the policies formulated by the
board of directors and to discourage transactions that may involve an actual or
threatened change of control of QED. These provisions are designed to reduce our
vulnerability to an unsolicited acquisition proposal. The provisions also are
intended to discourage tactics that may be used in proxy fights. However, these
provisions could have the effect of discouraging others from making tender
offers for our shares and, as a consequence, they also may inhibit fluctuations
in the market price of our shares that could result from actual or rumored
takeover attempts. These provisions also may have the effect of preventing
changes in our management. See "Risk Factors--Provisions of Our Certificate of
Incorporation and Bylaws or Delaware Law May Delay or Prevent a Change of
Control Transaction and, Therefore, Depress the Market Price of Our Stock."
DELAWARE TAKEOVER STATUTE
We are subject to Section 203 of the Delaware General Corporation Law.
Unless our stockholders adopt an amendment to the contrary, our stock is no
longer listed on a national securities exchange or our stockholders consent,
this section prohibits a Delaware corporation from engaging in any business
combination with any interested stockholder, unless:
- prior to becoming an interested stockholder, the board of directors of the
corporation approved either the business combination or the transaction
that resulted in the stockholder becoming an interested stockholder;
- upon consummation of the transaction that resulted in the stockholder
becoming an interested stockholder, the interested stockholder owned at
least 85% of the voting stock of the corporation outstanding at the time
the transaction commenced, excluding for purposes of determining the
number of shares outstanding those shares owned (x) by persons who are
directors and also officers and (y) by employee stock plans in which
employee participants do not have the right to determine confidentially
whether shares held subject to the plan will be tendered in a tender or
exchange offer; or
- on or subsequent to becoming an interested stockholder, the business
combination is approved by the board of directors and authorized at an
annual or special meeting of stockholders, and not by written consent, by
the affirmative vote of at least 66 2/3% of the outstanding voting stock
that is not owned by the interested stockholder.
Section 203 defines a business combination to include:
- any merger or consolidation involving the corporation and the interested
stockholder;
- any sale, transfer, pledge or other disposition of 10% or more of the
assets of the corporation involving the interested stockholder;
- any transaction that results in the issuance or transfer by the
corporation of any stock of the corporation to the interested stockholder
except upon the exercise, exchange or conversion of securities exercisable
for, exchangeable for or convertible into stock of such composition, upon
a
62
<PAGE>
merger of a parent and a subsidiary, or upon an exchange offer by the
corporation to purchase stock made on the same terms to all holders of
said stock;
- any transaction involving the corporation that has the effect of
increasing the proportionate share of the stock of any class or series of
the corporation beneficially owned by the interested stockholder; or
- the receipt by the interested stockholder of the benefit of any loans,
advances, guarantees, pledges or other financial benefits provided by or
through the corporation.
In general, Section 203 defines an interested stockholder as any entity or
person beneficially owning 15% or more of the outstanding voting stock of the
corporation and any entity or person affiliated with or controlling or
controlled by such entity or person.
CALIFORNIA FOREIGN CORPORATION LAW
Section 2115 of the California Corporations Code provides that under some
circumstances several provisions of the California Corporations Code may be
applied to foreign corporations qualified to do business in California
notwithstanding the law of the jurisdiction where the corporation is
incorporated. These corporations are referred to in this prospectus as
"quasi-California" corporations. Section 2115 applies to foreign corporations
that have more than half of their voting stock held by stockholders residing in
California and more than half of their business deriving from California,
measured on or after the 135(th) day of the corporation's fiscal year. If we
were determined to be a quasi-California corporation, we would have to comply
with California law with respect to, among other things, elections of directors
and distributions to stockholders. Under the California Corporations Code, a
corporation is prohibited from paying dividends unless:
- the retained earnings of the corporation immediately prior to the
distribution equals or exceeds the amount of the proposed distribution; or
- (a) the assets of the corporation, exclusive of specific non-tangible
assets, equal or exceed 1 1/4 times its liabilities, exclusive of specific
liabilities; and
(b) the current assets of the corporation at least equal its current
liabilities. If the average pre-tax net earnings of the corporation before
interest expense for the two years preceding the distribution was less
than the average interest expense of the corporation for those year,
however, the current assets of the corporation must exceed 1 1/4 times its
current liabilities.
Following this offering, we will be exempt from the application of
Section 2115 until July 1, 2000, and after that if our voting stock is held by
more than 800 stockholders of record.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for our common stock is Norwest Bank
Minnesota N.A., 161 North Concord Exchange, South St. Paul, MN 55075.
63
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
Prior to this offering, there has been no public market for our common
stock, and sales of substantial amounts of common stock including shares issued
upon exercise of outstanding warrants or options, in the public market after
this offering could adversely affect market prices prevailing from time to time
and could impair our ability to raise capital through sale of equity securities.
Furthermore, as described below, 22,010,138 shares currently outstanding will be
available for sale after the expiration of contractual restrictions on resale
with us and/or the underwriters. Sales of substantial amounts of our common
stock in the public market after contractual restrictions lapse could adversely
affect the prevailing market price and our ability to raise equity capital in
the future.
SALES OF RESTRICTED SHARES
Of the 25,912,501 shares of common stock outstanding upon the completion of
this offering (assuming no exercise of the underwriters' over-allotment option),
22,192,501 shares are deemed restricted shares under Rule 144 of the Securities
Act. The number of shares of common stock available for sale in the public
market is limited by restrictions under the Securities Act and lock-up
agreements under which the holders of these shares have agreed, subject to
limited exceptions, not to sell or otherwise dispose of any of their shares for
a period of 180 days after the date of this prospectus without the prior written
consent of Morgan Stanley & Co. Incorporated.
The remaining shares will become eligible for public sale as follows:
- on the date of this prospectus, no shares other than 3,720,000 of the
shares offered under this prospectus will be eligible for sale;
- beginning 180 days after the date of this prospectus, or earlier with the
written consent of Morgan Stanley & Co. Incorporated, 22,010,138
restricted shares will become available for sale in the public market
subject to volume limitations of Rule 144 relating to manner of sale,
notice and the availability of current public information about us.
RULE 144. In general, under Rule 144 as currently in effect beginning
90 days after this offering, a person (or persons whose shares are aggregated)
who has beneficially owned restricted shares for at least one year, including a
person who may be deemed an affiliate, is entitled to sell within any
three-month period a number of shares of common stock that exceed the greater of
1% of the then-outstanding shares of our common stock (approximately 258,895
shares after giving effect to this offering) and the average weekly trading
volume of our common stock on the Nasdaq National Market during the four
calendar weeks preceding that sale. Sales under Rule 144 are subject to
restrictions relating to manner of sale, notice and the availability of current
public information about us.
RULE 144(K). Under Rule 144(k), a person who is not our affiliate at any
time during the 90 days preceding a sale, and who has beneficially owned shares
for at least two years, would be entitled to sell their shares immediately
following this offering without regard to the volume limitations, manner of sale
provisions or notice or other requirements of Rule 144. However, the transfer
agent may require an opinion of counsel that a proposed sale of shares comes
within the terms of Rule 144 prior to effecting a transfer of the subject
shares.
OPTIONS
Any of our employees or consultants who purchased his or her shares under a
written compensatory benefit plan or contract is entitled to rely on the resale
provisions of Rule 701 of the Securities Act, which permits nonaffiliates to
sell their Rule 701 shares without having to comply with the public information,
holding period, volume limitation or notice provisions of Rule 144 and permits
affiliates to sell their Rule 701 shares without having to comply with the
Rule 144 holding period restrictions, in each case commencing 90 days after the
date of this prospectus. As of the date of this prospectus, the holders of
64
<PAGE>
options to purchase approximately 2,072,574 shares of common stock will be
eligible to sell their shares on the expiration of the 180-day lock-up period.
We intend to file a registration statement on Form S-8 under the Securities
Act to register shares of common stock issued or reserved for issuance under our
stock plans within 180 days after the date of this prospectus. This would permit
the resale of such shares by nonaffiliates in the public market without
restriction under the Securities Act.
LOCK-UP AGREEMENTS
The officers, directors and certain stockholders of QED have agreed, subject
to limited exceptions, not to sell, transfer or otherwise dispose of, directly
or indirectly, any of their shares of common stock or any securities convertible
or exchangeable for shares of common stock for a period of 180 days after the
date of the offering without the prior written consent of Morgan Stanley & Co.
Incorporated. Morgan Stanley & Co. Incorporated, however, may in its sole
discretion, at any time without notice, release all or any portion of the shares
subject to lock-up agreements.
65
<PAGE>
UNDERWRITERS
Under the terms and subject to the conditions contained in an underwriting
agreement dated the date of this prospectus the underwriters named below, for
whom Morgan Stanley & Co. Incorporated, FleetBoston Robertson Stephens Inc. and
Lehman Brothers Inc. are acting as representatives, have severally agreed to
purchase, and we and the selling stockholder have agreed to sell to them,
severally, the respective numbers of shares of common stock set forth opposite
the names of the underwriters below:
<TABLE>
<CAPTION>
NUMBER OF
NAME SHARES
- --------------------------------------------------------------------------------- ----------
<S> <C>
Morgan Stanley & Co. Incorporated................................................
FleetBoston Robertson Stephens Inc...............................................
Lehman Brothers Inc..............................................................
----------
Total........................................................................ 3,720,000
==========
</TABLE>
The underwriters are offering the shares subject to their acceptance of the
shares from us and the selling stockholder and subject to prior sale. The
underwriting agreement provides that the obligations of the several underwriters
to pay for and accept delivery of the shares of common stock offered hereby are
subject to the approval of certain legal matters by their counsel and to other
conditions. The underwriters are obligated to take and pay for all of the shares
of common stock offered by this prospectus, other than those covered by the
over-allotment option described below, if any of the shares are taken.
The underwriters initially propose to offer part of the shares of common
stock directly to the public at the public offering price set forth on the cover
page of this prospectus and part to certain dealers at a price that represents a
concession not in excess of $ a share under the public offering price. Any
underwriters may allow, and such dealers may re-allow, a concession not in
excess of $ a share to other underwriters or to other dealers. After the
initial offering of the shares of common stock, the offering price and other
selling terms may from time to time be varied by the representatives of the
underwriters.
We and the selling stockholder have granted to the underwriters an option,
exercisable for 30 days from the date of this prospectus, to purchase from us
and the selling stockholder up to an aggregate of 558,000 additional shares of
common stock at the public offering price set forth on the cover page of this
prospectus, less underwriting discounts and commissions. The underwriters may
exercise such option solely for the purpose of covering over-allotments, if any,
made in connection with this offering of the shares of common stock. To the
extent this option is exercised, each underwriter will become obligated, subject
to certain conditions, to purchase approximately the same percentage of the
additional shares of common stock as the number set forth next to that
underwriter's name in the preceding table bears to the total number of shares of
common stock set forth next to the names of all underwriters in the preceding
table.
At our request, the underwriters have reserved up to 186,000 shares of
common stock to be sold in the offering for sale, at the public offering price,
to persons designated by us. We intend to offer and sell these shares to persons
with whom we have business relationships, but we have had no prior discussions
or arrangements with any person concerning the offer and sale of reserved
shares. The number of shares of common stock available for sale to the general
public will be reduced to the extent these persons purchase the reserved shares.
Any reserved shares that are not so purchased will be offered by the
underwriters to the general public on the same basis as the other shares offered
in this prospectus.
We, the selling stockholder, our directors, officers and certain of our
stockholders, optionholders and warrantholders have each agreed that, without
the prior written consent of Morgan Stanley & Co.
66
<PAGE>
Incorporated on behalf of the underwriters, or otherwise during the period
ending 180 days after the date of this prospectus, we will not:
- offer, pledge, sell, contract to sell, sell any option or contract to
purchase, purchase any option or contract to sell, grant any option, right
or warrant to purchase, lend or otherwise transfer or dispose of, directly
or indirectly, any shares of common stock or any securities convertible
into or exercisable or exchangeable for common stock, whether the shares
or any of those securities are then owned by that person or are later
acquired directly from us; or
- enter into any swap or similar arrangement that transfers to another, in
whole or in part, any of the economic consequences of ownership of common
stock.
whether any such transaction described above is to be settled by delivery of
common stock or such other securities, in cash or otherwise.
The restrictions described in the previous paragraph do not apply to:
- the sale of any shares to the underwriters;
- the issuance by QED of shares of common stock upon the exercise of an
option or a warrant or the conversion of a security outstanding on the
date of this prospectus of which the underwriters have been advised in
writing;
- transactions by any person other than QED relating to shares of common
stock or other securities acquired in open market transactions after the
completion of the offering of the shares; or
- the issuance of shares of common stock or options by QED to purchase
shares of common stock under our employee benefit plans as in existence on
the date of this prospectus provided the shares and options are subject to
a lock-up period of at least 180 days after the date of this prospectus.
The underwriters have informed us that they do not intend sales to
discretionary accounts to exceed five percent of the total number of shares of
common stock offered by them.
We have submitted an application to have our common stock approved for
quotation on the Nasdaq National Market under the symbol "QEDI."
In order to facilitate the offering of the common stock, the underwriters
may engage in transactions that stabilize, maintain or otherwise affect the
price of the common stock. Specifically, the underwriters may over-allot in
connection with the offering, creating a short position in the common stock for
their own account. In addition, to cover over-allotments or to stabilize the
price of the common stock, the underwriters may bid for, and purchase, shares of
common stock in the open market. Finally, the underwriting syndicate may reclaim
selling concessions allowed to an underwriter or a dealer for distributing the
common stock in the offering if the syndicate repurchases previously distributed
shares of common stock in transactions to cover syndicate short positions or in
stabilization transactions. Any of these activities may stabilize or maintain
the market price of the common stock above independent market levels. The
underwriters are not required to engage in these activities and may end any of
these activities at any time.
We, the selling stockholder and the underwriters have agreed to indemnify
each other against liabilities, including liabilities under the Securities Act.
PRICING OF THE OFFERING
Prior to this offering, there has been no public market for the shares of
common stock. Consequently, the public offering price for the shares of common
stock will be determined by negotiations between us
67
<PAGE>
and the representatives of the underwriters. Among the factors to be considered
in determining the public offering price will be:
- our record of operations, current financial position and future prospects;
- the future prospects of our industry in general;
- the experience of our management;
- our sales, earnings and other financial operating information in recent
periods; and
- the price-earnings ratios, price-sales ratios, market prices of securities
and financial and operating information of companies engaged in activities
similar to ours.
The estimated initial public offering price range indicated on the cover
page of this prospectus is subject to change as a result of market conditions
and other factors.
LEGAL MATTERS
The validity of the common stock offered hereby will be passed upon for us
by Cooley Godward LLP, Palo Alto, California. Legal matters in connection with
this offering will be passed upon for the underwriters by Fenwick & West LLP,
Palo Alto, California.
EXPERTS
Our financial statements as of June 30, 1997, 1998 and 1999 and for each of
the three years in the period ended June 30, 1999, included in this prospectus
have been so included in reliance on the report of PricewaterhouseCoopers LLP,
independent accountants, given on the authority of said firm as experts in
auditing and accounting.
WHERE YOU CAN FIND MORE INFORMATION
We filed with the SEC a registration statement on Form S-1 under the
Securities Act with respect to the shares of common stock offered by this
prospectus. This prospectus does not contain all the information set forth in
the registration statement and related exhibits and schedules. For further
information with respect to QED and the common stock offered hereby, reference
is made to the registration statement and to the related exhibits and schedules.
Statements contained in this prospectus as to the contents of any contract
or other document referred to are not necessarily complete, and each of these
statements is qualified in all respects by reference to the full text of the
contract or other document filed as an exhibit to the registration statement. A
copy of the registration statement and the related exhibits and schedules may be
inspected without charge at the public reference facilities maintained by the
SEC in Room 1024, 450 Fifth Street, N.W. Washington, D.C. 20549, and at the
SEC's regional offices located at the Northwestern Atrium Center, 500 West
Madison Street, Suite 1400, Chicago, Illinois 60661 and Seven World Trade
Center, 13th Floor, New York, New York 10048, and copies of all or any part of
the registration statement may be obtained from these offices upon payment of
the fees prescribed by the SEC. The SEC maintains a worldwide web site that
contains reports, proxy and information statements and other information
regarding registrants that file electronically with the SEC. The address of the
site is HTTP://WWW.SEC.GOV.
Upon completion of this offering, we will become subject to the information
and periodic reporting requirements of the Securities Exchange Act and will file
periodic reports, proxy statements and other information with the SEC. These
periodic reports, proxy statements and other information will be available for
inspection and copying at the regional offices, public reference facilities and
web site of the SEC referred to above.
68
<PAGE>
QUANTUM EFFECT DEVICES, INC.
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
-----------
<S> <C>
Report of Independent Accountants.......................................................................... F-2
Balance Sheets............................................................................................. F-3
Statements of Operations................................................................................... F-4
Statements of Stockholders' Equity......................................................................... F-5
Statements of Cash Flows................................................................................... F-6
Notes to Financial Statements.............................................................................. F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
The Board of Directors and Stockholders of
Quantum Effect Devices, Inc.:
In our opinion, the accompanying balance sheets and the related statements
of operations, of stockholders' equity and of cash flows present fairly, in all
material respects, the financial position of Quantum Effect Devices, Inc. as of
June 30, 1998, and 1999 and the results of its operations and its cash flows for
the three years in the period ended June 30, 1999, in conformity with accounting
principles generally accepted in the United States. 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 of these statements in accordance with auditing standards
generally accepted in the United States, which 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,
assessing the accounting principles used and significant estimates made by
management and evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for the opinion expressed
above.
PricewaterhouseCoopers, LLP
San Jose, California
August 11, 1999 except Note 10,
which is as of December 28, 1999.
F-2
<PAGE>
QUANTUM EFFECT DEVICES, INC.
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
PRO FORMA
STOCKHOLDERS'
JUNE 30, DECEMBER 31, EQUITY AT
---------------------- ------------ DECEMBER 31,
1998 1999 1999 1999
---------- ---------- ------------ ------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.................................. $ 9,756 $ 1,442 $ 3,479
Short-term investments..................................... -- 16,023 6,116
Restricted cash............................................ -- 2,000 2,000
Accounts receivable, net................................... 1,387 3,065 5,507
Receivables from related parties........................... 870 652 532
Inventories................................................ 852 2,122 7,069
Prepaid expenses and other current assets.................. 1,082 768 1,471
---------- ---------- ----------
Total current assets..................................... 13,947 26,072 26,174
Property and equipment, net.................................. 1,909 1,807 2,695
---------- ---------- ----------
Total assets........................................... $ 15,856 $ 27,879 $ 28,869
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Borrowings, current portion................................ $ 489 $ 1,140 $ 1,196
Accounts payable........................................... 2,090 3,066 5,222
Accrued expenses and other current liabilities............. 2,217 3,102 3,884
Deferred revenue........................................... 710 248 171
Capital lease obligations, current portion................. 220 342 358
---------- ---------- ----------
Total current liabilities................................ 5,726 7,898 10,831
Borrowings, non-current portion.............................. 1,143 1,949 1,298
Capital lease obligations, non-current portion............... 478 426 244
---------- ---------- ----------
Total liabilities...................................... 7,347 10,273 12,373
---------- ---------- ----------
Commitments and contingencies (Note 9)
Stockholders' equity:
Preferred stock, $.001 par value, 13,897,750 shares
authorized, 9,100,000, 13,618,837 and 13,618,837
(unaudited) shares issued and outstanding actual;
10,000,000 shares authorized and none issued and
outstanding pro forma (unaudited)........................ 9 14 14 $ --
Common stock, $.001 par value, 29,000,000 shares
authorized, 7,789,966, 8,532,959 and
9,293,664 (unaudited) shares issued and outstanding
actual; 100,000,000 shares authorized, 22,912,501 shares
issued and outstanding pro forma (unaudited)............. 8 9 9 23
Additional paid-in capital................................. 21,955 43,409 43,846 43,846
Note receivable from stockholder........................... -- -- (42) (42)
Deferred stock-based compensation.......................... (868) (1,462) (708) (708)
Accumulated deficit........................................ (12,595) (24,364) (26,623) (26,623)
---------- ---------- ---------- ----------
Total stockholders' equity............................... 8,509 17,606 16,496 $ 16,496
---------- ---------- ---------- ==========
Total liabilities and stockholders' equity............. $ 15,856 $ 27,879 $ 28,869
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<PAGE>
QUANTUM EFFECT DEVICES, INC.
STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
SIX MONTHS
YEAR ENDED JUNE 30, ENDED DECEMBER 31,
-------------------------------- ------------------------
1997 1998 1999 1998 1999
--------- --------- ---------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenue:
Product revenue....................................... $ -- $ 1,428 $ 10,937 $ 2,810 $ 19,338
Royalty revenue....................................... 2,687 1,798 1,388 762 780
Royalty revenue from related parties.................. 7,376 3,254 3,037 1,555 1,109
--------- --------- ---------- --------- ---------
Total revenue....................................... 10,063 6,480 15,362 5,127 21,227
--------- --------- ---------- --------- ---------
Cost of revenue:
Product revenue....................................... -- 3,714 8,513 3,120 12,089
--------- --------- ---------- --------- ---------
Gross profit........................................ 10,063 2,766 6,849 2,007 9,138
--------- --------- ---------- --------- ---------
Operating expenses:
Research and development.............................. 9,421 9,552 12,381 6,337 6,561
Selling, general and administrative................... 2,123 2,979 5,436 2,275 4,300
Stock-based compensation.............................. -- 150 777 280 672
--------- --------- ---------- --------- ---------
Total operating expenses............................ 11,544 12,681 18,594 8,892 11,533
--------- --------- ---------- --------- ---------
Loss from operations.................................... (1,481) (9,915) (11,745) (6,885) (2,395)
Interest income......................................... 340 325 472 141 345
Interest expense........................................ -- (204) (496) (121) (209)
--------- --------- ---------- --------- ---------
Net loss before income taxes............................ (1,141) (9,794) (11,769) (6,865) (2,259)
Provision for income taxes.............................. 60 89 -- -- --
--------- --------- ---------- --------- ---------
Net loss................................................ $ (1,201) $ (9,883) $ (11,769) $ (6,865) $ (2,259)
========= ========= ========== ========= =========
Net loss per share:
Basic and diluted..................................... $ (.21) $ (1.53) $ (1.45) $ (.87) $ (.25)
========= ========= ========== ========= =========
Weighted average shares............................... 5,746 6,451 8,111 7,901 8,911
========= ========= ========== ========= =========
Pro forma net loss per share:
Basic and diluted (unaudited)......................... $ (.63) $ (.10)
========== =========
Weighted average shares (unaudited)................... 18,717 22,530
========== =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-4
<PAGE>
QUANTUM EFFECT DEVICES, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS)
<TABLE>
<CAPTION>
NOTE
PREFERRED STOCK COMMON STOCK ADDITIONAL RECEIVABLE DEFERRED
--------------- ----------------- PAID-IN FROM STOCK-BASED ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL STOCKHOLDER COMPENSATION DEFICIT
------- ------ ------ -------- ---------- ------ ------------ -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE AT JUNE 30, 1996........... 4,300 $ 4 5,548 $ 6 $ 8,657 -- $ -- $ (1,511)
Exercise of stock options.......... -- -- 266 -- 40 -- -- --
Net loss........................... -- -- -- -- -- -- (1,201)
------- ---- ----- ---- ------- ----- ------- --------
BALANCE AT JUNE 30, 1997........... 4,300 4 5,814 6 8,697 -- -- (2,712)
Issuance of Series C preferred
stock............................ 4,800 5 -- -- 11,946 -- -- --
Exercise of stock options.......... -- -- 1,976 2 294 -- -- --
Deferred stock-based
compensation..................... -- -- -- -- 1,018 -- (1,018) --
Amortization of deferred
stock-based compensation......... -- -- -- -- -- -- 150 --
Net loss........................... -- -- -- -- -- -- -- (9,883)
------- ---- ----- ---- ------- ----- ------- --------
BALANCE AT JUNE 30, 1998........... 9,100 9 7,790 8 21,955 -- (868) (12,595)
Issuance of Series D preferred
stock............................ 4,519 5 -- -- 19,473 -- -- --
Issuance of common stock for
cash............................. -- -- 238 -- 475 -- -- --
Exercise of stock options.......... -- -- 505 1 135 -- -- --
Deferred stock-based
compensation..................... -- -- -- -- 1,371 -- (1,371) --
Amortization of deferred
stock-based compensation......... -- -- -- -- -- -- 777 --
Net loss........................... -- -- -- -- -- -- -- (11,769)
------- ---- ----- ---- ------- ----- ------- --------
BALANCE AT JUNE 30, 1999........... 13,619 14 8,533 9 43,409 -- (1,462) (24,364)
Exercise of stock options
(unaudited)...................... -- -- 761 -- 519 (42) -- --
Deferred stock-based compensation
(unaudited)...................... -- -- -- -- (82) -- 82 --
Amortization of deferred
stock-based compensation
(unaudited)...................... -- -- -- -- -- -- 672 --
Net loss (unaudited)............... -- -- -- -- -- -- -- (2,259)
------- ---- ----- ---- ------- ----- ------- --------
BALANCE AT DECEMBER 31, 1999
(UNAUDITED)...................... 13,619 $ 14 9,294 $ 9 $43,846 $ (42) $ (708) $(26,623)
======= ==== ===== ==== ======= ===== ======= ========
<CAPTION>
TOTAL
--------
<S> <C>
BALANCE AT JUNE 30, 1996........... $ 7,156
Exercise of stock options.......... 40
Net loss........................... (1,201)
--------
BALANCE AT JUNE 30, 1997........... 5,995
Issuance of Series C preferred
stock............................ 11,951
Exercise of stock options.......... 296
Deferred stock-based
compensation..................... --
Amortization of deferred
stock-based compensation......... 150
Net loss........................... (9,883)
--------
BALANCE AT JUNE 30, 1998........... 8,509
Issuance of Series D preferred
stock............................ 19,478
Issuance of common stock for
cash............................. 475
Exercise of stock options.......... 136
Deferred stock-based
compensation..................... --
Amortization of deferred
stock-based compensation......... 777
Net loss........................... (11,769)
--------
BALANCE AT JUNE 30, 1999........... 17,606
Exercise of stock options
(unaudited)...................... 477
Deferred stock-based compensation
(unaudited)...................... --
Amortization of deferred
stock-based compensation
(unaudited)...................... 672
Net loss (unaudited)............... (2,259)
--------
BALANCE AT DECEMBER 31, 1999
(UNAUDITED)...................... $ 16,496
========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-5
<PAGE>
QUANTUM EFFECT DEVICES, INC.
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED JUNE 30, DECEMBER 31,
------------------------------- --------------------
1997 1998 1999 1998 1999
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss....................................................... $ (1,201) $ (9,883) $ (11,769) $ (6,865) $ (2,259)
Adjustments to reconcile net loss to net cash used in operating
activities:
Allowance for doubtful accounts.............................. -- -- 300 -- --
Depreciation and amortization................................ 959 909 962 470 594
Amortization of deferred stock-based compensation............ -- 150 777 280 672
Deferred income taxes........................................ 580 89 -- -- --
Changes in assets and liabilities:
Accounts receivable........................................ 217 (1,271) (1,760) 47 (2,322)
Inventories................................................ -- (852) (1,270) (747) (4,947)
Prepaid expenses and other current assets.................. (476) (391) 314 337 (703)
Accounts payable........................................... 770 597 976 (146) 2,156
Accrued expenses and other current liabilities............. 1,148 210 885 657 782
Deferred revenue........................................... (2,093) (451) (462) (281) (77)
--------- --------- --------- --------- ---------
Net cash used in operating activities.................... (96) (10,893) (11,047) (6,248) (6,104)
--------- --------- --------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of property and equipment.......................... (936) (76) (493) (88) (1,482)
Purchase of short term investments............................. -- -- (16,023) -- (11,898)
Maturities and sales of short term investments................. 2,974 -- -- -- 21,805
Restricted cash................................................ -- -- (2,000) -- --
--------- --------- --------- --------- ---------
Net cash provided by (used in) investing activities...... 2,038 (76) (18,516) (88) 8,425
--------- --------- --------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments under capital leases........................ -- (127) (297) (137) (166)
Proceeds from issuance of preferred stock...................... -- 11,951 19,478 -- --
Proceeds from issuance of common stock......................... 40 296 611 51 477
Proceeds from borrowings....................................... -- 2,000 2,000 -- --
Repayments of borrowings....................................... (250) (368) (543) (18) (595)
--------- --------- --------- --------- ---------
Net cash provided by (used in) financing activities...... (210) 13,752 21,249 (104) (284)
--------- --------- --------- --------- ---------
Net increase (decrease) in cash and cash equivalents............. 1,732 2,783 (8,314) (6,440) (2,037)
Cash and cash equivalents at beginning of period................. 5,241 6,973 9,756 9,756 1,442
--------- --------- --------- --------- ---------
Cash and cash equivalents at end of period....................... $ 6,973 $ 9,756 $ 1,442 $ 3,316 $ 3,479
========= ========= ========= ========= =========
SUPPLEMENTAL CASH FLOW INFORMATION:
Income tax paid (refunded), net................................ $ 470 $ (467) $ 55 $ -- $ (63)
========= ========= ========= ========= =========
Cash paid for interest......................................... $ -- $ 170 $ 405 $ 109 $ 141
========= ========= ========= ========= =========
NON-CASH INVESTING AND FINANCING ACTIVITIES:
Acquisition of property and equipment through capital leases... $ -- $ 825 $ 367 $ 107 $ --
========= ========= ========= ========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-6
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 1--THE COMPANY AND SUMMARY OF ITS SIGNIFICANT ACCOUNTING
POLICIES:
THE COMPANY
Quantum Effect Devices, Inc. (formerly Quantum Effect Design, Inc.) ("QED"
or the "Company") was incorporated in California in August 1991 and
reincorporated in Delaware on December 28, 1999 (see note 11). The Company
changed its name from Quantum Effect Design, Inc. to Quantum Effect
Devices, Inc. in August 1999. The Company is a developer and supplier of high
performance embedded microprocessors for use in information-intensive
applications such as networking/communications infrastructure equipment,
business network equipment and consumer network products.
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, and such
differences could affect the results of operations reported in future periods.
REVENUE RECOGNITION
Revenue from product sales is generally recognized upon shipment, net of
sales returns and allowances. Revenue generated by sales to distributors under
agreements allowing certain rights of return are deferred for financial
reporting purposes until the products are sold by the distributors.
Royalty revenue is recognized when third parties and related third parties
sell products that the Company has developed and licensed for production.
Royalty revenue received in advance of the sale of the licensed products is
recorded as deferred revenue and recognized when the products are sold by the
third parties.
RESEARCH AND DEVELOPMENT
Research and development expenditures are expensed as incurred.
CASH AND CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
The Company considers all highly liquid investments with a maturity of three
months or less from the date of purchase to be cash equivalents. At June 30,
1999, cash and cash equivalents were held by three major U.S. financial
institutions. Cash and cash equivalents consist of cash on deposit with banks,
money market funds and commercial deposits, the fair value of which approximates
cost.
The Company classifies all short-term investments as available-for-sale.
Accordingly, these investments are carried at fair value. The fair value of such
securities approximates cost, and there were no material unrealized gains or
losses as of June 30, 1999. Short-term investments generally have maturities of
F-7
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1--THE COMPANY AND SUMMARY OF ITS SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
less than one year from the date of purchase. The following table summarizes the
estimated fair value of the Company's cash, cash equivalents and short-term
investments (in thousands):
<TABLE>
<CAPTION>
JUNE 30,
--------------------
1998 1999
--------- ---------
<S> <C> <C>
Cash and cash equivalents:
Cash................................................................... $ 621 $ 654
Money market funds..................................................... 1,135 788
Commercial paper....................................................... 8,000 --
--------- ---------
$ 9,756 $ 1,442
========= =========
Short-term investments:
U.S. Government bonds and notes........................................ $ -- $ 10,943
Commercial bonds and notes............................................. -- 5,080
--------- ---------
$ -- $ 16,023
========= =========
</TABLE>
RESTRICTED CASH
At June 30, 1999, the Company had $2.0 million invested in a certificate of
deposit with a major U.S. financial institution as security for a letter of
credit with a major supplier for the same amount. This letter of credit expires
on May 30, 2000.
CONCENTRATIONS OF CREDIT RISK AND SIGNIFICANT CUSTOMERS
Financial instruments that potentially subject the Company to concentrations
of credit risk consist primarily of cash, cash equivalents, short-term
investments and accounts receivable. Substantially all of the Company's cash and
cash equivalents are invested in highly-liquid money market fundsand commercial
securities with major financial institutions. Short-term investments consist of
U.S. government and commercial bonds and notes. The Company sells its products
principally to original equipment manufacturers and their subcontract
manufacturers. The Company performs ongoing credit evaluations of its customers
and maintains an allowance for potential credit losses. Credit losses to date
have been consistent with management's estimates.
The following table sets forth customers comprising 10% or more of the
Company's total revenue for each of the periods indicated.
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-----------------------------
CUSTOMER 1997 1998 1999
- -------------------------------------------------- ------- ------- -------
<S> <C> <C> <C>
A................................................. 23% 50% 20%
B................................................. 25 23 4
C................................................. -- 19 18
D................................................. 51 -- --
E................................................. -- -- 13
F................................................. -- -- 12
</TABLE>
F-8
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1--THE COMPANY AND SUMMARY OF ITS SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
The Company's accounts receivable were concentrated with two customers at
June 30, 1998 (representing 39% and 53% of aggregate receivables) and four
customers at June 30, 1999 (representing 22%, 20%, 17% and 15% of aggregate
receivables).
FAIR VALUE OF FINANCIAL INSTRUMENTS
Carrying amounts of certain of the Company's financial instruments,
including cash and cash equivalents, restricted cash short-term investments,
accounts receivable, accounts payable, capital lease obligations and borrowings
approximate their fair value due to the relatively short maturities and based
upon comparable market information available at the respective balance sheet
dates. The carrying value of the Company's long-term financial instruments
approximates fair value because the interest rates approximate current market
rates of similar debt. The Company does not hold or issue financial instruments
for trading purposes.
INVENTORIES
Inventories are stated at the lower of cost or market, cost being determined
using the first-in, first-out ("FIFO") method. Appropriate consideration is
given to obsolescence, excessive levels, deterioration and other factors in
evaluating net realizable value.
PROPERTY AND EQUIPMENT
Property and equipment, including leasehold improvements, are stated at
historical cost, less accumulated depreciation and amortization. Depreciation is
computed using the straight-line method over the estimated useful lives of these
assets, ranging from three to five years, or, in the case of leasehold
improvements, over the lease period, whichever is shorter.
Upon disposal, the assets and related accumulated depreciation and
amortization are removed from the Company's accounts, and the resulting gains or
losses are reflected in the statements of operations.
Long-lived assets held and used by the Company are reviewed for impairment
whenever events or changes in circumstances indicate that their net book value
may not be recoverable. An impairment loss is recognized if the sum of the
expected future cash flows (undiscounted and before interest) from the use of
the asset is less than the net book value of the asset. The amount of the
impairment loss will generally be measured as the difference between net book
values of the assets and their estimated fair values. Based on its most recent
analysis, the Company believes that no long-lived assets were impaired at
June 30, 1998 and 1999.
COMPREHENSIVE INCOME
The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" ("SFAS No. 130"). SFAS No. 130 establishes
standards for reporting and displaying comprehensive income and its components
in a full set of general-purpose financial statements. There was no difference
between the Company's net loss and its total comprehensive loss for the years
ended June 30, 1997, 1998 and 1999.
F-9
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1--THE COMPANY AND SUMMARY OF ITS SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
ACCOUNTING FOR STOCK-BASED COMPENSATION
The Company accounts for stock-based employee compensation arrangements
using the intrinsic value method as prescribed in Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25").
Accordingly, compensation cost for stock options is measured as the excess, if
any, of the fair value of the Company's stock at the date of grant over the
stock option exercise price. Expense associated with stock-based compensation is
amortized on an accelerated basis over the vesting period of the individual
award consistent with the method described in Financial Accounting Standards
Board Interpretation No. 28 ("FIN 28"). Application of FIN 28 results in
amortization of approximately 53% of the compensation in the first 12 months of
vesting, 27% of the compensation in the second 12 months of vesting, 14% of the
compensation in the third 12 months of vesting and 6% of the compensation in the
fourth 12 months of vesting. The Company accounts for stock issued to
non-employees in accordance with the provisions of Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
No. 123") and Emerging Issues Task Force Consensus No. 96-18, "Accounting for
Equity Instruments that are offered to other than employees for acquiring of in
conjunction with selling goods or services" ("EITF 96-18"). Under SFAS 123 and
EITF 96-18 stock option awards issued to non-employees are accounted for at
their fair value using the Black-Scholes method. The fair value of each
non-employee stock awarded is remeasured at each period end until a commitment
date is reached, which is generally the vesting date.
SEGMENT INFORMATION
The Company has adopted the Financial Accounting Standards Board's Statement
of Financial Accounting Standards No. 131 "Disclosure about Segments of an
Enterprise and Related Information" ("SFAS No. 131"), effective for fiscal years
beginning after December 31, 1997.
The Company has determined that it has one reportable business segment: the
design, license, manufacture and marketing of integrated circuits. To date, all
of the Company's products and services have originated within the United States.
NET LOSS PER SHARE
Basic net loss per share is computed by dividing the net loss available to
common stockholders for the period by the weighted average number of common
shares outstanding during the period. Diluted net loss per share is computed
based on the weighted average number of common shares and dilutive potential
common shares outstanding. The calculation of diluted net loss per share
excludes potential common shares if the effect is anti-dilutive. Potential
common shares consist of incremental common shares issuable upon the exercise of
stock options, shares issuable upon conversion of convertible preferred stock
and common shares issuable upon the exercise of common and convertible preferred
stock warrants.
F-10
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1--THE COMPANY AND SUMMARY OF ITS SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
The following table sets forth the computation of basic and diluted net loss
per share for the periods presented (in thousands, except per share amounts):
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED JUNE 30, DECEMBER 31,
-------------------------------- ------------------------
1997 1998 1999 1998 1999
--------- --------- ---------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Numerator:
Net loss............................ $ (1,201) $ (9,883) $ (11,769) $ (6,865) $ (2,259)
========= ========= ========== ========= =========
Denominator:
Weighted average common shares...... 5,746 6,451 8,111 7,901 8,911
========= ========= ========== ========= =========
Net loss per share:
Basic and diluted................... $ (.21) $ (1.53) $ (1.45) $ (.87) $ (.25)
========= ========= ========== ========= =========
</TABLE>
The following table sets forth potential shares of common stock that are not
included in the diluted net loss per share calculation above because to do so
would be anti-dilutive for the periods presented (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
------------------------------- --------------------
1997 1998 1999 1998 1999
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Series A preferred stock........................... 1,800 1,800 1,800 1,800 1,800
Series B preferred stock........................... 2,500 2,500 2,500 2,500 2,500
Series C preferred stock........................... -- 4,800 4,800 4,800 4,800
Series D preferred stock........................... -- -- 4,519 -- 4,519
Series B and C preferred stock warrants............ -- 94 98 98 98
Common stock options............................... 3,880 3,208 5,200 3,806 4,704
Common stock warrants.............................. -- -- 80 -- 80
</TABLE>
PRO FORMA NET LOSS PER SHARE (UNAUDITED)
Pro forma net loss per share for the year ended June 30, 1999 and the six
months ended December 31, 1999 is computed using the weighted average number of
common shares outstanding, including the pro forma effects of the automatic
conversion of the Company's Series A, Series B, Series C and Series D preferred
stock into shares of the Company's common stock effective upon the closing of
the Company's initial public offering ("IPO") as if such conversion occurred on
July 1, 1998 and July 1, 1999 respectively or at the date of original issuance,
if later.
F-11
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1--THE COMPANY AND SUMMARY OF ITS SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
The resulting pro forma net loss per share can be shown as follows (in
thousands, except per share data):
<TABLE>
<CAPTION>
SIX MONTHS
YEAR ENDED ENDED
JUNE 30, DECEMBER 31,
1999 1999
---------- ----------
<S> <C> <C>
Numerator:
Pro forma net loss.............................. $ (11,769) $ (2,259)
========= =========
Denominator:
Weighted average shares......................... 8,111 8,911
Assumed conversion of Series A preferred
stock......................................... 1,800 1,800
Assumed conversion of Series B preferred
stock......................................... 2,500 2,500
Assumed conversion of Series C preferred
stock......................................... 4,800 4,800
Assumed conversion of Series D preferred
stock......................................... 1,506 4,519
--------- ---------
Denominator for pro forma basic and diluted
loss per share calculation.................. 18,717 22,530
========= =========
Pro forma net loss per share:
Basic and diluted............................... $ (.63) $ (.10)
========= =========
</TABLE>
The calculation of pro forma diluted net loss per share excludes potential
common shares as the effect would be anti-dilutive. Pro forma potential common
shares are composed of incremental common shares issuable upon the exercise of
stock options and common and preferred stock warrants.
PRO FORMA STOCKHOLDERS' EQUITY (UNAUDITED)
Effective upon the closing of the IPO, the outstanding shares of Series A,
Series B, Series C and Series D preferred stock will automatically convert into
an aggregate of 13,618,837 shares of common stock. The pro forma effects of
these transactions are unaudited and have been reflected in the accompanying pro
forma statement of stockholders' equity at December 31, 1999.
RECENT ACCOUNTING PRONOUNCEMENTS
In March 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants ("AICPA") issued Statement of Position
98-1, "Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" ("SOP 98-1"). SOP 98-1 requires all costs related to the
development stage to be expensed as incurred. Costs incurred during the
application development stage are required to be capitalized and amortized over
the estimated useful life of the software. The Company does not expect that the
adoption of SOP 98-1 will have a material effect on its financial statements.
SOP 98-1 is effective for the Company's fiscal year ending June 30, 2000.
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS
No. 133"), as amended by Statement of Financial Accounting Standards No. 137,
"Accounting for Derivative Instruments and Hedging Activities--Deferral of the
Effective Date of FASB Statement No. 133--an amendment of FASB Statement
No. 133" ("SFAS
F-12
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1--THE COMPANY AND SUMMARY OF ITS SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
No. 137"). SFAS No. 133 requires that all derivative instruments be recorded on
the balance sheet at their fair market value. Changes in the fair market value
of derivatives are recorded each period in current earnings or comprehensive
income, depending on whether a derivative is designed as part of a hedge
transaction, and if so, the type of hedge transaction. Substantially all of the
Company's revenue and costs are denominated in U.S. dollars, and to date the
Company has not entered into any material derivative contracts. The Company does
not expect that the adoption of SFAS No. 133 will have a material effect on its
financial statements. The effective date of SFAS No. 133 as amended by SFAS
No. 137 will be for fiscal years beginning after June 15, 2000.
UNAUDITED INTERIM FINANCIAL INFORMATION
The accompanying balance sheet as of December 31, 1999, the statements of
operations and of cash flows for the six months ended December 31, 1998 and 1999
and the statement of stockholders equity for the six months ended December 31,
1999 are unaudited. In the opinion of management, these statements have been
prepared on the same basis as the audited financial statements and include all
adjustments, consisting of only normal recurring adjustments, necessary for the
fair presentation of the results for the interim periods. The data disclosed in
the financial statements as of such dates and for such periods are unaudited.
Results of the six months ended December 31, 1999 are not necessarily indicative
of results of the entire year.
NOTE 2--RELATED PARTY TRANSACTIONS:
DEVELOPMENT AND LICENSE AGREEMENT WITH MOTOROLA
In August 1995, the Company issued to Motorola, Inc. ("Motorola") 2,500,000
shares of Series B convertible preferred stock under the Series B Preferred
Stock Purchase Agreement, at a price of $2.40 per share. In February 1997,
Motorola sold all of the 2,500,000 shares of Series B convertible preferred
stock to a third party.
In August 1995, the Company entered into a Development and License Agreement
with Motorola ("the Motorola Agreement"). Under the Motorola Agreement, the
Company obtained a license from Motorola to design certain microprocessors on
behalf of Motorola in exchange for up to $1.1 million in milestone payments. In
March 1997, Motorola indicated its final acceptance of all milestones set forth
in the Motorola Agreement. As a result, the Company granted Motorola an
exclusive, royalty-bearing license to manufacture and sell the licensed product.
The full amount of milestone payments and a one-time royalty payment of
$4.0 million, totaling $5.1 million, received from Motorola was recognized upon
final acceptance of the milestones in the year ended June 30, 1997. This amount
is recorded in the statement of operations under "Royalty revenue from related
parties." The Company is not entitled to any other royalties under this
contract.
DEVELOPMENT AND LICENSE AGREEMENT WITH IDT
In January 1992, the Company entered into a Development and License
Agreement (the "IDT Agreement") with Integrated Device Technology, Inc. ("IDT").
At June 30, 1999, IDT owned approximately 16.4% of the Company's outstanding
common and preferred stock. Under the terms of the IDT Agreement, IDT agreed to
fund the development of three products, based on the achievement of
F-13
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 2--RELATED PARTY TRANSACTIONS: (CONTINUED)
certain milestones. The IDT agreement stipulated that products developed under
it become the sole and exclusive property of IDT. IDT is required to pay to the
Company royalties on QED-developed products sold by IDT for a period of ten
years from the initial royalty payment. The Company recognized IDT royalty
income of $2,276,000, $3,254,000 and $3,037,000 in the years ended June 30,
1997, 1998 and 1999, respectively. These amounts are recorded in the statement
of operations under "Royalty revenue from related parties."
SALE OF CAPITAL STOCK TO CISCO
In April 1999, in conjunction with the sale of Series D preferred stock to
other investors, the Company sold 1,047,454 shares of Series D preferred stock
and 237,500 shares of common stock to Cisco Systems, Inc. ("Cisco"). The Company
believes that these shares were sold on an arms-length basis.
Product revenue for the year ended June 30, 1999 includes sales of
approximately $255,000 made directly to Cisco. This excludes amounts sold to
Cisco's manufacturing subcontractors, which total approximately $2 million.
NOTE 3--BALANCE SHEET COMPONENTS
<TABLE>
<CAPTION>
JUNE 30,
-------------------- DECEMBER 31,
1998 1999 1999
--------- --------- ------------
(IN THOUSANDS) (UNAUDITED)
<S> <C> <C> <C>
ACCOUNTS RECEIVABLE, NET:
Accounts receivable..................................... $ 1,387 $ 3,365 $ 5,807
Less: allowance for doubtful accounts................... -- (300) (300)
--------- --------- ----------
$ 1,387 $ 3,065 $ 5,507
========= ========= ==========
INVENTORIES:
Work-in-progress........................................ $ 815 $ 1,384 $ 6,244
Finished goods.......................................... 37 738 825
--------- --------- ----------
$ 852 $ 2,122 $ 7,069
========= ========= ==========
PROPERTY AND EQUIPMENT, NET:
Furniture and fixtures.................................. $ 181 $ 257 $ 350
Computer hardware....................................... 3,252 3,918 3,616
Computer software....................................... 2,977 3,095 3,997
Leasehold improvements.................................. 23 23 13
--------- --------- ----------
6,433 7,293 7,976
Less: Accumulated depreciation and amortization......... (4,524) (5,486) (5,281)
--------- --------- ----------
$ 1,909 $ 1,807 $ 2,695
========= ========= ==========
</TABLE>
F-14
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 3--BALANCE SHEET COMPONENTS (CONTINUED)
Assets acquired under capital lease obligations are included in property and
equipment and totaled $825,000 and $1,192,000, with related accumulated
depreciation of $167,000, $530,000 and $624,000 at June 30, 1998 and 1999, and
December 31, 1999 (unaudited), respectively.
<TABLE>
<CAPTION>
JUNE 30,
-------------------- DECEMBER 31,
1998 1999 1999
--------- --------- -------------
(IN THOUSANDS) (UNAUDITED)
<S> <C> <C> <C>
ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES:
Accrued employee compensation............................. $ 1,126 $ 1,439 $ 1,769
Accrued warranty.......................................... 531 929 864
Other..................................................... 560 734 1,251
--------- --------- ---------
$ 2,217 $ 3,102 $ 3,884
========= ========= =========
</TABLE>
NOTE 4--BORROWINGS:
SECURED PROMISSORY NOTE
In September 1997, the Company borrowed $2,000,000 under a secured
promissory note (the "Note"). The Note is secured by certain fixed assets of the
Company and bears interest at 8.25% per annum. The Note balance is payable over
42 months commencing November 1, 1997, with a final balloon payment of $300,000.
LINE OF CREDIT
In January 1999, the Company entered into a loan and security agreement
("line of credit") with a lender, under which it may borrow up to $6,000,000.
The line of credit is collaterized by substantially all of the Company's
tangible assets and expires on December 31, 2000. Under the line of credit, the
Company borrowed $2,000,000 through June 30, 1999. Borrowings under the line of
credit are payable over 42 months commencing in July 1999, and bear interest at
12% for the first six months and 8.5% thereafter, with a final balloon payment
of $200,000.
Under the line of credit, no financial covenants are required to be met for
borrowings up to $2,000,000. For incremental borrowings up to $6,000,000, QED
must maintain certain financial ratios. The line of credit prohibits the Company
from paying dividends. At June 30, 1999, the Company was in compliance with
these covenants.
Aggregate principal payments remaining under the Note and the line of credit
at June 30, 1999 are as follows (in thousands):
<TABLE>
<S> <C>
YEAR ENDING JUNE 30,
2000............................................................. $ 1,140
2001............................................................. 1,289
2002............................................................. 660
---------
3,089
Less: current portion............................................ (1,140)
---------
Non-current portion.............................................. $ 1,949
=========
</TABLE>
F-15
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 5--PREFERRED STOCK:
Preferred stock at June 30, 1999 consisted of the following (in thousands):
<TABLE>
<CAPTION>
SHARES PROCEEDS NET
------------------------ OF ISSUANCE
AUTHORIZED OUTSTANDING COSTS
----------- ----------- ------------
<S> <C> <C> <C>
Series A.............................................. 1,800 1,800 $ 2,520
Series B.............................................. 2,594 2,500 6,000
Series C.............................................. 4,804 4,800 11,951
Series D.............................................. 4,700 4,519 19,478
--------- --------- ----------
13,898 13,619 $ 39,949
========= ========= ==========
</TABLE>
The holders of preferred stock have various rights and preferences as
follows:
CONVERSION
Each share of Series A, B, C and D preferred stock outstanding is
convertible into common stock at any time at the option of the holder based on a
formula which currently results in a one-for-one exchange ratio of common for
preferred. This formula is subject to adjustments for stock splits, stock
dividends, recapitalizations, and other similar transactions. The shares of
preferred stock automatically convert into shares of common stock upon the
effectiveness of a registration statement under the Securities Act of 1933, as
amended, (the "Securities Act") if the offering results in gross proceeds of at
least $10,000,000, and the per share offering price is at least $6.48.
DIVIDENDS
Noncumulative dividends at the annual rate of $.11, $.19, $.20 and $.35 per
share for Series A, B, C and D preferred stock, respectively, as declared by the
Board of Directors, are payable to the holders of preferred stock in preference
to any dividends for common stock declared by the Board of Directors. Dividends
on shares of preferred stock may exceed the annual per share rate of $.11, $.19
and $.20 and $.35 for Series A, B, C and D preferred stock, respectively, in the
event that a higher dividend rate is paid on any other class of the Company's
stock. In such an event, the dividends on the shares of preferred stock will be
paid at the same rate, determined on an if-converted basis. No dividends have
been declared to date.
LIQUIDATION
In the event of liquidation, holders of preferred stock are entitled to a
per share distribution in preference to holders of common stock equal to $1.40,
$2.40, $2.50 and $4.32 for Series A, B, C and D preferred stock, respectively
(adjusted for stock splits, combinations or similar events), plus any declared
but unpaid dividends. In the event funds are sufficient to make a complete
distribution to the holders of preferred stock as described above, the remaining
assets will be distributed to the holders of common stock and Series A, B and C
preferred stock based upon the number of shares of common stock held by each,
assuming conversion of all shares of preferred stock into common stock; provided
that the holders of Series C preferred shall not be entitled to distributions in
excess of $10.00 per share.
F-16
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 5--PREFERRED STOCK: (CONTINUED)
VOTING
The holders of common stock are entitled to elect one of the Company's five
directors. The holders of Series A preferred stock are entitled to elect two of
the Company's five directors. The holders of Series B preferred stock are
entitled to elect one of the company's five directors. The holders of Series C
preferred stock are entitled to elect one of the company's five directors. The
holders of Series D preferred stock are not entitled to elect members of the
Company's Board of Directors. Each share of preferred stock is entitled to one
vote for each share of common stock into which the preferred stock is
convertible.
SERIES B PREFERRED STOCK WARRANTS
In connection with a secured promissory note (see note 4) and a secured
lease agreement signed in September 1997, the Company issued warrants to
purchase 93,750 shares of Series B preferred stock at an exercise price of $1.60
per share. The warrants expire in September 30, 2003 or three years from the
effective date of the Company's IPO, whichever is later. The warrants include
certain registration rights. They also include anti-dilution provisions similar
to those granted to holders of preferred stock and provide for exercise on a
"net exercise" basis. The Company has determined the value of the warrants to be
$158,000, based on the Black-Scholes option pricing model, and this amount is
being recognized as interest expense over the term of the related borrowing
agreements. Notwithstanding the above expiration dates, upon conversion of the
convertible preferred stock in connection with an IPO, the convertible preferred
stock warrants shall automatically become exercisable.
SERIES C PREFERRED STOCK WARRANTS
In July 1998, the Company issued warrants to purchase 4,000 shares of
Series C preferred stock at an exercise price of $2.50 per share in connection
with an increase of $200,000 to its existing lease line from $1,000,000 to
$1,200,000. The warrants expire in July 2004 or three years from the effective
date of the Company's initial public offering, whichever is later. The warrants
include registration rights and anti-dilution provisions similar to those
granted to holders of Series C preferred stock and provide for exercise on a
"net exercise" basis. The Company has determined the value of the warrants to be
$6,000, based on the Black-Scholes option pricing model, and this amount is
being recognized as interest expense over the term of the related borrowing
agreement. Notwithstanding the above expiration dates, upon conversion of the
convertible preferred stock in connection with an IPO, the preferred stock
warrants shall automatically become exercisable.
If the total amount of equipment purchased under the lease line exceeds
$1,200,000, the leasing company has the right to purchase an additional number
shares of Series C preferred stock determined by dividing (i) 5% of the dollar
amount of equipment leased exceeding the $1,200,000 by (ii) the adjusted
exercise price per share. At June 30, 1999, borrowings under the line did not
exceed $1,200,000.
F-17
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 6--COMMON STOCK:
The Company's Amended and Restated Articles of Incorporation authorize the
Company to issue 29,000,000 shares of $.001 par value common stock. At June 30,
1999, there were 8,532,959 shares of common stock issued and outstanding.
As of June 30, 1999, the Company has reserved the following number of shares
of common stock for future issuance (in thousands):
<TABLE>
<CAPTION>
JUNE 30, 1999
-------------
<S> <C>
Conversion of Series A preferred stock......................................... 1,800
Conversion of Series B preferred stock and warrants............................ 2,594
Conversion of Series C preferred stock and warrants............................ 4,804
Conversion of Series D preferred stock......................................... 4,700
Common stock warrant........................................................... 173
Options under stock option plans............................................... 5,405
---------
Total........................................................................ 19,476
=========
</TABLE>
COMMON STOCK WARRANT
In connection with the loan and security agreement signed in January 1999
(see note 4), the Company issued warrants to purchase 80,000 shares of common
stock at an exercise price of $2.50 per share. The warrants will become
exercisable for up to an additional 93,000 shares of common stock for 10% of the
aggregate borrowings made by the Company in excess of $2,000,000, up to a total
of $6,000,000 in borrowings. The warrants expire in December 2005 or upon a
reorganization, reclassification, consolidation, merger or sale of the Company,
as defined. The warrants include registration rights and anti-dilution
provisions similar to those granted to holders of Series C preferred stock and
provide for exercise on a "net exercise" basis. The Company determined the value
of the warrants relating to the 80,000 immediately vested shares to be $134,000,
based on the Black-Scholes option pricing model, and this amount is being
recognized as interest expense over the term of the related borrowing agreement.
At June 30, 1999, the borrowings under the line of credit had not exceeded
$2,000,000.
NOTE 7--EMPLOYEE BENEFIT PLANS:
1992 STOCK OPTION PLAN
In September 1992, the Company adopted a stock option plan (the "1992
Plan"), which authorizes the Board of Directors to grant incentive stock options
and nonstatutory stock options to employees, directors, and consultants for up
to 4,600,000 shares of common stock.
Under the 1992 Plan, incentive stock options are granted at a price that is
not to be less than 100% of the fair market value of the common stock on the
date of grant, as determined by the Board of Directors. Nonstatutory stock
options are granted at a price that is not less than 85% of the fair market
value of the common stock on the date of grant, as determined by the Board of
Directors. Options vest at 25% on the first anniversary of the date of grant and
vest in equal monthly installments over the remaining 36 months. Options granted
to stockholders who own more than 10% of the outstanding stock of the Company at
the time of grant must be issued at prices not less than 110% of the estimated
fair value of the stock on the date of grant.
F-18
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 7--EMPLOYEE BENEFIT PLANS: (CONTINUED)
1997 STOCK OPTION PLAN
In May 1997, the Company adopted a stock option plan (the "1997 Plan"),
which authorizes the Board of Directors to grant incentive stock options and
nonstatutory stock options to employees, directors and consultants for up to
2,000,000 shares of common stock. In March 1998, September 1998 and March 1999,
the 1997 Plan was amended to increase the number of authorized shares by a total
of 2,500,000 shares of common stock.
Under the 1997 Plan, all stock options are granted at a price that is not
less than 100% of the fair market value of the stock on the date of grant, as
determined by the Board of Directors. Options vest at 25% on the first
anniversary of the date of grant and vest in equal monthly installments over the
remaining 36 months. Options are exercisable for a term of ten years after the
date of grant. No options will be granted to any individual who owns more than
10% of total combined voting power of all classes of stock.
The following table summarizes stock option activity under the 1992, 1997,
and 1999 Plan (in thousands):
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
----------------------------
OPTIONS WEIGHTED AVERAGE
AVAILABLE EXERCISE PRICE
FOR GRANT SHARES PER SHARE
----------- --------- -----------------
<S> <C> <C> <C>
Balance at June 30, 1996............................... 680 2,972 $ .15
Additional shares reserved........................... 2,000 -- --
Granted.............................................. (1,420) 1,420 .15
Canceled............................................. 246 (246) .15
Exercised............................................ -- (266) .15
--------- ---------
Balance at June 30, 1997............................... 1,506 3,880 .15
Additional shares reserved........................... 500 --
Granted.............................................. (1,332) 1,332 .59
Canceled............................................. 28 (28) .15
Exercised............................................ -- (1,976) .15
--------- ---------
Balance at June 30, 1998............................... 702 3,208 .33
Additional shares reserved........................... 2,000 -- --
Granted.............................................. (2,589) 2,589 2.31
Canceled............................................. 92 (92) .80
Exercised............................................ -- (505) .27
--------- ---------
Balance at June 30, 1999............................... 205 5,200 1.32
Additional shares reserved (unaudited)............... 1,400 -- --
Granted (unaudited).................................. (365) 365 9.11
Canceled (unaudited)................................. 130 (130) 3.38
Exercised (unaudited)................................ -- (761) .63
--------- ---------
Balance at December 31, 1999 (unaudited)............... 1,340 4,704 2.02
========= =========
</TABLE>
F-19
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 7--EMPLOYEE BENEFIT PLANS: (CONTINUED)
Significant option groups outstanding at June 30, 1999, and related weighted
average exercise prices and contractual life information are as follows (shares
in thousands):
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS VESTED
------------------------------------------------------- AND EXERCISABLE
WEIGHTED AVERAGE --------------------------------
RANGE OF REMAINING WEIGHTED AVERAGE WEIGHTED AVERAGE
EXERCISE NUMBER CONTRACTUAL EXERCISE PRICE NUMBER EXERCISE PRICE
PRICES OUTSTANDING LIFE (YEARS) PER SHARE OUTSTANDING PER SHARE
- -------------------------------- ------------- --------------------- ----------------- ------------- -----------------
<S> <C> <C> <C> <C> <C>
$.15............................ 1,763 7.1 $ .15 914 $ .15
.25 - 1.00..................... 1,704 8.9 .85 208 .74
1.50 - 3.00.................... 1,510 9.7 2.75 -- --
3.50 - 4.75.................... 223 9.9 4.44 -- --
--------- ---------
5,200 1,122
========= =========
</TABLE>
DEFERRED STOCK-BASED COMPENSATION
In connection with certain employee stock option grants made since January
1998, the Company recognized deferred compensation, which is being amortized
over the vesting periods of the related options, usually four years, using an
appropriate accelerated basis. The fair value per share used to calculate
deferred compensation was derived by reference to the convertible preferred
stock values, reduced by an appropriate discount factor. Future compensation
charges are subject to reduction for any employee who terminates employment
prior to expiration of such employee's option vesting period.
The following table sets forth deferred compensation and the amortization of
deferred compensation (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------
1997 1998 1999
--------- --------- ---------
<S> <C> <C> <C>
Deferred stock-based compensation..................................... $ -- $ 773 $ 851
Amortization of deferred stock-based compensation..................... -- 111 598
</TABLE>
CONSULTANT OPTIONS
During the period from October 31, 1997 through June 30, 1999, the Company
granted options to purchase 163,100 shares of common stock to consultants in
exchange for services at exercise prices ranging from $.15 to $4.75 per share.
The Company determined the value of the options granted to consultants based
on the Black-Scholes option pricing model. The fair value of options granted to
consultants was determined using the following assumptions: expected lives of
10 years, risk free interest rates ranging from 4.45% to 5.93%, dividend yield
F-20
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 7--EMPLOYEE BENEFIT PLANS: (CONTINUED)
of .0% and volatility of 60%. The following table summarizes the fair values and
the related amortization recorded (in thousands, except per option data):
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------
1997 1998 1999
--------- --------- ---------
<S> <C> <C> <C>
Weighted average fair per share value of options granted to
consultants during the period...................................... $ -- $ 4.39 $ 4.84
Deferred stock-based compensation.................................... $ -- $ 245 $ 520
Amortization of deferred stock-based compensation.................... -- 39 179
</TABLE>
FAIR VALUE DISCLOSURES
Pro forma information regarding net loss and net loss per share is required
by SFAS No. 123, which also requires that the information be determined as if
the Company had accounted for its employee stock options granted under the fair
value method. The fair value for these options was estimated using the
Black-Scholes option pricing model.
The Black-Scholes option pricing model was developed for use in estimating
the fair value of traded options that have no vesting restrictions and are fully
transferable. In addition, option pricing models require the input of highly
subjective assumptions, including the expected stock price volatility. Because
the Company's options have characteristics significantly different from those of
options of publicly traded companies and because changes in the subjective input
assumptions can materially affect the fair value estimate, in the opinion of
management, the existing models do not necessarily provide a reliable single
measure of the fair value of options.
The fair value of options at the date of grant was estimated on the date of
grant based on the minimum value method as prescribed by SFAS No. 123. The
following table summarizes the estimated fair value of options and assumptions
used in the SFAS No. 123 calculations:
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------
1997 1998 1999
--------- --------- ---------
<S> <C> <C> <C>
Estimated fair value............................................... $ .15 $ 1.25 $ 3.17
Expected life (years).............................................. 4 4 4
Risk-free interest rate............................................ 6.66% 5.98% 5.16%
Dividend yield..................................................... -- -- --
Volatility......................................................... -- -- --
</TABLE>
F-21
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 7--EMPLOYEE BENEFIT PLANS: (CONTINUED)
Had compensation cost for the Company's stock options been determined based
on the fair value of the options at the date of grant using the minimum value
method as required by SFAS No. 123, the Company's pro forma net loss would have
been as follows:
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
--------------------------------
1997 1998 1999
--------- --------- ----------
<S> <C> <C> <C>
Net loss (in thousands):
As reported................................................ $ (1,201) $ (9,883) $ (11,769)
Pro forma.................................................. $ (1,217) $ (9,916) $ (12,392)
Basic and diluted net loss per share:
As reported................................................ $ (.21) $ (1.53) $ (1.45)
Pro forma.................................................. $ (.21) $ (1.54) $ (1.53)
</TABLE>
401(k) SAVINGS PLAN
Effective January 1, 1992, the Company adopted a salary savings plan (the
"Savings Plan") which conforms to Section 401(k) of the Internal Revenue Code of
1986, as amended (the "Code"), whereby eligible employees may contribute up to
20% of their earnings, not to exceed amounts allowed under the Code. Under the
terms of the Savings Plan, the Company may make contributions at the discretion
of the Board of Directors. As of June 30, 1999 the Company has not made any
contributions to the Savings Plan.
NOTE 8--INCOME TAXES:
The provision for income taxes is summarized as follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------
1997 1998 1999
--------- --------- ---------
<S> <C> <C> <C>
CURRENT:
Federal............................................................. $ (503) $ -- $ --
State............................................................... (17) -- --
--------- --------- ---------
(520) -- --
--------- --------- ---------
DEFERRED:
Federal............................................................. 580 89 --
--------- --------- ---------
580 89 --
--------- --------- ---------
Provision for income taxes............................................ $ 60 $ 89 $ --
========= ========= =========
</TABLE>
F-22
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 8--INCOME TAXES: (CONTINUED)
Deferred tax assets are summarized as follows (in thousands):
<TABLE>
<CAPTION>
JUNE 30,
--------------------
1998 1999
--------- ---------
<S> <C> <C>
Net operating loss carryforwards........................................... $ 3,045 $ 6,705
Research and development tax credits....................................... 375 957
Nondeductible reserves..................................................... 746 968
Depreciation and amortization.............................................. 503 456
Contract revenue........................................................... 283 128
Other...................................................................... 106 330
--------- ---------
Gross deferred tax assets.................................................. 5,058 9,544
Valuation allowance........................................................ (5,058) (9,544)
--------- ---------
Net deferred tax assets.................................................... $ -- $ --
========= =========
</TABLE>
The Company believes that, based on a number of factors, the available
objective evidence creates sufficient uncertainty regarding the realizability of
the deferred tax assets such that a full valuation allowance has been recorded.
These factors include the Company's history of losses, recent increases in
expense levels, the fact that the market in which the Company competes is
intensely competitive and characterized by rapidly changing technology, the lack
of carryback capacity to realize deferred tax assets and the uncertainty
regarding market acceptance of the Company's products. The Company will continue
to assess the realizability of the deferred tax assets based on actual and
forecasted operating results.
At June 30, 1999, the Company had net operating loss carryforwards for
federal and state income tax purposes of approximately $18,000,000 and
$10,000,000, respectively, which expire at various dates through 2019. In
addition, the Company has research and development credit carryforwards of
approximately $1,000,000 for federal and for state purposes. These carryforwards
expire in varying amounts through 2019. Under the Tax Reform Act of 1986, the
amounts of and benefits from net operating loss and tax carryforwards may be
impaired or limited in certain circumstances. Events which could cause
limitations in the amount of net operating losses that the Company may utilize
in any one year include, but are not limited to, a cumulative ownership change
of more than 50%, as defined, over a three year period. As a result of the IPO,
such a change in ownership is expected to occur.
NOTE 9--COMMITMENTS AND CONTINGENCIES
LEASES
The Company leases office space and equipment under non-cancelable operating
and capital leases with various expiration dates through 2002. Rent expense for
operating leases was as follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------
1997 1998 1999
--------- --------- ---------
<S> <C> <C> <C>
Rent expense.......................................................... $ 147 $ 173 $ 480
</TABLE>
F-23
<PAGE>
QUANTUM EFFECT DEVICES, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 9--COMMITMENTS AND CONTINGENCIES (CONTINUED)
Future minimum lease payments under non-cancelable operating and capital
leases are as follows (in thousands):
<TABLE>
<CAPTION>
OPERATING CAPITAL
LEASES LEASES
----------- -----------
<S> <C> <C>
YEAR ENDING JUNE 30,
2000................................................................... $ 517 $ 393
2001................................................................... 535 349
2002................................................................... -- 102
--------- ---------
Total minimum lease payments........................................... $ 1,052 844
=========
Less: amount representing interest..................................... (76)
---------
Present value of capital lease obligations............................. 768
Less: current portion.................................................. (342)
---------
Capital lease obligations, non-current portion......................... $ 426
=========
</TABLE>
CONTINGENCIES
From time to time, in the normal course of business, various claims are made
against the Company. In the opinion of the Company's management, there are no
pending claims, the outcome of which is expected to result in a material adverse
effect on the financial position or results of operations of the Company.
NOTE 10--SUBSEQUENT EVENTS
INITIAL PUBLIC OFFERING
On September 1, 1999, the Company's Board of Directors authorized management
of the Company to file a Registration Statement with the Securities and Exchange
Commission permitting the Company to sell its common stock to the public.
REINCORPORATION
On December 28, 1999, the Company was reincorporated in the State of
Delaware. All share information included in these financial statements has been
adjusted to reflect this reincorporation.
EMPLOYEE BENEFIT PLANS
On September 1, 1999, the Board of Directors authorized establishment of the
1999 Equity Incentive Plan with 1,400,000 shares newly authorized, the 1999
Non-Employee Directors' Stock Option Plan with 200,000 shares newly authorized,
and the 1999 Employee Stock Purchase Plan with 300,000 shares reserved for
issuance. The 1999 Non-Employee Directors' Stock Option Plan and 1999 Employee
Stock Purchase Plan will become effective upon the closing of the IPO. Each of
the plans was approved by the stockholders in November 1999.
FACILITIES LEASE
On August 16, 1999, the Company entered into an additional five-year
facilities lease to commence on November 1, 1999. The annual lease payments will
amount to approximately $687,000.
F-24
<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 registrant in connection
with the distribution of the common stock being registered. All amounts are
estimated, except the SEC Registration Fee, the NASD Filing Fee and the Nasdaq
National Market Filing Fee:
<TABLE>
<S> <C>
SEC Registration Fee.............................................. $ 13,553
NASD Filing Fee................................................... 6,683
Nasdaq National Market Initial Filing Fee......................... 90,000
Blue Sky Fees and Expenses........................................ 15,000
Accounting Fees................................................... 200,000
Legal Fees and Expenses........................................... 350,000
Transfer Agent and Registrar Fees................................. 10,000
Printing and Engraving............................................ 250,000
Miscellaneous..................................................... 14,764
---------
Total......................................................... $ 950,000
=========
</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, indemnity to directors
and officers in terms sufficiently broad to permit such indemnification under
certain circumstances for liabilities (including reimbursement for expenses
incurred) arising under the Securities Act of 1933, as amended (the "Act").
Article VI of the Registrant's Amended and Restated Certificate of Incorporation
provides for indemnification of its directors to the maximum extent permitted by
the Delaware General Corporation Law and Section 43 of Article XI of the
Registrant's Bylaws provides for indemnification of its directors, officers,
employees and other agents to the maximum extent permitted by the Delaware
General Corporation Law. In addition, the Registrant intends to enter into
Indemnification Agreements with each director and certain officers containing
provisions which are in some respects broader than the specific indemnification
provisions contained in the Delaware General Corporation Law. The
indemnification agreements may require the Company, among other things, to
indemnify its directors against certain liabilities that may arise by reason of
their status or service as directors (other than liabilities arising from
willful misconduct of culpable nature), to advance their expenses incurred as a
result of any proceeding against them as to which they could be indemnified, and
to obtain directors' insurance if available on reasonable terms. Reference is
also made to Sections 7 and 8 of the Underwriting Agreement contained in
Exhibit 1.1 hereto, indemnifying officers and directors of the Company against
certain liabilities.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
Since inception, we have sold and issued the following unregistered
securities:
(1) From May 1, 1992 to September 1999, we granted stock options to purchase
an aggregate of 9,090,855 shares of common stock at exercise prices ranging from
$0.15 to $10.00 per share to employees, consultants, directors and other service
providers pursuant to our 1992 and 1997 Stock Option Plans.
(2) On November 15, 1991, we sold 800,000 shares of common stock to each of
our founders, Earl Killian, Raymond Kunita and Thomas J. Riordan. The price per
share of $0.001 for an aggregate purchase price of $2,400.
II-1
<PAGE>
(3) On November 15, 1991, we sold 2,200,000 shares of our common stock to
Integrated Device Technology, Inc. under a stock purchase agreement at a price
per share of $0.001 for an aggregate purchase price of $2,200.
(4) On March 1, 1999, we sold 237,500 shares of our common stock and
1,047,454 shares of our Series D preferred stock to Cisco Systems, Inc. for an
aggregate purchase price of $5,000,001.
(5) On January 24, 1992, we sold an aggregate of 1,800,000 shares of
Series A preferred stock to two purchasers at a price per share of $1.40 for an
aggregate purchase price of $2,520,000.
(6) On August 18, 1995, we sold an aggregate of 2,500,000 shares of
Series B preferred stock to two purchasers at a price per share of $2.40 for an
aggregate purchase price of $6,000,000.
(7) On April 16, 1998 and May 15, 1998, we sold an aggregate of 4,800,000
shares of Series C preferred stock to 37 purchasers at a price per share of
$2.50 for an aggregate purchase price of $12,000,000.
(8) On March 1, 1999 and March 16, 1999, we sold an aggregate of 4,518,837
shares of Series D preferred stock to 28 purchasers at a price per share of
$4.32 for an aggregate purchase price of $19,521,376.
The sales and issuances of securities described in paragraphs (1) and (2)
above were deemed to be exempt from registration under the Securities Act by
virtue of Rule 701 of the Securities Act in that they were offered and sold
either pursuant to a written compensatory benefit plan or pursuant to a written
contract relating to compensation, as provided by Rule 701.
The sales and issuances of securities described in paragraphs (3) through
(8) above were deemed to be exempt from registration under the Securities Act by
virtue of Rule 4(2) or Rule 506 under Regulation D promulgated thereunder.
Appropriate legends are affixed to the stock certificates issued in the
aforemention transactions. Similar legends were imposed in connection with any
subsequent sales of any such securities. All recipients either received adequate
information about us or had access, through employment or other relationships,
to such information.
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
<TABLE>
<S> <C>
1.1 Form of Underwriting Agreement
3.1+ Amended and Restated Certificate of Incorporation of the Registrant
3.2+ Form of Second Amended and Restated Certificate of Incorporation of the Registrant
to be filed upon the closing of the offering made pursuant to this registration
statement
3.3+ Bylaws of the Registrant
4.1+ Specimen Common Stock Certificate
4.2+ Warrant to purchase Series B Preferred Stock, issued by Quantum Effect
Design, Inc. to Comdisco, Inc., dated September 30, 1997
4.3+ Warrant to purchase Series B Preferred Stock, issued by Quantum Effect
Design, Inc. to Comdisco, Inc., dated September 30, 1997
4.4+ Warrant to purchase Series C Preferred Stock, issued by Quantum Effect
Design, Inc. to Comdisco, Inc., dated July 24, 1998
4.5+ Warrant to purchase Common Stock, issued by Quantum Effect Design, Inc. to Venture
Lending & Leasing II, Inc., dated January 11, 1999
4.6+ Amended and Restated Investors' Rights Agreement dated March 16, 1999
</TABLE>
II-2
<PAGE>
<TABLE>
<S> <C>
5.1 Opinion of Cooley Godward LLP
10.1+ Form of Indemnity Agreement between the Registrant and its directors and officers.
10.2+ 1999 Equity Incentive Plan, Form of 1999 Equity Incentive Plan Stock Option
Agreement, Form of Stock Option Grant Notice and Form of 1999 Equity Incentive
Plan Notice of Exercise
10.3+ 1999 Employee Stock Purchase Plan and Form of Offering Document
10.4+ 1999 Non-Employee Directors' Stock Option Plan and Form of Nonstatutory Stock
Option Agreement and Notice of Exercise
10.5+ Commercial Lease Agreement, by and between Peachtree Associates and Quantum Effect
Design, Inc., dated March 22, 1999
10.6+ Lease Agreement, by and among John Arrillaga, Richard Peery and Quantum Effect
Design, Inc., dated December 3, 1998; Amendment No. 1 to Lease Agreement dated
December 3, 1998, by and among John Arrillaga, Richard Perry and Quantum Effect
Design, Inc., dated August 16, 1999
10.7+ Lease Agreement, by and among John Arrillaga, Richard Peery and Quantum Effect
Design, Inc., dated September 14, 1994; Amendment No. 1 to Lease Agreement dated
September 14, 1994, by and among John Arrillaga, Richard Peery and Quantum
Effect Design, Inc., dated February 11, 1998; Amendment No. 2 to Lease Agreement
dated September 14, 1994, by and among John Arrillaga, Richard Peery and Quantum
Effect Design, Inc., dated December 3, 1998; Amendment No. 3 to Lease Agreement
dated September 14, 1994, by and among John Arrillaga, Richard Perry and Quantum
Effect Design, Inc., dated August 16, 1999
10.8+ Lease Agreement, by and among John Arrillaga, Richard Perry and Quantum Effect
Design, Inc., dated August 16, 1999
10.9**+ Technology License Agreement, by and between Weitek Corporation and MIPS Computer
Systems, Inc., dated June 29, 1990; Assignment Agreement, by and between Weitek
Corporation and Quantum Effect Design, Inc., dated June 19, 1996; Amendment
No. 1 to the Technology License Agreement, by and between MIPS Technology, Inc.
and Quantum Effect Design, Inc., dated March 31, 1997
10.10**+ Agreement for Purchase and Sale of Custom Semiconductor Products, by and between
IBM Corporation and Quantum Effect Design, Inc., dated September 4, 1997;
Amendment 1 to the Agreement for Purchase and Sale of Custom Semiconductor
Products with Agreement No. X0468, by and between IBM Corporation and Quantum
Effect Devices, Inc., effective November 15, 1999
10.11**+ Development and License Agreement, by and between Integrated Device
Technology, Inc. and Quantum Effect Design, Inc., dated January 13, 1992
10.12**+ Development Agreement, by and between Integrated Device Technology, Inc. and
Quantum Effect Design, Inc., dated June 12, 1996
10.13+ 1997 Stock Option Agreement, by and between Barry L. Cox and Quantum Effect
Design, Inc.
10.14+ 1997 Stock Option Agreement, by and between Howard M. Bailey and Quantum Effect
Design, Inc.
23.1 Consent of PricewaterhouseCoopers LLP, independent accountants
23.2 Consent of Cooley Godward LLP (included in Exhibit 5.1)
24.1+ Power of Attorney (See signature pages)
27.1+ Financial Data Schedule
</TABLE>
- ------------------------
** Confidential treatment has been requested with respect to portions of this
exhibit.
+ Previously filed.
II-3
<PAGE>
(b) Financial Statement Schedules
ITEM 17. UNDERTAKINGS
The undersigned Registrant hereby undertakes to provide to the Underwriters
at the closing specified in the Underwriting Agreement, certificates in such
denominations and registered in such names as required by the Underwriters to
permit prompt delivery to each purchaser.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 (the "Act") may be permitted to directors, officers, and controlling
persons of the Registrant pursuant to the foregoing provisions, or otherwise,
the Registrant has been advised that in the opinion of the 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 the
Registrant of expenses incurred or paid by a director, officer or controlling
person of the Registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the Registrant will, unless in
the opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question 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.
The undersigned Registrant hereby undertakes 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 the
Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Act shall be
deemed to be a part of this Registration Statement as of the time it was
declared effective.
(2) For purposes 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-4
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, Registrant has
duly caused this Amendment to the Registration Statement to be signed on its
behalf, by the undersigned, thereunto duly authorized, in the City of Santa
Clara, County of Santa Clara, State of California, on January 24, 2000.
QUANTUM EFFECT DEVICES, INC.
By: *
-----------------------------------------
Thomas J. Riordan
CHIEF EXECUTIVE OFFICER, PRESIDENT AND
DIRECTOR
Pursuant to the requirements of the Securities Act of 1933, this Amendment
to the Registration Statement on Form S-1 has been signed by the following
persons in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
- ------------------------------ -------------------------- -------------------
Chief Executive Officer,
* President and Director
- ------------------------------ (Principal Executive January 24, 2000
Thomas J. Riordan Officer)
/s/ HOWARD M. BAILEY Chief Financial Officer
- ------------------------------ (Principal Financial and January 24, 2000
Howard M. Bailey Accounting Officer)
*
- ------------------------------ Chairman of the Board of January 24, 2000
Barry L. Cox Directors
*
- ------------------------------ Director January 24, 2000
Bruce K. Graham
*
- ------------------------------ Director January 24, 2000
Christopher J. Schaepe
*
- ------------------------------ Director January 24, 2000
Lester M. Crudele
<TABLE>
<S> <C> <C> <C>
*By: /s/ HOWARD M. BAILEY January 24, 2000
-------------------------
Howard M. Bailey
ATTORNEY-IN-FACT
</TABLE>
II-5
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------------------------------------------------------------------------------------------------
<S> <C>
1.1 Form of Underwriting Agreement
3.1+ Amended and Restated Certificate of Incorporation of the Registrant
3.2+ Form of Second Amended and Restated Certificate of Incorporation of the Registrant to be filed upon
the closing of the offering made pursuant to this registration statement
3.3+ Bylaws of the Registrant
4.1+ Specimen Common Stock Certificate
4.2+ Warrant to purchase Series B Preferred Stock, issued by Quantum Effect Design, Inc. to
Comdisco, Inc., dated September 30, 1997
4.3+ Warrant to purchase Series B Preferred Stock, issued by Quantum Effect Design, Inc. to
Comdisco, Inc., dated September 30, 1997
4.4+ Warrant to purchase Series C Preferred Stock, issued by Quantum Effect Design, Inc. to
Comdisco, Inc., dated July 24, 1998
4.5+ Warrant to purchase Common Stock, issued by Quantum Effect Design, Inc. to Venture Lending & Leasing
II, Inc., dated January 11, 1999
4.6+ Amended and Restated Investors' Rights Agreement dated March 16, 1999
5.1 Opinion of Cooley Godward LLP
10.1+ Form of Indemnity Agreement between the Registrant and its directors and officers.
10.2+ 1999 Equity Incentive Plan, Form of 1999 Equity Incentive Plan Stock Option Agreement, Form of Stock
Option Grant Notice and Form of 1999 Equity Incentive Plan Notice of Exercise
10.3+ 1999 Employee Stock Purchase Plan and Form of Offering Document
10.4+ 1999 Non-Employee Directors' Stock Option Plan and Form of Nonstatutory Stock Option Agreement and
Notice of Exercise
10.5+ Commercial Lease Agreement, by and between Peachtree Associates and Quantum Effect Design, Inc.,
dated March 22, 1999
10.6+ Lease Agreement, by and among John Arrillaga, Richard Peery and Quantum Effect Design, Inc., dated
December 3, 1998; Amendment No. 1 to Lease Agreement dated December 3, 1998, by and among John
Arrillaga, Richard Perry and Quantum Effect Design, Inc., dated August 16, 1999
10.7+ Lease Agreement, by and among John Arrillaga, Richard Peery and Quantum Effect Design, Inc., dated
September 14, 1994; Amendment No. 1 to Lease Agreement dated September 14, 1994, by and among John
Arrillaga, Richard Peery and Quantum Effect Design, Inc., dated February 11, 1998; Amendment No. 2
to Lease Agreement dated September 14, 1994, by and among John Arrillaga, Richard Peery and Quantum
Effect Design, Inc., dated December 3, 1998; Amendment No. 3 to Lease Agreement dated
September 14, 1994, by and among John Arrillaga, Richard Perry and Quantum Effect Design, Inc.,
dated August 16, 1999
10.8+ Lease Agreement, by and among John Arrillaga, Richard Perry and Quantum Effect Design, Inc., dated
August 16, 1999
10.9**+ Technology License Agreement, by and between Weitek Corporation and MIPS Computer Systems, Inc.,
dated June 29, 1990; Assignment Agreement, by and between Weitek Corporation and Quantum Effect
Design, Inc., dated June 19, 1996; Amendment No. 1 to the Technology License Agreement, by and
between MIPS Technology, Inc. and Quantum Effect Design, Inc., dated March 31, 1997
10.10**+ Agreement for Purchase and Sale of Custom Semiconductor Products, by and between IBM Corporation and
Quantum Effect Design, Inc., dated September 4, 1997; Amendment 1 to the Agreement for Purchase and
Sale of Custom Semiconductor Products with Agreement No. X0468, by and between IBM Corporation and
Quantum Effect Devices, Inc., effective November 15, 1999
10.11**+ Development and License Agreement, by and between Integrated Device Technology, Inc. and Quantum
Effect Design, Inc., dated January 13, 1992
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
--------- -----------------------------------------------------------------------------------------------------
<S> <C>
10.12**+ Development Agreement, by and between Integrated Device Technology, Inc. and Quantum Effect
Design, Inc., dated June 12, 1996
10.13+ 1997 Stock Option Agreement, by and between Barry L. Cox and Quantum Effect Design, Inc.
10.14+ 1997 Stock Option Agreement, by and between Howard M. Bailey and Quantum Effect Design, Inc.
23.1 Consent of PricewaterhouseCoopers LLP, independent accountants
23.2 Consent of Cooley Godward LLP (included in Exhibit 5.1)
24.1+ Power of Attorney (See signature pages)
27.1+ Financial Data Schedule
</TABLE>
- ------------------------
** Confidential treatment has been requested with respect to portions of this
exhibit.
+ Previously filed.
<PAGE>
3,720,000 SHARES
QUANTUM EFFECT DEVICES, INC.
COMMON STOCK, $.001 PAR VALUE
UNDERWRITING AGREEMENT
___________, 2000
<PAGE>
___________, 2000
Morgan Stanley & Co. Incorporated
BancBoston Robertson Stephens Inc.
Lehman Brothers Inc.
c/o Morgan Stanley & Co. Incorporated
1585 Broadway
New York, New York 10036
Dear Sirs and Mesdames:
Quantum Effect Devices, Inc., a Delaware corporation (the
"COMPANY"), proposes to issue and sell to the several Underwriters named in
Schedule II hereto (the "UNDERWRITERS") and a stockholder of the Company (the
"SELLING STOCKHOLDER") named in Schedule I hereto severally propose to sell to
the Underwriters, an aggregate of 3,720,000 shares of its Common Stock, $.001
par value (the "FIRM SHARES"), of which 3,000,000 shares are to be issued and
sold by the Company and 720,000 shares are to be sold by the Selling
Stockholder.
The Company also proposes to issue and sell to the several
Underwriters, and the Selling Stockholder proposes to sell to the Underwriters,
not more than an additional 558,000 shares of its Common Stock, $.001 par value
(the "ADDITIONAL SHARES"), of which 450,000 shares are to be issued and sold by
the Company and 108,000 shares are to be sold by the Selling Stockholder, if and
to the extent that you, as Managers of the offering, shall have determined to
exercise, on behalf of the Underwriters, the right to purchase such shares of
common stock granted to the Underwriters in Section 2 hereof. The Firm Shares
and the Additional Shares are hereinafter collectively referred to as the
"SHARES." The shares of common stock, $.001 par value, of the Company to be
outstanding after giving effect to the sales contemplated hereby are hereinafter
referred to as the "COMMON STOCK." The Company and the Selling Stockholder are
hereinafter sometimes collectively referred to as the "SELLERS."
The Company has filed with the Securities and Exchange
Commission (the "COMMISSION") a registration statement, including a prospectus,
relating to the Shares. The registration statement as amended at the time it
becomes effective, including the information (if any) deemed to be part of the
registration statement at the time of effectiveness pursuant to Rule 430A under
the Securities Act of 1933, as amended (the "SECURITIES ACT"), is hereinafter
referred to as the "REGISTRATION STATEMENT;" the prospectus in the form first
used to confirm sales of Shares is hereinafter referred to as the "PROSPECTUS."
If the Company has filed an abbreviated registration statement to register
additional shares of Common Stock pursuant to Rule 462(b) under the Securities
Act (the "RULE 462 REGISTRATION STATEMENT"), then any reference herein to the
term "REGISTRATION STATEMENT" shall be deemed to include such Rule 462
Registration Statement.
<PAGE>
Morgan Stanley & Co. Incorporated and its affiliates ("MORGAN
STANLEY") have agreed to reserve a portion of the Shares to be purchased by them
under this Agreement for sale to the Company's directors, officers, employees
and business associates and other parties associated with the Company
(collectively, "PARTICIPANTS"), as set forth in the Prospectus under the heading
"Underwriters" (the "DIRECTED SHARE PROGRAM"). The Shares to be sold by Morgan
Stanley pursuant to the Directed Share Program are referred to hereinafter as
the "DIRECTED SHARES." Any Directed Shares not orally confirmed for purchase by
any Participant by the end of the business day following the day on which this
Agreement is executed will be offered to the public by the Underwriters as set
forth in the Prospectus.
1. REPRESENTATIONS AND WARRANTIES. The Company represents and
warrants to and agrees with each of the Underwriters that:
(a) The Registration Statement has become effective; no stop
order suspending the effectiveness of the Registration Statement is in
effect, and no proceedings for such purpose are pending before or
threatened by the Commission.
(b) (i) The Registration Statement, when it became effective,
did not contain and, as amended or supplemented, if applicable, will
not contain (as of the date of such amendment or supplement, as
applicable) any untrue statement of a material fact or omit to state a
material fact required to be stated therein or necessary to make the
statements therein not misleading, (ii) the Registration Statement and
the Prospectus comply and, as amended or supplemented, if applicable,
will comply (as of the date of such amendment or supplement, as
applicable) in all material respects with the Securities Act and the
applicable rules and regulations of the Commission thereunder and (iii)
the Prospectus does not contain and, as amended or supplemented, if
applicable, will not contain (as of the date of such amendment or
supplement, as applicable) any untrue statement of a material fact or
omit to state a material fact necessary to make the statements therein,
in the light of the circumstances under which they were made, not
misleading, except that the representations and warranties set forth in
this paragraph do not apply to statements or omissions in the
Registration Statement or the Prospectus based upon information
relating to any Underwriter furnished to the Company in writing by such
Underwriter through you expressly for use therein.
(c) The Company has been duly incorporated, is validly
existing as a corporation in good standing under the laws of the
jurisdiction of its incorporation, has the corporate power and
authority to own its property and to conduct its business as described
in the Prospectus and is duly qualified to transact business and is in
good standing in each jurisdiction in which the conduct of its business
or its ownership or leasing of property requires such qualification,
except to the extent that the failure to be so qualified or be in good
standing would not have a material adverse effect on the Company.
(d) The Company has no subsidiaries and does not own any
equity interest in any other corporation, partnership, limited
liability company or other entity.
2
<PAGE>
(e) This Agreement has been duly authorized, executed and
delivered by the Company.
(f) The authorized capital stock of the Company conforms as to
legal matters to the description thereof contained in the Prospectus.
(g) The shares of Common Stock outstanding prior to the
issuance of the Shares have been duly authorized and are validly
issued, fully paid and non-assessable.
(h) The Shares have been duly authorized and, when issued and
delivered in accordance with the terms of this Agreement, will be
validly issued, fully paid and non-assessable, and the issuance of such
Shares will not be subject to any preemptive or similar rights.
(i) The execution and delivery by the Company of, and the
performance by the Company of its obligations under, this Agreement
will not contravene any provision of applicable law or the certificate
of incorporation or by-laws of the Company or any agreement or other
instrument binding upon the Company that is material to the Company, or
any judgment, order or decree of any governmental body, agency or court
having jurisdiction over the Company and no consent, approval,
authorization or order of, or qualification with, any governmental body
or agency is required for the performance by the Company of its
obligations under this Agreement, except such as may be required by the
securities or Blue Sky laws of the various states in connection with
the offer and sale of the Shares and by the National Association of
Securities Dealers, Inc. with respect to the fairness of the
underwriting compensation in connection with the offer and sale of the
Shares.
(j) There has not occurred any material adverse change, or any
development involving a prospective material adverse change, in the
condition, financial or otherwise, or in the earnings, business or
operations of the Company, from that set forth in the Prospectus
(exclusive of any amendments or supplements thereto subsequent to the
date of this Agreement).
(k) There are no legal or governmental proceedings pending or,
to the Company's knowledge, threatened to which the Company is a party
or to which any of the properties of the Company is subject that are
required to be described in the Registration Statement or the
Prospectus and are not so described or any statutes, regulations,
contracts or other documents that are required to be described in the
Registration Statement or the Prospectus or to be filed as exhibits to
the Registration Statement that are not described or filed as required.
(l) Each preliminary prospectus filed as part of the
registration statement as originally filed or as part of any amendment
thereto, or filed pursuant to Rule 424 under the Securities Act,
complied when so filed in all material respects with the Securities Act
and the applicable rules and regulations of the Commission thereunder
except for the
3
<PAGE>
omission of price range and other information derived
therefrom to the extent such information was omitted from the initial
filing of the registration statement.
(m) The Company is not and, after giving effect to the
offering and sale of the Shares and the application of the proceeds
thereof as described in the Prospectus, will not be required to
register as an "investment company" as such term is defined in the
Investment Company Act of 1940, as amended.
(n) The Company (i) is in compliance with any and all
applicable foreign, federal, state and local laws and regulations
relating to the protection of human health and safety, the environment
or hazardous or toxic substances or wastes, pollutants or contaminants
("ENVIRONMENTAL LAWS"), (ii) has received all permits, licenses or
other approvals required of them under applicable Environmental Laws to
conduct their respective businesses and (iii) is in compliance with all
terms and conditions of any such permit, license or approval, except
where such noncompliance with Environmental Laws, failure to receive
required permits, licenses or other approvals or failure to comply with
the terms and conditions of such permits, licenses or approvals would
not, singly or in the aggregate, have a material adverse effect on the
Company.
(o) There are no costs or liabilities associated with
Environmental Laws (including, without limitation, any capital or
operating expenditures required for clean-up, closure of properties or
compliance with Environmental Laws or any permit, license or approval,
any related constraints on operating activities and any potential
liabilities to third parties) which would, singly or in the aggregate,
have a material adverse effect on the Company.
(p) There are no contracts, agreements or understandings
between the Company and any person granting such person the right to
require the Company to file a registration statement under the
Securities Act with respect to any securities of the Company or to
require the Company to include such securities with the Shares
registered pursuant to the Registration Statement, except such as have
been validly waived.
(q) The Company has complied with all provisions of Section
517.075, Florida Statutes relating to doing business with the
Government of Cuba or with any person or affiliate located in Cuba.
(r) Subsequent to the respective dates as of which information
is given in the Registration Statement and the Prospectus, (1) the
Company has not incurred any material liability or obligations, direct
or contingent, nor entered into any material transaction not in the
ordinary course of business; (2) the Company has not purchased any of
its outstanding capital stock, nor declared, paid or otherwise made any
dividend or distribution of any kind on its capital stock other than
ordinary and customary dividends; and (3) there has not been any
material change in the capital stock, short-term debt or long-term debt
of the Company, except in each case as described in the Prospectus.
4
<PAGE>
(s) The Company has good and marketable title in fee simple to
all real property and good and marketable title to all personal
property owned by it which is material to the business of the Company,
in each case free and clear of all liens, encumbrances and defects
except such as are described in the Prospectus or such as do not
materially affect the value of such property and do not materially
interfere with the use made and proposed to be made of such property by
the Company; and any real property and buildings held under lease by
the Company are held by it under valid, subsisting and enforceable
leases with such exceptions as are not material and do not materially
interfere with the use made and proposed to be made of such property
and buildings by the Company, in each case except as described in the
Prospectus.
(t) The Company owns or possesses, or can acquire on
reasonable terms, all material patents, patent rights, licenses,
inventions, copyrights, know-how (including trade secrets and other
unpatented and/or unpatentable proprietary or confidential information,
systems or procedures), trademarks, service marks and trade names
currently employed by it in connection with the business now operated
by it, and the Company has not received any notice of infringement of
or conflict with asserted rights of others with respect to any of the
foregoing which, singly or in the aggregate, if the subject of an
unfavorable decision, ruling or finding, would have a material adverse
effect on the Company.
(u) No material labor dispute with the employees of the
Company exists, except as described in the Prospectus, or, to the
knowledge of the Company, is imminent; and the Company is not aware of
any existing, threatened or imminent labor disturbance by the employees
of any its principal suppliers, manufacturers or contractors that could
reasonably be expected to have a material adverse effect on the
Company.
(v) The Company is insured by insurers of recognized financial
responsibility against such losses and risks and in such amounts as are
prudent and customary in the businesses in which it is engaged; the
Company has not been refused any insurance coverage sought or applied
for; and the Company has no reason to believe that it will not be able
to renew its existing insurance coverage as and when such coverage
expires or to obtain similar coverage from similar insurers as may be
necessary to continue its business at a cost that would not have a
material adverse effect on the Company, except as described in the
Prospectus.
(w) The Company possess all certificates, authorizations and
permits issued by the appropriate federal, state or foreign regulatory
authorities necessary to conduct its business as described in the
Prospectus, and the Company has not received any notice of proceedings
relating to the revocation or modification of any such certificate,
authorization or permit which, singly or in the aggregate, if the
subject of an unfavorable decision, ruling or finding, could reasonably
be expected to have a material adverse effect on the Company, except as
described in the Prospectus.
5
<PAGE>
(x) The Company maintains a system of internal accounting
controls sufficient to provide reasonable assurance that (1)
transactions are executed in accordance with management's general or
specific authorizations; (2) transactions are recorded as necessary to
permit preparation of financial statements in conformity with generally
accepted accounting principles and to maintain asset accountability;
(3) access to assets is permitted only in accordance with management's
general or specific authorization; and (4) the recorded accountability
for assets is compared with the existing assets at reasonable intervals
and appropriate action is taken with respect to any differences.
(y) The Company has reviewed its operations to evaluate the
extent to which the business or operations of the Company will be
affected by the Year 2000 Problem (that is, any significant risk that
computer hardware or software applications used by the Company and its
subsidiaries will not, in the case of dates or time periods occurring
after December 31, 1999, function at least as effectively as in the
case of dates or time periods occurring prior to January 1, 2000); as a
result of such review, (i) the Company does not believe, that (A) there
are any issues related to the Company's preparedness to address the
Year 2000 Problem that are of a character required to be described or
referred to in the Registration Statement or Prospectus which have not
been accurately described in the Registration Statement or Prospectus
and (B) the Year 2000 Problem will have a material adverse effect on
the condition, financial or otherwise, or on the earnings, business or
operations of the Company, or result in any material loss or
interference with the business or operations of the Company; and (ii)
the Company believes that the suppliers, vendors, customers or other
material third parties used or served by the Company are addressing or
will address the Year 2000 Problem in a timely manner, except to the
extent that a failure to address the Year 2000 Problem by any supplier,
vendor, customer or material third party would not have a material
adverse effect on the condition, financial or otherwise, or on the
earnings, business or operations of the Company.
(z) As of the date the Registration Statement became
effective, the Common Stock was authorized for listing on the Nasdaq
National Market upon official notice of issuance.
(aa) Substantially all of the outstanding shares of Common
Stock, and all securities convertible into or exercisable or
exchangeable for Common Stock, are subject to agreements (collectively,
the "LOCK-UP AGREEMENTS") in substantially the form attached as Exhibit
A.
(bb) Furthermore, the Company represents and warrants to
Morgan Stanley that (i) the Registration Statement, the Prospectus and
any preliminary prospectus comply, and any further amendments or
supplements thereto will comply, with any applicable laws or
regulations of foreign jurisdictions in which the Prospectus or any
preliminary prospectus, as amended or supplemented, if applicable, are
distributed in connection with the Directed Share Program, and that
(ii) no authorization, approval, consent, license, order, registration
or qualification of or with any government, governmental
instrumentality or court, other than such as have been obtained, is
necessary under the
6
<PAGE>
securities laws and regulations of foreign jurisdictions in which the
Directed Shares are offered outside the United States.
(cc) The Company has not offered, or caused Morgan Stanley and
its affiliates to offer, Shares to any person pursuant to the Directed
Share Program with the specific intent to unlawfully influence (i) a
customer or supplier of the Company to alter the customer's or
supplier's level or type of business with the Company, or (ii) a trade
journalist or publication to write or publish favorable information
about the Company or its products.
2. REPRESENTATIONS AND WARRANTIES OF THE SELLING STOCKHOLDER.
The Selling Stockholder represents and warrants to and agrees with each of the
Underwriters that:
(a) This Agreement has been duly authorized, executed and
delivered by or on behalf of such Selling Stockholder.
(b) The execution and delivery by such Selling Stockholder of,
and the performance by such Selling Stockholder of its obligations
under, this Agreement, the Custody Agreement signed by such Selling
Stockholder and ____________, as Custodian, relating to the deposit of
the Shares to be sold by such Selling Stockholder (the "CUSTODY
AGREEMENT") and the Power of Attorney appointing certain individuals as
such Selling Stockholder's attorneys-in-fact to the extent set forth
therein, relating to the transactions contemplated hereby and by the
Registration Statement (the "POWER OF ATTORNEY") will not contravene
any provision of applicable law, or the certificate of incorporation or
by-laws of such Selling Stockholder, or any agreement or other
instrument binding upon such Selling Stockholder or any judgment, order
or decree of any governmental body, agency or court having jurisdiction
over such Selling Stockholder, and no consent, approval, authorization
or order of, or qualification with, any governmental body or agency is
required for the performance by such Selling Stockholder of its
obligations under this Agreement or the Custody Agreement or Power of
Attorney of such Selling Stockholder, except such as may be required by
the securities or Blue Sky laws of the various states in connection
with the offer and sale of the Shares.
(c) Such Selling Stockholder has, and on the Closing Date will
have, valid title to the Shares to be sold by such Selling Stockholder
and the legal right and power, and all authorization and approval
required by law, to enter into this Agreement, the Custody Agreement
and the Power of Attorney and to sell, transfer and deliver the Shares
to be sold by such Selling Stockholder.
(d) The Shares to be sold by such Selling Stockholder pursuant
to this Agreement have been fully paid.
(e) The Custody Agreement and the Power of Attorney have been
duly authorized, executed and delivered by such Selling Stockholder and
are valid and binding agreements of such Selling Stockholder.
7
<PAGE>
(f) Delivery of the Shares to be sold by such Selling
Stockholder pursuant to this Agreement will pass title to such Shares
free and clear of any security interests, claims, liens, equities and
other encumbrances.
(g) All information furnished in writing by the Selling
Stockholder for use in the Registration Statement is, and on the
Closing Date will be, true, correct, and complete, and does not, and on
the Closing Date will not, contain any untrue statement of a material
fact or omit to state any material fact necessary to make such
information not misleading, and all information furnished in writing by
the Selling Stockholder for use in the Prospectus is, and on the
Closing Date will be, true, correct, and complete, and does not, and on
the Closing Date will not, contain any untrue statement or a material
fact or omit to state any material fact necessary to make such
information not misleading in the light of the circumstances under
which they were made.
(h) (i) the section of the Registration Statement entitled
"Certain Transactions--Agreements with IDT" and the sections of the
Registration Statement entitled "Certain Transactions--Financing
Transactions" and "Principal and Selling Stockholder" as they relate to
IDT, when it became effective, did not contain and, as amended or
supplemented, if applicable, will not contain any untrue statement of a
material fact or omit to state a material fact required to be stated
therein or necessary to make the statements therein not misleading, and
(ii) the sections of the Prospectus entitled "Certain
Transactions--Agreements with IDT" and the sections of the Prospectus
entitled "Certain Transactions--Financing Transactions" and "Principal
and Selling Stockholder" as they relate to IDT, did not contain and, as
amended or supplemented, if applicable, will not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements therein, in the light of the circumstances under
which they were made, not misleading.
3. AGREEMENTS TO SELL AND PURCHASE. Each Seller, severally and
not jointly, hereby agrees to sell to the several Underwriters, and each
Underwriter, upon the basis of the representations and warranties herein
contained, but subject to the conditions hereinafter stated, agrees, severally
and not jointly, to purchase from such Seller the respective numbers of Firm
Shares set forth in Schedule II hereto opposite its name at $__.__ a share (the
"PURCHASE PRICE").
On the basis of the representations and warranties
contained in this Agreement, and subject to its terms and conditions, the
Sellers severally and not jointly agree to sell to the Underwriters the
Additional Shares, and the Underwriters shall have a one-time right to
purchase, severally and not jointly, up to 558,000 Additional Shares at the
Purchase Price. If you, on behalf of the Underwriters, elect to exercise such
option, you shall so notify the Company and the attorney-in-fact for the
Selling Stockholder in writing not later than 30 days after the date of this
Agreement, which notice shall specify the number of Additional Shares to be
purchased by the Underwriters and the date on which such shares are to be
purchased. Such date may be the same as the Closing Date (as defined below)
but not earlier than the Closing Date nor later than ten business days after
the date of such notice. Additional Shares may be
8
<PAGE>
purchased as provided in Section 5 hereof solely for the purpose of covering
over-allotments made in connection with the offering of the Firm Shares. If
any Additional Shares are to be purchased, each Underwriter agrees, severally
and not jointly, to purchase the number of Additional Shares (subject to such
adjustments to eliminate fractional shares as you may determine) that bears
the same proportion to the total number of Additional Shares to be purchased
as the number of Firm Shares set forth in Schedule II hereto opposite the
name of such Underwriter bears to the total number of Firm Shares.
Each Seller hereby agrees that, without the prior written
consent of Morgan Stanley & Co. Incorporated on behalf of the Underwriters, it
will not, during the period ending 180 days after the date of the Prospectus,
(i) offer, pledge, sell, contract to sell, sell any option or contract to
purchase, purchase any option or contract to sell, grant any option, right or
warrant to purchase, lend, or otherwise transfer or dispose of, directly or
indirectly, any shares of Common Stock or any securities convertible into or
exercisable or exchangeable for Common Stock or (ii) enter into any swap or
other arrangement that transfers to another, in whole or in part, any of the
economic consequences of ownership of the Common Stock, whether any such
transaction described in clause (i) or (ii) above is to be settled by delivery
of Common Stock or such other securities, in cash or otherwise. The foregoing
sentence shall not apply to (A) the Shares to be sold hereunder; (B) the
issuance by the Company of shares of Common Stock upon the exercise of an option
or warrant or the conversion of a security outstanding on the date hereof as
described in the Registration Statement or of which the Underwriters have been
advised in writing; (C) the grant of options to purchase Common Stock pursuant
to the 1999 Equity Incentive Plan or 1999 Non-Employee Directors Stock Option
Plan and the issuance of shares upon the exercise of such options; and (D) the
issuance by the Company of shares of Common Stock pursuant to the 1999 Employee
Stock Purchase Plan.
4. TERMS OF PUBLIC OFFERING. The Sellers are advised by you
that the Underwriters propose to make a public offering of their respective
portions of the Shares as soon after the Registration Statement and this
Agreement have become effective as in your judgment is advisable. The Sellers
are further advised by you that the Shares are to be offered to the public
initially at $__.__ a share (the "PUBLIC OFFERING PRICE") and to certain dealers
selected by you at a price that represents a concession not in excess of $__.__
a share under the Public Offering Price, and that any Underwriter may allow, and
such dealers may reallow, a concession, not in excess of $__.__ a share, to any
Underwriter or to certain other dealers.
5. PAYMENT AND DELIVERY. Payment for the Firm Shares to be
sold by each Seller shall be made to such Seller in Federal or other funds
immediately available in New York City against delivery of such Firm Shares for
the respective accounts of the several Underwriters at 10:00 a.m., New York City
time, on __________, 1999, or at such other time on the same or such other date,
not later than _________, 1999, as shall be designated in writing by you. The
time and date of such payment are hereinafter referred to as the "CLOSING DATE."
Payment for any Additional Shares shall be made to such Seller
in Federal or other funds immediately available in New York City against
delivery of such Additional Shares for the respective accounts of the several
Underwriters at 10:00 a.m., New York City time, on the
9
<PAGE>
date specified in the notice described in Section 2 or at such other time on the
same or on such other date, in any event not later than __________, 1999, as
shall be designated in writing by you. The time and date of such payment are
hereinafter referred to as the "OPTION CLOSING DATE."
Certificates for the Firm Shares and Additional Shares shall
be in definitive form and registered in such names and in such denominations as
you shall request in writing not later than one full business day prior to the
Closing Date or the Option Closing Date, as the case may be. The certificates
evidencing the Firm Shares and Additional Shares shall be delivered to you on
the Closing Date or the Option Closing Date, as the case may be, for the
respective accounts of the several Underwriters, with any transfer taxes payable
in connection with the transfer of the Shares to the Underwriters duly paid,
against payment of the Purchase Price therefor.
6. CONDITIONS TO THE UNDERWRITERS' OBLIGATIONS. The
obligations of the Sellers to sell the Shares to the Underwriters and the
several obligations of the Underwriters to purchase and pay for the Shares on
the Closing Date are subject to the condition that the Registration Statement
shall have become effective not later than 1:30 p.m. (New York City time) on the
date hereof.
The several obligations of the Underwriters are subject to the
following further conditions:
(a) Subsequent to the execution and delivery of this Agreement
and prior to the Closing Date:
(i) there shall not have occurred any downgrading,
nor shall any notice have been given of any intended or
potential downgrading or of any review for a possible change
that does not indicate the direction of the possible change,
in the rating accorded any of the Company's securities by any
"nationally recognized statistical rating organization," as
such term is defined for purposes of Rule 436(g)(2) under the
Securities Act; and
(ii) there shall not have occurred any change, or any
development involving a prospective change, in the condition,
financial or otherwise, or in the earnings, business or
operations of the Company, from that set forth in the
Prospectus (exclusive of any amendments or supplements thereto
subsequent to the date of this Agreement) that, in your
judgment, is material and adverse and that makes it, in your
judgment, impracticable to market the Shares on the terms and
in the manner contemplated in the Prospectus.
(b) The Underwriters shall have received on the Closing Date a
certificate, dated the Closing Date and signed by an executive officer
of the Company, to the effect set forth in Section 6(a)(i) above and to
the effect that the representations and warranties of the Company
contained in this Agreement are true and correct as of the Closing Date
and that the Company has complied with all of the agreements and
satisfied all of the
10
<PAGE>
conditions on its part to be performed or satisfied hereunder on or
before the Closing Date.
The officer signing and delivering such certificate may rely
upon the best of his or her knowledge as to proceedings threatened.
(c) The Underwriters shall have received on the Closing Date a
certificate, dated the Closing Date and signed by the Selling
Stockholder (or by their attorney-in-fact on their behalf), to the
effect that the representations and warranties of the Selling
Stockholder contained in this Agreement are true and correct as of the
Closing Date and that each Selling Stockholder has complied with all of
the agreements and satisfied all of the conditions on its part to be
performed or satisfied hereunder on or before the Closing Date.
(d) The Underwriters shall have received on the Closing Date
an opinion of Cooley Godward LLP, outside counsel for the Company,
dated the Closing Date, to the effect that:
(i) the Company has been duly incorporated, is
validly existing as a corporation in good standing under the
laws of the jurisdiction of its incorporation, has the
corporate power and authority to own its property and to
conduct its business as described in the Prospectus and to
such counsel's knowledge, is duly qualified to transact
business and is in good standing in each jurisdiction in which
the conduct of its business or its ownership or leasing of
property requires such qualification, except to the extent
that the failure to be so qualified or be in good standing
would not have a material adverse effect on the Company;
(ii) except as described in the Registration
Statement, to such counsel's knowledge, the Company has no
subsidiaries and does not own any equity interest in any other
corporation, partnership, limited liability company or other
entity;
(iii) the authorized capital stock of the Company
conforms as to legal matters to the description thereof
contained in the Prospectus;
(iv) the shares of Common Stock outstanding prior to
the issuance of the Shares have been duly authorized and are
validly issued, fully paid and non-assessable;
(v) the Shares have been duly authorized and, when
issued and delivered in accordance with the terms of this
Agreement, will be validly issued, fully paid and
non-assessable, and the issuance of such Shares will not be
subject to any preemptive or to such counsel's knowledge,
similar rights;
11
<PAGE>
(vi) this Agreement has been duly authorized,
executed and delivered by the Company;
(vii) the execution and delivery by the Company of,
and the performance by the Company of its obligations under,
this Agreement will not contravene any provision of applicable
law (other than applicable state securities and blue sky laws,
as to which such counsel need not express an opinion) or the
certificate of incorporation or by-laws of the Company or, to
such counsel's knowledge, any agreement or other instrument
binding upon the Company that is material to the Company, or,
to the best of such counsel's knowledge, any judgment, order
or decree of any governmental body, agency or court having
jurisdiction over the Company, and no consent, approval,
authorization or order of, or qualification with, any
governmental body or agency is required for the performance by
the Company of its obligations under this Agreement, except
such as have been obtained under the Securities Act or as may
be required by the securities or Blue Sky laws of the various
states in connection with the offer and sale of the Shares;
(viii) the statements (A) in the Prospectus under the
captions " Risk Factors--the Price of our Stock Could Decrease
as a Result of Shares Being Sold in the Market after this
Offering," "Business--MIPS License and Intellectual Property,"
"Description of Capital Stock," "Shares Eligible for Future
Sale" and "Underwriters" to the extent of the description of
this Agreement, and (B) in the Registration Statement in Items
14 and 15, in each case insofar as such statements constitute
summaries of the legal matters, documents or proceedings
referred to therein, fairly present the information called for
with respect to such legal matters, documents and proceedings
and fairly summarize the matters referred to therein to the
extent required under the Securities Act and the applicable
rules and regulations of the Commission thereunder;
(ix) such counsel does not know of any legal or
governmental proceedings pending or threatened to which the
Company is a party or to which any of the properties of the
Company is subject that are required to be described in the
Registration Statement or the Prospectus and are not so
described or of any statutes or regulations that are required
to be described in the Registration Statement or the
Prospectus that are not so described or of any contracts or
other documents that are required, be filed as exhibits to the
Registration Statement that are not filed as required;
(x) the Company is not and, after giving effect to
the offering and sale of the Shares and the application of the
proceeds thereof as described in the Prospectus, will not be
an "investment company" as such term is defined in the
Investment Company Act of 1940, as amended;
(xi) such counsel (A) is of the opinion that the
Registration Statement and Prospectus (except for financial
statements and schedules and other financial and
12
<PAGE>
statistical data included therein as to which such counsel
need not express any opinion) comply as to form in all
material respects with the Securities Act and the applicable
rules and regulations of the Commission thereunder, (B) has no
reason to believe that (except for financial statements and
schedules and other financial and statistical data as to which
such counsel need not express any belief) the Registration
Statement and the prospectus included therein at the time the
Registration Statement became effective contained any untrue
statement of a material fact or omitted to state a material
fact required to be stated therein or necessary to make the
statements therein not misleading and (C) has no reason to
believe that (except for financial statements and schedules
and other financial and statistical data as to which such
counsel need not express any belief) the Prospectus contains
any untrue statement of a material fact or omits to state a
material fact necessary in order to make the statements
therein, in the light of the circumstances under which they
were made, not misleading.
(e) The Underwriters shall have received on the Closing Date
an opinion of Graham & James LLP, counsel for the Selling Stockholder,
dated the Closing Date, to the effect that:
(i) this Agreement has been duly authorized, executed
and delivered by or on behalf of the Selling Stockholder;
(ii) the execution and delivery by the Selling
Stockholder of, and the performance by such Selling
Stockholder of its obligations under, this Agreement and the
Custody Agreement and Powers of Attorney of such Selling
Stockholder will not contravene any provision of applicable
law, or the certificate of incorporation or by-laws of such
Selling Stockholder, or, to the best of such counsel's
knowledge, any agreement or other instrument binding upon such
Selling Stockholder or, to the best of such counsel's
knowledge, any judgment, order or decree of any governmental
body, agency or court having jurisdiction over such Selling
Stockholder, and no consent, approval, authorization or order
of, or qualification with, any governmental body or agency is
required for the performance by such Selling Stockholder of
its obligations under this Agreement or the Custody Agreement
or Power of Attorney of such Selling Stockholder, except such
as may be required by the securities or Blue Sky laws of the
various states in connection with offer and sale of the
Shares;
(iii) the Selling Stockholder has valid title to the
Shares to be sold by such Selling Stockholder and the legal
right and power, and all authorization and approval required
by law, to enter into this Agreement and the Custody Agreement
and Power of Attorney of such Selling Stockholder and to sell,
transfer and deliver the Shares to be sold by such Selling
Stockholder;
(iv) the Custody Agreement and the Power of Attorney
of the Selling Stockholder have been duly authorized, executed
and delivered by such Selling
13
<PAGE>
Stockholder and are valid and binding agreements of such
Selling Stockholder; and
(v) delivery of the Shares to be sold by the Selling
Stockholder pursuant to this Agreement will pass title to such
Shares free and clear of any security interests, claims,
liens, equities and other encumbrances.
(f) The Underwriters shall have received on the Closing Date
an opinion of Fenwick & West LLP, counsel for the Underwriters, dated
the Closing Date, covering the matters referred to in Sections 6(d)(v),
6(d)(vi), 6(d)(viii) (but only as to the statements in the Prospectus
under "Description of Capital Stock" and "Underwriters") and 6(d)(xi)
above.
With respect to Section 6(d)(xi) above, Cooley Godward LLP and
Fenwick & West LLP may state that their opinion and belief are based upon their
participation in the preparation of the Registration Statement and Prospectus
and any amendments or supplements thereto and review and discussion of the
contents thereof, but are without independent check or verification, except as
specified.
The opinion of Cooley Godward LLP described in Section 6(d)
above shall be rendered to the Underwriters at the request of the Company and
shall so state therein.
(g) The Underwriters shall have received, on each of the date
hereof and the Closing Date, a letter dated the date hereof or the
Closing Date, as the case may be, in form and substance satisfactory to
the Underwriters, from PricewaterhouseCoopers LLP, Independent
Accountants, containing statements and information of the type
ordinarily included in accountants' "comfort letters" to underwriters
with respect to the financial statements and certain financial
information contained in the Registration Statement and the Prospectus;
PROVIDED that the letter delivered on the Closing Date shall use a
"cut-off date" not earlier than the date hereof.
(h) The Lock-Up Agreements, each substantially in the form of
Exhibit A hereto, between you and the officers and directors of the
Company and substantially all of the stockholders of the Company
relating to sales and certain other dispositions of shares of Common
Stock or certain other securities, delivered to you on or before the
date hereof, shall be in full force and effect on the Closing Date.
(i) The Shares shall have received approval for listing, upon
official notice of issuance, on the Nasdaq National Market.
The several obligations of the Underwriters to purchase
Additional Shares hereunder are subject to the delivery to you on the Option
Closing Date of such documents as you may reasonably request with respect to the
good standing of the Company, the due authorization and issuance of the
Additional Shares and other matters related to the issuance and
14
<PAGE>
sale of the Additional Shares and an opinion of Cooley Godward LLP and Graham &
James LLP in form and substance satisfactory to Fenwick & West LLP, counsel for
the Underwriters.
7. COVENANTS OF THE COMPANY. In further consideration of the
agreements of the Underwriters herein contained, the Company covenants with each
Underwriter as follows:
(a) To furnish to you, without charge, four signed copies of
the Registration Statement (including exhibits thereto) and for
delivery to each other Underwriter a conformed copy of the Registration
Statement (without exhibits thereto) and to furnish to you in New York
City, without charge, prior to 10:00 a.m. New York City time on the
business day next succeeding the date of this Agreement and during the
period mentioned in Section 6(c) below, as many copies of the
Prospectus and any supplements and amendments thereto or to the
Registration Statement as you may reasonably request.
(b) Before amending or supplementing the Registration
Statement or the Prospectus, to furnish to you a copy of each such
proposed amendment or supplement and not to file any such proposed
amendment or supplement to which you reasonably object, and to file
with the Commission within the applicable period specified in Rule
424(b) under the Securities Act any prospectus required to be filed
pursuant to such Rule.
(c) If, during such period after the first date of the public
offering of the Shares as in the opinion of counsel for the
Underwriters the Prospectus is required by law to be delivered in
connection with sales by an Underwriter or dealer, any event shall
occur or condition exist as a result of which it is necessary to amend
or supplement the Prospectus in order to make the statements therein,
in the light of the circumstances when the Prospectus is delivered to a
purchaser, not misleading, or if, in the opinion of counsel for the
Underwriters, it is necessary to amend or supplement the Prospectus to
comply with applicable law, forthwith to prepare, file with the
Commission and furnish, at its own expense, to the Underwriters and to
the dealers (whose names and addresses you will furnish to the Company)
to which Shares may have been sold by you on behalf of the Underwriters
and to any other dealers upon request, either amendments or supplements
to the Prospectus so that the statements in the Prospectus as so
amended or supplemented will not, in the light of the circumstances
when the Prospectus is delivered to a purchaser, be misleading or so
that the Prospectus, as amended or supplemented, will comply with law.
(d) To endeavor to qualify the Shares for offer and sale under
the securities or Blue Sky laws of such jurisdictions as you shall
reasonably request.
(e) To make generally available to the Company's security
holders and to you as soon as practicable an earning statement covering
the twelve-month period ending ________, 2000 that satisfies the
provisions of Section 11(a) of the Securities Act and the rules and
regulations of the Commission thereunder.
15
<PAGE>
(f) The Company will apply the proceeds from the sale of the
Shares as set forth under "Use of Proceeds" in the Prospectus.
(g) The Company will comply with all provisions of all
undertakings contained in the Registration Statement.
(h) Prior to the Closing Date, the Company will not, directly
or indirectly, issue any press release or other communication and will
not hold any press conference with respect to the Company, or its
financial condition, results of operations, business, properties,
assets, or prospects or this offering, without your prior written
consent, which consent shall not be unreasonably withheld, delayed or
conditioned.
(i) Whether or not the transactions contemplated in this
Agreement are consummated or this Agreement is terminated, to pay or
cause to be paid all expenses incident to the performance of its
obligations under this Agreement, including: (i) the fees,
disbursements and expenses of the Company's counsel and the Company's
accountants in connection with the registration and delivery of the
Shares under the Securities Act and all other fees or expenses in
connection with the preparation and filing of the Registration
Statement, any preliminary prospectus, the Prospectus and amendments
and supplements to any of the foregoing, including all printing costs
associated therewith, and the mailing and delivering of copies thereof
to the Underwriters and dealers, in the quantities hereinabove
specified, (ii) all costs and expenses related to the transfer and
delivery of the Shares to the Underwriters, including any transfer or
other taxes payable thereon, (iii) the cost of printing or producing
any Blue Sky or Legal Investment memorandum in connection with the
offer and sale of the Shares under state securities laws and all
expenses in connection with the qualification of the Shares for offer
and sale under state securities laws as provided in Section 6(d)
hereof, including filing fees and the reasonable fees and disbursements
of counsel for the Underwriters in connection with such qualification
and in connection with the Blue Sky or Legal Investment memorandum,
(iv) all filing fees and the reasonable fees and disbursements of
counsel to the Underwriters incurred in connection with the review and
qualification of the offering of the Shares by the National Association
of Securities Dealers, Inc., (v) all fees and expenses in connection
with the preparation and filing of the registration statement on Form
8-A relating to the Common Stock and all costs and expenses incident to
listing the Shares on the Nasdaq National Market, (vi) the cost of
printing certificates representing the Shares, (vii) the costs and
charges of any transfer agent, registrar or depositary, (viii) the
costs and expenses of the Company relating to investor presentations on
any "road show" undertaken in connection with the marketing of the
offering of the Shares, including, without limitation, expenses
associated with the production of road show slides and graphics, fees
and expenses of any consultants engaged in connection with the road
show presentations with the prior approval of the Company, travel and
lodging expenses of the representatives and officers of the Company and
any such consultants, and the cost of any aircraft chartered in
connection with the road show, (ix) to pay all reasonable fees and
disbursements of counsel incurred by the Underwriters in connection
with the Directed Share Program and stamp duties, similar taxes or
duties or
16
<PAGE>
other taxes, if any, incurred by the Underwriters in connection with
the Directed Share Program, and (x) all other costs and expenses
incident to the performance of the obligations of the Company
hereunder for which provision is not otherwise made in this Section. It
is understood, however, that except as provided in this Section,
Section 7 entitled "Indemnity and Contribution", and the last paragraph
of Section 9 below, the Underwriters will pay all of their costs and
expenses, including fees and disbursements of their counsel, stock
transfer taxes payable on resale of any of the Shares by them and any
advertising expenses connected with any offers they may make.
(j) that in connection with the Directed Share Program, the
Company will ensure that the Directed Shares will be restricted to the
extent required by the National Association of Securities Dealers, Inc.
(the "NASD") or the NASD rules from sale, transfer, assignment, pledge
or hypothecation for a period of three months following the date of the
effectiveness of the Registration Statement. Morgan Stanley will notify
the Company as to which Participants will need to be so restricted. The
Company will direct the transfer agent to place stop transfer
restrictions upon such securities for such period of time.
(k) the Company agrees: (i) to enforce the terms of each
Lock-Up Agreement and (ii) issue stop-transfer instructions to the
transfer agent for the Common Stock with respect to any transaction or
contemplated transaction that would constitute a breach of or default
under the applicable Lock-Up Agreement. In addition, without the prior
written consent of Morgan Stanley, the Company agrees: (i) not to amend
or terminate, or waive any right under, any Lock-Up Agreement, or take
any other action that would directly or indirectly have the same effect
as an amendment or termination, or waiver of any right under, any
Lock-Up Agreement, that would permit any holder of shares of Common
Stock, or securities convertible into or exercisable or exchangeable
for Common Stock, to (1) offer, pledge, sell, contract to sell, sell
any option, right or warrant or contract to purchase, purchase any
option, right or warrant or contract to sell, grant any option, right
or warrant to purchase, lend, or otherwise transfer or dispose of,
directly or indirectly, any shares of Common Stock or any securities
convertible into or exercisable or exchangeable for Common Stock other
than the exercise of options granted under the 1992 Stock Option Plan,
1997 Stock Option Plan, 1999 Equity Incentive Plan and 1999
Non-Employee Directors' Stock Option Plan, or the purchase of shares of
Common Stock under the 1999 Employee Stock Purchase Plan (collectively,
the "PLANS") or (2) enter into any swap or other arrangement that
transfers to another, in whole or in part, any of the economic
consequences of ownership of Common Stock, whether any such transaction
described in clause (1) or (2) above is to be settled by delivery of
Common Stock or such other securities, in cash or otherwise, or (ii)
not to consent to any of the foregoing.
(l) The Company agrees that, without the prior written consent
of Morgan Stanley, it will not release any stockholder or option holder
from the market standoff provision imposed by the Company pursuant to
the Plans earlier than 180 days after the date of the initial public
offering of the Shares.
17
<PAGE>
(m) furthermore, the Company covenants with Morgan Stanley
that the Company will comply with all applicable securities and other
applicable laws, rules and regulations in each foreign jurisdiction in
which the Directed Shares are offered in connection with the Directed
Share Program.
The provisions of this Section shall not supersede or otherwise affect
any agreement that the Sellers may otherwise have for the allocation of such
expenses among themselves.
8. INDEMNITY AND CONTRIBUTION.
(a) The Company agrees to indemnify and hold harmless each
Underwriter and each person, if any, who controls any Underwriter
within the meaning of either Section 15 of the Securities Act or
Section 20 of the Securities Exchange Act of 1934, as amended (the
"EXCHANGE ACT"), from and against any and all losses, claims, damages
and liabilities (including, without limitation, any legal or other
expenses reasonably incurred in connection with defending or
investigating any such action or claim) caused by any untrue statement
or alleged untrue statement of a material fact contained in the
Registration Statement (as of the effective date and any Closing Date
as defined in Section 5 herein) or any amendment thereof, any
preliminary prospectus or the Prospectus (as amended or supplemented
if the Company shall have furnished any amendments or supplements
thereto, as of the date of such amendment or supplement, as
applicable), or caused by any omission or alleged omission to state
therein a material fact required to be stated therein or necessary to
make the statements therein not misleading, except insofar as such
losses, claims, damages or liabilities are caused by any such untrue
statement or omission or alleged untrue statement or omission based
upon information relating to any Underwriter furnished to the Company
in writing by such Underwriter through you expressly for use therein,
PROVIDED, HOWEVER, that the foregoing indemnity agreement with respect
to any preliminary prospectus shall not inure to the benefit of any
Underwriter, or any person controlling such Underwriter, from whom the
person asserting any such losses, claims, damages or liabilities
purchased Shares, if a copy of the Prospectus (as then amended or
supplemented if the Company shall have furnished any amendments or
supplements thereto) shall have been furnished by the Company to such
Underwriter and was not sent or given by or on behalf of such
Underwriter to such person, if required by law so to have been
delivered, at or prior to the written confirmation of the sale of the
Shares to such person, and if the Prospectus (as so amended or
supplemented) would have cured the defect giving rise to such loss,
claim, damage or liability.
(b) The Selling Stockholder agrees to indemnify and hold
harmless the Underwriters and each person, if any, who controls any
Underwriter within the meaning of either Section 15 of the Securities
Act or Section 20 of the Exchange Act, from and against any and all
losses, claims, damages and liabilities (including, without
limitation, any legal or other expenses reasonably incurred in
connection with defending or investigating any such action or claim)
caused by any untrue statement or alleged untrue statement of a
material fact contained in the Registration Statement or any amendment
18
<PAGE>
thereof, any preliminary prospectus or the Prospectus (as amended or
supplemented if the Company shall have furnished any amendments or
supplements thereto), or caused by any omission or alleged omission to
state therein a material fact required to be stated therein or
necessary to make the statements therein not misleading, but only with
reference to information relating to such Selling Stockholder
furnished in writing by or on behalf of such Selling Stockholder
expressly for use in the Registration Statement, any preliminary
prospectus, the Prospectus or any amendments or supplements thereto.
The aggregate liability of the Selling Stockholder under the indemnity
agreement contained in this paragraph and the contribution agreement
contained in paragraphs 8(e) and (f) below shall be limited to an
amount equal to the net proceeds received by such Selling Stockholder
from the offering of the Shares sold by such Selling Stockholder.
(c) Each Underwriter agrees, severally and not jointly, to
indemnify and hold harmless the Company, the Selling Stockholder, the
directors of the Company and the officers of the Company who sign the
Registration Statement and each person, if any, who controls the
Company or any Selling Stockholder within the meaning of either
Section 15 of the Securities Act or Section 20 of the Exchange Act to
the same extent as the foregoing indemnity from the Company and the
Selling Stockholder to such Underwriter, but only with reference to
information relating to such Underwriter furnished to the Company in
writing by such Underwriter through you expressly for use in the
Registration Statement, any preliminary prospectus, the Prospectus or
any amendments or supplements thereto.
(d) In case any proceeding (including any governmental
investigation) shall be instituted involving any person in respect of
which indemnity may be sought pursuant to Section 8(a), 8(b) or 8(c),
such person (the "INDEMNIFIED PARTY") shall promptly notify the person
against whom such indemnity may be sought (the "INDEMNIFYING PARTY") in
writing and the indemnifying party, upon request of the indemnified
party, shall retain counsel reasonably satisfactory to the indemnified
party to represent the indemnified party and any others the
indemnifying party may designate in such proceeding and shall pay the
fees and disbursements of such counsel related to such proceeding. In
any such proceeding, any indemnified party shall have the right to
retain its own counsel, but the fees and expenses of such counsel shall
be at the expense of such indemnified party unless (i) the indemnifying
party and the indemnified party shall have mutually agreed to the
retention of such counsel or (ii) the named parties to any such
proceeding (including any impleaded parties) include both the
indemnifying party and the indemnified party and representation of both
parties by the same counsel would be inappropriate due to actual or
potential differing interests between them. It is understood that the
indemnifying party shall not, in respect of the legal expenses of any
indemnified party in connection with any proceeding or related
proceedings in the same jurisdiction, be liable for the fees and
expenses of more than one separate firm (in addition to any local
counsel) for all such indemnified parties and that all such fees and
expenses shall be reimbursed as they are incurred. In the case of any
such separate firm for the Underwriters and such control persons of any
Underwriters, such firm shall be designated in writing by Morgan
Stanley & Co. Incorporated. In the case of any such separate firm for
the Company, and such
19
<PAGE>
directors, officers and control persons of the Company, such firm
shall be designated in writing by the Company. In the case of any
separate firm for the Selling Stockholder and such control persons of
the Selling Stockholder, such firm shall be designated in writing by
the Selling Stockholder. The indemnifying party shall not be liable
for any settlement of any proceeding effected without its written
consent, but if settled with such consent or if there be a final
judgment for the plaintiff, the indemnifying party agrees to indemnify
the indemnified party from and against any loss orliability by reason
of such settlement or judgment. Notwithstanding the foregoing
sentence, if at any time an indemnified party shall have requested an
indemnifying party to reimburse the indemnified party for
fees and expenses of counsel as contemplated by the second and third
sentences of this paragraph, the indemnifying party agrees that it
shall be liable for any settlement of any proceeding effected without
its written consent if (i) such settlement is entered into more than 30
days after receipt by such indemnifying party of the aforesaid request
and (ii) such indemnifying party shall not have reimbursed the
indemnified party in accordance with such request prior to the date of
such settlement. No indemnifying party shall, without the prior written
consent of the indemnified party, effect any settlement of any pending
or threatened proceeding in respect of which any indemnified party is
or could have been a party and indemnity could have been sought
hereunder by such indemnified party, unless such settlement includes an
unconditional release of such indemnified party from all liability on
claims that are the subject matter of such proceeding.
(e) To the extent the indemnification provided for in Section
8(a), 8(b) or 8(c) is unavailable to an indemnified party or
insufficient in respect of any losses, claims, damages or liabilities
referred to therein, then each indemnifying party under such paragraph,
in lieu of indemnifying such indemnified party thereunder, shall
contribute to the amount paid or payable by such indemnified party as a
result of such losses, claims, damages or liabilities (i) in such
proportion as is appropriate to reflect the relative benefits received
by the Indemnifying party or parties on the one hand and the
indemnified party or parties on the other hand from the offering of the
Shares or (ii) if the allocation provided by clause 8(e)(i) above is
not permitted by applicable law, in such proportion as is appropriate
to reflect not only the relative benefits referred to in clause 8(e)(i)
above but also the relative fault of the Indemnifying party or parties
on the one hand and the indemnified party or parties on the other hand
in connection with the statements or omissions that resulted in such
losses, claims, damages or liabilities, as well as any other relevant
equitable considerations. The relative benefits received by the Sellers
on the one hand and the Underwriters on the other hand in connection
with the offering of the Shares shall be deemed to be in the same
respective proportions as the net proceeds from the offering of the
Shares (before deducting expenses) received by each Seller and the
total underwriting discounts and commissions received by the
Underwriters, in each case as set forth in the table on the cover of
the Prospectus, bear to the aggregate Public Offering Price of the
Shares. The relative fault of the Sellers on the one hand and the
Underwriters on the other hand shall be determined by reference to,
among other things, whether the untrue or alleged untrue statement of a
material fact or the omission or alleged omission to state a material
fact relates to information supplied by the Sellers or by the
Underwriters and the parties' relative intent, knowledge, access to
20
<PAGE>
information and opportunity to correct or prevent such statement or
omission. The Underwriters' respective obligations to contribute
pursuant to this Section 8 are several in proportion to the respective
number of Shares they have purchased hereunder, and not joint.
(f) The Sellers and the Underwriters agree that it would not
be just or equitable if contribution pursuant to this Section 8 were
determined by PRO RATA allocation (even if the Underwriters were
treated as one entity for such purpose) or by any other method of
allocation that does not take account of the equitable considerations
referred to in Section 8(e). The amount paid or payable by an
indemnified party as a result of the losses, claims, damages and
liabilities referred to in the immediately preceding paragraph shall be
deemed to include, subject to the limitations set forth above, any
legal or other expenses reasonably incurred by such indemnified party
in connection with investigating or defending any such action or claim.
Notwithstanding the provisions of this Section 8, no Underwriter shall
be required to contribute any amount in excess of the amount by which
the total price at which the Shares underwritten by it and distributed
to the public were offered to the public exceeds the amount of any
damages that such Underwriter has otherwise been required to pay by
reason of such untrue or alleged untrue statement or omission or
alleged omission. No person guilty of fraudulent misrepresentation
(within the meaning of Section 11(f) of the Securities Act) shall be
entitled to contribution from any person who was not guilty of such
fraudulent misrepresentation. The remedies provided for in this Section
8 are not exclusive and shall not limit any rights or remedies which
may otherwise be available to any indemnified party at law or in equity
or any person controlling the Selling Stockholder.
(g) The indemnity and contribution provisions contained in
this Section 8 and the representations, warranties and other statements
of the Company and the Selling Stockholder contained in this Agreement
shall remain operative and in full force and effect regardless of (i)
any termination of this Agreement, (ii) any investigation made by or on
behalf of any Underwriter or any person controlling any Underwriter,
any Selling Stockholder or any person controlling the Selling
Stockholder, or the Company, its officers or directors or any person
controlling the Company and (iii) acceptance of and payment for any of
the Shares.
9. DIRECTED SHARE PROGRAM INDEMNIFICATION.
(a) The Company agrees to indemnify and hold harmless Morgan
Stanley and its affiliates and each person, if any, who controls Morgan
Stanley or its affiliates within the meaning of either Section 15 of
the Securities Act or Section 20 of the Exchange Act ("MORGAN STANLEY
ENTITIES"), from and against any and all losses, claims, damages and
liabilities (including, without limitation, any legal or other expenses
reasonably incurred in connection with defending or investigating any
such action or claim) (i) caused by any untrue statement or alleged
untrue statement of a material fact contained in any material prepared
by or with the consent of the Company for distribution to Participants
in connection with the Directed Share Program or caused by any omission
or alleged
21
<PAGE>
omission to state therein a material fact required to be
stated therein or necessary to make the statements therein not
misleading; (ii) related to, arising out of, or in connection with the
Directed Share Program, other than losses, claims, damages or
liabilities (or expenses relating thereto) that are finally judicially
determined to have resulted from the bad faith or gross negligence of
Morgan Stanley Entities; or (iii) caused by the failure of any
Participant to pay for and accept delivery of Directed Shares which,
immediately following the effectiveness of the Registration Statement,
were subject to a properly confirmed agreement to purchase.
(b) In case any proceeding (including any governmental
investigation) shall be instituted involving any Morgan Stanley Entity
in respect of which indemnity may be sought pursuant to Section 9(a),
the Morgan Stanley Entity seeking indemnity, shall promptly notify the
Company in writing and the Company, upon request of the Morgan Stanley
Entity, shall retain counsel reasonably satisfactory to the Morgan
Stanley Entity to represent the Morgan Stanley Entity and any others
the Company may designate in such proceeding and shall pay the fees and
disbursements of such counsel related to such proceeding. In any such
proceeding, any Morgan Stanley Entity shall have the right to retain
its own counsel, but the fees and expenses of such counsel shall be at
the expense of such Morgan Stanley Entity unless (i) the Company shall
have agreed to the retention of such counsel or (ii) the named parties
to any such proceeding (including any impleaded parties) include both
the Company and the Morgan Stanley Entity and representation of both
parties by the same counsel would be inappropriate due to actual or
potential differing interests between them. The Company shall not, in
respect of the legal expenses of the Morgan Stanley Entities in
connection with any proceeding or related proceedings in the same
jurisdiction, be liable for the fees and expenses of more than one
separate firm (in addition to any local counsel) for all Morgan Stanley
Entities. Any such separate firm for the Morgan Stanley Entities shall
be designated in writing by Morgan Stanley. The Company shall not be
liable for any settlement of any proceeding effected without its
written consent, but if settled with such consent or if there be a
final judgment for the plaintiff, the Company agrees to indemnify the
Morgan Stanley Entities from and against any loss or liability by
reason of such settlement or judgment. Notwithstanding the foregoing
sentence, if at any time a Morgan Stanley Entity shall have requested
the Company to reimburse it for fees and expenses of counsel as
contemplated by the second and third sentences of this paragraph, the
Company agrees that it shall be liable for any settlement of any
proceeding effected without its written consent if (i) such settlement
is entered into more than 30 days after receipt by the Company of the
aforesaid request and (ii) the Company shall not have reimbursed the
Morgan Stanley Entity in accordance with such request prior to the date
of such settlement. The Company shall not, without the prior written
consent of Morgan Stanley, effect any settlement of any pending or
threatened proceeding in respect of which any Morgan Stanley Entity is
or could have been a party and indemnity could have been sought
hereunder by such Morgan Stanley Entity, unless such settlement
includes an unconditional release of the Morgan Stanley Entities from
all liability on claims that are the subject matter of such proceeding.
22
<PAGE>
(c) To the extent the indemnification provided for in Section
9(a) is unavailable to a Morgan Stanley Entity or insufficient in
respect of any losses, claims, damages or liabilities referred to
therein, then the Company in lieu of indemnifying the Morgan Stanley
Entity thereunder, shall contribute to the amount paid or payable by
the Morgan Stanley Entity as a result of such losses, claims, damages
or liabilities (i) in such proportion as is appropriate to reflect the
relative benefits received by the Company on the one hand and the
Morgan Stanley Entities on the other hand from the offering of the
Directed Shares or (ii) if the allocation provided by clause 9(c)(i)
above is not permitted by applicable law, in such proportion as is
appropriate to reflect not only the relative benefits referred to in
clause 9(c)(i) above but also the relative fault of the Company on the
one hand and of the Morgan Stanley Entities on the other hand in
connection with any statements or omissions that resulted in such
losses, claims, damages or liabilities, as well as any other relevant
equitable considerations. The relative benefits received by the Company
on the one hand and the Morgan Stanley Entities on the other hand in
connection with the offering of the Directed Shares shall be deemed to
be in the same respective proportions as the net proceeds from the
offering of the Directed Shares (before deducting expenses) and the
total underwriting discounts and commissions received by the Morgan
Stanley Entities for the Directed Shares, bear to the aggregate Public
Offering Price of the Directed Shares. If the loss, claim, damage or
liability is caused by an untrue or alleged untrue statement of a
material fact or the omission or alleged omission to state a material
fact, the relative fault of the Company on the one hand and the Morgan
Stanley Entities on the other hand shall be determined by reference to,
among other things, whether the untrue or alleged untrue statement or
the omission or alleged omission relates to information supplied by the
Company or by the Morgan Stanley Entities and the parties' relative
intent, knowledge, access to information and opportunity to correct or
prevent such statement or omission.
(d) The Company and the Morgan Stanley Entities agree that it
would not be just or equitable if contribution pursuant to this Section
9 were determined by pro rata allocation (even if the Morgan Stanley
Entities were treated as one entity for such purpose) or by any other
method of allocation that does not take account of the equitable
considerations referred to in Section 9(c). The amount paid or payable
by the Morgan Stanley Entities as a result of the losses, claims,
damages and liabilities referred to in the immediately preceding
paragraph shall be deemed to include, subject to the limitations set
forth above, any legal or other expenses reasonably incurred by the
Morgan Stanley Entities in connection with investigating or defending
any such action or claim. Notwithstanding the provisions of this
Section 9, no Morgan Stanley Entity shall be required to contribute any
amount in excess of the amount by which the total price at which the
Directed Shares distributed to the public were offered to the public
exceeds the amount of any damages that such Morgan Stanley Entity has
otherwise been required to pay as a result of the losses, claims,
damages and liabilities referred to in the immediately preceding
paragraph. The remedies provided for in this Section 9 are not
exclusive and shall not limit any rights or remedies which may
otherwise be available to any indemnified party at law or in equity.
23
<PAGE>
(e) The indemnity and contribution provisions contained in
this Section 9 shall remain operative and in full force and effect
regardless of (i) any termination of this Agreement, (ii) any
investigation made by or on behalf of any Morgan Stanley Entity or the
Company, its officers or directors or any person controlling the
Company and (iii) acceptance of and payment for any of the Directed
Shares.
10. TERMINATION. This Agreement shall be subject to
termination by notice given by you to the Company, if (a) after the execution
and delivery of this Agreement and prior to the Closing Date (i) trading
generally shall have been suspended or materially limited on or by, as the case
may be, any of the New York Stock Exchange, the American Stock Exchange, the
National Association of Securities Dealers, Inc., the Chicago Board of Options
Exchange, the Chicago Mercantile Exchange or the Chicago Board of Trade, (ii)
trading of any securities of the Company shall have been suspended on any
exchange or in any over-the-counter market, (iii) a general moratorium on
commercial banking activities in New York shall have been declared by either
Federal or New York State authorities or (iv) there shall have occurred any
outbreak or escalation of hostilities or any change in financial markets or any
calamity or crisis that, in your judgment, is material and adverse and (b) in
the case of any of the events specified in clauses 10(a)(i) through 10(a)(iv),
such event, singly or together with any other such event, makes it, in your
judgment, impracticable to market the Shares on the terms and in the manner
contemplated in the Prospectus.
11. EFFECTIVENESS; DEFAULTING UNDERWRITERS. This Agreement
shall become effective upon the execution and delivery hereof by the parties
hereto.
If, on the Closing Date or the Option Closing Date, as the
case may be, any one or more of the Underwriters shall fail or refuse to
purchase Shares that it has or they have agreed to purchase hereunder on such
date, and the aggregate number of Shares which such defaulting Underwriter or
Underwriters agreed but failed or refused to purchase is not more than one-tenth
of the aggregate number of the Shares to be purchased on such date, the other
Underwriters shall be obligated severally in the proportions that the number of
Firm Shares set forth opposite their respective names in Schedule II bears to
the aggregate number of Firm Shares set forth opposite the names of all such
non-defaulting Underwriters, or in such other proportions as you may specify, to
purchase the Shares which such defaulting Underwriter or Underwriters agreed but
failed or refused to purchase on such date; PROVIDED that in no event shall the
number of Shares that any Underwriter has agreed to purchase pursuant to this
Agreement be increased pursuant to this Section 10 by an amount in excess of
one-ninth of such number of Shares without the written consent of such
Underwriter. If, on the Closing Date, any Underwriter or Underwriters shall fail
or refuse to purchase Firm Shares and the aggregate number of Firm Shares with
respect to which such default occurs is more than one-tenth of the aggregate
number of Firm Shares to be purchased, and arrangements satisfactory to you, the
Company and the Selling Stockholder for the purchase of such Firm Shares are not
made within 36 hours after such default, this Agreement shall terminate without
liability on the part of any non-defaulting Underwriter the Company or the
Selling Stockholder. In any such case either you or the Company shall have the
right to postpone the Closing Date, but in no event for longer than seven days,
in order that the required changes, if any, in the Registration Statement and in
the Prospectus or in any other
24
<PAGE>
documents or arrangements may be effected. If, on the Option Closing Date, any
Underwriter or Underwriters shall fail or refuse to purchase Additional Shares
and the aggregate number of Additional Shares with respect to which such default
occurs is more than one-tenth of the aggregate number of Additional Shares to be
purchased, the non-defaulting Underwriters shall have the option to (i)
terminate their obligation hereunder to purchase Additional Shares or (ii)
purchase not less than the number of Additional Shares that such non-defaulting
Underwriters would have been obligated to purchase in the absence of such
default. Any action taken under this paragraph shall not relieve any defaulting
Underwriter from liability in respect of any default of such Underwriter under
this Agreement.
If this Agreement shall be terminated by the Underwriters, or
any of them, because of any failure or refusal on the part of any Seller to
comply with the terms or to fulfill any of the conditions of this Agreement, or
if for any reason any Seller shall be unable to perform its obligations under
this Agreement, the Sellers will reimburse the Underwriters or such Underwriters
as have so terminated this Agreement with respect to themselves, severally, for
all out-of-pocket expenses (including the fees and disbursements of their
counsel) reasonably incurred by such Underwriters in connection with this
Agreement or the offering contemplated hereunder.
12. COUNTERPARTS. This Agreement may be signed in two or more
counterparts, each of which shall be an original, with the same effect as if the
signatures thereto and hereto were upon the same instrument.
13. APPLICABLE LAW. This Agreement shall be governed by and
construed in accordance with the internal laws of the State of New York.
25
<PAGE>
14. HEADINGS. The headings of the sections of this Agreement
have been inserted for convenience of reference only and shall not be deemed a
part of this Agreement.
Very truly yours,
QUANTUM EFFECT DEVICES, INC.
By:
--------------------------------
Name:
Title:
INTEGRATED DEVICE TECHNOLOGY, INC.
By:
-----------------------------
Name:
Title: Attorney-in-Fact
Accepted as of the date hereof
Morgan Stanley & Co. Incorporated
BancBoston Robertson Stephens Inc.
Lehman Brothers Inc.
Acting severally on behalf of
themselves and the several
Underwriters named in
Schedule I hereto.
By: Morgan Stanley & Co. Incorporated
By:
--------------------------
Name:
Title:
[SIGNATURE PAGE TO UNDERWRITING AGREEMENT]
26
<PAGE>
<TABLE>
<CAPTION>
SCHEDULE I
NUMBER OF FIRM NUMBER OF
SELLING STOCKHOLDER SHARES TO BE SOLD ADDITIONAL SHARES
- ------------------- ----------------- -----------------
<S> <C> <C>
Integrated Device Technology, Inc.
Total................................
-------------------------- ------------------------
========================== ========================
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
SCHEDULE II
NUMBER OF FIRM
UNDERWRITER SHARES TO BE PURCHASED
- ----------- ----------------------
<S> <C>
Morgan Stanley & Co. Incorporated
BancBoston Robertson Stephens Inc.
Lehman Brothers Inc.
Total................................
--------------------------------
================================
</TABLE>
<PAGE>
EXHIBIT A
[FORM OF LOCK-UP LETTER]
Morgan Stanley & Co. Incorporated
Lehman Brothers Inc.
BancBoston Robertson Stephens Inc.
c/o Morgan Stanley & Co. Incorporated
1585 Broadway
New York, NY 10036
Dear Sirs and Mesdames:
The undersigned understands that Morgan Stanley & Co. Incorporated
("MORGAN STANLEY") proposes to enter into an Underwriting Agreement (the
"UNDERWRITING AGREEMENT") with Quantum Effect Devices, Inc., a California
corporation (the "COMPANY"), providing for the public offering (the "PUBLIC
OFFERING") by the several Underwriters, including Morgan Stanley (the
"UNDERWRITERS"), of shares (the "SHARES") of the Common Stock, no par value, of
the Company, or its successor company upon the consummation of any
reincorporation of the Company into the State of Delaware (the "COMMON STOCK").
To induce the Underwriters that may participate in the Public Offering
to continue their efforts in connection with the Public Offering, the
undersigned hereby agrees that, without the prior written consent of Morgan
Stanley on behalf of the Underwriters, it will not, during the period commencing
on the date hereof and ending 180 days after the date of the final prospectus
relating to the Public Offering (the "PROSPECTUS"), (1) offer, pledge, sell,
contract to sell, sell any option or contract to purchase, purchase any option
or contract to sell, grant any option, right or warrant to purchase, lend, or
otherwise transfer or dispose of, directly or indirectly, any shares of Common
Stock or any securities convertible into or exercisable or exchangeable for
Common Stock or (2) enter into any swap or other arrangement that transfers to
another, in whole or in part, any of the economic consequences of ownership of
Common Stock, whether any such transaction described in clause (1) or (2) above
is to be settled by delivery of Common Stock or such other securities, in cash
or otherwise. The foregoing sentence shall not apply to (a) the sale of any
Shares to the Underwriters pursuant to the Underwriting Agreement; (b)
transactions relating to shares of Common Stock or other securities acquired in
open market transactions after the completion of the Public Offering; or (c)
transactions relating to shares of Common Stock or other securities convertible
or exchangeable for Common Stock disposed of (i) as a bona fide gift or gifts,
(ii) by will or intestacy to the undersigned's immediate family or to a trust
the beneficiaries of which are exclusively the undersigned and/or a member or
members of his or her immediately family and/or a charity, or (iii) as a
distribution to limited partners, members of limited liability companies or
shareholders of the undersigned, in each case provided that any gift, transfer
or distribution pursuant to clause (i), (ii) or (iii) above shall be conditioned
upon such donee, transferee or distributee executing and delivering a copy of a
Lock-Up Agreement to Morgan Stanley. In addition, the undersigned agrees that,
without the prior written consent of Morgan Stanley on behalf of the
Underwriters, it will not, during the period commencing on the date hereof and
ending 180 days after the date of the Prospectus, make any demand for or
exercise any right with respect to, the registration of any shares of Common
Stock or any security convertible into or exercisable or exchangeable for Common
Stock.
Whether or not the Public Offering actually occurs depends on a number
of factors, including market conditions. Any Public Offering will only be made
pursuant to an Underwriting Agreement, the terms of which are subject to
negotiation between the Company and the Underwriters.
<PAGE>
It is understood that, if the Company notifies you that it does not
intend to proceed with the Public Offering, if the Underwriting Agreement does
not become effective, or if the Underwriting Agreement (other than the
provisions thereof which survive termination) shall terminate or be terminated
prior to payment for and delivery of the Shares, we will be released from our
obligations under this Lock-Up Agreement.
Notwithstanding anything herein to the contrary, the foregoing
provision shall not restrict Goldman, Sachs & Co. and its affiliates from
engaging in any brokerage, investment advisory, financial advisory, anti-raid
advisory, merger advisory, financing, asset management, trading, market making,
arbitrage and other similar activities conducted in the ordinary course of its
or its affiliates' business, so long as such activities are not conducted in
respect of the shares of Common Stock (or by virtue of a short position
undertaken to benefit from the cover of such shares of Common Stock, or the
issuance of a derivative security designed to benefit from the value of such
shares of Common Stock) of the Company directly owned by The Goldman Sachs
Group, Inc., Stone Street Fund 1999, L.P. or Bridge Street Fund 1999, L.P.
As a condition to the undersigned's obligations hereunder, each officer
and director of the Company shall have executed and be bound by a similar
lock-up agreement in favor of the Underwriters.
This Agreement will terminate if the closing date of the Offering has
not occurred prior to March 31, 2000.
Date: ________________, 1999 Very truly yours,
--------------------------------
Signature
--------------------------------
Print Name
--------------------------------
Title
<PAGE>
EXHIBIT 5.1
[LETTERHEAD]
January 24, 2000
Quantum Effect Devices, Inc.
3255-3 Scott Boulevard, Suite 200
Santa Clara, California 95054
Ladies and Gentlemen:
You have requested our opinion with respect to certain matters in connection
with the filing by Quantum Effect Devices, Inc. (the "Company") of a
Registration Statement on Form S-1 (the "Registration Statement") with the
Securities and Exchange Commission (the "Commission"), including a prospectus to
be filed with the Commission pursuant to Rule 424(b) of Regulation C promulgated
under the Securities Act of 1933, as amended (the "Prospectus"), and the
underwritten public offering of up to 4,278,000 shares of Common Stock, up to
3,450,000 of which are being offered by the Company (the "Common Stock").
In connection with this opinion, we have (i) reviewed the Registration
Statement, the Company's Second Amended and Restated Certificate of
Incorporation and Bylaws and the originals or copies certified to our
satisfaction, of such records, documents, certificates, memoranda and other
instruments as in our judgment are necessary or appropriate to enable us to
render the opinion expressed below, (ii) assumed that the form of Second Amended
and Restated Certificate of Incorporation, as set forth in Exhibit 3.2 of the
Registration Statement, shall have been duly filed with the office of the
Delaware Secretary of State, and (iii) assumed that the shares of the Common
Stock will be sold to the Underwriters at a price established by the Pricing
Committee of the Board of Directors of the Company.
On the basis of the foregoing, and in reliance thereon, we are of the opinion
that the Common Stock, when sold and issued in accordance with the Registration
Statement and related Prospectus, will be validly issued, fully paid and
nonassessable.
We consent to the reference to our firm under the caption "Legal Matters" in the
Prospectus included on the Registration Statement and to the filing of this
opinion as an exhibit to the Registration Statement.
Very truly yours,
COOLEY GODWARD LLP
By /s/ MATTHEW W. SONSINI
------------------------------------------
Matthew W. Sonsini
<PAGE>
Exhibit 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the use in the Prospectus constituting part of this
Registration Statement on Form S-1 of our report dated August 11, 1999, except
as to Note 10 which is as of December 28, 1999, relating to the financial
statements of Quantum Effect Devices, Inc., which appears in such Prospectus. We
also consent to the reference to us under the heading "Experts" in such
Prospectus.
PricewaterhouseCoopers, LLP
San Jose, California
January 24, 2000
