<PAGE> 1
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON AUGUST 27, 1999.
REGISTRATION NO. 333-
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
NEXT LEVEL COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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<S> <C> <C>
DELAWARE 3674 PENDING
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
</TABLE>
6085 STATE FARM DRIVE
ROHNERT PARK, CALIFORNIA 94928
(707) 584-6820
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
JAMES T. WANDREY
SENIOR VICE PRESIDENT AND CHIEF FINANCIAL OFFICER
NEXT LEVEL COMMUNICATIONS, INC.
6085 STATE FARM DRIVE
ROHNERT PARK, CALIFORNIA 94928
(707) 584-6820
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF AGENT FOR SERVICE)
------------------------
COPIES TO:
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<S> <C> <C>
JAY K. HACHIGIAN, ESQ. RAYMOND W. WAGNER, ESQ. VINCENT J. PISANO, ESQ.
GUNDERSON DETTMER STOUGH SIMPSON THACHER & BARTLETT SKADDEN, ARPS, SLATE,
VILLENEUVE FRANKLIN & HACHIGIAN, 425 LEXINGTON AVENUE MEAGHER & FLOM LLP
LLP NEW YORK, NEW YORK 10017 919 THIRD AVENUE
155 CONSTITUTION DRIVE (212) 455-2000 NEW YORK, NEW YORK 10022
MENLO PARK, CALIFORNIA 94025 (212) 735-3000
(650) 321-2400
</TABLE>
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
As soon as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, as amended, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
CALCULATION OF REGISTRATION FEE
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PROPOSED MAXIMUM
TITLE OF EACH CLASS OF AGGREGATE AMOUNT OF
SECURITIES TO BE REGISTERED OFFERING PRICE(1) REGISTRATION FEE
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Class A Common Stock, $.01 par value........................ $125,000,000 $34,750
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</TABLE>
(1) Estimated solely for the purpose of computing the amount of the registration
fee pursuant to Rule 457(o).
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT THAT SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933, AS AMENDED, OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION,
ACTING PURSUANT TO SUCH SECTION 8(a), MAY DETERMINE.
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<PAGE> 2
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY
NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES, AND IT IS NOT SOLICITING AN OFFER TO BUY THESE
SECURITIES, IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
SUBJECT TO COMPLETION
PRELIMINARY PROSPECTUS DATED AUGUST 27, 1999
PROSPECTUS
SHARES
[NEXT LEVEL LOGO]
CLASS A COMMON STOCK
------------------------
This is Next Level Communications, Inc.'s initial public offering of
Class A common stock.
General Instrument Corporation, our largest stockholder, will own 100% of
the outstanding shares of our Class B common stock, representing % of our
outstanding common stock, after this offering. The Class A common stock and the
Class B common stock are substantially identical except that the Class A common
stock is entitled to one vote per share while the Class B common stock is
entitled to ten votes per share.
We expect the public offering price to be between $ and $
per share. Currently, no public market exists for the shares. After pricing of
this offering, we expect that the Class A common stock will trade on the Nasdaq
National Market under the symbol "NXTV."
INVESTING IN OUR CLASS A COMMON STOCK INVOLVES RISKS WHICH ARE
DESCRIBED IN THE "RISK FACTORS" SECTION BEGINNING ON PAGE 5 OF THIS PROSPECTUS.
------------------------
<TABLE>
<CAPTION>
PER SHARE TOTAL
--------- -----
<S> <C> <C>
Public offering price....................................... $ $
Underwriting discount....................................... $ $
Proceeds, before expenses, to Next Level Communications,
Inc....................................................... $ $
</TABLE>
The underwriters may also purchase up to an additional
shares at the public offering price, less the underwriting discount, within 30
days from the date of this prospectus to cover over-allotments.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if this
prospectus is truthful or complete. Any representation to the contrary is a
criminal offense.
We expect that the shares of Class A common stock will be ready for
delivery in New York, New York on or about , 1999.
------------------------
MERRILL LYNCH & CO. CREDIT SUISSE FIRST BOSTON
LEHMAN BROTHERS WARBURG DILLON READ LLC
------------------------
The date of the prospectus is , 1999.
<PAGE> 3
EDGAR DESCRIPTION OF ARTWORK: INSIDE COVER GRAPHICS OF PROSPECTUS.
The heading for the page reads "NLevel(3) -- The Unified Access Platform,
Voice, Data and Video over Copper Twisted Pair."
This diagram depicts the process by which Next Level facilitates the
delivery, by telephone companies, of voice from the public switched telephone
network, data from high-speed data and internet service providers and video from
entertainment video service providers to a customer's home or business through
our products located at the central office, field and customer premises.
<PAGE> 4
TABLE OF CONTENTS
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PAGE
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Prospectus Summary.......................................... 1
Risk Factors................................................ 5
Forward-Looking Statements.................................. 17
Use of Proceeds............................................. 18
Dividend Policy............................................. 18
The Recapitalization........................................ 19
Capitalization.............................................. 20
Dilution.................................................... 21
Selected Financial Data..................................... 23
Pro Forma Selected Financial Data........................... 24
Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 25
Business.................................................... 35
Management.................................................. 50
Certain Relationships and Related Transactions.............. 58
Principal Stockholders...................................... 63
Description of Capital Stock................................ 65
United States Tax Consequences to Non-United States
Holders................................................... 72
Shares Eligible for Future Sale............................. 75
Underwriting................................................ 77
Legal Matters............................................... 80
Experts..................................................... 80
Where You Can Find Additional Information................... 81
Index to Financial Statements............................... F-1
</TABLE>
-------------------------
Unless otherwise indicated, the information in this prospectus (excluding
the historical financial statements):
- assumes that we have completed our recapitalization as described in this
prospectus under the heading "The Recapitalization;" and
- assumes no exercise of the underwriters' over-allotment option.
In addition, the number of shares of Class B common stock to be received by
General Instrument in our recapitalization is partially dependent upon an
assumed initial offering price of the Class A common stock. Accordingly the
exact number of shares General Instrument will own is subject to change.
You should rely only on the information contained in this prospectus. We
have not, and the underwriters have not, authorized any other person to provide
you with different information. If anyone provides you with different or
inconsistent information, you should not rely on it. We are not, and the
underwriters are not, making an offer to sell these securities in any
jurisdiction where the offer or sale is not permitted. You should assume that
the information appearing in this prospectus is accurate as of the date on the
front cover of this prospectus only. Our business, financial condition, results
of operations and prospects may have changed since that date.
NLevel(3) is a trademark of Next Level Communications, Inc. This prospectus
also contains product names, trade names and trademarks of ours as well as those
of other organizations. All other brand names and trademarks appearing in this
prospectus are the property of their respective holders.
i
<PAGE> 5
PROSPECTUS SUMMARY
You should read this Prospectus Summary together with the more detailed
information contained in this prospectus, including the risk factors and
financial statements and the notes to the financial statements. This prospectus
contains forward-looking statements that involve risks and uncertainties. Our
actual results may differ materially from those discussed in the forward-looking
statements. Factors that might cause such a difference include those discussed
in the Risk Factors section and elsewhere in this prospectus.
NEXT LEVEL COMMUNICATIONS, INC.
We are a leading provider of broadband communications systems that enable
telephone companies and other emerging communications service providers to cost-
effectively deliver a full suite of voice, data and video services over the
existing copper wire telephone infrastructure. We believe that our NLevel(3)
unified access system is the only system that provides voice, data and video
services through an integrated end-to-end system over the existing telephone
infrastructure. Service providers deploying our system can offer services in
either bundled or staged deployments depending on subscriber demand and service
provider objectives. We believe that by deploying our system, telephone
companies and other emerging communications service providers will be able to
capitalize on, and compete effectively in, the emerging market for integrated
voice, data and video services.
The increasing demand for voice, data and video services combined with
deregulation of the communications industry has created new opportunities and
challenges for communications service providers, which historically delivered
only a limited set of these network services. Telephone companies face
increasing competition from other communications service providers that have
recently announced plans to use coaxial cable to offer traditional voice
services, as well as broadband data and video services. Telephone companies,
however, have been constrained from responding to this increased competition
because the copper wire telephone infrastructure used by most telephone
companies has not been capable of delivering broadband services. Current systems
used by telephone companies are typically engineered to deliver only one
service. Therefore, telephone companies seeking to provide both broadband and
voice services have generally needed to install independent systems from
multiple vendors to create separate overlay networks. This strategy is costly,
increases the complexity of installation, operation and maintenance and
generally does not provide telephone companies with the integrated network and
reliability characteristics that they desire. These factors have created an
environment in which telephone companies are now seeking solutions that will
enable them to cost-effectively deliver higher bandwidth services, such as data
and video.
We believe that our system provides telephone companies with the solutions
that they seek. Our system is engineered to provide flexibility and scalability
to enable telephone companies to cost-effectively deploy multiple services to
large numbers of subscribers. Our system integrates many functions to reduce the
costs normally associated with broadband deployments. Telephone companies using
our system can generate incremental revenues from their existing end-user base
and respond to competing service offerings. Because our system consists of
integrated network elements and a standards-based architecture, it provides for
ease of integration, installation and maintenance. Additionally, our system is
engineered to provide enhanced security for applications such as electronic
commerce.
Our objective is to be the leading supplier of communications equipment
used by telephone companies to deliver integrated voice, data and video services
to their residential
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and business end-users. We intend to capitalize on our existing relationships
with key regional Bell operating companies to increase our sales as these
customers deploy voice, data and video services more broadly. Furthermore, we
intend to expand our sales into new markets by targeting other communications
providers that use copper access networks, including competitive local exchange
carriers and independent and international telephone companies. We intend to
maintain and extend our technology leadership to offer new products and features
that will provide competitive advantages for all of these communications service
providers. Lastly, to maintain flexibility and reduce costs, we will continue to
outsource manufacturing of our products.
Since our inception, approximately 85% of our total revenues have been from
sales to U S WEST and Bell Atlantic. We recently initiated several customer
relationships in the independent telecommunications market, competitive local
exchange market and the international market.
We commenced operations in July 1994 and recorded our first sale in
September 1997. Since January 1998, we have operated through Next Level
Communications L.P., which was formed as the result of the transfer of all the
net assets, management and workforce of a wholly owned subsidiary of General
Instrument. Immediately prior to the completion of this offering, this
partnership will be merged into Next Level Communications, Inc. as part of our
recapitalization.
Our principal executive offices are located at 6085 State Farm Drive,
Rohnert Park, California 94928 and our telephone number is (707) 584-6820. Our
world wide web address is www.nlc.com. The information on this web site does not
constitute part of this prospectus.
2
<PAGE> 7
THE OFFERING
Class A common stock offered........ shares
Common stock to be outstanding after
this offering:
Class A common stock.............. shares, assuming the
underwriters do not exercise their
option to purchase up to shares.
This does not include 6,984,119 shares
that are reserved for issuance pursuant
to outstanding employee stock options
and 8,480,102 shares that are reserved
for issuance pursuant to an outstanding
option held by KK Manager LLC.
Class B common stock.............. 69,718,591 shares
Total.......................... shares
Use of proceeds..................... For general corporate purposes,
including working capital.
Risk Factors........................ See "Risk Factors" for a discussion of
factors you should carefully consider
before deciding to invest in shares of
our Class A common stock.
Proposed Nasdaq National Market
symbol............................ NXTV
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SUMMARY FINANCIAL DATA
The following table presents summary historical, pro forma and pro forma,
as adjusted financial data. The information set forth below should be read in
conjunction with the "Pro Forma Selected Financial Data," "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the historical financial statements and notes included in this prospectus. The
statement of operations data for the years ended December 31, 1996, 1997, and
1998 are derived from audited financial statements included in this prospectus.
The statement of operations data for the six months ended June 30, 1998 and June
30, 1999 and the balance sheet data as of June 30, 1999 are derived from the
unaudited financial statements included in this prospectus and include all
adjustments (consisting of normal recurring items) that management considers
necessary for a fair presentation of the financial statements.
The unaudited pro forma statement of operations data for the year ended
December 31, 1998 and the six months ended June 30, 1999 give effect to our
recapitalization as if it occurred on January 1, 1998. The pro forma statement
of operations data do not give effect to the non-cash compensation expense
associated with employee stock options to be recorded upon completion of this
offering. The aggregate compensation expense, assuming no forfeitures, will be
approximately $ million, approximately $ million of which will be
expensed in the period in which this offering is completed.
The unaudited pro forma balance sheet data gives effect to our
recapitalization as if it occurred on June 30, 1999. The unaudited pro forma, as
adjusted balance sheet data further give effect to our receipt of the estimated
net proceeds from the sale of shares of Class A common stock in
this offering at an assumed initial public offering price of $ per share,
after deducting underwriting discounts and commissions and estimated offering
expenses payable by us, as if this offering had been completed on June 30, 1999.
The pro forma and pro forma, as adjusted financial data do not necessarily
represent what the operating results or financial position would have been or
project the operating results or financial position for any future period or
date.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, SIX MONTHS ENDED JUNE 30,
------------------------------------------- -------------------------------
PRO FORMA PRO FORMA
1996 1997 1998 1998 1998 1999 1999
--------- -------- -------- --------- -------- -------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Total revenues.......................... $ -- $ 8,311 $ 43,830 $ 43,830 $ 6,607 $ 18,190 $ 18,190
Gross profit (loss)..................... -- (2,949) 397 397 (71) 1,450 1,450
Operating expenses:
Research and development.............. 17,102 37,064 47,086 47,086 20,418 23,051 23,051
Selling, general and administrative... 15,850 26,414 26,248 26,248 15,400 14,384 14,384
Litigation............................ 141,000 -- 5,000 5,000 5,000 -- --
Operating loss.......................... (173,952) (66,427) (77,937) (77,937) (40,889) (35,985) (35,985)
Other income (expense), net............. 48 (2) 2,241 2,241 1,577 572 572
Interest expense........................ -- -- (6,035) (95) (2,809) (3,384) (94)
Net loss................................ $(173,904) $(66,429) $(81,731) $(75,791) $(42,121) $(38,797) $(35,507)
Pro forma basic and diluted net loss per
share................................. $ (1.00) $ (0.47)
Shares used in pro forma basic and
diluted net loss per share............ 75,582 75,582
</TABLE>
<TABLE>
<CAPTION>
JUNE 30, 1999
----------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
-------- --------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents................................... $ 34,722 $ 34,722 $
Working capital............................................. 36,610 36,610
Total assets................................................ 103,793 103,793
Long-term obligations, net of current portion............... 84,347 117
Total partners' deficit/stockholders' equity................ (19,566) 64,664
</TABLE>
See note 3 of notes to the financial statements of Next Level
Communications L.P. for an explanation of the determination of the number of
shares used in computing pro forma per share data.
4
<PAGE> 9
RISK FACTORS
You should carefully consider the following risks before making an
investment decision. Our business, operating results and financial condition
could be materially adversely affected by any of the following risks. The
trading price of our stock could decline due to any of these risks, and you may
lose all or part of your investment. You should also refer to the other
information set forth in this prospectus, including our financial statements and
the related notes.
RISKS RELATED TO FINANCIAL ASPECTS OF OUR BUSINESS
WE HAVE INCURRED NET LOSSES AND NEGATIVE CASH FLOW FOR OUR ENTIRE HISTORY, WE
EXPECT TO INCUR FUTURE LOSSES AND NEGATIVE CASH FLOW AND WE MAY NEVER ACHIEVE
PROFITABILITY
We incurred net losses of $38.8 million for the six months ended June 30,
1999, $81.7 million for the year ended December 31, 1998, $66.4 million for the
year ended December 31, 1997 and $173.9 million for the year ended December 31,
1996. We expect to continue to incur significant product development, sales and
marketing, and administrative expenses and, as a result, will need to generate
significant revenues and improve gross profit margins to achieve and maintain
profitability.
Our ability to achieve profitability on a continuing basis will depend on
the successful design, development, testing, introduction, marketing and broad
commercial distribution of our products. In addition, we depend in part on cost
reductions to improve gross profit margins because the fixed-priced nature of
most of our long-term customer agreements prevents us from increasing prices. We
may not be successful in reducing our costs or in selling our products in
sufficient volumes to realize cost benefits from our manufacturers. We cannot be
certain that we can achieve sufficient revenues or gross profit margin
improvements to achieve profitability. If we do achieve profitability, we cannot
be certain that we can sustain or increase profitability on a quarterly or
annual basis.
OUR LIMITED OPERATING HISTORY MAKES IT DIFFICULT FOR YOU TO EVALUATE OUR
BUSINESS AND PROSPECTS
We recorded our first sale in September 1997. As a result, we have only a
limited operating history upon which you may evaluate our business and
prospects.
You should consider our prospects in light of the heightened risks and
unexpected expenses and difficulties frequently encountered by companies in an
early stage of development. These risks, expenses and difficulties apply
particularly to us because our market is new and rapidly evolving. These risks
and uncertainties include the following:
- limited number of telephone companies that have deployed products and
services incorporating our technology;
- uncertainty as to whether end-users will accept products and services
incorporating our technology;
- uncertainty as to the nature and scope of government regulation and the
effect of regulation on the technological or economic feasibility of our
products;
- ability to determine reliability of our products given their limited
deployment;
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- ability to compete in a highly competitive market;
- ability to manage rapidly expanding operations;
- ability to use and protect our intellectual property;
- ability to recruit and retain key personnel; and
- ability to expand our sales and customer services organization.
WE EXPECT OUR QUARTERLY REVENUES AND OPERATING RESULTS TO FLUCTUATE AND THESE
FLUCTUATIONS MAY AFFECT OUR STOCK PRICE
Our quarterly revenues and operating results have fluctuated in the past
and are likely to fluctuate significantly in the future. As a result, we believe
that quarter-to-quarter comparisons of our operating results may not be
meaningful. Additionally, fluctuations in our quarterly revenues or operating
results may cause volatility in the price of our stock. It is likely that in
some future quarter our operating results may be below the expectations of
public market analysts and investors, which may cause the price of our stock to
fall. Factors likely to cause variations in our quarterly revenues and operating
results include:
- delays or cancellations of any orders by U S WEST, which accounted for
approximately 64% of our revenues for the six months ended June 30, 1999,
or by any other customer accounting for a significant portion of our
revenues;
- variations in the timing, mix and size of orders and shipments of our
products throughout the quarter or year;
- new product introductions by us or by our competitors;
- the timing of upgrades of telephone companies' infrastructure;
- variations in capital spending budgets of telephone companies; and
- increased expenses, whether related to sales and marketing, product
development or administration.
The amount and timing of our operating expenses generally will vary from
quarter to quarter depending on the level of actual and anticipated business
activity. Because most of our operating expenses are fixed in the short term, we
may not be able to quickly reduce spending if our revenues are lower than we had
projected.
BECAUSE OUR SALES CYCLE IS LENGTHY AND VARIABLE, WE MAY INCUR SALES AND
MARKETING EXPENSES AND EXPEND SIGNIFICANT MANAGEMENT EFFORTS WITH NO GUARANTEE
OF A FUTURE SALE
The timing of our revenues is difficult to predict because of the length
and variability of the sales cycle for our products. Customers view the purchase
of our products as a significant and strategic decision. As a result, customers
typically undertake significant evaluation, testing and trial of our products
before deployment. This evaluation process frequently results in a lengthy sales
cycle, typically ranging from six months to more than a year. Before a customer
places an order, we may incur substantial sales and marketing expenses and
expend significant management efforts. In addition, product purchases are
frequently subject to unexpected administrative, processing and other delays on
the part of our customers. This is particularly true for customers for whom our
products represent a
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very small percentage of their overall purchasing activities. This may also
occur with customers who are considering a business combination. As a result,
sales forecasted from a specific customer for a particular quarter may not be
realized in that quarter.
WE MAY NEED ADDITIONAL CAPITAL IN THE FUTURE AND MAY NOT BE ABLE TO SECURE
ADEQUATE FUNDS ON TERMS ACCEPTABLE TO US, IF AT ALL
We may need to raise additional funds if our estimates of revenues or
capital requirements change or prove inaccurate. In addition, we may need
additional capital if we need to respond to unforeseen technological or
marketing hurdles or if we desire to take advantage of unanticipated
opportunities. Further, we expect to review potential acquisitions that would
complement our existing product offerings or enhance our technical capabilities.
Any future transaction of this nature could require potentially significant
amounts of capital. Funds may not be available at the time or times needed on
terms acceptable to us, if at all. In the past, we have relied on General
Instrument to provide capital, but it will not provide us additional funds after
this offering. If adequate funds are not available, or are not available on
acceptable terms, we may not be able to take advantage of market opportunities,
to develop new products or to otherwise respond to competitive pressures
effectively.
RISKS RELATED TO OUR CUSTOMERS
OUR EXISTING CUSTOMER BASE IS EXTREMELY CONCENTRATED AND THE LOSS OF OR
REDUCTION IN BUSINESS BY ONE OR MORE OF OUR CUSTOMERS COULD CAUSE OUR BUSINESS
TO SUFFER
A small number of customers have accounted for a large part of our revenues
to date. We expect this concentration to continue in the future. U S WEST
accounted for 68% of total revenues for the year ended December 31, 1998 and 64%
of total revenues for the six months ended June 30, 1999. Bell Atlantic
accounted for 20% of total revenues for the year ended December 31, 1998 and 19%
of total revenues for the six months ended June 30, 1999. Our agreements with
our customers are cancelable by these customers on short notice, without
penalty, do not obligate the customers to purchase any products and are not
exclusive. Accordingly, we may not be able to retain our significant customers.
Although our largest customers in the future could be different from our largest
customers today due to a variety of factors, including customers' deployment
schedules, budget considerations and customer consolidation, we expect to
continue to be dependent on sales to a small number of customers.
OUR MARKET IS NEW AND UNDERDEVELOPED, AND IF TELEPHONE COMPANIES DO NOT
SUCCESSFULLY DEPLOY BROADBAND SERVICES SUCH AS HIGH-SPEED DATA AND VIDEO, A
SIGNIFICANT MARKET FOR OUR PRODUCTS MAY NOT DEVELOP
The targeted market for our products is telephone companies that seek to
deliver integrated voice, data and video services. This market is new and
underdeveloped. Telephone companies have just recently begun offering high-speed
data services, and most telephone companies have not offered video services at
all. Sales of our products depend on the increased use and widespread adoption
of broadband access services and the ability of our customers to market and sell
broadband services, including video services, to their end-users. Certain
critical issues concerning use of broadband access services are
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unresolved and will likely affect their use. These issues include security,
reliability, bandwidth, cost, interoperability standards and government
regulations.
Unless telephone companies make the strategic decision to enter the market
for providing broadband services, a significant market for our products may not
develop. Even if telephone companies decide to deploy broadband services, this
deployment may not be successful. Our customers have delayed deployments in the
past and may delay deployments in the future. Factors that could cause telephone
companies not to deploy, to delay deployment of, or to fail to deploy
successfully the services for which our products are designed include the
following:
- industry consolidation;
- regulatory uncertainties and delays affecting telephone companies;
- varying quality of telephone companies' network infrastructure and cost
of infrastructure upgrades and maintenance;
- inexperience of telephone companies in obtaining access to video
programming content from third party providers;
- inexperience of telephone companies in providing broadband services and
the lack of sufficient technical expertise and personnel to install
products and implement services effectively;
- uncertain demand for broadband services by end-users; and
- inability of telephone companies to predict return on their investment in
broadband capable infrastructure and equipment.
CONSOLIDATION OF OUR CUSTOMERS MAY ADVERSELY AFFECT OUR SALES
Consolidation among telephone companies, including the pending merger of
Bell Atlantic and GTE, may inhibit the purchase of our products. Additionally, U
S WEST has agreed to be acquired by Qwest. Consolidation of our customers may
cause delays in the purchase of our products and cause a reexamination of
strategic and purchasing decisions by these customers. In addition, we may lose
relationships with key personnel within a customer's organization due to budget
cuts, layoffs, or other disruptions following a consolidation.
GOVERNMENT REGULATION OF OUR CUSTOMERS AND RELATED UNCERTAINTY COULD ADVERSELY
AFFECT OUR BUSINESS
The Federal Communications Commission is in the process of developing new
rules that could force telephone companies, such as the regional Bell operating
companies, to offer their competitors cost-based access to some elements of
their networks, including facilities and equipment used to provide high-speed
data and video services. These telephone companies may not wish to make
expenditures for infrastructure and equipment required to provide broadband
services if they will be forced to allow competitors access to this
infrastructure and equipment. Accordingly, the uncertainties caused by these
regulatory proceedings may cause these telephone companies to delay purchasing
decisions at least until the proceedings and any related judicial appeals are
completed. The outcomes of these regulatory proceedings, as well as other FCC
regulation, may cause these
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telephone companies not to deploy services for which our products are designed
or to further delay deployment. Additionally, telephone companies' deployment of
broadband services may be slowed down or stopped because of the need for
telephone companies to obtain permits from city, state or federal authorities to
implement infrastructure for products such as ours. For a more detailed
description of these and other regulatory matters that may affect our business,
see "Business -- Regulation of Customers."
OUR CUSTOMERS AND POTENTIAL CUSTOMERS MAY NOT HAVE THE INFRASTRUCTURE NECESSARY
TO USE OUR PRODUCTS
The twisted-pair copper wire infrastructures over which telephone companies
may deliver voice, data and video services using our products vary in quality
and reliability. As a result, some of these telephone companies may not be able
to deliver a full set of voice, data and video services to their customers,
despite their intention to do so, and this could harm our sales. Even after
installation of our products, we remain highly dependent on telephone companies
to continue to maintain their infrastructure so that our products will operate
at a consistently high performance level. Infrastructure upgrades and
maintenance may be costly, and telephone companies may not have the necessary
financial resources. This may be particularly true for our smaller customers and
potential customers such as independent telephone companies and domestic
competitive local exchange carriers.
RISKS RELATED TO OUR INDUSTRY
OUR BUSINESS MAY SUFFER IF COMPETING TECHNOLOGIES THAT OFFER ALTERNATIVE
SOLUTIONS FOR HIGH-SPEED VOICE, VIDEO AND DATA TRANSMISSION SERVICES ACHIEVE
WIDESPREAD ACCEPTANCE
Technologies that compete with our system include other
telecommunications-related wireline technologies, cable-based technologies,
fixed wireless technologies and satellite technologies. In particular, cable
operators are currently deploying products that deliver voice, high-speed data
and video services over cable, including products from General Instrument, our
principal stockholder. Our technology may not be able to compete effectively
against these technologies on a price, performance or reliability basis.
Our customers or potential customers that also offer cable-based services
may choose to purchase cable-based technologies. AT&T recently acquired TCI and
has entered into an agreement to acquire Media One. Concurrently, AT&T announced
plans to accelerate the upgrade of TCI's cable systems to offer bundled services
to a broader end-user base. AT&T plans to provide not only data and video but
also telephony over its own cable system and over other cable systems through
partnerships with other cable operators. Bundled services will give end-users
the alternative of purchasing all communications services from a single
communications service provider, allowing the potential for more favorable
pricing and a single point of contact for bill payment and customer service. If
these bundled services are implemented successfully over coaxial cable
connections, they will compete directly with the services offered by telephone
companies. In addition, any one of our competitors could develop a commercially
viable alternative technology. Significant market acceptance of alternative
solutions for high-speed video and data transmission could decrease the demand
for our products if these alternatives are viewed as providing faster access,
greater reliability, increased cost-effectiveness or other advantages. Several
telephone companies have commenced the marketing of video services over direct
broadcast satellite while
9
<PAGE> 14
continuing to provide voice and data services over their existing copper wire
infrastructure. If these services are accepted by consumers, the demand for our
products may not develop.
WE FACE INTENSE COMPETITION IN PROVIDING EQUIPMENT FOR TELECOMMUNICATIONS
NETWORKS FROM LARGER AND MORE WELL-ESTABLISHED COMPANIES AND WE MAY NOT BE ABLE
TO COMPETE EFFECTIVELY WITH THESE COMPANIES
Many of our current and potential competitors have longer operating
histories, greater name recognition and significantly greater financial,
technical, marketing and distribution resources than we do. These competitors
may undertake more extensive marketing campaigns, adopt more aggressive pricing
policies and devote substantially more resources to developing new products than
we are able to.
Our significant current and potential competitors include Advanced Fibre
Communications, Alcatel, Cisco Systems, Efficient Networks, Ericsson, Lucent
Technologies, Nokia, Nortel Networks, RELTEC (recently acquired by GEC Marconi),
Scientific Atlanta, Siemens and our largest stockholder, General Instrument, as
well as emerging companies that are developing new technologies. Some of these
competitors have existing relationships with our current and prospective
customers. In addition, we anticipate that other large companies, such as
Matsushita Electric Industrial (which markets products under the Panasonic brand
name), Microsoft, Network Computer, Philips, Sony, STMicroelectronics and
Toshiba America, will likely introduce products that compete with our
residential gateway product in the future.
CONSOLIDATION OF OUR COMPETITORS MAY NEGATIVELY AFFECT OUR SALES
Consolidation in the telecommunications equipment industry may strengthen
our competitors' position in our market. For example, Alcatel acquired DSC
Communications, Lucent recently acquired Ascend Communications and GEC Marconi
recently acquired RELTEC. Acquisitions such as these may strengthen our
competitors' financial, technical and marketing resources and provide access to
regional Bell operating companies and other potential customers. This
consolidation may allow some of our competitors to penetrate new markets that we
have targeted, such as domestic competitive local exchange carriers and
independent and international telecommunications companies.
IF WE DO NOT RESPOND QUICKLY TO CHANGING CUSTOMER NEEDS AND FREQUENT NEW PRODUCT
INTRODUCTIONS BY OUR COMPETITORS, WE MAY NOT BE ABLE TO COMPETE SUCCESSFULLY
We expect that we will have to respond quickly to changing customer needs
and frequent new product introductions that may render our existing products
obsolete. The market for our products may never fully develop, and even if it
does, we may not be able to compete successfully. As a result, our position in
existing markets or potential markets could be eroded rapidly by product
advances. The life cycles of our products are difficult to estimate. Our growth
and future financial performance will depend in part upon our ability to enhance
existing products, develop and introduce new products that keep pace with
technological advances, meet changing customer requirements and respond to
competitive products. We expect that our product development efforts will
continue to require substantial investments. We may not have sufficient
resources to make the necessary investments.
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<PAGE> 15
RISKS ASSOCIATED WITH OTHER ASPECTS OF OUR BUSINESS
OUR EXECUTIVE OFFICERS AND CERTAIN KEY PERSONNEL ARE CRITICAL TO OUR BUSINESS,
AND THESE OFFICERS AND KEY PERSONNEL MAY NOT REMAIN WITH US IN THE FUTURE
Our future success depends upon the continued service of our executive
officers and other key personnel, none of whom are bound by an employment
agreement. We do not have any key man life insurance policies. Many of these
employees have a significant amount of options to purchase our Class A common
stock. Substantially all of these options are currently vested and exercisable
and some of our key employees may leave us once they have exercised their
options. In addition, our engineering and product development teams are critical
in developing our products and have developed important relationships with our
regional Bell operating company customers and their technical staffs. If we lose
the services of one or more of our executive officers or these key employees, or
if one or more of them decide to join a competitor or otherwise compete directly
or indirectly with us, our business, operating results and financial condition
would be materially adversely affected.
COMPETITION FOR QUALIFIED PERSONNEL IN THE TELECOMMUNICATIONS EQUIPMENT INDUSTRY
IS INTENSE, AND WE MAY NOT BE SUCCESSFUL IN ATTRACTING AND RETAINING THESE
PERSONNEL
We are dependent on our ability to retain and motivate high caliber
personnel, in addition to attracting new personnel. Competition for qualified
personnel in the telecommunications equipment industry, specifically in the
Rohnert Park, California area, is intense, and we may not be successful in
attracting and retaining such personnel.
We are actively searching for research and development engineers and sales
and marketing personnel who are in short supply. Competitors and others have in
the past and may in the future attempt to recruit our employees. In addition,
companies in the telecommunications industry whose employees accept positions
with competitors frequently claim that such competitors have engaged in unfair
hiring practices. We may receive such notices in the future as we seek to hire
qualified personnel and such notices may result in material litigation.
OUR BUSINESS WILL NOT OPERATE EFFICIENTLY IF WE ARE UNABLE TO PROPERLY MANAGE
EXPANSION
We have expanded our operations rapidly since inception. We intend to
continue to expand in the foreseeable future to pursue existing and potential
market opportunities. This rapid growth places a significant demand on
management and operational resources. Our management, personnel, systems,
procedures, controls and customer service may be inadequate to support our
future operations. To manage expansion effectively, we must implement and
improve our operational systems, procedures, controls and customer service on a
timely basis. We expect significant strain on our order and fulfillment process
and our quality control systems if significant expansion of business activity
occurs.
IF WE ARE NOT ABLE TO ENFORCE OR PROTECT OUR INTELLECTUAL PROPERTY, OUR
BUSINESS, OPERATING RESULTS AND FINANCIAL CONDITION WILL BE MATERIALLY ADVERSELY
AFFECTED
We rely on a combination of patent, copyright and trademark laws, and on
trade secrets and confidentiality provisions and other contractual provisions to
protect our intellectual property. These measures afford only limited
protection. Our methods of
11
<PAGE> 16
protecting our intellectual property in the United States or abroad may not be
adequate and competitors may independently develop similar technologies. Our
future success will depend in part on our ability to protect our intellectual
property and the technologies used in our principal products. Despite our
efforts to protect our intellectual property, unauthorized parties may attempt
to copy aspects of our products or to obtain and use trade secrets or other
information that we regard as intellectual property. In addition, the laws of
some foreign countries do not protect our proprietary rights as fully as do the
laws of the United States.
OUR BUSINESS MAY BE ADVERSELY AFFECTED BY INFRINGEMENT CLAIMS AND MAY REQUIRE
ACCESS TO INTELLECTUAL PROPERTY THAT WE DO NOT CURRENTLY HAVE THE RIGHT TO USE
From time to time, third parties, including our competitors, have asserted
patent, copyright and other intellectual property rights to technologies that
are important to us. We expect that we will increasingly be subject to
infringement claims as the number of products and competitors in our market
grows and the functionality of products overlaps, and our products may currently
infringe on one or more United States or international patents. The results of
any litigation are inherently uncertain. In the event of an adverse result in
any litigation with third parties that could arise in the future, we could be
required:
- to pay substantial damages, including paying treble damages if we are
held to have willfully infringed;
- to halt the manufacture, use and sale of infringing products;
- to expend significant resources to develop non-infringing technology;
and/or
- to obtain licenses to the infringing technology.
Licenses may not be available from any third party that asserts
intellectual property claims against us, on commercially reasonable terms, or at
all. In addition, litigation frequently involves substantial expenditures and
can require significant management attention, even if we ultimately prevail. In
addition, we indemnify our customers for patent infringement claims and we may
be required to obtain licenses on their behalf.
WE DEPEND ON THIRD-PARTY MANUFACTURERS AND HAVE LIMITED IN-HOUSE MANUFACTURING
CAPABILITIES
We contract for the manufacture of all of our products on a turnkey basis.
We rely primarily on two large contract manufacturers: SCI Systems and CMC
Industries. SCI Systems is responsible for manufacturing a majority of our
circuit board plug-in assemblies. CMC Industries, recently acquired by ACT
Manufacturing, is responsible for manufacturing our residential gateway product.
Our future success will depend, in large part, on our ability to have these and
other companies manufacture our products cost-effectively and in sufficient
volumes while maintaining consistent quality. There are a number of risks
associated with our dependence on third-party manufacturers including the
following:
- reduced control over delivery schedules;
- reduced control of quality assurance;
12
<PAGE> 17
- reduced control of manufacturing yields and costs;
- the potential lack of adequate capacity during periods of excess demand;
- limited warranties on products supplied to us;
- the potential misappropriation of our intellectual property; and
- manufacturing disruptions.
Any manufacturing disruption could impair our ability to fulfill orders. We
have no long-term contracts or arrangements with any of our contract
manufacturers that guarantee product availability, the continuation of
particular payment terms or the extension of credit limits. If our manufacturers
are unable or unwilling to continue manufacturing our products in required
volumes, we will have to identify acceptable alternative manufacturers, which
could take in excess of three months. For example, Flextronics International,
previously designated to be the sole manufacturer of our ETHERset product,
discontinued its relationship with us due to lack of order volume. It is
possible that a source may not be available to us when needed or be in a
position to satisfy our production requirements at acceptable prices and on a
timely basis. In addition, we are dependent on our manufacturers to secure
components at favorable prices, but we may not be able to obtain additional
volume purchase or manufacturing arrangements on terms that we consider
acceptable, if at all.
WE MAY NOT BE ABLE TO PRODUCE SUFFICIENT QUANTITIES OF OUR PRODUCTS BECAUSE WE
OBTAIN COMPONENTS FROM, AND DEPEND ON, KEY SOLE SUPPLIERS
Some parts, components and equipment used in our products are obtained from
sole sources of supply. Additional sole-sourced components may be incorporated
into our equipment in the future. We do not have any long term supply contracts
to ensure sources of supply. If we or our sole source suppliers fail to obtain
components in sufficient quantities when required, our business could be harmed.
Our suppliers may enter into exclusive arrangements with our competitors, stop
selling their products or components to us at commercially reasonable prices or
refuse to sell their products or components to us at any price. In addition, we
may not be able to develop alternative sources for components.
THE OCCURRENCE OF ANY DEFECTS, ERRORS, OR FAILURES IN OUR PRODUCTS COULD RESULT
IN DELAYS IN INSTALLATION, PRODUCT RETURNS AND OTHER LOSSES TO US OR TO OUR
CUSTOMERS OR END-USERS
Our products are complex and may contain undetected defects, errors or
failures. These problems have occurred in our products in the past and
additional errors may occur in our products in the future and could result in
the loss of or delay in market acceptance of our products. In addition, we have
limited experience with commercial deployment and we expect additional defects,
errors and failures as our business expands from trials to commercial deployment
at certain customers. We will have limited experience with the problems that
could arise with any new products that we introduce. Further, our customer
agreements generally include a longer warranty for defects than our
manufacturing agreements.
13
<PAGE> 18
OUR PLANNED EXPANSION TO INTERNATIONAL MARKETS WILL INVOLVE NEW RISKS
We plan to extend the marketing and sales of our products internationally.
International operations are generally subject to a number of risks, including:
- unexpected changes in telecommunications regulatory requirements;
- limited number of telephone companies operating internationally;
- expenses associated with developing and customizing products for foreign
countries;
- tariffs, quotas and other import restrictions;
- difficulties in staffing and managing foreign operations;
- difficulties associated with enforcing agreements through foreign legal
systems;
- longer sales cycles;
- greater difficulty in accounts receivable collection;
- political and economic instability;
- currency exchange rate fluctuations; and
- compliance with international standards that differ from domestic
standards.
PROBLEMS RELATED TO THE YEAR 2000 ISSUE COULD ADVERSELY AFFECT OUR BUSINESS
Computer systems, software packages and microprocessor-dependent equipment
may cease to function or generate erroneous data when the year 2000 arrives. To
correctly identify the year 2000, a four-digit date code field will be required
to be what is commonly termed "year 2000 compliant." If systems material to our
business are not year 2000 compliant or if third parties fail to make their
systems year 2000 compliant in a timely manner, the year 2000 issue could affect
our operations. Our operations may suffer if the systems we depend on are not
year 2000 compliant. The potential areas of exposure include electronic data
exchange systems operated by third parties with which we transact business and
computers, software, telephone systems and other equipment used internally.
While we have established a year 2000 compliance program, this program may not
fully address all potential year 2000 problems. Additionally, our customers'
purchasing and deployment plans could be affected by year 2000 issues. Some
customers may wait to purchase or deploy our products, if at all, which may
reduce our future revenues. For a discussion of our year 2000 preparedness
program, see "Management Discussion and Analysis of Financial Condition and
Results of Operations -- Year 2000."
RISKS RELATED TO THIS OFFERING
OUR PRINCIPAL STOCKHOLDER WILL EXERCISE SIGNIFICANT INFLUENCE OVER US
Upon completion of this offering, General Instrument will beneficially own
100% of the outstanding shares of our Class B common stock, which will in the
aggregate represent over % of the combined voting power of all outstanding
common stock. Although General Instrument will enter into a voting trust
agreement to limit its voting power to 49% of the combined voting power of all
outstanding common stock and to limit the number of its
14
<PAGE> 19
designees to the board of directors to one less than a majority, General
Instrument will be able to exercise significant influence over all matters
relating to our business and affairs, including approval of significant
corporate transactions, which could delay or prevent someone from acquiring or
merging with us. It is possible that General Instrument could be in a position
involving a conflict of interest with us. In addition, individuals who are
officers or directors of both companies may have fiduciary duties to both
General Instrument and us. For example, a conflict may arise if General
Instrument were to engage in activities or pursue corporate opportunities that
may overlap with our business. Our certificate of incorporation contains
provisions intended to protect General Instrument and these individuals in these
situations. For a description of these provisions, see "Description of Capital
Stock -- Other Certificate of Incorporation and By-law Provisions -- Corporate
Opportunities."
OVER MILLION, OR %, OF OUR TOTAL OUTSTANDING SHARES, ARE
RESTRICTED FROM IMMEDIATE RESALE BUT MAY BE SOLD INTO THE MARKET IN THE NEAR
FUTURE. THIS COULD CAUSE THE MARKET PRICE OF OUR CLASS A COMMON STOCK TO DROP
SIGNIFICANTLY
After this offering, we will have outstanding shares of
common stock. After this offering, General Instrument will own approximately
% of our outstanding common stock and KK Manager LLC will own approximately
% of our outstanding common stock and will have an option to purchase an
additional % of our outstanding common stock. If General Instrument, KK
Manager LLC or any of our other stockholders sell substantial amounts of common
stock, including shares issued upon exercise of outstanding options, in the
public market following this offering, the market price of the Class A common
stock could fall. In addition, any distribution of shares of our common stock by
General Instrument to its stockholders could also have an adverse effect on the
market price.
All shares sold in this offering may be resold in the public market
immediately. All of the remaining shares will be owned by General Instrument and
KK Manager LLC. Under federal securities laws, these shares, unless registered
under the Securities Act, generally may be resold in the public market only
following a one-year holding period that will begin to run upon the completion
of our recapitalization and subject to volume and manner of sale limitations.
General Instrument and KK Manager LLC will be entitled to registration rights
pursuant to which they may require that we register their shares under the
Securities Act. In addition, each of General Instrument and KK Manager LLC has
entered into a lockup agreement with the underwriters pursuant to which they
have agreed generally not to transfer or dispose of shares of common stock or
securities convertible into common stock for a period of 180 days after the date
of this prospectus. However, these lockups may be waived by the underwriters.
In addition, as of the date of this prospectus we have outstanding employee
stock options to purchase 6,984,119 shares of Class A common stock. The holders
of options to purchase 3,309,213 shares have entered into 365-day lockup
agreements with the underwriters, and the holders of the remaining options to
purchase 3,674,906 shares have entered into 180-day lockup agreements. Following
completion of this offering, we intend to file with the SEC a registration
statement covering the shares issuable upon the exercise of our outstanding
employee options. Accordingly, subject to vesting provisions and, in the case of
our affiliates, volume and manner of sale restrictions, the shares of Class A
common stock issuable upon the exercise of our outstanding employee options will
be eligible for sale into the public market after the expiration of the
applicable lockup period.
15
<PAGE> 20
The lockups may be waived by the underwriters. For a more detailed description,
see "Shares Eligible for Future Sale."
ANTITAKEOVER PROVISIONS IN OUR CHARTER DOCUMENTS AND DELAWARE LAW COULD PREVENT
OR DELAY A CHANGE IN CONTROL OF OUR COMPANY THAT A STOCKHOLDER MAY CONSIDER
FAVORABLE
Several provisions of our certificate of incorporation and bylaws and
Delaware law may discourage, delay or prevent a merger or acquisition that a
stockholder may consider favorable. These provisions include:
- authorizing the issuance of preferred stock without stockholder approval;
- providing for a classified board of directors with staggered, three year
terms;
- prohibiting cumulative voting in the election of directors;
- restricting business combinations with interested stockholders;
- limiting the persons who may call special meetings of stockholders;
- prohibiting stockholder action by written consent;
- establishing advance notice requirements for nominations for election to
the board of directors or for proposing matters that can be acted on by
stockholders at stockholder meetings; and
- requiring super-majority voting to effect amendments to our certificate
of incorporation and bylaws.
For a more detailed description of these provisions, see "Description of Capital
Stock."
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<PAGE> 21
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. These statements relate to future events or our
future financial performance. In some cases, you can identify forward-looking
statements by terminology such as "may," "will," "should," "expect," "plan,"
"anticipate," "believe," "estimate," "predict," "potential" or "continue" or the
negative of such terms or other comparable terminology. These statements involve
known and unknown risks, uncertainties, and other factors that may cause our or
our industry's actual results, levels of activity, performance, or achievements
to be materially different from any future results, levels of activity,
performance or achievements expressed or implied by such forward-looking
statements. These factors include, among other things, 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. We are under no duty to update any of
the forward-looking statements after the date of this prospectus to conform
these statements to actual results.
17
<PAGE> 22
USE OF PROCEEDS
We estimate that through this offering we will receive net proceeds of $
million ($ million if the underwriters'
over-allotment option is exercised in full), assuming an initial public offering
price of $ , and after deducting underwriting discounts and
commissions and estimated offering expenses payable by us. The primary purposes
of this offering are to increase our equity capital, to create a public market
for our common stock and to facilitate future access to public markets. As of
the date of this prospectus, we have no specific plans to use the net proceeds
from this offering other than as set forth below.
We expect to use the net proceeds of this offering for general corporate
purposes, including working capital. From time to time we will evaluate our
opportunities to acquire businesses, products and technologies that complement
our business. We may use a portion of the net proceeds from this offering for
these acquisitions. Currently, however, we do not have any understandings,
commitments or agreements with respect to these acquisitions. Pending our use of
the proceeds, we will most likely invest the net proceeds in short-term,
interest-bearing, investment-grade obligations.
DIVIDEND POLICY
We do not expect to pay dividends on our common stock in the foreseeable
future. We anticipate that all future earnings, if any, generated from
operations will be retained to develop and expand our business. Any future
determination with respect to the payment of dividends will be at the discretion
of the board of directors and will depend upon, among other things, our
operating results, financial condition and capital requirements, the terms of
then-existing indebtedness, general business conditions and such other factors
as our board of directors deems relevant.
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<PAGE> 23
THE RECAPITALIZATION
Immediately prior to the completion of this offering, the following
transactions will occur:
- the Next Level Communications L.P. $75.0 million note and accrued
interest thereon payable to General Instrument will be contributed by
General Instrument to Next Level Communications, Inc., a newly formed
Delaware corporation and the issuer of the Class A common stock being
offered in this offering, in exchange for approximately shares
of Class B common stock, which is based upon an assumed initial offering
price of $ ; and
- Next Level Communications L.P. and Next Level Communications, a wholly
owned subsidiary of General Instrument and the limited partner of Next
Level Communications L.P., each will be merged into Next Level
Communications, Inc. As part of these mergers:
- KK Manager LLC, the general partner of the partnership, will receive
5,863,329 shares of Class A common stock;
- General Instrument will receive shares of Class B common
stock which is in part based upon an assumed initial offering price of
$ ;
- options granted to employees of the partnership to purchase shares of
Next Level Communications will become options to purchase a total of
6,984,119 shares of Class A common stock; and
- the option currently held by to KK Manager LLC to purchase shares of
the partnership's successor will become an option to purchase from us
8,480,102 shares of Class A common stock at an exercise price of
$10.38 per share.
In this prospectus, we refer to these interdependent transactions
collectively as our recapitalization.
As a result of these transactions, upon completion of this offering,
General Instrument will own 69,718,591 shares of Class B common stock,
constituting all of our outstanding Class B common stock and constituting % of
our outstanding common stock on a fully diluted basis. KK Manager LLC will own,
including shares issuable upon exercise of an outstanding option, 14,343,431
shares of Class A common stock in the aggregate, constituting % of the
shares of Class A common stock and constituting % of our outstanding common
stock on a fully diluted basis. Because the Class B common stock is entitled to
ten votes per share and the Class A common stock is entitled to one vote per
share, General Instrument will own shares of common stock with % of the
total voting power of all shares of outstanding common stock. However, all of
the shares of Class B common stock to be received by General Instrument pursuant
to our recapitalization will be held in a voting trust which will limit General
Instrument's voting power to 49% of our total voting power or a lower percentage
as General Instrument may later elect. For additional information about the
voting trust, see "Certain Relationships and Related Transactions -- Voting
Trust Agreement."
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<PAGE> 24
CAPITALIZATION
The following table sets forth as of June 30, 1999:
- the actual capitalization of Next Level Communications L.P.;
- our pro forma capitalization assuming the completion of our
recapitalization on June 30, 1999; and
- our pro forma capitalization as adjusted to reflect the receipt of the
estimated net proceeds from the sale of shares of Class A
common stock in this offering at an assumed offering price of $ per
share, after deducting the estimated underwriting discounts and
commissions and the estimated offering expenses:
<TABLE>
<CAPTION>
JUNE 30, 1999
-----------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
-------- ---------- -----------
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C>
Long-term obligations, net of current
portion..................................... $ 84,347 $ 117 $
Partners' deficit/stockholders' equity:
Class A common stock, $.01 par value per
share; shares authorized, pro
forma and pro forma, as adjusted and
5,863,329 shares issued and outstanding,
pro forma and shares issued and
outstanding pro forma, as adjusted(1).... -- 59
Class B common stock, $.01 par value per
share; shares authorized, pro
forma and pro forma, as adjusted and
69,718,591 shares issued and outstanding
pro forma and pro forma, as adjusted..... -- 697
Additional paid-in capital(2)............... -- 63,908
Partners' deficit........................... (19,566) -- --
Accumulated deficit(2)...................... -- --
-------- ---------- ----
Total partners'
deficit/stockholders' equity..... (19,566) 64,664
-------- ---------- ----
Total capitalization................ $ 64,781 $ 64,781
======== ========== ====
</TABLE>
- -------------------------
(1) The information in the table above excludes: (1) options outstanding to
purchase a total of 6,984,119 shares of Class A common stock at a weighted
average exercise price of $1.24 per share under our Amended and Restated
1997 Long-Term Incentive Plan, (2) shares of Class A common stock
reserved for issuance under our 1999 stock option plan, (3) shares
reserved for issuance under our 1999 Equity Incentive Plan and (4) an option
held by KK Manager LLC to purchase 8,480,102 shares of Class A common stock
at an exercise price of $10.38 per share.
(2) The pro forma, as adjusted amount reflects the non-cash compensation expense
associated with employee stock options to be recorded upon completion of
this offering. The aggregate non-cash compensation expense related to these
options, assuming no forfeitures, will be approximately $ million,
approximately $ million of which will be expensed in the period in which
this offering is completed. These charges are based upon an assumed initial
offering price of $ .
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<PAGE> 25
DILUTION
The pro forma net tangible book value of our common stock as of June 30,
1999, assuming the completion of our recapitalization on that date, was
$ , or $ per share. Pro forma net tangible book value per share
represents the amount of our pro forma stockholders' equity, less pro forma
intangible assets, divided by the number of shares of common stock outstanding
after giving pro forma effect to the recapitalization on June 30, 1999.
Pro forma net tangible book value dilution per share represents the
difference between the amount per share paid by purchasers of shares of Class A
common stock in this offering and the pro forma net tangible book value per
share of Class A common stock immediately after completion of this offering.
After giving effect to the sale of shares of common stock in this
offering at an assumed initial public offering price of $ per share and the
receipt of the estimated net proceeds from this sale, after deducting estimated
underwriting discounts and commissions and estimated offering expenses payable
by us, the pro forma net tangible book value as of June 30, 1999 would have been
$ , or $ per share. This represents an immediate increase in net
tangible book value of $ per share to existing stockholders and an immediate
dilution in net tangible book value of $ per share to purchasers of common
stock in this offering. Investors participating in this offering will incur
immediate, substantial dilution. This is illustrated in the following table:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share...... $
Pro forma net tangible book value per share as of
June 30, 1999 prior to this offering............ $
Increase per share attributable to new investors...
------
Pro forma net tangible book value per share, as
adjusted for this offering.........................
------
Pro forma net tangible book value dilution per share
to new investors................................... $
======
</TABLE>
The following table sets forth as of June 30, 1999, the difference between
the existing stockholders and the purchasers of shares in this offering with
respect to the number of shares purchased from us, the total consideration paid
and the weighted average price per share paid:
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION WEIGHTED
------------------- ------------------- AVERAGE PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
-------- -------- -------- -------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockholders....... % %
New stockholders............
-------- -------- -------- --------
Total............. 100% 100%
======== ======== ======== ========
</TABLE>
In addition, the information in the table above excludes: (1) options
outstanding to purchase a total of 6,984,119 shares of Class A common stock at a
weighted average exercise price of $1.24 per share under our Amended and
Restated 1997 Long-Term Incentive Plan, (2) shares of Class A common
stock reserved for issuance under our 1999 stock option plan, (3)
shares reserved for issuance under our 1999 Equity Incentive Plan and (4) an
option held by KK Manager LLC to
21
<PAGE> 26
purchase 8,480,102 shares of Class A common stock at an exercise price of $10.38
per share. To the extent outstanding options are exercised, there will be
further dilution to new investors. For a more complete description of these
options, see "Certain Relationships and Related Transactions" and notes 1 and 9
of notes to the financial statements of Next Level Communications, L.P.
22
<PAGE> 27
SELECTED FINANCIAL DATA
The selected financial data set forth below should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the historical financial statements and notes included in this
prospectus. The statement of operations data for the years ended December 31,
1996, 1997 and 1998, and the balance sheet data at December 31, 1997 and 1998,
are derived from financial statements that have been audited by Deloitte &
Touche LLP, independent auditors, and are included in this prospectus. The
statement of operations data for the six months ended June 30, 1998 and 1999 and
the balance sheet data as of June 30, 1999 are derived from unaudited financial
statements included in this prospectus and include all adjustments (consisting
of normal recurring items) that management considers necessary for a fair
presentation of the financial statements. The statement of operations data for
the periods from our inception on June 22, 1994 to December 31, 1994, from
January 1, 1995 to August 31, 1995 and from September 1, 1995 to December 31,
1995 and the balance sheet data as of December 31, 1994, 1995 and 1996 are
derived from unaudited financial statements not included in this prospectus.
The statement of operations data and balance sheet data for the periods
subsequent to August 31, 1995 reflect adjustments resulting from the application
of the purchase method of accounting in connection with our acquisition by
General Instrument in 1995. The financial information prior to August 31, 1995
is that of a predecessor company prior to its acquisition by General Instrument
and may not be comparable to the financial information for periods which began
subsequent to August 31, 1995. The results for the six months ended June 30,
1999 are not necessarily indicative of the operating results to be expected in
the future.
<TABLE>
<CAPTION>
PERIOD FROM PERIOD FROM PERIOD FROM
JUNE 22, 1994 JANUARY 1, SEPTEMBER 1,
(INCEPTION) 1995 1995 TO YEAR ENDED DECEMBER 31,
TO DECEMBER 31, TO AUGUST 31, DECEMBER 31, -------------------------------
1994 1995 1995 1996 1997 1998
--------------- ------------- ------------- --------- -------- --------
(PREDECESSOR) (IN THOUSANDS)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Equipment....................... $ -- $ -- $ -- $ -- $ 6,045 $ 39,243
Software........................ -- -- -- -- 2,266 4,587
----- ------- --------- --------- -------- --------
Total revenues............ -- -- -- -- 8,311 43,830
----- ------- --------- --------- -------- --------
Cost of revenues:
Equipment....................... -- -- -- -- 10,954 43,172
Software........................ -- -- -- -- 306 261
----- ------- --------- --------- -------- --------
Total cost of revenues.... -- -- -- -- 11,260 43,433
----- ------- --------- --------- -------- --------
Gross profit (loss)............... -- -- -- -- (2,949) 397
----- ------- --------- --------- -------- --------
Operating expenses:
Research and development........ 505 4,937 142,249 17,102 37,064 47,086
Selling, general and administrative... 126 1,646 1,016 15,850 26,414 26,248
Litigation...................... -- -- -- 141,000 -- 5,000
----- ------- --------- --------- -------- --------
Total operating
expenses................ 631 6,583 143,265 173,952 63,478 78,334
----- ------- --------- --------- -------- --------
Operating loss.................... (631) (6,583) (143,265) (173,952) (66,427) (77,937)
----- ------- --------- --------- -------- --------
Other income (expense), net....... -- -- -- 48 (2) 2,241
Interest expense.................. -- -- -- -- -- (6,035)
----- ------- --------- --------- -------- --------
Net loss.......................... $(631) $(6,583) $(143,265) $(173,904) $(66,429) $(81,731)
===== ======= ========= ========= ======== ========
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
-------------------
1998 1999
-------- --------
(IN THOUSANDS)
<S> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Equipment....................... $ 4,054 $ 16,429
Software........................ 2,553 1,761
-------- --------
Total revenues............ 6,607 18,190
-------- --------
Cost of revenues:
Equipment....................... 6,502 16,582
Software........................ 176 158
-------- --------
Total cost of revenues.... 6,678 16,740
-------- --------
Gross profit (loss)............... (71) 1,450
-------- --------
Operating expenses:
Research and development........ 20,418 23,051
Selling, general and administrat 15,400 14,384
Litigation...................... 5,000 --
-------- --------
Total operating
expenses................ 40,818 37,435
-------- --------
Operating loss.................... (40,889) (35,985)
-------- --------
Other income (expense), net....... 1,577 572
Interest expense.................. (2,809) (3,384)
-------- --------
Net loss.......................... $(42,121) $(38,797)
======== ========
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
DECEMBER 31, -----------------------------------------------
1994 1995 1996 1997 1998
--------------- ------------- --------- -------- --------
(PREDECESSOR) (IN THOUSANDS)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents......... $ 362 $ 599 $ -- $ 377 $ 28,893
Working capital (deficit)......... 4,175 (1,897) (143,001) (29,571) 38,564
Total assets...................... 4,410 3,824 17,393 52,689 97,771
Long term obligations, net of
current portion................. -- -- -- -- 81,275
Total partners'
deficit/stockholder's equity
(deficit)....................... 4,410 (2,566) (172,029) (3,702) (14,769)
<CAPTION>
JUNE 30,
1999
--------
(IN THOUSANDS)
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents......... $ 34,722
Working capital (deficit)......... 36,610
Total assets...................... 103,793
Long term obligations, net of
current portion................. 84,347
Total partners'
deficit/stockholder's equity
(deficit)....................... (19,566)
</TABLE>
23
<PAGE> 28
PRO FORMA SELECTED FINANCIAL DATA
The following unaudited pro forma statement of operations data for the year
ended December 31, 1998 and the six months ended June 30, 1999, were prepared to
give effect to our recapitalization as if it occurred on January 1, 1998. The
unaudited pro forma balance sheet data give effect to our recapitalization as if
it occurred on June 30, 1999. The unaudited pro forma, as adjusted balance sheet
data further give effect to our receipt of the estimated net proceeds from the
sale of shares of Class A common stock in this offering at an assumed
initial public offering price of $ per share after deducting underwriting
discounts and commissions and estimated offering expenses payable by us as if
this offering had been completed on June 30, 1999. The following pro forma and
pro forma, as adjusted information does not purport to represent what the
operating results or financial position would have been or to project the
operating results or financial position for any future period or date. The pro
forma statement of operations data does not give effect to the non-cash
compensation expense associated with employee stock options to be recorded upon
completion of this offering. The aggregate non-cash compensation expense related
to these option grants, assuming no forfeitures, will be approximately $
million, approximately $ million of which will be expensed in the period in
which this offering is completed. The pro forma selected financial data should
be read in conjunction with the "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and the financial statements and
notes thereto included in this prospectus.
<TABLE>
<CAPTION>
PRO FORMA
---------------------------------------
YEAR ENDED SIX MONTHS
DECEMBER 31, 1998 ENDED JUNE 30, 1999
----------------- -------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C>
STATEMENT OF OPERATIONS DATA:
Total revenues....................................... $ 43,830 $ 18,190
Total cost of revenues............................... 43,433 16,740
-------- --------
Gross profit....................................... 397 1,450
Operating expenses:
Research and development........................... 47,086 23,051
Selling, general and administrative................ 26,248 14,384
Litigation......................................... 5,000 --
-------- --------
Total operating expenses.................... 78,334 37,435
-------- --------
Operating loss....................................... (77,937) (35,985)
Other income, net.................................... 2,241 572
Interest expense..................................... (95) (94)
-------- --------
Net loss............................................. $(75,791) $(35,507)
======== ========
Pro forma basic and diluted net loss per share....... $ (1.00) $ (0.47)
Shares used in pro forma basic and diluted net loss
per share.......................................... 75,582 75,582
</TABLE>
<TABLE>
<CAPTION>
JUNE 30, 1999
-----------------------
PRO FORMA
PRO FORMA AS ADJUSTED
--------- -----------
(IN THOUSANDS)
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents................................... $34,722 $
Working capital............................................. 36,610
Total assets................................................ 103,793
Long-term obligations, net of current portion............... 117
Total stockholders' equity.................................. 64,664
</TABLE>
See note 3 of notes to the financial statements of Next Level
Communications L.P. for an explanation of the determination of the number of
shares used in computing pro forma per share data.
24
<PAGE> 29
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis along with selected
financial data, financial statements and the respective notes thereto included
elsewhere in this prospectus. This section contains forward-looking statements
that involve risks and uncertainties such as statements of our plans,
objectives, expectations and intentions. Because of risk factors set forth below
and elsewhere in this prospectus, our actual results could differ significantly
from those discussed in the forward-looking statements.
OVERVIEW
We are a leading provider of broadband communications systems that enable
telephone companies and other emerging communications service providers to cost-
effectively deliver a full suite of voice, data and video services over the
existing copper wire telephone infrastructure. We believe that our NLevel(3)
unified access system is the only system that provides voice, data and video
services through an integrated end-to-end system over the existing telephone
infrastructure. We commenced operations in July 1994 and recorded our first sale
in September 1997. To date, we have sold our products primarily to regional Bell
operating companies through our direct sales force. Since January 1998, we have
operated through Next Level Communications L.P., which was formed as the result
of the transfer of all of the net assets, management and workforce of a wholly
owned subsidiary of General Instrument. Immediately prior to the completion of
this offering, the business and assets of this partnership will be merged into
Next Level Communications, Inc. as part of our recapitalization.
From inception through September 1997, our operating activities related
primarily to establishing a research and development organization, testing
prototype designs, building application-specific integrated circuit design
architectures, commencing the staffing of marketing, sales and field service and
technical support organizations and establishing manufacturing relationships.
Since then, we have expanded our sales and marketing and customer support
activities. These activities include commencing trials with our customers,
expanding our customer base, developing customer relationships, marketing our
brand, hiring field service and customer support personnel, developing new
products and technologies and enhancing existing products.
Our revenue is primarily generated from sales of our NLevel(3) system. A
small number of customers have accounted for a large part of our revenues to
date, and we expect this concentration to continue in the future. U S WEST
accounted for 68% of total revenues for the year ended December 31, 1998 and 64%
of total revenues for the six months ended June 30, 1999. Bell Atlantic
accounted for 20% of total revenues for the year ended December 31, 1998 and 19%
of total revenues for the six months ended June 30, 1999. Our agreements with
our largest customers are cancelable by these customers on short notice and
without penalty and do not obligate the customers to purchase any products. In
addition, our significant customer agreements generally contain fixed-price
provisions. As a result, our ability to generate a profit on these contracts
depends upon our ability to produce and market our products at costs lower than
these fixed prices.
The timing of our revenue is difficult to predict because of the length and
variability of the sales cycle for our products. Customers view the purchase of
our products as a significant and strategic decision. As a result, customers
typically undertake significant evaluation, testing and trial of our products
before deploying them. This evaluation process
25
<PAGE> 30
frequently results in a lengthy sales cycle, typically ranging from six months
to more than a year. While our customers are evaluating our products and before
they place an order, if at all, we may incur substantial sales and marketing
expenses and expend significant management efforts.
Revenues. Our revenues consist primarily of sales of equipment and sales of
data communications software. We recognize equipment revenue upon shipment of
our products. Software revenue consists of sales to original equipment
manufacturers that supply communications software and hardware to distributors.
Software license revenue is recognized when a noncancelable license agreement
has been signed, delivery has occurred, the fees are fixed and determinable and
collection is probable. The portion of revenues from new software license
agreements which relate to our obligation to provide customer support are
deferred and recognized ratably over the maintenance period.
Cost of revenues. Cost of equipment revenue includes direct material and
labor, warranty expenses, license fees and manufacturing and service overhead.
Cost of software revenue primarily includes the cost of the media the software
is shipped on (usually CDs) and documentation costs.
Research and development. Research and development expense consists
principally of salaries and related personnel expenses, consultant fees,
prototype component expenses and development contracts related to the design,
development, testing and enhancement of our products. All research and
development costs are expensed as incurred.
Selling, general and administrative. Selling, general and administrative
expense consists primarily of salaries and related expenses for personnel
engaged in direct marketing and field service support functions, executive,
accounting and administrative personnel, recruiting expenses, professional fees
and other general corporate expenses.
Stock compensation expense. Substantially all of our employees have been
granted contingently exercisable stock options that will become options to
purchase our Class A common stock upon our recapitalization. These options are
exercisable only in the event of our initial public offering or in a change of
control event such as a merger or acquisition. As a result, non-cash
compensation expense will be recognized upon the completion of this offering
based on the difference between the exercise price of these options and the
initial public offering price of the Class A common stock. The aggregate
non-cash compensation expense related to these option grants, assuming no
forfeitures, will be approximately $ million, approximately $ million of
which will be expensed in the period in which this offering is completed. These
charges are based upon an assumed initial offering price of $ .
Litigation. The litigation expense incurred in 1996 was attributable to a
judgment in connection with litigation involving DSC Communications and was paid
in 1997. The litigation expense incurred in 1998 was attributable to the cost of
the settlement of the litigation with BroadBand Technologies. For a more
detailed description of these litigation matters, see "Business -- Litigation."
Acquisition. In September 1997, General Instrument acquired all of the
outstanding capital stock of Telenetworks for $7.0 million in cash, and
subsequently contributed the business to the Next Level partnership.
Approximately $6.9 million of the purchase price was allocated to goodwill. As a
result, we amortized approximately $1.0 million of goodwill during 1998 and will
continue to amortize the goodwill at a rate of approximately $1.0 million per
year for each of the next six years. In conjunction with the granting of
26
<PAGE> 31
restricted common stock of General Instrument to Telenetworks employees, which
restrictions lapsed over a nine month period that ended May 31, 1998, we
recorded compensation expense of $3.9 million in 1998 and $3.1 million in 1997.
QUARTERLY RESULTS OF OPERATIONS
The following table sets forth unaudited statement of operations data for
our six most recent quarters ended June 30, 1999. This unaudited information has
been prepared on the same basis as the annual financial statements and includes
all adjustments (consisting of normal recurring items) that management considers
necessary for a fair presentation of the financial information for the periods
presented. This information should be read in conjunction with the audited and
unaudited financial statements and related notes included in this prospectus.
The operating results for any quarter are not necessarily indicative of the
operating results to be expected in the future.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
--------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30,
1998 1998 1998 1998 1999 1999
--------- -------- ------------- ------------ --------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Revenues:
Equipment....................... $ 1,682 $ 2,372 $ 13,678 $ 21,511 $ 7,947 $ 8,482
Software........................ 1,057 1,496 923 1,111 830 931
-------- -------- -------- -------- -------- --------
Total revenues................ 2,739 3,868 14,601 22,622 8,777 9,413
Cost of revenues:
Equipment....................... 2,395 4,107 15,053 21,617 8,131 8,451
Software........................ 122 54 45 40 74 84
-------- -------- -------- -------- -------- --------
Total cost of revenues........ 2,517 4,161 15,098 21,657 8,205 8,535
-------- -------- -------- -------- -------- --------
Gross profit (loss)............... 222 (293) (497) 965 572 878
Operating expenses:
Research and development........ 10,033 10,385 12,075 14,593 11,253 11,798
Selling, general and
administrative................ 7,021 8,379 4,506 6,342 6,791 7,593
Litigation...................... 5,000 -- -- -- -- --
-------- -------- -------- -------- -------- --------
Total operating expenses...... 22,054 18,764 16,581 20,935 18,044 19,391
-------- -------- -------- -------- -------- --------
Operating loss.................... (21,832) (19,057) (17,078) (19,970) (17,472) (18,513)
Other income, net................. 867 710 526 138 108 464
Interest expense.................. (1,300) (1,509) (1,609) (1,617) (1,693) (1,691)
-------- -------- -------- -------- -------- --------
Net loss.......................... $(22,265) $(19,856) $(18,161) $(21,449) $(19,057) $(19,740)
======== ======== ======== ======== ======== ========
</TABLE>
The significant increase in equipment revenue from the second quarter of
1998 through the fourth quarter of 1998 was primarily attributable to the
purchases of our products by U S WEST in connection with its introduction of
video service in Phoenix, Arizona. U S WEST, however, did not deploy its video
service as rapidly as it had planned. As a result, in the first two quarters of
1999, U S WEST slowed its purchases of our NLevel(3) product while it used its
existing inventory, which accounted for the significant decrease in our
equipment revenue. We expect sales to U S WEST of our NLevel(3) product for
video applications for the remainder of 1999 to be consistent with the first two
quarters of 1999 as U S WEST continues to use its existing inventory. The
reduction in sales of our NLevel(3) product for video applications in the second
quarter of 1999 was partially offset by an increase in the sale of our NLevel(3)
product for voice applications.
The gross margins on our equipment revenue have been negative in five of
our last six quarters primarily due to our relatively high fixed costs
associated with the manufacturing
27
<PAGE> 32
and testing of our products. At relatively low historical volumes, we have not
been able to cover our fixed costs and, as a result, our unit costs are high. We
expect to achieve margin improvements in future quarters, based on higher sales
volumes, cost reductions and increased demand for higher margin products.
The reduction in research and development expense from the fourth quarter
of 1998 to the first quarter of 1999 reflects the higher level of spending in
the second half of 1998 due to increased product development costs in connection
with increased demand for our products. In addition, there were higher
engineering costs incurred in connection with the U S WEST deployment. We view
research and development as critical to attaining our goals and thus we expect
research and development expense to increase as we continue to enhance existing
products and begin new product initiatives.
Selling, general and administrative expense was higher in the first two
quarters of 1998 primarily due to the amortization of the compensation expense
incurred in connection with the acquisition of Telenetworks and legal fees
incurred in connection with the settlement of the Broadband Technologies
litigation. Since the fourth quarter of 1998, we have expanded our customer
focus to independent telecommunications companies and competitive local exchange
carriers and thus we have been adding personnel in our sales and marketing
group. As a result, selling, general and administrative expense has continued to
increase and we expect this trend to continue.
The litigation expense incurred in the first quarter of 1998 reflects the
cost of the settlement of the litigation with BroadBand Technologies.
SIX MONTHS ENDED JUNE 30, 1999 AND 1998
Revenues. Total revenues increased to $18.2 million for the six months
ended June 30, 1999 from $6.6 million for the six months ended June 30, 1998.
This increase was primarily due to an increase in equipment sales.
Equipment revenue increased to $16.4 million for the six months ended June
30, 1999, from $4.1 million for the six months ended June 30, 1998. Sales to two
regional Bell operating companies, U S WEST and Bell Atlantic, comprise
substantially all of the equipment revenue to date. U S WEST accounted for $11.6
million and Bell Atlantic accounted for $3.4 million of equipment revenue for
the six months ended June 30, 1999. The growth in equipment revenue in future
periods will depend upon whether and how quickly our existing customers roll out
broadband services in their coverage areas and whether and how quickly we obtain
new customers.
Data communications software revenue decreased to $1.8 million for the six
months ended June 30, 1999 from $2.6 million for the six months ended June 30,
1998 due primarily to a shift in demand from the first half of 1999 into the
second half of 1998. We do not expect any significant future growth in our
software revenue.
Cost of Revenues. Total cost of revenues increased to $16.7 million for the
six months ended June 30, 1999 from $6.7 million for the six months ended June
30, 1998. The increase in the cost of revenues was attributable to an increase
in equipment volume and consisted primarily of materials and costs associated
with increasing production at our contract manufacturers.
For the six months ended June 30, 1999, our gross profit (loss) on
equipment was $(0.2 million) and for the six months ended June 30, 1998, our
gross profit (loss) on
28
<PAGE> 33
equipment was $(2.4 million). The improvement in gross profit (loss) was
primarily the result of higher unit volumes, leading to greater efficiencies,
including lower fixed costs per unit. We plan to achieve gross margin
improvements as we increase sales of our higher margin products, increase
volume, and continue implementing cost reductions. Our software gross margins in
each period were comparable.
Research and development. Research and development expenses increased to
$23.1 million for the six months ended June 30, 1999 from $20.4 million for the
six months ended June 30, 1998. The increase was primarily due to an increase in
research and development personnel. We believe that continued investment in
research and development is critical to attaining our strategic product
development and cost reduction objectives and, as a result, expect these
expenses to increase in absolute dollars.
Selling, general and administrative. Selling, general and administrative
expenses decreased to $14.4 million for the six months ended June 30, 1999 from
$15.4 million for the six months ended June 30, 1998. Approximately $3.9 million
of compensation expense relating to the Telenetworks acquisition is included in
the amount for 1998. There was no Telenetworks compensation expense in the first
half of 1999. This decrease in compensation expense was offset by an increase in
selling, general and administrative expenses in the 1999 period due to the
increase in scale of our operations including additional personnel in the sales
and marketing organizations, promotional expenses and other administrative
expenses. We expect selling, general and administrative expenses to increase as
we continue to add personnel and incur additional costs as we increase the scale
of our operations.
Litigation. Litigation expenses of $5.0 million for the six months ended
June 30, 1998 related to the settlement cost of litigation with BroadBand
Technologies. For a detailed discussion of this litigation matter, see
"Business -- Litigation."
Other income (expense), net. Other income (expense) consists primarily of
interest income. The decrease in interest income to $0.6 million for the six
months ended June 30, 1999 from $1.6 million for the six months ended June 30,
1998 was due to a reduced level of cash and cash equivalents during the 1999
period.
Interest expense. Interest expense increased to $3.4 million for the six
months ended June 30, 1999, from $2.8 million for the six months ended June 30,
1998. The interest expense in these periods is primarily attributable to
interest on a $75.0 million note and accrued interest thereon payable to General
Instrument that General Instrument will contribute to us in exchange for shares
of our Class B common stock immediately prior to completion of this offering as
part of our recapitalization.
YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
Revenues. Total revenues increased to $43.8 million in 1998 from $8.3
million in 1997. We recorded our first sale in September 1997 and, therefore,
the operating results for 1997 reflect only four months of revenues. We did not
ship product in 1996 and, accordingly, did not recognize any revenues in 1996.
Total revenues for the year ended December 31, 1998 included $39.2 million
of equipment sales, compared to $6.0 million of equipment sales for the year
ended December 31, 1997. U S WEST accounted for $29.9 million and Bell Atlantic
accounted for $8.6 million of equipment revenue for the year ended December 31,
1998. U S WEST accounted for $1.4 million and NYNEX (now part of Bell Atlantic)
accounted for
29
<PAGE> 34
$4.6 million of equipment revenue for the year ended December 31, 1997. We
expect to continue to derive substantially all of our revenues from sales of
equipment to the regional Bell operating companies, competitive local exchange
carriers and independent telephone companies for the foreseeable future.
In 1998 and 1997, software revenue consisted of sales to original equipment
manufacturers that supply communications software and hardware to distributors.
For the year ended December 31, 1998, software revenue was $4.6 million and for
the year ended December 31, 1997, software revenue was $2.3 million. Software
revenue for 1997 was comprised of four months of revenue from Telenetworks.
Cost of Revenues. Total cost of revenues increased to $43.4 million for the
year ended December 31, 1998 from $11.3 million for the year ended December 31,
1997 and related substantially to cost of equipment. The increase in cost of
revenues in 1998 and 1997 was primarily the result of materials cost and costs
associated with increasing production at our contract manufacturers as a result
of increased equipment sales volume.
Research and development. Research and development expenses increased to
$47.1 million for the year ended December 31, 1998, from $37.1 million for the
year ended December 31, 1997 and $17.1 million for the year ended December 31,
1996. The increase in 1998 was primarily the result of increased personnel,
increased component purchases and spending on third-party testing, development
of the residential gateway product, and the completion of the NLevel(3) product
for voice application. The increase in 1997 was primarily due to increased
personnel in research and development, the corresponding procurement of
components and test fixtures, increased system testing of the fiber-to-the-curb
infrastructure and the commencement of development of video infrastructure.
Selling, general and administrative. Selling, general and administrative
expenses were $26.2 million for the year ended December 31, 1998, compared to
$26.4 million for the year ended December 31, 1997 and $15.9 million for the
year ended December 31, 1996. The decrease in 1998 reflects the reduction in
legal expenses associated with the DSC Communications litigation that was
partially offset by costs associated with the increased selling efforts
resulting from the commencement of the commercial sales of our products in
September 1997, as well as expansion into new markets. These costs include
recruiting, travel, tradeshows, print advertising, public relations and other
promotional expenses. The increase in 1997 was primarily due to higher costs
associated with increased personnel in the sales and marketing organizations as
well as higher legal expenses due to the litigation with DSC Communications.
Litigation. Litigation expense of $5.0 million for the year ended December
31, 1998 related to the settlement cost of litigation with BroadBand
Technologies. In 1996, a final judgment was entered in favor of DSC
Communications and DSC Technologies, and an expense for the expected final award
of $141.0 million was recorded in 1996. The $141.0 million judgment was paid in
1997. For a detailed discussion of these litigation matters, see
"Business -- Litigation."
Other income, net. Other income of $2.2 million for the year ended December
31, 1998 was due to interest income on cash and cash equivalents. Other income,
net was not significant in 1997 or 1996.
Interest expense. Interest expense was $6.0 million in 1998 due almost
entirely to interest on the $75.0 million note and accrued interest thereon
payable to General Instrument. There was no interest expense in 1997 or 1996.
30
<PAGE> 35
LIQUIDITY AND CAPITAL RESOURCES
We have financed our operations primarily through cash contributions and
borrowings from General Instrument. General Instrument will not provide us
additional funds after this offering.
Net cash used in operating activities was $24.1 million for the six months
ended June 30, 1999 and $38.4 million for the six months ended June 30, 1998. In
each case, the use of cash in operating activities was primarily due to our net
losses, partially offset by an increase of $12.6 million in deferred revenues in
the 1999 period. Net cash used in operating activities of $66.6 million in 1998
was primarily due to a net loss of $81.7 million, partially offset by non-cash
depreciation charges. Net cash used in operating activities of $208.5 million in
1997 was due to a net loss of $66.4 million, payments of litigation expenses of
$141.0 million and an increase in inventories. Net cash used in operating
activities of $33.0 million in 1996 was primarily due to a net loss of $173.9
million offset by $141.0 million of accrued litigation expenses.
Net cash used in investing activities of $4.1 million for the six months
ended June 30, 1999, $5.0 million for the six months ended June 30, 1998, $9.3
million for the year ended December 31, 1998, $9.8 million for the year ended
December 31, 1997 and $9.3 million for the year ended December 31, 1996 was
primarily attributable to capital expenditures to support our engineering and
testing activities. As we increase the scope of our operations, we expect that
our capital expenditures will increase.
Net cash provided by financing activities of $34.0 million in the six
months ended June 30, 1999 and $88.1 million in the six months ended June 30,
1998 consisted of capital contributions from the partners and a $75.0 million
loan from General Instrument in the 1998 period. Net cash provided by financing
activities of $104.6 million for the year ended December 31, 1998 consisted of a
$75.0 million loan from General Instrument, a $19.6 million capital contribution
from General Instrument and a $10.0 million capital contribution from the
general partner. Net cash provided by financing activities of $218.7 million for
the year ended December 31, 1997 consisted of contributions from General
Instrument. Net cash provided by financing activities of $41.7 million for the
year ended December 31, 1996 was due to borrowings from General Instrument.
At June 30, 1999, we had $34.7 million of cash and cash equivalents and
$36.6 million of working capital. Other than capital lease commitments, we have
no material commitments for capital expenditures. However, we anticipate that we
will increase our capital expenditures and lease commitments consistent with
anticipated growth in operations, infrastructure and personnel. We may establish
sales offices and lease additional space, which will require us to commit to
additional lease obligations, purchase equipment and install leasehold
improvements.
In January 1998, we borrowed $75.0 million from General Instrument pursuant
to an 8% note due in 2005. Deferred interest payments bear interest at 10%. At
June 30, 1999, we owed General Instrument $84.2 million under the note,
including accrued interest of $9.2 million. This note, including accrued
interest thereon, will be contributed to us by General Instrument in exchange
for approximately shares of Class B common stock immediately prior to
the completion of this offering as part of our recapitalization. This number of
shares is based upon an assumed initial offering price of $ .
We expect to experience significant growth in our operating expenses for
the foreseeable future. As a result, we anticipate that operating expenses, as
well as planned
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capital expenditures, will constitute a material use of our cash resources. In
addition, we may use cash resources to fund acquisitions or investments in
complementary businesses, technologies or product lines. We believe that our
cash on hand and the net proceeds from the sale of the Class A common stock in
this offering will be sufficient to meet our working capital and capital
expenditure requirements for at least the next 12 months. Thereafter, we may
find it necessary to obtain additional equity or debt financing. In the event
additional financing is required, we may not be able to raise it on acceptable
terms, or at all.
YEAR 2000
The year 2000 issue has arisen as a result of computer programs being
written using two digits rather that four to define the applicable year. Some
information technology systems and their associated software, and other
equipment that uses programmable logic chips to control aspects of their
operation, commonly referred to as embedded chip equipment, may recognize "00"
as a year other than the year 2000. Some information technology systems and
embedded chip equipment used by us and by third parties who do business with us
contain two-digit programming to define a year. The year 2000 issue could
result, for us and for others, in system failures or miscalculations causing
disruptions of operations, including, among other things, a temporary inability
to process transactions or to engage in other normal business activities. We
believe our products are year 2000 compliant.
Readiness for Year 2000
We are addressing year 2000 issues relating to:
- embedded chip equipment sold by us;
- information technology systems and embedded chip equipment used by us;
- third parties who do business with us that may not be prepared for the
year 2000; and
- contingency planning.
We use a variety of information technology systems, internally developed
and third-party provided software and embedded chip equipment in our products.
For these information technology systems, software and embedded chip equipment,
we have divided our year 2000 efforts into four phases:
(1) identification and inventorying of information technology systems and
embedded chip equipment with potential year 2000 problems;
(2) evaluation of scope of year 2000 issues for, and assigning priorities
to, each item based on its importance to our operations;
(3) remediation of year 2000 issues in accordance with assigned priorities,
by correction, upgrade, replacement or retirement; and
(4) testing for and validation of year 2000 compliance on an application
and enterprise wide basis.
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We have categorized as "mission critical" those information technology
systems and embedded chip equipment whose failure would cause cessation of
operations or significant detrimental financial impact on us. Phase (1) and (2)
are complete across all "mission critical" business functions and locations. All
mission critical information technology systems and embedded chip equipment are
currently in phase (3) or (4) and we expect these phases to be completed by
November 1999. We will conduct a comprehensive program of integration testing of
internal systems to ensure that all systems still work together properly and
without year 2000 problems.
Our operations are also dependent on the year 2000 readiness of third
parties, including our contract manufacturers, that we do business with. In
particular, we are in the process of configuring our information technology
systems to interact with commercial electronic transaction processing systems of
our customers. In addition, we are dependent on third-party suppliers of
infrastructure elements such as telecommunications services, electric power,
water and banking facilities.
We have identified and initiated formal communications with key third
parties, including our contract manufacturers, to determine the extent to which
we will be vulnerable to such parties' failure to resolve their own year 2000
issues. To the extent that we are not able to test the technology provided by
third-party vendors, we are seeking assurances from these vendors that their
systems are year 2000 compliant. As a follow-up, we plan to determine whether
our customers and suppliers are taking appropriate steps to achieve year 2000
readiness and ensure continued functioning in accordance with our business
needs. We are assessing our risks with respect to failure by third parities to
be year 2000 compliant and intend to seek to mitigate those risks. We are also
developing contingency plans, discussed below, to address issues related to
third parties we determine are not making sufficient progress toward becoming
year 2000 compliant.
Costs
Due to the lack of legacy systems subject to remediation, we expect that
our overall cost of achieving year 2000 compliance will not be material. Our
estimate of the cost of achieving year 2000 compliance and the date by which
year 2000 compliance will be achieved are based on our best estimates, which
were derived using numerous assumptions about future events including the
continued availability of certain resources, third party modification plans and
other factors. However, there can be no assurance that these estimates will be
achieved and actual results could differ materially from these estimates.
Specific facts that might cause such material differences include the
availability and cost of personnel trained in year 2000 remediation work, the
ability to locate and correct all relevant computer codes, the success achieved
by our customers and suppliers in reaching year 2000 readiness, the timely
availability of necessary replacement items and similar uncertainties.
Some commentators have predicted significant litigation regarding year 2000
compliance issues, and we are aware of these lawsuits against other vendors.
Because of the unprecedented nature of this litigation, it is uncertain whether
or to what extent we may be affected by it. If we are subject to claims by our
customers asserting liability, including liability for breach of warranties
related to the failure of our products to function properly, the cost of this
litigation and any settlement or judgment costs could be material.
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Contingency Plans
We presently believe that the most likely worst-case year 2000 scenarios
would relate to the possible failure in one or more geographic regions of
third-party systems over which we have no control and for which we have no ready
substitute, such as, but not limited to, power and telecommunications services.
We have in place a business resumption plan that addresses recovery from various
kinds of disasters, including recovery from significant interruptions to data
flows and distribution capabilities. We are using that plan as a starting point
for developing specific year 2000 contingency plans, which will emphasize
locating alternate sources of supply, methods of distribution and ways of
processing information.
We anticipate this contingency planning will prepare our business for
disruptions but will not protect us fully from commercial impact. We are
currently initiating the following efforts:
- Prioritizing all hardware, software and services across the enterprise.
- Developing contingency plans for top priority items.
There can be no assurance that we will be able to complete our contingency
planning before January 1, 2000.
RECENTLY ISSUED ACCOUNTING STANDARD
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities." This statement requires companies to record derivatives
on the balance sheet as assets or liabilities, measured at fair value. Gains or
losses resulting from changes in the values of those derivatives would be
accounted for depending on the use of the derivative and whether it qualifies
for hedge accounting. Statement of Financial Accounting Standards No. 133, as
amended by Statement of Financial Accounting Standards No. 137, will be
effective for our fiscal year ending December 31, 2001. Management is currently
evaluating what impact, if any, Statement of Financial Accounting Standards No.
133 may have on our financial statements.
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BUSINESS
OVERVIEW
We are a leading provider of broadband communications systems that enable
telephone companies and other emerging communications service providers to cost-
effectively deliver a full suite of voice, data and video services over the
existing copper wire telephone infrastructure. We believe that our NLevel(3)
unified access system is the only system that provides voice, data and video
services through an integrated end-to-end system over the existing telephone
infrastructure. Service providers who deploy our system can offer services in
either bundled or staged deployments depending on subscriber demand and service
provider objectives. We believe that by deploying our system, telephone
companies and other emerging communications service providers will be able to
capitalize on, and compete effectively in, the emerging market for integrated
voice, data and video services.
INDUSTRY BACKGROUND
Increasing Demand for Voice, Data and Video Services
In recent years, the volume of voice, data and video traffic across
communications networks has grown dramatically due to the increasing use of the
Internet as an essential communications and transaction medium, the growth in
remote access by telecommuters and the increasingly diverse distribution sources
for high quality digital video. According to International Data Corporation, the
number of Internet users worldwide reached approximately 142 million in 1998 and
is forecasted to grow to approximately 502 million by the end of 2003, while the
number of remote access users in the United States is expected to increase from
81 million in 1999 to 157 million in 2003. Furthermore, in a June 1999 report,
Paul Kagan Associates estimated that of the approximately 67 million U.S. cable
television subscribers, approximately 29 million would install digital set top
boxes by the end of 2003. The growth in traffic and increasing reliance on
higher bandwidth network applications and content has resulted in increased
demand for high-speed access to communications networks.
Increased Competition for Communications Services
The increasing demand for voice, data and video services combined with
deregulation of the communications industry has created new opportunities and
challenges for communications service providers, which historically delivered
only a limited set of these network services. As communications service
providers seek to capitalize on these opportunities to deliver a broader array
of services, local network connections to end-users have become an increasingly
valuable asset. The two most prevalent types of local connections in North
America are copper twisted pair and coaxial cable. Communications service
providers that use copper twisted pair are facing increasing competitive
pressures from providers using coaxial cable. Recently, certain communications
service providers have announced plans to provide voice, data and video services
over coaxial cable. For example, AT&T recently acquired TCI and entered into an
agreement to acquire Media One. Concurrently, AT&T announced plans to accelerate
the upgrade of TCI's cable systems to offer bundled services to a broader
end-user base. AT&T plans to provide not only data and video but also telephony
over its own cable systems and over other cable systems through partnerships
with other cable service providers. Bundled services, such as
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these, will give end-users the alternative of purchasing all communications
services from a single provider, allowing the potential for more favorable
pricing and a single point of contact for bill payment and customer service. If
these bundled service packages are implemented successfully over coaxial cable
connections, they will compete directly with the services traditionally offered
by telephone companies.
Although their expansive end-user reach provides traditional telephone
companies the opportunity to deliver bundled services in conjunction with
traditional voice offerings, they have been constrained from doing so by
bandwidth limitations in their existing network infrastructure. In particular,
the access network, referred to as the "last mile," represents the slowest
portion of the communications infrastructure and often acts as a bottleneck in
the delivery of higher bandwidth data and video traffic. As overall demand for
services continues to rise, the bandwidth limitations are becoming increasingly
apparent and are resulting in lost revenue for service providers and inadequate
network access for their customers.
Evolution of the "Last Mile"
Historically, the access network infrastructure consisted primarily of
twisted pairs of copper wires that spanned the distance from each end-user's
home or business to a central office where they connected to a voice switch.
This infrastructure was originally designed to transmit relatively low
bandwidth, analog voice traffic. Over the last several years, telephone
companies have installed equipment known as Digital Loop Carriers, or DLCs, in
some locations between the central office and clusters of end-users in an effort
to make their networks more cost efficient. These DLCs have enabled telephone
companies to convert their analog traffic into more efficient digital data
streams and extend higher bandwidth fiber optic cable further into the access
portion of their networks. Although these DLC systems have often resulted in
more cost efficient voice communications, they are generally not designed to
deliver higher bandwidth services such as data and video services to individuals
and businesses.
To leverage their existing copper infrastructure and respond to the
increased demand for data services, some telephone companies have recently begun
to create separate overlay data networks by connecting equipment known as
Digital Subscriber Line Access Multiplexers, or DSLAMs, to their base of
twisted-pair copper lines. DSLAMs are separate access systems that are usually
installed in a central office. Whereas DLCs traditionally act as gateways to
voice networks, DSLAMs generally act as gateways to data networks. To date, most
DSLAMs have been deployed to provide Internet access to individuals and
businesses. Although DSLAMs typically provide improved data transmission rates
compared to those provided by DLC systems, they are generally not designed to
provide high quality video services. Thus, telephone companies seeking to offer
complete services to their end-users often must do so from multiple and distinct
access systems, because each system is typically unable to offer bundled voice,
data and video services.
The increasing demand for higher bandwidth services, the greater
competition among service providers and the limitations of existing copper
twisted pair access networks have created an environment in which traditional
telephone companies are seeking solutions that enable them to continue to
compete in their existing market for voice services as well as in the emerging
market for higher bandwidth services, such as data and video. To match their
capital expenditures to subscriber demand for services, many telephone companies
are seeking flexible solutions that have the capacity to add new services over
time. At the
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same time, these companies want integrated hardware and software elements that
reduce complexity. Despite the desire by many telephone companies to simplify
and reduce costs in their networks, companies seeking to deploy multiple
services have generally needed to deploy multiple platforms from multiple
vendors to create separate overlay networks. This strategy is costly, increases
the complexity of installation, operation and maintenance and generally does not
provide the required integrated network characteristics.
OUR SOLUTION
We are a leading provider of broadband communications systems that enable
telephone companies and other emerging communications service providers to cost-
effectively deliver a full suite of voice, data and video services over the
existing copper wire telephone infrastructure. Our solution consists of
integrated network equipment located at the central office, in the field and at
the end-user's home or business and is designed to provide the following key
competitive advantages and benefits:
Flexible-Integrated System. Our system is designed with the flexibility to
allow staged or bundled delivery of voice, data and video traffic over a variety
of network architectures from a single system. This flexibility allows telephone
companies to immediately serve the varying needs of their diverse end-user base,
including residential, corporate and telecommuter customers. As a result,
telephone companies can generate significant incremental revenue from their
existing networks by using our system. By offering the flexibility inherent in
an integrated system, our products enable telephone companies to effectively
time their network equipment expenditures and rapidly introduce new services as
demand warrants.
Cost Effective Deployment. Our architecture reduces the cost and complexity
often associated with deploying multiple services to end-users. Because existing
overlay networks often use separate equipment for each communications service,
they require multiple equipment purchases, installations, training procedures,
maintenance procedures and network management packages. In contrast, the
NLevel(3) unified access platform delivers all services from a single system. By
integrating many traditionally separate functions, our system allows telephone
companies to incrementally add services by simply installing line cards into our
existing equipment, rather than purchasing entirely new infrastructure
equipment. Additionally, the customer premises equipment of our system delivers
video and data services from a single networked set-top box, thus eliminating
the need for set-top boxes or modems for different services or separately
located TVs and PCs. We believe our solution provides cost savings, reduced
trouble calls and ease of installation compared to overlay network equipment
that often consists of separate systems, each of which corresponds to one
service and may not interoperate effectively.
End-to-End Solution. By supplying central office equipment, field equipment
and customer premises equipment, we offer a single integrated system for the
delivery of voice, data and video services. Our system is broadband ready, so
telephone companies initially deploying voice service can subsequently activate
data and/or video service with a simple line-card addition and installation of
customer premises equipment. We believe the flexibility found in our system
cannot currently be accomplished by attempting to integrate multiple systems
from multiple vendors.
Standards-Based, Open Architecture. Because our system provides integrated
services, including voice, it is engineered to comply with rigorous industry
standards for reliability and safety. Our architecture also supports open switch
interfaces and billing system
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interfaces that allow easy integration within a telephone company's existing
central office environment. These open interfaces allow our system to access
multiple networks and track services for purposes of accurately billing
end-users.
Security. Our system employs a secure point-to-point, switched
architecture. We believe this architecture produces greater security relative to
cable systems that are based on shared network architectures in which data is
broadcast to all users simultaneously. Security has always been important to
individuals and businesses in voice transmission and is becoming increasingly
important as e-commerce applications and video-on-demand services become more
prevalent.
OUR STRATEGY
Our objective is to be the leading supplier of integrated communications
systems that enable telephone companies and other emerging communication service
providers to cost-effectively deliver a full suite of voice, data and video
services over the existing copper wire telephone infrastructure. Key elements of
this strategy include the following:
Increase Penetration of Existing Customer Base. As the needs of our
customers evolve, we intend to maintain a high level of customer support, extend
our product offerings and leverage our success achieved with key customers to
increase sales. To date, telephone companies have deployed our products to offer
a subset of services in a limited number of locations. We believe there is a
significant opportunity to increase our sales as customers expand to more
locations within their regions and/or as they offer more services at each
location. In addition, we believe our existing agreements with certain of our
customers provide us with a competitive advantage as a preferred vendor if and
when these customers buildout their next generation of broadband networks. We
intend to leverage this advantage to be the supplier of complete communications
solutions to our customers. For example, we recently expanded our relationship
with U S WEST. In the past, our relationship with U S WEST was confined to
providing equipment to offer voice, data and video services solely in the
Phoenix, Arizona service area. We recently entered into a new agreement with U S
WEST to provide the broadband ready NLevel(3) product for voice applications in
six of the 14 states in U S WEST's territory.
Expand Customer Base to Other Communications Providers. We believe the
price and performance advantages of our products offer communications service
providers using copper access networks a cost-effective solution to upgrade
their networks to offer voice, data and video services. Consequently, we have
recently aggressively expanded our product marketing beyond regional Bell
operating companies to other communications providers using copper access
networks including domestic competitive local exchange carriers and independent
telephone companies. These companies have often been quick to embrace and adopt
new technologies. In addition, although many international telephone markets are
still in the early stages of deploying integrated access solutions, we intend to
market our products to targeted international telephone companies. Accordingly,
we are expanding our sales force to capitalize on these new opportunities.
Provide Competitive Advantages to our Customers. Our system offers
flexibility to allow staged delivery of voice, data, and video traffic over a
variety of networks from a single system. By supporting incremental deployment
of services, rather than upfront network buildouts, we believe our system
provides telephone companies a more effective means of managing system buildout
and expansion by linking capital expenditures to subscriber growth.
Additionally, our system offers an end-to-end solution including a
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residential gateway at the end-user's home or business. Our residential gateway
provides telephone companies and their customers with an integrated solution
that is more cost effective than the alternative of deploying separate modems or
set-tops often necessary to provide multiple services. As demand for broadband
access continues to accelerate, we intend to continue focusing on providing our
customers systems which allow them to deliver cost effective multiple services.
Maintain and Extend Technology Leadership. We believe that we are currently
a technology leader in engineering end-to-end integrated voice, data and video
solutions. We intend to maintain and extend our technology leadership through
continued research and development of integrated systems for voice, data and
video transmission over a variety of fiber, copper, satellite, local multipoint
distribution system and various mixes of these networks. Accordingly, we plan
several new products and enhancements, including integration of our customer
premises equipment with Direct Broadcast Satellite and local multipoint
distribution systems to deliver increased cost savings, additional functionality
and more flexible delivery capability to the telephone companies and their
customers.
Outsource Manufacturing. Our manufacturing strategy focuses on the use of
one or more contract manufacturers for the assembling, testing, packaging,
warehousing and shipping of products. Currently, we use two large contract
manufacturers: SCI Systems and CMC Industries. Using contract manufacturers
allows us to achieve economies of scale in purchasing, respond rapidly to large
customer orders, reduce costly investment in manufacturing capital and reduce
inventory warehousing.
PRODUCTS
Our system consists of network elements located at a central office, in the
field and at an end-user's home or business. Key elements of this system, which
are described below, are the Broadband Digital Terminal, Universal Service
Access Multiplexer, Broadband Network Unit, residential gateway, ETHERset, N(3)
NIC, N(3) View-1 Element Management System and N(3) View-2 Service Manager.
EDGAR DESCRIPTION OF GRAPHIC:
This diagram depicts the process by which Next Level enables the delivery
of voice, data and video to a customer's home or business through our products
located at the central office, field and customer premises.
Broadband Digital Terminal. The Broadband Digital Terminal is the central
element of our system, providing centralized access to both broadband and
narrowband networks and related voice, data and video services. The Broadband
Digital Terminal is typically located in a telephone company's central office or
at a remote cabinet, building basement
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or hut where it interfaces, through broadband links, with central office
equipment including voice and data switches and interfaces with billing systems.
On the subscriber side, the Broadband Digital Terminal provides high-speed
connections to remote Universal Service Access Multiplexers or Broadband Network
Units that can support up to a maximum of 2,048 data or video subscribers, up to
a maximum of 6,144 telephone subscribers or combinations thereof. Employing high
levels of integration, the Broadband Digital Terminal consists of just one
common high bandwidth signal processing module plus an optical distribution
module added for each remote terminal, regardless of the architecture used or
services provided. Because the Broadband Digital Terminal employs a 40 gigabit
broadband backplane interface, it has the capacity for high bandwidth
applications such as video-on-demand and high definition television.
Furthermore, because the Broadband Digital Terminal supports different remote
terminals, changes to network layouts or transmission media (copper or fiber) do
not require different Broadband Digital Terminals.
Universal Service Access Multiplexer. The Universal Service Access
Multiplexer is designed to use existing twisted-pair copper wire to connect to
end-user premises and can be connected with fiber optic cable to the Broadband
Digital Terminal. The Universal Service Access Multiplexer consists of a small
rack-mounted shelf with a universal backplane containing 16 line card positions
into which a wide variety of line cards can be plugged. Each Universal Service
Access Multiplexer can support up to 32 video and/or data subscribers or up to
96 telephone subscribers. By using modular line cards, a single Universal
Service Access Multiplexer can enable multiple voice, data and video services.
The Universal Service Access Multiplexer can be deployed in the central office
or remotely. Because the Universal Service Access Multiplexer is flexible in
terms of where it can be located in the network, as well as the services it can
support, its use can reduce both the costs and the complexity of deploying new
high-speed data and video services.
Broadband Network Unit. The Broadband Network Unit is used with
fiber-to-the-curb network installations where fiber optic cable is deployed up
to a location relatively close to the end user's premises. The Broadband Network
Unit supports voice, data and video services, and can be mounted on a telephone
pole, a pedestal or a wall. The Broadband Network Unit provides high-bandwidth
voice, data and video service for clusters of up to 24 video and/or data and up
to 36 voice subscribers. Our Broadband Network Unit is particularly suited to
situations where a new network is being built, or where an existing copper-wire
access network is being upgraded by the installation of fiber optic cable as the
transmission medium for residences or larger apartment buildings or offices. The
advanced architecture and environmentally secure housing of the Broadband
Network Unit results in low in-field trouble calls.
Residential Gateway. Our residential gateway product is a single device,
typically located in a customer's home or office on top of a television, that
delivers integrated data and video services. One residential gateway enables
multiple televisions and personal computers to be served from the same access
line into the customer's home or office. Traditionally, the high cost of
customer premises equipment for broadband services has been a limiting factor
for telephone companies considering the deployment of broadband services to
multiple televisions or personal computers in a customer's premises.
Historically, an end-user would have to obtain multiple modems or set-top boxes
to support services to multiple televisions or personal computers. In contrast,
our residential gateway simultaneously provides three independent high quality
video streams, each meeting MPEG 2 video standards, that can be distributed
throughout a home or office using standard coaxial cable. The primary video
stream is also available in RF, component,
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and S-video formats, along with Dolby AC-3 stereo surround sound. The
residential gateway also supports enhanced telephone services, such as an
indicator on the television that a message is waiting on the customer's
answering machine or service as well as on-screen caller identification. The
data port in our residential gateway supports 10BaseT Ethernet for high-speed
connectivity to the Internet or remote work at home access.
ETHERset. Our ETHERset is a data-only device that provides a powerful,
low-cost solution for delivering high speed data services to end users in
residences, small businesses, branch offices and the like. The ETHERset is
designed to be used in a customer's home or office in order to support high
speed connectivity to the Internet or other data services using 10BaseT
Ethernet. Through a hub, single or multiple personal computers can be connected
to a single ETHERset.
N(3) NIC. The N(3) NIC is a network adapter card, designed to fit into a
single PC, that provides that same functionality as our ETHERset.
Element Management Systems. The NLevel(3) Unified Service Access Platform
is managed remotely by the N(3) View-1 Element Management System and the N(3)
View-2 Service Manager. The View-1 is a telecommunications network element
management system that operates on computer workstations using the Solaris
operating system. The View-1 provides operational support functions such as
provisioning, performance monitoring and administration of Universal Service
Access Platforms. The View-2 Service Manager manages the provision of services
to customers over Universal Service Access Platforms, including entitlement,
authorization and billing for high-speed data services and basic, premium and
pay-per-view video services. The View-2 runs on Unix-based Sun Microsystems
workstations.
CUSTOMERS
We market and sell our products through our direct sales force to
communications providers that seek to deliver the next generation of broadband
services in either incremental or bundled rollouts. Since inception,
approximately 85% of our sales have been to U S WEST and Bell Atlantic. We
recently initiated customer relationships in the independent telephone company
market, competitive local exchange carrier market and international markets. The
following describes our relationship with customers who have purchased at least
$100,000 of our products.
U S WEST: In August 1997, we entered into an agreement with U S WEST
through which U S WEST may purchase, without obligation to do so, up to 450,000
lines of residential gateways and associated central office and field
infrastructure, in eight of the 14 states in which U S WEST currently operates
over a five year period. We recorded our first sale to U S WEST in September
1997 for deployment of video and data service to U S WEST's customers in
Phoenix, Arizona. In October 1998, U S WEST selected our system to provide the
broadband ready NLevel(3) product for voice applications in six of the 14 states
that U S WEST serves. Sales to U S WEST represented 68% of our revenues in
fiscal 1998 and 64% in the six months ended June 30, 1999.
Bell Atlantic: In October 1996, we entered into an agreement with NYNEX
(now part of Bell Atlantic) through which Bell Atlantic may purchase, without
obligation to do so, up to 5,000,000 lines of fiber-to-the-curb, consisting of
Broadband Network Units and associated infrastructure, throughout its service
area over a fifteen-year period. The primary application for these products is
rehabilitation of Bell Atlantic's existing network
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infrastructure from copper to fiber. We recorded our first sale of
fiber-to-the-curb product to Bell Atlantic in September 1997 for deployment in
the Boston area. Bell Atlantic is currently using our system to serve customers
in the New York City and Boston areas. Sales to Bell Atlantic represented 20% of
our revenues in fiscal 1998 and 19% in the six months ended June 30, 1999.
GTE: In April 1998, we entered into an agreement with GTE through which GTE
may purchase, without obligation to do so, our residential gateways and
associated central office and field infrastructure. Through a development
agreement, GTE has commenced a trial deployment of our NLevel(3) product for
video applications to customers in the Clearwater, Florida area.
Hutchinson Telephone: In February 1999, we received our first order from an
independent telephone company, Hutchinson Telephone, for deployment of the
NLevel(3) unified access platform. Hutchinson has announced that it intends to
deploy our Universal Services Access Multiplexers and Broadband Digital
Terminals for telephone service, high speed data, and special services.
Paul Bunyan Rural Telephone: In April 1999, Paul Bunyan Rural Telephone, an
independent telephone company based in Bemidji, Minnesota, began deploying the
broadband ready NLevel(3) unified access platform for voice applications in its
service area.
Chibardun Telephone: In April 1999, Chibardun Telephone, an independent
telephone company based in Dallas, Wisconsin, began deploying the NLevel(3)
unified access platform for voice and data applications in its service area.
Northstar Telephone: In June 1999, Northstar Telephone, a competitive local
exchange carrier based in Big Lake, Minnesota, began deploying the NLevel(3)
unified access platform for voice, data and video applications in its service
area.
TECHNOLOGY
We believe the following key technologies enable us to provide an
end-to-end solution for provisioning of integrated voice, data and video
services over the existing telephone infrastructure.
Advanced Application Specific Integrated Circuits Architecture. Our
engineers have substantial experience in application specific integrated
circuits design and have developed a portfolio of over 15 application specific
integrated circuits that form the core of our ATM/TDM switch fabric. These
application specific integrated circuits provide a common transport system,
allowing flexible delivery of voice, data and video from a single system. By
utilizing this architecture, our application specific integrated circuits
support broadband services such as data and video, and simultaneously maintain
compatibility with the existing voice infrastructure from a single system. Our
application specific integrated circuits generally fall into three categories:
common system control, internal communications and circuits for specific
services such as ADSL, VDSL and standard and pay telephone service. We seek to
integrate services into application specific integrated circuits to achieve cost
reductions. We intend to increase the functionality of our existing system by
adding additional designs to our application specific integrated circuits
portfolio.
System Design and Integration. We employ a team of system design engineers
to integrate the many hardware and software elements that are necessary to offer
all services on one system. We believe that integration enables our customers to
efficiently manage the
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<PAGE> 47
usage of power and operating systems interfaces in their networks. In addition,
our system integration technology reduces installation costs by linking
different platforms together, in effect reducing the number of layers in the
network.
Wavelength Division Multiplexing Technology. Our system uses a technology,
known in our industry as wavelength division multiplexing, that allows a single
fiber to efficiently communicate two-way voice, data and video. Our
implementation of this technology allows our customers to minimize the
installation of new fiber and leverage existing fiber in their plant. This
enables our customers to save costs and increase bandwidth. Furthermore, our
technology offers telephone companies the ability to manage their fiber
effectively at their central office. Our system currently operates at OC-3 rates
and we expect to offer OC-12 in the future.
Standards-based Architecture. We support multiple industry standards to
operate reliably and cost effectively. These standards can be generally
classified as transmission or interface. Examples of interface standards include
OC-3 and TR.303, which are used to connect to either broadband or narrowband
networks. Examples of transmission architecture standards include ADSL and ADSL
G.Lite. Our system incorporates standard modulation techniques and uses
bandwidth management to reduce the potential for spectrum conflicts. By
employing standard modulation technologies, our services can coexist with other
services using high speed data transmission standards like ISDN.
Software and Protocol Stacks. Most of the software in our system has been
developed internally, using modern design principles and processes. Certain
third party software has been integrated, including the WindRiver VxWorks real
time operating system, various protocol software (such as the Trillium LAPD
software and the DSET CMISE protocol stack), and device driver software (such as
the STMicroelectronics MPEG and graphics drivers for the residential gateway and
the Virata Hydrogen driver software for the Etherset).
RESEARCH AND DEVELOPMENT
As of June 30, 1999, we had 188 full time employees and 15 full time
contractors engaged in research and development. We believe that our future
success depends on our ability to adapt to the rapidly changing
telecommunications environment, to maintain our expertise in core technologies
and to continue meeting and anticipating the evolving needs of telephone
companies. We continually review and evaluate technological changes affecting
the telecommunications market and invest substantially in applications-based
research and development. We are committed to an ongoing program of new product
development that combines internal development efforts with strategic
relationships and licensing or marketing arrangements relating to new products
and technologies from outside sources.
We have focused our research and development expenditures for the past
several years on creating what we believe is the first system that supports
deployment of voice, data and video services using the existing infrastructure
of telephone companies. We have also concentrated on developing the associated
customer premises equipment, including our residential gateway, and on
developing our N(3) View-1 Element Management Systems. We believe that our
extensive experience in designing and implementing high-quality network
components has enabled us to develop integrated systems solutions. As a result
of these development efforts, we believe that we have created an
industry-leading integrated system for the cost-effective delivery of voice,
data and video over fiber, copper or mixed
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<PAGE> 48
networks. We seek to constantly improve our existing products, including
developing additional home and office products and higher speed optical
interfaces for our products.
SALES AND MARKETING
We primarily market and sell our products through a direct sales force
located in North America that consisted of 35 people as of June 30, 1999. To
date, sales activities have been focused primarily on the regional Bell
operating companies and GTE. More recently, we have focused on emerging
opportunities within the competitive local exchange carrier, independent
telephone company and international markets. We are currently expanding our
sales organization to focus on these emerging customer opportunities. As of June
30, 1999, 12 sales people were focused solely on sales to competitive local
exchange carriers. Because of the potential importance of our products to our
customers' networks, we focus our selling efforts at many levels within each
customer's organization.
We have a variety of marketing programs and initiatives to support the sale
and distribution of our products. As of June 30, 1999, we had 18 full time
employees engaged in marketing activities focusing on reaching technical experts
within telephone companies and creating product awareness and credibility for
our systems among telephone companies. A key factor to building brand awareness
for our products is promoting the success of our existing commercial system
deployments. We seek to educate telephone companies regarding the benefits of
deploying broadband-ready infrastructure across a diverse subscriber base. We
also build our brand name through continued publicity and referral efforts in
both media and industry-centered activities, including editorial presence in
various trade magazines, press releases, public speaking opportunities, national
and regional trade show participation, advertising, Internet-based communication
and promotion, media sponsorships and participation in industry standards
activities.
MANUFACTURING
We seek to deliver our products on time and defect-free by capitalizing on
the experience and expertise of strategic turnkey contract manufacturers. Based
on their quality assurance and strengths in the volume manufacture of our
products, we have established our primary contract manufacturing relationships
with SCI Systems and CMC Industries. SCI Systems is responsible for
manufacturing a majority of our circuit board plug-in assemblies. CMC
Industries, which was recently acquired by ACT Manufacturing, is responsible for
manufacturing our residential gateway product. Using contract manufacturers
allows us to reduce the costly investment in manufacturing capital, achieve
economies of scale in purchasing selected components and reduce inventory
warehousing.
We maintain only a limited in-house manufacturing capability for final
assembly, testing and integration of our products. Our internal manufacturing
expertise is focused on product design for testability, design for
manufacturability and the transfer of products from development to
manufacturing. Each contract manufacturer typically assembles an account team of
personnel representing all the essential functions to deliver products from
prototype through volume production. This team works with our design, test, and
manufacturing engineers, and our quality, materials, logistics and program
management teams. All of our major contract manufacturers are ISO9001/9002
certified. Although our contract manufacturers manage material procurement for
the majority of the components that are incorporated in our products, we
continue to manage the evaluation and selection of certain key components.
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<PAGE> 49
Our engineering team designs application specific integrated circuits and
performs simulation testing. When the fundamental design is stable, our
outsourced manufacturers fabricate the circuits for prototype testing. Upon
completion of these tests, the circuit is manufactured in volume by vendors such
as Oki Semiconductor, Broadcom, STMicroelectronics, VLSI (Philips) and Motorola.
Warranty and repair support is performed off-site by our contract manufacturers
and by us at our Rohnert Park, California facility.
CUSTOMER SERVICE AND SUPPORT
We believe that successful long-term relations with our customers require a
service organization committed to customer satisfaction. As of June 30, 1999, we
had 12 technical support employees at our headquarters or in the field. We also
offer a five-day training course for all new customers prior to receiving and
installing a system. To date, revenues from customer service and support have
been immaterial.
We provide direct support by telephone or at a customer's office or other
location at any time. To monitor service activities, we maintain a customer call
tracking system. We also maintain a dial-up analog modem connection or an
Internet-based management interface to our equipment to assist with diagnostics.
COMPETITION
The market for providing equipment for local telecommunications networks is
extremely competitive. The principal competitive factors in this market include,
or are likely to include, product performance, price, features, reliability,
technical support and service, relationships with phone companies and systems
integrators, compliance with industry standards, compatibility with the products
of other suppliers, sales and distribution capabilities, strength of brand name,
long-term cost of ownership to communications providers and general industry and
economic conditions. Many of our current and potential competitors have longer
operating histories, greater name recognition and significantly greater
financial, technical, marketing and distribution resources than we do. These
competitors may undertake more extensive marketing campaigns, adopt more
aggressive pricing policies and devote substantially more resources to
developing new products than we do. Many of our competitors have recently been
acquired and now have even greater resources to compete with us.
Our significant current and potential competitors include Advanced Fibre
Communications, Alcatel, Cisco Systems, Efficient Networks, Ericsson, Lucent
Technologies, Nokia, Nortel Networks, RELTEC Corporation (recently acquired by
GEC Marconi), Scientific Atlanta, Siemens and our largest stockholder, General
Instrument. Some of these competitors have existing relationships with our
current and prospective customers which could give them a competitive advantage
over us as a preferred provider. In addition, we anticipate that other large
companies, such as Matsushita Electric Industrial (which markets products under
the Panasonic brand name), Microsoft, Network Computer, Philips, Sony Corp.,
STMicroelectronics and Toshiba America, will likely introduce products that
compete with our residential gateway product in the future.
Consolidation in the telecommunications equipment industry may strengthen
our competitors' position in our market. Consolidation of our competitors has
occurred and we expect it to continue to occur in the foreseeable future. For
example, Alcatel acquired DSC Communications, Lucent recently acquired Ascend
Communications and GEC Marconi has recently acquired RELTEC Corporation.
Acquisitions such as these further
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<PAGE> 50
strengthen our competitors' financial, technical and marketing resources and
provide access to regional Bell operating company customers. As a result, these
competitors are able to devote greater resources to the development, promotion,
sale and support of their products. This consolidation may allow some of our
competitors to penetrate new markets that we have targeted, such as the domestic
competitive local exchange carriers and independent and international
telecommunications companies. If our competitors are successful in these
markets, our business, operating results and financial condition will be
materially adversely affected.
INTELLECTUAL PROPERTY
We rely on a combination of patent, copyright and trademark laws, and on
trade secrets, confidentiality provisions and other contractual provisions to
protect our intellectual property. These measures afford only limited
protection. As of June 30, 1999, we had nine issued U.S. patents and 24 pending
U.S. patent applications and 61 pending international patent applications.
REGULATION OF CUSTOMERS
Although our products are not now directly subject to significant
regulation by the Federal Communications Commission or any other federal or
state communications regulatory agency, our customers and their networks, into
which our products are incorporated, are subject to government regulation.
Accordingly, the effects of regulation on our customers may, in turn, adversely
impact our business, operating results and financial condition. FCC regulatory
policies affecting either the willingness or the ability of cable operators or
telephone companies to offer certain services, or the terms on which these
companies offer the services and conduct their businesses, may impede sales of
our products.
Several FCC regulatory policies may affect the degree to which or way in
which incumbent local exchange carriers, or ILECs, such as the regional Bell
operating companies, can or choose to make integrated voice, data and video
offerings available. For example, the Telecommunications Act of 1996 requires
ILECs to offer their competitors cost-based access to certain elements of their
networks to enable these competitors to provide telecommunications services. The
FCC in 1998 ruled that, among other elements, facilities and equipment used by
ILECs to provide high-speed data and video services are subject to the network
unbundling requirements. Thus, ILECs would be required to allow their
competitors access to equipment including some equipment provided by us. The FCC
also ordered that ILECs must offer for resale, at wholesale rates, any
telecommunication services, including high-speed data or video services, that
ILECs offer to customers. The Supreme Court recently overturned the FCC's rule
identifying the specific unbundled network elements that ILECs must provide, and
the FCC is in the process of adopting new rules defining those elements,
including facilities and equipment used to provide video and data services. We
cannot predict the outcome of this or any other FCC proceeding. The FCC is
expected to issue its decision by the end of 1999, but judicial appeals could
follow. The uncertainties caused by pending regulatory proceedings or appeals
could cause potential customers to delay purchasing decisions. In addition, the
outcomes of the various regulatory proceedings may, in the aggregate, cause
potential customers to choose not to deploy all of the services for which our
products are designed or to delay the widespread introduction of one or more of
these services. Certain members of Congress have also expressed an interest in
removing some of the regulatory obstacles for ILEC provision of
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<PAGE> 51
video and high-speed data services, but again there is no way to predict whether
this legislation will be adopted.
The FCC also has proposed allowing ILECs to offer high-speed data and video
services through a structurally separate subsidiary that is not subject to the
unbundling and resale requirements. To date, no ILEC has chosen to operate on
that basis. Our equipment is designed to allow carriers to provide video,
high-speed data, and digital voice on an integrated basis. If ILECs were to
choose to offer video or data services through a separate affiliate, we might be
at a competitive disadvantage to vendors whose equipment does not provide for
integration of service offerings. A separate affiliate may choose to purchase
less sophisticated equipment because it might not be able to utilize fully the
integrated features of our equipment.
The FCC's rules prohibit ILECs from providing voice or data services along
with customer premises equipment, such as our residential gateway, as a package
offering at a single price. ILECs may offer customer premises equipment to
customers, but services such as voice or data must be offered and priced
separately from this equipment. Our residential gateway can represent a
significant investment for customers, and the inability of ILECs to bundle the
residential gateway with voice or data services for a single monthly price could
present a significant marketing barrier. The FCC also currently prohibits
certain carriers, including ILECs, from offering enhanced services, which would
include, for example, Internet access services bundled with local exchange voice
services. These bundling restrictions may limit the ability of ILECs using our
equipment to attract customers. The FCC is considering amending or repealing
these bundling restrictions, but there can be no assurance that rule changes
will take place.
Distribution of our residential gateway could be adversely affected by the
FCC's "navigation devices" rules. Those rules require multichannel video program
distributors, a service category which would include those who use our system to
deliver video, to allow set-top boxes and other navigation devices owned by
customers or manufactured by third parties to be connected to the multichannel
video program distributor's system. The rules require multichannel video program
distributors to disclose technical details of their interfaces with navigation
devices so as to permit third-party manufacturers to provide the navigation
devices and permit retail customers to make the necessary connections. We
believe these rules are not readily applicable to our system because our
residential gateway is in many ways very different from a cable set-top box, and
currently there is no realistic likelihood of an independent-market for our
residential gateway separate from our entire system. However, it is possible
that the rules could be applied to our residential gateway or other parts of our
system. If this happens, our customers might be required to disclose proprietary
technical information including patented data, much of which the customers do
not possess, about our technology to allow competing vendors to access the
system.
LITIGATION
In April 1995, DSC Communications and DSC Technologies filed an action
against us and our founders, who are former DSC employees, in the United States
District Court for the Eastern District of Texas alleging breach of contract,
usurpation of corporation opportunity and misappropriation of trade secrets. The
complaint alleged that certain telecommunications technology known as switched
digital video was misappropriated by the defendants. Following a March 1996
trial on the merits, the jury found against the defendants on all three theories
and the court awarded DSC $136.7 million in damages
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based on future lost profits. Following several post-trial proceedings and an
appeal of a federal district court's denial of injunctive relief, on February
28, 1997, the United States Court of Appeals for the Fifth Circuit ruled that
DSC was not entitled to permanent injunctive relief, since the lost profits
damage award was based on the assumption that we developed a competing switched
digital video system. Subsequently, we satisfied the judgment of the Texas
litigation, including interest, by paying DSC $141.0 million in November 1997.
In March 1998, DSC filed an action against Next Level Communications L.P.,
KK Manager LLC, General Instrument and Spencer Trask & Co., Inc., the parent of
the general partner, in the Superior Court of the State of Delaware in and for
New Castle County. In that action, DSC alleged that in connection with the
formation of Next Level Communications L.P. and the transfer to it of the
switched digital video technology, Next Level Communications L.P. and KK Manager
LLC misappropriated DSC's trade secrets; that General Instrument improperly
disclosed trade secrets when it conveyed this technology to the partnership; and
that Spencer Trask & Co. conspired to misappropriate DSC's trade secrets. The
trade secrets at issue were the same switched digital video technology trade
secrets at issue in the Texas litigation. DSC sought actual damages for the
defendants' purported unjust enrichment, disgorgement of consideration,
exemplary damages and attorney's fees, all in unspecified amounts. In April
1998, the defendants filed an action in the United States District Court for the
Eastern District of Texas, requesting that the federal court preliminarily and
permanently enjoin DSC from prosecuting the Delaware action because by pursuing
the action, DSC effectively was trying to circumvent and relitigate the Texas
action, in which we had paid $141.0 million. In May 1998, the Texas court
granted a preliminary injunction preventing DSC from proceeding with the
Delaware action. That injunction order was appealed to the United States Court
of Appeals for the Fifth Circuit. In June 1999, the Fifth Circuit affirmed the
grant of the preliminary injunction. On July 15, 1999, the Texas federal court
granted the Delaware defendants' motion for summary judgment and issued its
final judgment, permanently enjoining DSC from prosecuting and continuing the
Delaware action.
In May 1998, actions by BroadBand Technologies, Inc. against General
Instrument and by Next Level Communications against BroadBand Technologies,
pending in the United States District Court for the Eastern District of North
Carolina, were dismissed with prejudice. These dismissals were entered pursuant
to a settlement agreement under which, among other things, Next Level
Communications L.P. paid BroadBand Technologies $5.0 million, which was expensed
in 1998, and BroadBand Technologies and Next Level Communications L.P. have
entered into a perpetual cross-license of patents applied for or issued
currently or during the next five years.
EMPLOYEES
As of June 30, 1999, we had a total of 317 full-time employees and 26
full-time contractors. Of the total number of employees, 188 were in research
and development, 18 in marketing, 21 in operations, 48 in sales and sales
support and 43 in administration. Of the total number of contractors, 15 were in
research and development, one in marketing, one in operations and nine in
administration. Our employees are not represented by any collective bargaining
agreement with respect to their employment, and we have never experienced an
organized work stoppage. Our future success is heavily dependent upon our
ability to hire and retain qualified technical, marketing and management
personnel. The competition for personnel is intense, particularly for
engineering personnel.
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FACILITIES
We lease approximately 205,000 square feet of administrative, research and
development, engineering and prototype/test facilities in Rohnert Park,
California. We also lease two sales offices, in Braintree, Massachusetts and
Denver, Colorado. In addition, we lease an office for our technology department
in Parsippany, New Jersey. We believe our current facilities will be sufficient
to handle our operations for at least the next 18 months.
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MANAGEMENT
OFFICERS AND DIRECTORS
Our officers and directors, and their ages as of June 30, 1999, are as
follows:
<TABLE>
<CAPTION>
NAME AGE POSITION(S)
---- --- -----------
<S> <C> <C>
Peter W. Keeler................ 44 Chairman of the Board, Chief Executive Officer
and President
Thomas R. Eames................ 46 Chief Technical Officer
Charles H. Seebock............. 52 Senior Vice President and Chief Operating
Officer
James T. Wandrey............... 44 Senior Vice President, Chief Financial Officer
and Treasurer
A. Pat Pachynski............... 59 Senior Vice President, Marketing
Frank P. Tuhy.................. 55 Senior Vice President, Technology
T. Murat Uraz.................. 44 Senior Vice President and Chief Engineering
Officer
Hans L. Van Welzen............. 56 Senior Vice President, Sales
William A. Weeks............... 36 Senior Vice President and Chief Strategic
Officer
Richard C. Smith............... 54 Director
Kevin B. Kimberlin............. 46 Director
</TABLE>
We currently expect to add four directors to our board before completion of
this offering.
Peter Keeler co-founded Next Level and has served as our Chief Executive
Officer from July 1994 to the present and served as our co-President from July
1994 to June 1999. From 1988 until May 1994, Mr. Keeler served as Vice President
of Business Development for Optilink/DSC, a telecommunications equipment
company. Prior to that, Mr. Keeler held various marketing and international
business positions for the 3M Company. Mr. Keeler holds a BS degree in
Electrical Engineering from Wentworth College of Technology and an MBA from
Northeastern University.
Thomas Eames co-founded Next Level and has served as our Chief Technical
Officer since June 1999 while also serving as our co-President from July 1994 to
June 1999. Prior to that, Mr. Eames was a founder of Optilink Corporation, which
was later acquired by DSC Corporation where he served as Senior Director in
Engineering from 1987 to May 1994. Prior to that Mr. Eames was employed by
Harris Corporation in a variety of technical positions. Mr. Eames holds a BS
degree in Computer Science from Sonoma State University.
Charles Seebock has served as our Senior Vice President and Chief Operating
Officer since June 1999. From June 1998 to June 1999, Mr. Seebock served as our
Vice President and Chief Operating Officer. From January 1996 to June 1998, Mr.
Seebock served as our Vice President, Administration and Chief Financial
Officer. From January 1989 to November 1995, Mr. Seebock was the Vice President
Finance/MIS of the airbag business of Morton International. Mr. Seebock holds a
BS degree in Business Management and Accounting from Elmhurst College.
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James Wandrey has served as our Senior Vice President, Chief Financial
Officer and Treasurer since June 1999. From March 1999 to June 1999, Mr. Wandrey
served as our Vice President, Chief Financial Officer and Treasurer. Mr. Wandrey
was Vice President and Corporate Controller of Avid Technology from April 1997
to December 1998. From January 1995 to April 1997, Mr. Wandrey served as Senior
Director and Corporate Controller of Alcatel Network Systems. Prior to that, Mr.
Wandrey spent 11 years with the Hewlett Packard Company. Mr. Wandrey holds a BS
degree in Accounting from Boston College and an MBA from the University of
Chicago.
Pat Pachynski has served as our Senior Vice President of Marketing since
June 1999. From August 1997 to June 1999, Mr. Pachynski served as our Vice
President of Marketing. From May 1997 to August 1997, Mr. Pachynski was our
Senior Programs Manager. Prior to that, Mr. Pachynski was a consultant to the
telecommunications industry from September 1995 to April 1997. From 1989 to
1994, Mr. Pachynski was Vice President of Marketing for Raynet Corporation.
Prior to that Mr. Pachynski held a variety of technical and management positions
with GTE Lenkurt and Rockwell International. Mr. Pachynski holds a BS degree in
Electrical Engineering from Stanford University and a General Management
Certificate from Santa Clara University.
Frank Tuhy has served as our Senior Vice President of Technology since June
1999. From December 1996 to June 1999, Mr. Tuhy served as our Vice President of
Technology-East. From January 1984 to November 1996, Mr. Tuhy was Director of
Access Systems Analysis and Criteria at Bell Communications Research (Bellcore).
Mr. Tuhy holds a BS degree in Electrical Engineering from Rutgers University and
an MS degree in Electrical Engineering from Massachusetts Institute of
Technology.
Murat Uraz has served as our Senior Vice President and Chief Engineering
Officer since June 1999. From January 1995 to June 1999, Mr. Uraz held many
positions in our Engineering Department, including Vice President of
Engineering. Prior to that, from 1993 to January 1995, Mr. Uraz was a Broadband
Engineering Project Manager at Raynet Corporation. Mr. Uraz holds a BS degree in
Electrical Engineering from Technical Institute of Istanbul, Turkey and an MS
degree in Electrical Engineering from Polytechnic Institute of New York.
Hans Van Welzen has served as our Senior Vice President of Sales since
April 1999. Mr. Van Welzen was Senior Vice President of Sales for Siemens
Information and Communications Networks from October 1998 to March 1999. From
December 1993 to September 1998, Mr. Van Welzen was Vice President of Northeast
sales for Siemens Telecom Networks. From 1989 to 1992, Mr. Van Welzen was Vice
President of Operations for Siemens. Prior to that, Mr. Van Welzen spent 22
years with Nortel where he held a wide variety of Sales, Engineering, Operations
and Marketing positions. Mr. Van Welzen holds a BA in Science from the
University of Waterloo in Canada.
William Weeks has served as our Senior Vice President and Chief Strategic
Officer since June 1999. From April 1996 to June 1999, Mr. Weeks served as our
Vice President, Technology-West. From February 1995 to April 1996, Mr. Weeks
served as our Senior Director of Technology. Mr. Weeks was Director of Broadband
Access Technology at U S WEST Advanced Technologies from 1992 to February 1995.
Prior to that, Mr. Weeks held various positions with Ameritech Corp, AT&T Bell
Laboratories and United Telecommunications. Mr. Weeks holds a BS degree in
Electrical Engineering Technology from the Missouri Institute of Technology, an
MS in Telecommunications Engineering
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from the University of Missouri and an MS degree in Computer Science from North
Central College.
Richard Smith has been one of our directors since August 1999 and was a
director of the limited partner of Next Level Communications L.P. since November
1996. Since April 1998, Mr. Smith has been Executive Vice President of General
Instrument. Mr. Smith was Vice President, Business Development of General
Instrument from July 1997 to April 1998. In addition, Mr. Smith was the
Treasurer of General Instrument and its predecessors from September 1991 until
May 1999. Mr. Smith held various positions with General Instrument and its
predecessors since April 1983. Mr. Smith holds a BS in Finance from Boston
College and a JD from Georgetown University Law Center.
Kevin Kimberlin has been one of our directors since August 1999 and has
served as the controlling person of KK Manager LLC, the general partner of Next
Level Communications L.P., our predecessor, since January 1998. Since 1991, Mr.
Kimberlin has been Chairman of Spencer Trask & Co., a firm investing in high
growth companies and an affiliate of KK Manager LLC. Mr. Kimberlin is a
co-founder of Ciena Corporation, Myriad Genetics, Inc. and The Immune Response
Corporation. He is a director of the Immune Response Corporation, and Faroudja
Inc. Mr. Kimberlin holds a BS in Finance from Indiana University and an MBA from
Harvard Business School.
EXECUTIVE COMPENSATION
The following Summary Compensation Table sets forth compensation
information for fiscal year 1998 paid by Next Level for services by our Chief
Executive Officer and our four other highest-paid executive officers whose total
salary and bonus for fiscal year 1998 exceeded $100,000 and whom we collectively
refer to as the named executive officers.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
AWARDS
ANNUAL COMPENSATION --------------------- ALL OTHER
------------------- SECURITIES UNDERLYING COMPENSATION
NAME AND PRINCIPAL POSITION SALARY BONUS OPTIONS (1)
- --------------------------- -------- -------- --------------------- ---------------
<S> <C> <C> <C> <C>
Peter W. Keeler........... $250,000 $125,000 -- $5,000
Chairman of the Board,
Chief Executive Officer
and
President
Thomas R. Eames........... 250,000 125,000 -- 5,000
Chief Technical Officer
T. Murat Uraz............. 148,993 79,698 33,334 4,368
Senior Vice President,
Chief Engineering Officer
Charles H. Seebock........ 166,910 50,074 8,334 5,000
Senior Vice President,
Chief Operating Officer
William A. Weeks.......... 146,300 43,890 8,334 4,268
Senior Vice President,
Chief Strategic Officer
</TABLE>
- -------------------------
(1) Represents our matching 401(k) contribution.
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<PAGE> 57
OPTION GRANTS IN LAST FISCAL YEAR
The following table contains information concerning the stock option grants
made to each of the named executive officers in fiscal year 1998. No stock
appreciation rights were granted to these individuals during that year.
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS POTENTIAL REALIZABLE
--------------------------------------------- VALUE AT ASSUMED
NUMBER OF ANNUAL RATES
SECURITIES OF STOCK
UNDERLYING % OF TOTAL PRICE APPRECIATION
OPTIONS OPTIONS GRANTED EXERCISE FOR OPTION TERM(5)
GRANTED TO EMPLOYEES IN PRICE EXPIRATION ---------------------
NAME (1) 1998(2) (PER SHARE)(3) DATE(4) 5% 10%
---- ---------- --------------- -------------- ---------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Peter W. Keeler...... -- -- -- -- -- --
Thomas R. Eames...... -- -- -- -- -- --
T. Murat Uraz........ 33,334 18.6% $6.18 9/1/08 $335,559 $534,332
Charles H. Seebock... 8,334 4.7% 6.18 9/1/08 83,895 133,588
William A. Weeks..... 8,334 4.7% 6.18 9/1/08 83,895 133,588
</TABLE>
- -------------------------
(1) Each of the above options was granted pursuant to our Amended and Restated
1997 Long-Term Incentive Plan. One-third of the options vests on each of the
first three anniversaries of the date of grant. These options become fully
vested if we are subject to a change in control. None of our options are
exercisable before the completion of this offering. Once this offering has
been completed, our options will be exercisable in accordance with their
respective vesting schedules.
(2) In fiscal year 1998, we granted options to employees to purchase an
aggregate of 179,080 shares.
(3) The exercise price was equal to the fair market value of our common stock as
valued by the board of directors of one of our predecessors on the date of
grant. In determining the fair market value of our common stock, the board
of directors of one of our predecessors considered factors such as our
financial condition and business prospects, our operating results, the
absence of a market for our common stock and the risks normally associated
with high-technology companies. The exercise price may be paid in cash,
check, shares of our Class A common stock, through a cashless exercise
procedure involving same-day sale of the purchased shares or any combination
of these methods.
(4) These options may terminate before their expiration dates if the optionee's
status as an employee is terminated or upon the optionee's death or
disability.
(5) The potential realizable value is calculated based on the ten-year term of
the option at the time of grant. Stock price appreciation of 5% and 10% is
assumed pursuant to rules promulgated by the Securities and Exchange
Commission and does not represent our prediction of our stock price
performance. The potential realizable value at 5% and 10% appreciation is
calculated by assuming that the estimated fair market value on the date of
grant appreciates at the indicated rate for the entire term of the option
and that the option is exercised at the exercise price and sold on the last
day of its term at the appreciated price. See footnote 3 for information on
how the fair market value of our common stock was estimated. The initial
public offering price is higher than the estimated fair market value on the
date of grant, and the potential realizable value of the option grants would
be significantly higher than the numbers shown in the table if future stock
prices were projected to the end of the option term by applying the same
annual rates of stock price appreciation to the initial public offering
price.
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<PAGE> 58
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION
VALUES
The following table sets forth information concerning the shares acquired
and the value realized upon the exercise of stock options during fiscal year
1998 and the year-end number and value of unexercised options with respect to
each of the named executive officers. No stock appreciation rights were
exercised by the named executive officers in fiscal year 1998 or were
outstanding at the end of that year.
<TABLE>
<CAPTION>
VALUE OF
NUMBER OF UNEXERCISED
SECURITIES UNDERLYING IN-THE-MONEY
UNEXERCISED OPTIONS OPTIONS
SHARES AT FISCAL YEAR-END(#)(1) AT FISCAL YEAR-END($)(2)
ACQUIRED ON VALUE --------------------------- ---------------------------
NAME EXERCISE(#) REALIZED($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ------------ ------------ ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Peter W. Keeler...... -- -- -- 1,750,000 -- $15,435,000
Thomas R. Eames...... -- -- -- 1,559,214 -- 13,752,267
T. Murat Uraz........ -- -- -- 176,667 -- 1,341,508
Charles H. Seebock... -- -- -- 116,667 -- 955,258
William A. Weeks..... -- -- -- 105,000 -- 855,505
</TABLE>
- -------------------------
(1) Some of our options were granted in tandem with options to purchase shares
of the common stock of General Instrument. If all or a portion of one of our
options are exercised, all or a portion of the General Instrument options
are canceled and if all or a portion of the General Instrument options are
exercised, all or a portion of our options are canceled. The number of
unexercised options set forth in the table does not include options to
purchase shares of General Instrument common stock. None of our options are
exercisable before the completion of this offering. Once this offering has
been completed, our options will be exercisable in accordance with their
respective vesting schedules.
(2) The value of "in-the-money" stock options represents the positive spread
between the exercise price of stock options and the fair market value for
our common stock of $9.66 per share as of December 31, 1998. The fair market
value of our common stock was determined by the board of directors of one of
our predecessor companies based on a number of factors, such as our
financial condition and business prospects, our operating results, the
absence of a market for our common stock and the risks normally associated
with high-technology companies. The initial public offering price is higher
than the estimated fair market value at fiscal year-end, and the value of
unexercised options would be higher than the numbers shown in the table if
the value were calculated by subtracting the exercise price from the initial
public offering price.
EMPLOYEE STOCK PLANS
1999 EQUITY INCENTIVE PLAN
Our board of directors adopted our 1999 Equity Incentive Plan on
, 1999. Our stockholders also approved this plan. We have
reserved shares of our Class A common stock for issuance under the
1999 Equity Incentive Plan. On January 1 of each year, starting with the year
2001, the number of shares in the reserve will automatically increase by %
of the total number of shares of common stock that are outstanding at that time
or, if less, by shares. In general, if options or shares awarded under
the 1999 Equity Incentive Plan are forfeited, then those options or shares will
again become available for awards. We have not yet granted any options under the
1999 Equity Incentive Plan.
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<PAGE> 59
The compensation committee of our board of directors administers the 1999
Equity Incentive Plan. The committee has the complete discretion to make all
decisions relating to the interpretation and operation of our 1999 Equity
Incentive Plan. The committee has the discretion to determine who will receive
an award, what type of award it will be, how many shares will be covered by the
award, what the vesting requirements will be, if any, and what the other
features and conditions of each award will be. The compensation committee may
also reprice outstanding options and modify outstanding awards in other ways.
The following groups of individuals are eligible to participate in the 1999
Equity Incentive Plan:
- employees;
- members of our board of directors, other than board members who are our
employees, board members who are employees of General Instrument and
board members who are employees of KK Manager LLC or its affiliates; and
- consultants.
The 1999 Equity Incentive Plan provides for the following types of award:
- options to purchase shares of our Class A common stock;
- stock appreciation rights;
- restricted shares of our Class A common stock; and
- stock units (sometimes called phantom shares).
Options may be incentive stock options or nonstatutory stock options. An
optionee who exercises an incentive stock option may qualify for favorable tax
treatment under Section 422 of the Internal Revenue Code of 1986. On the other
hand, nonstatutory stock options do not qualify for this favorable tax
treatment. The exercise price for all options granted under the 1999 Equity
Incentive Plan may not be less than 100% of the fair market value of our Class A
common stock on the option grant date. Optionees may pay the exercise price by
using:
- cash;
- shares of Class A common stock that the optionee already owns;
- an immediate sale of the option shares through a broker designated by us;
or
- a loan from a broker designated by us, secured by the option shares.
Options and stock appreciation rights vest at the time or times determined
by the compensation committee. In most cases, our options will vest over the
four-year period following the date of grant. Options and stock appreciation
rights generally expire 10 years after they are granted, except that they
generally expire earlier if the optionee's service terminates earlier.
The 1999 Equity Incentive Plan provides that no participant may receive
options or stock appreciation rights covering more than shares in the
same year, except that a newly hired employee may receive options or stock
appreciation rights covering up to shares in the first year of
employment.
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<PAGE> 60
Restricted shares may be awarded under the 1999 Equity Incentive Plan in
return for:
- cash;
- a full-recourse promissory note, except that the par value of newly
issued shares must be paid in cash;
- services already provided to us; and
- in the case of treasury shares only, services to be provided to us in the
future.
Restricted shares and stock units vest at the time or times determined by
the compensation committee.
Our compensation committee may determine that an option or other award
under the 1999 Equity Incentive Plan will become fully or partially vested if we
are subject to a change in control or if a participant's employment is
terminated after a change in control. A change in control includes the
following, except that in no case does a change in control include the sale of
our stock by General Instrument or a change in control of General Instrument:
- a merger after which our own stockholders own 50% or less of the
surviving corporation or our parent company;
- a sale of all or substantially all of our assets;
- a proxy contest that results in the replacement of more than one-half of
our directors over a 24-month period; or
- an acquisition of 50% or more of our outstanding stock by any person or
group, other than General Instrument or a person related to us, such as a
holding company owned by our stockholders.
The non-employee members of our board of directors, with the exception of
non-employee directors who are employees of General Instrument or KK Manager LLC
or its affiliates, will be eligible for automatic option grants under the 1999
Equity Incentive Plan. Each non-employee director who first joins our board
after the completion of this offering will receive an initial option for 20,000
shares of our Class A common stock. That grant will occur when the director
takes office. The initial option will vest over the four-year period following
the date of grant.
At the time of each of our annual stockholders' meetings, beginning in
2000, each non-employee director, with the exception of non-employee directors
who are employees of General Instrument or KK Manager LLC or its affiliates, who
will continue to be a director after that meeting will automatically be granted
an annual option for 5,000 shares of our Class A common stock. However, a new
non-employee director who is receiving the 20,000-share initial option will not
receive the 5,000-share annual option in the same year. The annual options will
vest one year after the date of grant. If a change in control occurs, or if a
non-employee director leaves our board because of retirement after age 65, total
disability or death, then the non-employee director's options granted under the
1999 Equity Incentive Plan will become fully vested.
The exercise price of each non-employee director's option will be equal to
the fair market value of our common stock on the option grant date. A director
may pay the exercise price by using cash, shares of Class A common stock that
the director already owns, or an immediate sale of the option shares through a
broker designated by us. The non-employee directors' options have a 10-year
term, except that they expire one year after a director leaves the board (if
earlier).
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<PAGE> 61
Our board may amend or terminate the 1999 Equity Incentive Plan at any
time. If our board amends the plan, it does not need to ask for stockholder
approval of the amendment unless applicable law requires it. The 1999 Equity
Incentive Plan will continue in effect indefinitely, unless the board decides to
terminate the plan earlier.
1999 EMPLOYEE STOCK PURCHASE PLAN
Our board of directors adopted our 1999 Employee Stock Purchase Plan on
, 1999. Our stockholders also approved this plan. Our 1999
Employee Stock Purchase Plan is intended to qualify under Section 423 of the
Internal Revenue Code. We have reserved shares of our Class A common
stock for issuance under the plan. On November 1 of each year, starting with the
year 2000, the number of shares in the reserve will automatically be increased
by shares or % of the shares then outstanding, whichever is less.
The plan will be administered by the compensation committee of our board of
directors.
All of our employees are eligible to participate. Eligible employees may
begin participating in the 1999 Employee Stock Purchase Plan at the start of any
offering period. Each offering period lasts 24 months. Overlapping offering
periods start on May 1 and November 1 of each year. However, the first offering
period will start on the effective date of this offering and end on October 31,
2001.
Our 1999 Employee Stock Purchase Plan permits each eligible employee to
purchase Class A common stock through payroll deductions. Each employee's
payroll deductions may not exceed 15% of the employee's cash compensation.
Purchases of our Class A common stock will occur on April 30 and October 31 of
each year. Each participant may purchase up to shares on any purchase date.
But the value of the shares purchased in any calendar year (measured as of the
beginning of the offering period) may not exceed $25,000.
The price of each share of Class A common stock purchased under our 1999
Employee Stock Purchase Plan will be 85% of the lower of:
- the fair market value per share of Class A common stock on the date
immediately before the first day of the applicable offering period; or
- the fair market value per share of Class A common stock on the purchase
date;
In the case of the first offering period, the price per share under the
plan will be 85% of the lower of:
- the price per share to the public in this offering; or
- the fair market value per share of Class A common stock on the purchase
date.
Employees may end their participation in the 1999 Employee Stock Purchase
Plan at any time. Participation ends automatically upon termination of
employment with us. If a change in control occurs, our 1999 Employee Stock
Purchase Plan will end and shares will be purchased with the payroll deductions
accumulated to date by participating employees, unless the plan is assumed by
the surviving corporation or its parent. Our board of directors may amend or
terminate the 1999 Employee Stock Purchase Plan at any time. If our board
increases the number of shares of Class A common stock reserved for issuance
under the plan (except for the automatic increases described above), it must
seek the approval of our stockholders.
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<PAGE> 62
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Currently, Next Level Communications, a subsidiary of General Instrument,
is the limited partner and KK Manager LLC is the general partner of Next Level
Communications L.P., with the General Instrument subsidiary holding a 90.4%
limited partnership interest and KK Manager LLC holding a 9.6% general
partnership interest. General Instrument also holds a $75.0 million principal
amount promissory note of Next Level Communications L.P., which, together with
accrued interest thereon, is convertible into shares of common stock of the
successor corporation to the partnership. KK Manager LLC also has an option to
acquire additional shares of that successor corporation.
Immediately prior to the completion of this offering, Next Level
Communications L.P. and the General Instrument subsidiary will be merged into
the successor corporation, Next Level Communications, Inc., and General
Instrument will contribute the $75 million note and accrued interest thereon to
Next Level Communications, Inc. As a result, General Instrument will receive
69,718,591 shares of Class B common stock and KK Manager LLC will receive
5,863,329 shares of Class A common stock. After giving effect to this offering,
these shares will represent % of the outstanding Class A common stock and
100% of the outstanding Class B common stock on a fully diluted basis. Also
pursuant to this merger, KK Manager LLC's option will become an option to
acquire from us 8,480,102 shares of Class A common stock at an exercise price of
$10.38 per share. This option becomes exercisable upon completion of this
offering and expires on January 13, 2003. In lieu of paying the exercise price
in cash, KK Manager LLC may elect to receive, upon the exercise of this option,
the number of shares subject to the option multiplied by a fraction, the
numerator of which is the market price per share less the exercise price and the
denominator of which is the market price per share.
Because the Class B common stock is entitled to ten votes per share, the
shares beneficially owned by General Instrument will represent over % of
the combined voting power of all of the common stock outstanding immediately
after completion of this offering. Prior to this offering, General Instrument
will enter into a voting trust agreement, which is described below, to limit its
voting power to 49% of the combined voting power of all outstanding common stock
and to limit the number of its designees to the board of directors to one less
than a majority. Notwithstanding the voting trust agreement, as a result of its
49% voting power and board representation, General Instrument will be able to
exercise significant influence over the business and affairs of Next Level,
including dividend policy, borrowings and access to capital, acquisition or
disposition of assets, mergers and other business combinations and change of
control transactions.
General Instrument and KK Manager LLC have advised us that they currently
intend to hold all of their shares. However, they are not subject to any
contractual obligation to retain any of their shares, except that they have
agreed not to sell or otherwise dispose of any shares for 180 days after the
date of this prospectus without the prior written consent of Merrill Lynch,
Pierce, Fenner & Smith Incorporated. As a result, we cannot assure you as to how
long General Instrument or KK Manager LLC will maintain their beneficial
ownership of common stock after this offering.
It is possible that General Instrument could be in a position involving a
conflict of interest with us. In addition, individuals who are officers or
directors of both companies may have fiduciary duties to both General Instrument
and us. For example, a conflict may arise if General Instrument were to engage
in activities or pursue corporate opportunities that may overlap with our
business. Our certificate of incorporation contains provisions
58
<PAGE> 63
intended to protect General Instrument and these individuals in these
situations. See "Description of Capital Stock -- Other Certificate of
Incorporation and By-law Provisions -- Corporate Opportunities."
General Instrument leases one of the buildings at our Rohnert Park offices
from a Delaware realty trust set up specifically to permit the purchase and
lease of the facility. To purchase the land and construct the facility, this
trust obtained loans from several lenders which are guaranteed by General
Instrument. We intend to sublease the facility from General Instrument
immediately prior to the completion of this offering and will remain a
sublessee. General Instrument will remain lessee of the facility and guarantor
of the loans. We have the right to purchase the property by refinancing the
outstanding indebtedness. If we do so, General Instrument would be released from
the obligations under the loans. Under the terms of our proposed sublease with
General Instrument, until December 31, 1999, we will pay directly to the trust
all monthly payments owed by General Instrument on the facility. If we have not
refinanced the loans by that date, we will pay to General Instrument a fair
market rent of not less than the amount payable by General Instrument under its
lease. In addition, we also have the option to purchase the building from
General Instrument following December 31, 1999 at fair market value.
As a condition of the contract to supply Bell Atlantic with our fiber to
the curb product, we are required to maintain a performance bond or irrevocable
letter of credit. This obligation is currently guaranteed by General Instrument.
We are negotiating to replace this guarantee with a facility of our own.
Set forth below are descriptions of agreements which will be entered into
between us and our principal stockholders in connection with this offering.
CORPORATE AND INTERCOMPANY AGREEMENT
Before this offering is completed, we will enter into a corporate and
intercompany agreement with General Instrument under which we will grant to
General Instrument a continuing option to purchase additional shares of Class B
common stock or shares of non-voting capital stock. If we issue any additional
equity securities after this offering, General Instrument may exercise this
option to purchase:
- shares of Class B common stock to the extent necessary for it to maintain
its then-existing percentage of the total voting power and our value; and
- shares of nonvoting capital stock to the extent necessary to own 80% of
each outstanding class of non-voting capital stock.
The purchase price of the shares of Class B common stock will be based on the
market price of the Class A common stock. The purchase price of non-voting
capital stock will be the price at which third parties may purchase this stock.
The stock option expires if General Instrument beneficially owns less than 30%
of the outstanding common stock.
This agreement will also provide that, for as long as General Instrument
beneficially owns a majority of the outstanding common stock, we may not take
any action which may be reasonably anticipated to result in a violation by
General Instrument of:
- any law or regulation, including the Internal Revenue Code or the
Employee Retirement Income Security Act;
- General Instrument's certificate of incorporation or by-laws;
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<PAGE> 64
- any credit agreement or other material instrument binding upon General
Instrument or any of its assets; or
- any judgment, order or decree of any governmental authority having
jurisdiction over General Instrument or any of its assets.
This agreement will also provide that the parties will provide reasonable
cooperation with respect to their tax filings and any tax audits. Under this
agreement, we will also indemnify General Instrument against any lawsuits or
other claims arising out of any of our or our predecessor's activities or
omissions before and after this offering.
This agreement will also provide that we will enter into a similar
agreement for the benefit of any Class B Transferee, as defined under
"Description of Capital Stock."
CROSS LICENSE AGREEMENT
Before this offering is completed, we will enter into a cross license
agreement with General Instrument. Under this agreement, General Instrument will
grant to us a nonexclusive, perpetual, royalty free, worldwide license under all
patent applications and patents owned by General Instrument and filed prior to
this offering and any future patents issued from these General Instrument
patents and patent applications, to make our NLevel(3) product or related
switched digital video network equipment and software. This grant will not
include patent claims covering the implementations, methods or devices primarily
used or to be used by General Instrument. Also under this agreement, we will
grant to General Instrument a nonexclusive, perpetual, royalty free, worldwide
license under all patent applications and patents owned by us and filed prior to
this offering and any future patents issued from these patents and patent
applications to make digital cable subscriber terminals, satellite and wireless
subscriber terminals, cable modems, HFC telephony and related headend, uplink,
transmission or other network equipment and software. This grant will not
include patent claims covering the implementations, methods or devices primarily
used or to be used by us. We and General Instrument will each also license to
the other the right to use confidential, technical and other information in each
other's possession as of January 13, 1998. These licenses do not include the
right to sublicense to any third parties. This agreement will permit General
Instrument and us to transfer their licenses only pursuant to a sale of their
respective entire business or a sale of an entire business unit that benefits
from the license.
REGISTRATION RIGHTS AGREEMENT
Before this offering is completed, we will enter into a registration rights
agreement with General Instrument and KK Manager LLC. Under this agreement, we
will grant to these stockholders the right to request that we use our best
efforts to register their shares of common stock under federal and state
securities laws so that they may sell or dispose of their shares in accordance
with these laws. So long as General Instrument owns 30% of our outstanding
common stock, General Instrument will not be limited in the number of times it
may make that request. After its ownership declines below that level, General
Instrument will be able to cause us to effect up to four registrations of its
shares. KK Manager LLC will be able to cause us to effect up to three
registrations of its shares. Under customary "piggy-back" registration rights,
General Instrument and KK Manager LLC will also be entitled to include their
shares in all registrations of common stock initiated on behalf of us or our
stockholders, subject to customary exceptions. We will pay for all out-of-pocket
expenses relating to these registrations and indemnify General Instrument and KK
Manager
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<PAGE> 65
LLC against liabilities under securities laws. General Instrument and KK Manager
LLC may generally assign these registration rights to transferees of their
shares. This agreement will also provide that we will enter into a similar
agreement for the benefit of any Class B Transferee.
VOTING TRUST AGREEMENT
Before this offering is completed, we and General Instrument will enter
into a voting trust agreement. will also be a
party to this agreement in its capacity as voting trustee. All of the shares of
Class B common stock to be received by General Instrument pursuant to the
recapitalization will be held in the voting trust created by this agreement.
General Instrument may, but is not obligated to, deposit in the voting trust
additional shares from time to time. Through this agreement, General Instrument
intends to limit the voting power of the shares held in the voting trust to 49%
of the total voting power represented by all outstanding shares of our common
stock or a lower percentage as General Instrument may elect from time to time by
giving notice to the voting trustee and us. We refer to this percentage as the
"threshold percentage."
With respect to the voting trust shares representing up to the threshold
percentage of the total voting power of all outstanding shares of common stock,
the voting trustee will:
- vote or consent in writing in favor of any individuals designated by
General Instrument for election as director so long as the number of
individuals designated by General Instrument and elected to our board of
directors would not exceed three;
- vote "for" or "against" or abstain from voting on any other matter
validly presented at a stockholder meeting or consent in writing as
directed by General Instrument; and
- cause to be present at any stockholder meeting for purposes of
determining a quorum a number of those voting trust shares as directed by
General Instrument, which will not be less than the number of shares
directed by General Instrument to be voted at that meeting.
With respect to all other voting trust shares, the voting trustee will:
- vote or consent in writing in favor of any individual for election as
director in the same proportion as all shares of common stock other than
the voting trust shares are voted or consented to in writing in favor of
that individual;
- vote "for" or "against" or abstain from voting on any other matter
validly presented at a stockholder meeting or consent in writing in the
same proportion as all shares of common stock other than the voting trust
shares are voted "for" or "against" or abstain from voting or consented
to in writing on that matter; and
- cause to be present at any stockholder meeting for purposes of
determining a quorum a number of those voting trust shares which is in
proportion to the number of shares of common stock other than voting
trust shares which are present at that meeting in relation to the number
of outstanding shares of common stock other than the voting trust shares.
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<PAGE> 66
Except as described above, the voting trustee will not exercise any right
or power with respect to the voting trust shares but will instead act solely as
directed by General Instrument. For example, General Instrument may:
- direct the voting of all voting trust shares with respect to any separate
class vote of the Class B common stock;
- direct the voting trustee to tender voting trust shares in connection
with any tender, exchange or other offer and to distribute the
consideration received for those shares free of the voting trust;
- sell, assign or otherwise transfer voting trust shares to any person and
cause certificates for those shares to be delivered, free of the voting
trust except in the case of a transfer to its subsidiary, to it or to its
order for that purpose;
- distribute voting trust shares to its stockholders in a tax-free spin-off
or otherwise and cause certificates for those shares to be delivered free
of the voting trust to it for that purpose; or
- dissent from any corporate action or perfect any dissenters' rights.
The voting trustee will deliver to General Instrument all dividends, other
than dividends in additional shares of common stock, paid on the voting trust
shares.
This agreement and the voting trust will terminate on the tenth anniversary
of the closing date and will be irrevocable, except that this agreement and the
voting trust may be terminated by General Instrument if:
- the voting power represented by the voting trust shares is not more than
the threshold percentage of the total voting power of all outstanding
shares of common stock;
- it beneficially owns 80% or more of all outstanding shares of common
stock; or
- any person acquires more than 75% of the outstanding shares of common
stock other than the voting trust shares.
Notwithstanding the foregoing, General Instrument may assign this agreement
to any transferee of voting trust shares, in which case the voting trust will
continue to remain in effect.
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<PAGE> 67
PRINCIPAL STOCKHOLDERS
The following table sets forth as of August 15, 1999, giving effect to our
recapitalization, and as adjusted to reflect the sale of the shares of Class A
common stock in this offering, certain information with respect to the
beneficial ownership of the Class A common stock and Class B common stock as to:
- each person known by us to own beneficially more than 5% of the
outstanding shares of our Class A common stock and Class B common stock;
- each of the named executive officers;
- each of our directors; and
- all of our directors and executive officers as a group.
Except as otherwise indicated, and subject to applicable community property
laws, the persons named below have sole voting and investment power with respect
to all shares of Class A common stock and Class B common stock held by them.
Applicable percentage ownership in the table is based on 5,863,329 shares
of Class A common stock and 69,718,591 shares of Class B common stock
outstanding as of August 15, 1999 and shares of Class A common
stock outstanding immediately following the completion of this offering.
Beneficial ownership is determined in accordance with the rules of the SEC.
Shares of Class A common stock subject to options that are presently exercisable
or exercisable within 60 days of August 15, 1999 are deemed outstanding for the
purpose of computing the percentage ownership of the person or entity holding
the options, but are not treated as outstanding for the purpose of computing the
percentage ownership of any other person or entity.
All shares indicated in the table are Class A common stock except for
shares owned by General Instrument, which are Class B common stock.
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<PAGE> 68
Unless otherwise indicated below, each person or entity named below has an
address in care of our principal executive offices.
<TABLE>
<CAPTION>
PERCENTAGE OF SHARES
BENEFICIALLY OWNED
NUMBER OF SHARES --------------------------------
NAME OF BENEFICIAL OWNER BENEFICIALLY OWNED BEFORE OFFERING AFTER OFFERING
------------------------ ------------------ --------------- --------------
<S> <C> <C> <C>
General Instrument Corporation(1).... 69,718,591 92.2%
101 Tournament Drive
Horsham, PA 19044
KK Manager LLC(2).................... 14,343,431 17.1
535 Madison Avenue, 18th Floor
New York, NY 10022
Peter W. Keeler(3)................... 986,563 1.3
Richard C. Smith(4).................. 69,718,591 92.2
Kevin B. Kimberlin(5)................ 14,343,431 17.1
Thomas R. Eames(6)................... 795,776 1.0
Charles H. Seebock(7)................ 63,890 *
Hans L. Van Welzen................... --
William A. Weeks(8).................. 67,390 *
All directors and officers as a
group
(11 persons)(9).................... 10,561,499 12.3
</TABLE>
- -------------------------
* Less than 1%.
(1) All shares are Class B common stock entitled to 10 votes per share.
(2) Includes 8,480,102 shares of Class A common stock subject to an option.
Such option becomes exercisable upon closing of this offering.
(3) Includes 986,563 options exercisable within 60 days. In addition, 540,312
options become exercisable on November 3, 1999.
(4) All shares are Class B common stock entitled to 10 votes per share. All
69,718,591 shares are held by General Instrument. Mr. Smith disclaims
beneficial ownership of such shares.
(5) All 14,343,431 shares are held by KK Manager LLC of which 8,480,102 are
subject to an option exercisable within 60 days.
(6) Includes 795,776 options exercisable within 60 days. Such options become
exercisable upon the closing of this offering. In addition, 540,312 options
become exercisable on November 3, 1999.
(7) Includes 63,890 options exercisable within 60 days. Such options become
exercisable upon the closing of this offering. In addition, 33,333 options
become exercisable on November 3, 1999.
(8) Includes 67,390 options exercisable within 60 days. Such options become
exercisable upon the closing of this offering. In addition, 23,500 options
become exercisable on November 3, 1999. Also includes 7,389 options held by
Brenda Weeks, Mr. Weeks' wife. Mr. Weeks disclaims beneficial ownership of
such options.
(9) Includes 10,561,499 options exercisable within 60 days. Such options become
exercisable upon the closing of this offering. In addition 650,812 options
become exercisable on November 3, 1999.
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DESCRIPTION OF CAPITAL STOCK
We have summarized below the material terms of our capital stock. This
summary is not complete. We encourage you to read our certificate of
incorporation and by-laws, which we have filed as exhibits to the registration
statement of which this prospectus is a part.
AUTHORIZED SHARES
Our authorized capital stock will consist of:
- 400 million shares of Class A common stock;
- 200 million shares of Class B common stock;
- 60 million shares of Class C common stock; and
- 10 million shares of preferred stock.
Of the 400 million authorized shares of Class A common stock, on the
closing date,
- shares will be offered in this offering;
- 5,863,329 shares will be issued to KK Manager LLC in our
recapitalization;
- shares will be reserved for issuance pursuant to our employee
benefit plans; and
- shares will be reserved for issuance upon conversion of Class B
common stock into Class A common stock.
Of the 200 million authorized shares of Class B common stock, immediately
following the completion of this offering, 69,718,591 shares will be
outstanding, all of which will be beneficially owned by General Instrument and
held in the voting trust in connection with our recapitalization. See "Certain
Relationships and Related Transactions." No shares of Class C common stock or
preferred stock will be outstanding immediately following the completion of this
offering.
COMMON STOCK
Voting Rights
The holders of each class of common stock generally have identical rights
except that holders of Class A common stock are entitled to one vote per share
while holders of Class B common stock are entitled to ten votes per share on all
matters to be voted on by stockholders. Holders of shares of Class A common
stock and Class B common stock are not entitled to cumulate their votes in the
election of directors. Election of directors will be decided by a plurality of
the votes cast. Generally, all other matters to be voted on by stockholders must
be approved by the holders of a majority of the votes entitled to be cast by all
shares of Class A common stock and Class B common stock present in person or
represented by proxy, voting together as a single class, subject to any voting
rights granted to holders of any preferred stock.
Except as otherwise provided by law and except as otherwise provided by our
certificate of incorporation, and subject to any voting rights granted to
holders of any outstanding preferred stock, amendments to our certificate of
incorporation must be
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approved by a majority of the votes entitled to be cast by the holders of Class
A common stock and Class B common stock, voting together as a single class.
However, amendments to our certificate of incorporation that would alter or
change the powers, preferences or special rights of the Class A common stock or
the Class B common stock so as to affect them adversely also must be approved by
a majority of the votes entitled to be cast by the holders of the shares
affected by the amendment, voting as a separate class, and holders of Class A
common stock are not entitled to vote on any alteration or change in the powers,
preferences or special rights of the Class B common stock that would not
adversely affect the rights of holders of Class A common stock. For purposes of
the foregoing provisions, any provision for the voluntary, mandatory or other
conversion or exchange of the Class B common stock into or for Class A common
stock on a one-for-one basis will be deemed not to adversely affect the rights
of the Class A common stock. Notwithstanding the foregoing, any amendment to our
certificate of incorporation to increase or decrease the authorized shares of
any class of capital stock will require the approval of only a majority of the
votes entitled to be cast by the holders of Class A common stock and Class B
common stock, voting together as a single class.
Dividends
Holders of Class A common stock and Class B common stock will share equally
on a per share basis in any dividend declared by the board of directors, subject
to any preferential rights of any outstanding preferred stock. We may pay
dividends consisting of shares of Class A common stock and Class B common stock
only as follows:
- shares of Class A common stock may be paid only to holders of shares of
Class A common stock;
- shares of Class B common stock may be paid only to holders of Class B
common stock; and
- the number of shares so paid will be equal on a per share basis respect
to each outstanding share of Class A common stock and Class B common
stock.
We may not subdivide or combine shares of either class of common stock
without at the same time proportionally subdividing or combining shares of the
other class.
Conversion
Each share of Class B common stock is convertible while held by General
Instrument or any Class B Transferee (as defined below) at the option of the
holder into one share of Class A common stock. Following any distribution of
Class B common stock to securityholders of General Instrument or the Class B
Transferee in a transaction, including any distribution in exchange for shares
or securities of General Instrument or the Class B Transferee, intended to
qualify as a tax-free distribution under Section 355 of the Internal Revenue
Code or a corresponding provision of any successor statute (a "tax-free spin-
off"), shares of Class B common stock will not be convertible into shares of
Class A common stock at the option of the holder.
Except as provided below, any shares of Class B common stock transferred to
a person other than General Instrument or the Class B Transferee will
automatically convert to shares of Class A common stock upon a disposition.
Shares of Class B common stock representing more than a 50% economic interest in
us transferred by General Instrument in
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a single transaction to one unrelated person (the "Class B Transferee") will not
automatically convert to shares of Class A common stock upon a disposition. Any
shares of Class B common stock retained by General Instrument following any
disposition to the Class B Transferee will automatically convert to shares of
Class A common stock upon the disposition. Shares of Class B common stock
transferred to stockholders of General Instrument or stockholders of the Class B
Transferee as a dividend intended to be a tax-free spin-off will not convert to
shares of Class A common stock upon the occurrence of a tax-free spin-off.
Following a tax-free spin-off, shares of Class B common stock will be
transferable as Class B common stock, subject to applicable laws. General
Instrument has no current plans with respect to a tax-free spin-off of Next
Level.
All shares of Class B common stock will automatically convert into Class A
common stock if a tax-free spin-off has not occurred and the number of
outstanding shares of Class B common stock beneficially owned by General
Instrument or the Class B Transferee, as the case may be, falls below 30% of the
aggregate number of outstanding shares of common stock. This will prevent
General Instrument or the Class B Transferee, as the case may be, from
decreasing its economic interest in us to less than 30% while still retaining
control (without regard to the voting trust) of more than 80% of our voting
power. All conversions will occur on a share-for-share basis.
References to General Instrument or the Class B Transferee in these
conversion provisions refer to General Instrument or the Class B Transferee, as
applicable, together with its subsidiaries other than us.
Other Rights
If we merge or consolidate with another company in connection with which
shares of common stock are converted into or exchangeable for shares of stock,
cash or other securities or property, all holders of common stock, regardless of
class, will be entitled to receive the same kind and amount of shares of stock,
cash and other securities and property.
If we liquidate, dissolve or wind-up, after payment in full of the amounts
required to be paid to holders of any preferred stock, all holders of common
stock, regardless of class, are entitled to share ratably in any assets
available for distribution to holders of shares of common stock.
No shares of either class of common stock are subject to redemption or have
preemptive rights to purchase additional shares of common stock.
Upon consummation of this offering, all the outstanding shares of Class A
common stock and Class B common stock will be legally issued, fully paid and
nonassessable.
PREFERRED STOCK
The preferred stock is issuable from time to time in one or more series and
with the designations and preferences for each series as will be stated in the
resolutions providing for the designation and issue of each series adopted by
our board of directors. Our board of directors is authorized by our certificate
of incorporation to determine, among other things, the voting, dividend,
redemption, conversion and liquidation powers, rights and preferences and the
limitations thereon pertaining to each series of preferred stock. Our board of
directors, without stockholder approval, may issue preferred stock with voting
and other
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rights that could adversely affect the voting power of the holders of the common
stock and that could have anti-takeover effects. We have no present plans to
issue any shares of preferred stock. The ability of our board of directors to
issue preferred stock without stockholder approval could have the effect of
delaying, deferring or preventing a change in control or the removal of existing
management.
CERTIFICATE OF INCORPORATION AND BYLAW PROVISIONS THAT MAY HAVE AN ANTITAKEOVER
EFFECT
The provisions of our certificate of incorporation and by-laws summarized
below may have an anti-takeover effect and may delay, deter, or prevent a tender
offer or takeover attempt that a stockholder might consider to be in its best
interest, including offers or attempts that might result in a premium being paid
over the market price for its shares.
Board of Directors
Our certificate of incorporation provides that our board of directors will
be divided into three classes of directors, with the classes to be as nearly
equal in number as possible. One class will be originally elected for a term
expiring at the annual meeting of stockholders to be held in 2000, another will
be originally elected for a term expiring at the annual meeting of stockholders
to be held in 2001 and another will be originally elected for a term expiring at
the annual meeting of stockholders to be held in 2002. Each director will hold
office until his or her successor is duly elected and qualified. Commencing with
the 2000 annual meeting of stockholders, directors elected to succeed directors
whose terms then expire will be elected for a term expiring at the third
succeeding annual meeting of stockholders after their election, with each
director to hold office until this person's successor is duly elected and
qualified.
Upon completion of this offering, we expect our board of directors to
consist of seven members. Our certificate of incorporation provides that the
number of directors will be fixed from time to time exclusively by resolution
adopted by the affirmative vote of a majority of the entire board of directors,
but will consist of not more than twelve nor less than three directors. In
addition, our certificate of incorporation provides that any vacancies will be
filled by the affirmative vote of a majority of the remaining directors, even if
less than a quorum, or by a sole remaining director, unless the vacancy was
caused by the action of stockholders in which event the vacancy will be filled
by the stockholders and not the directors.
Under our certificate of incorporation, directors may be removed, with or
without cause, by the affirmative vote of shares representing a majority of the
votes entitled to be cast by the then outstanding shares of common stock.
However, after the first date that General Instrument or the Class B Transferee
ceases to beneficially own shares representing at least 49% of the total voting
power of all outstanding shares of common stock, directors may not be removed
without cause.
Our by-laws provide that General Instrument or the Class B Transferee, as
applicable, shall have the right to designate at least one member of any
committee of our board of directors so long as it owns beneficially shares
representing at least 10% of the total voting power of all outstanding shares of
common stock.
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Special Meetings of Stockholders; Actions by Written Consent of
Stockholders
Under our certificate of incorporation, special meetings of stockholders
may be called by certain specified officers or by any officer at the request in
writing of a majority of the board of directors. In addition, but only prior to
the first date that General Instrument or the Class B Transferee ceases to
beneficially own shares representing at least 49% of the total voting power of
all outstanding shares of common stock, special meetings may also be called by
the holders of shares representing a majority of the total voting power of all
outstanding shares of common stock. In addition, our certificate of
incorporation will provide that, any action required or permitted to be taken by
stockholders may be effected by written consent without a meeting only prior to
that date.
Business Combinations with Interested Stockholders
We will not be subject to the business combination provisions of Section
203 of the Delaware General Corporation Law, but our certificate of
incorporation will contain provisions substantially similar to Section 203. In
general, these provisions will prohibit us from engaging in various business
combination transactions with any interested stockholder for a period of three
years after the date of the transaction in which the person became an interested
stockholder unless:
- the business combination transaction, or the transaction in which the
interested stockholder became an interested stockholder, is approved by
our board of directors prior to the date the interested stockholder
obtained this status,
- upon consummation of the transaction which resulted in the stockholder
becoming an interested stockholder, the interested stockholder owned at
least 85% of our common stock outstanding at the time the transaction
commenced, excluding for purposes of determining the number of shares
outstanding those shares owned by:
- persons who are directors and also officers; and
- 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 this date the business combination is approved by our
board of directors and authorized at an annual or special meeting of
stockholders by the affirmative vote of at least 66 2/3% of our
outstanding common stock which is not owned by the interested
stockholder.
Under our certificate of incorporation, a business combination is defined
to include mergers, asset sales and other transactions resulting in financial
benefit to a stockholder. In general, an interested stockholder is a person who,
together with affiliates and associates, owns or, within three years, did own,
15% or more of our common stock. General Instrument and its affiliates and the
Class B Transferee and its affiliates will be exempt from these provisions.
Advance Notice Procedures
Our by-laws provide for an advance notice procedure for the nomination,
other than by or at the direction of our board of directors, of candidates for
election as directors as well as for other stockholder proposals to be
considered at annual meetings of stockholders.
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In general, a written notice of intent to nominate a director or raise matters
at the meetings will have to be received by us not less than 60 nor more than 90
days prior to the anniversary of the previous year's annual meeting of
stockholders. This notice must contain information concerning the person to be
nominated or the matters to be brought before the meeting and information
concerning the stockholder submitting the proposal. So long as General
Instrument or the Class B Transferee owns beneficially shares representing at
least 10% of the total voting power of all outstanding shares of common stock,
General Instrument or the Class B Transferee, as applicable, will be exempt from
these advance notice procedures.
Amendment
Our certificate of incorporation also provides that the affirmative vote of
the holders of shares representing at least 80% of the total voting power of all
outstanding shares of common stock is required to amend the provisions of our
certificate of incorporation described above under "-- Board of Directors,"
"-- Special Meetings of Stockholders; Actions by Written Consent of
Stockholders" or "-- Business Combinations with Interested Stockholders." Under
our certificate of incorporation and by-laws, our by-laws may only be amended:
- at any time by the affirmative vote of directors constituting not less
than a majority of the entire board of directors;
- prior to the first date that General Instrument or the Class B Transferee
ceases to beneficially own shares representing at least 49% of the total
voting power of all outstanding shares of common stock, by the
affirmative vote of the holders of shares representing a majority of the
total voting power of all outstanding shares of common stock; or
- after that date, by the affirmative vote of the holders of shares
representing at least 80% of the total voting power of all outstanding
shares of common stock.
OTHER CERTIFICATE OF INCORPORATION AND BY-LAW PROVISIONS
Corporate Opportunities
Our certificate of incorporation provides that General Instrument will have
no duty to refrain from engaging in the same or similar activities or lines of
business as us, and neither General Instrument nor any of its officers or
directors, except as provided below, will be liable to us or our stockholders
for breach of any fiduciary duty by reason of any of these activities. If
General Instrument acquires knowledge of a potential transaction or matter which
may be a corporate opportunity for both General Instrument and us, General
Instrument will have no duty to communicate or offer this corporate opportunity
to us. In addition, General Instrument will not be liable to us or our
stockholders for breach of any fiduciary duty as a stockholder by reason of the
fact that General Instrument pursues or acquires this corporate opportunity for
itself, directs this corporate opportunity to another person, or does not
communicate information regarding this corporate opportunity to us.
If a director or officer of us who is also a director or officer of General
Instrument acquires knowledge of a potential transaction or matter which may be
a corporate opportunity for both us and General Instrument, this individual will
have fully satisfied and
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fulfilled his or her fiduciary duty to us and our stockholders with respect to
this corporate opportunity if he or she acts in a manner consistent with the
following policy:
- The corporate opportunity will belong to us if this opportunity is
expressly offered to the person in writing solely in his or her capacity
as our director or officer.
- Otherwise, this opportunity will belong to General Instrument.
These provisions will expire on the date that General Instrument ceases to
own beneficially shares representing at least 20% of the total voting power of
all outstanding shares of common stock and no person who is a director or
officer of us is also a director or officer of General Instrument.
In addition to any vote of the stockholders required by our certificate of
incorporation, until the time that General Instrument ceases to own beneficially
shares representing at least 20% of the total voting power of all outstanding
shares of common stock, the affirmative vote of the holders of more than 80% of
the total voting power of all outstanding shares of common stock will be
required to alter, amend or repeal in a manner adverse to the interests of
General Instrument, or adopt any provision adverse to the interests of General
Instrument, and inconsistent with, the corporate opportunity provisions
described above. Accordingly, so long as General Instrument beneficially owns
shares representing at least 20% of the total voting power of all outstanding
shares of common stock, it can prevent any such alteration, amendment, repeal or
adoption.
Any person purchasing or otherwise acquiring common stock will be deemed to
have notice of, and to have consented to, the foregoing provisions of our
certificate of incorporation.
Limitations on Directors' Liability
Our certificate of incorporation provides that no director will be liable
to us or our stockholders for monetary damages for breach of fiduciary duty as a
director, except for liability
- for any breach of the director's duty of loyalty to us or our
stockholders;
- for acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law;
- in respect of certain unlawful dividend payments or stock redemptions or
repurchases; or
- for any transaction from which the director derived an improper personal
benefit.
The effect of these provisions will be to eliminate our rights and our
stockholders' rights, through stockholders' derivative suits on our behalf, to
recover monetary damages against a director for breach of fiduciary duty as a
director, including breaches resulting from grossly negligent behavior, except
in the situations described above.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the common stock is .
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UNITED STATES TAX CONSEQUENCES
TO NON-UNITED STATES HOLDERS
The following discussion is a summary of the material United States federal
income and estate tax consequences of the ownership and disposition of our
common stock to Non-United States holders. This discussion does not deal with
all aspects of United States income and estate taxation and does not deal with
foreign, state and local tax consequences that may be relevant to Non-United
States holders in light of their personal circumstances. Furthermore, this
discussion is based on the Internal Revenue Code of 1986, as amended, Treasury
Department regulations, published positions of the Internal Revenue Service and
court decisions now in effect, all of which are subject to change. YOU SHOULD
CONSULT YOUR OWN TAX ADVISOR WITH REGARD TO THE APPLICATION OF THE FEDERAL
INCOME TAX LAWS, AS WELL AS TO THE APPLICABILITY AND EFFECT OF ANY STATE, LOCAL
OR FOREIGN TAX LAWS TO WHICH YOU MAY BE SUBJECT.
As used in this section, a "United States holder" means a beneficial owner
of stock that is:
- a citizen or resident of the United States;
- a corporation or partnership created or organized in or under the laws of
the United States or any political subdivision of the United States;
- an estate the income of which is subject to United States federal income
taxation regardless of its source;
- a trust that:
- is subject to the supervision of a court within the United States and
the control of one or more United States persons; or
- has a valid election in effect under applicable United States Treasury
regulations to be treated as a United States person.
A "Non-United States holder" is a holder that is not a United States
holder.
DIVIDENDS
Generally, any dividend paid to a Non-United States holder will be subject
to United States withholding tax either at a rate of 30% of the gross amount of
the dividend or at a lesser applicable treaty rate. However, dividends that are
effectively connected with the conduct of a trade or business within the United
States and, where a tax treaty applies, that are attributable to a United States
permanent establishment are not subject to the withholding tax but instead are
subject to United States federal income tax on a net income basis at applicable
graduated individual or corporate rates.
Certain certification and disclosure requirements must be complied with in
order to be exempt from withholding under the effectively connected income
exemption. Any effectively connected dividends received by a foreign corporation
may, under certain circumstances, be subject to an additional "branch profits
tax" at a 30% rate or a lower rate as may be specified by an applicable income
tax treaty.
Until January 1, 2001, dividends paid to an address outside the United
States are presumed to be paid to a resident of that country, unless the payer
has knowledge to the
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contrary, for purposes of the withholding tax discussed above and, under the
current interpretation of the United States treasury regulations, for purposes
of determining the applicability of a tax treaty rate. However, under United
States treasury regulations, if you wish to claim the benefit of an applicable
treaty rate and avoid backup withholding, as discussed below, for dividends paid
after December 31, 2000, you will be required to satisfy applicable
certification and other requirements.
If you are eligible for a reduced treaty rate of United States withholding
tax pursuant to an income tax treaty, you may obtain a refund of any excess
amounts withheld by filing an appropriate claim for refund with the Internal
Revenue Service.
GAIN ON DISPOSITION OF COMMON STOCK
If you are a Non-United States holder, you will generally not be subject to
United States federal income tax with respect to gain recognized on a sale or
other disposition of our common stock unless:
- the gain is effectively connected with a trade or business in the United
States and, where a tax treaty provides, the gain is attributable to a
United States permanent establishment;
- if you are an individual and hold our common stock as a capital asset,
you are present in the United States for 183 or more days in the taxable
year of the sale or other disposition and certain other conditions are
met; or
- we are or have been a "United States real property holding corporation"
for United States federal income tax purposes.
We believe that we are not, and do not anticipate becoming, a "United
States real property holding corporation" for United States federal income tax
purposes. If we were to become a United States real property holding
corporation, so long as our common stock continues to be regularly traded on an
established securities market, you would be subject to federal income tax on any
gain from the sale or other disposition of the stock only if you actually or
constructively owned, during the five-year period preceding the disposition,
more than 5% of our common stock.
Special rules may apply to certain Non-United States holders, such as
"controlled foreign corporations," "passive foreign investment companies" and
"foreign personal holding companies," that are subject to special treatment
under the Code. These entities should consult their own tax advisors to
determine the United States federal, state, local and other tax consequences
that may be relevant to them.
BACKUP WITHHOLDING AND INFORMATION REPORTING
We must report annually to the Internal Revenue Service and to you the
amount of dividends paid to you and the tax withheld with respect to these
dividends, regardless of whether withholding was required. Copies of the
information returns reporting the dividends and withholding may also be made
available to the tax authorities in the country in which you reside under the
provisions of an applicable income tax treaty.
Under current law, backup withholding at the rate of 31% generally will not
apply to dividends paid to you at an address outside the United States, unless
the payer has knowledge that you are a United States person. Under the final
regulations effective
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December 31, 2000, however, you will be subject to backup withholding unless
applicable certification requirements are met.
Payment of the proceeds of a sale of our common stock within the United
States or conducted through certain U.S. related financial intermediaries is
subject to both backup withholding and information reporting unless you certify
under penalties of perjury that you are a Non-U.S. Holder, and the payor does
not have actual knowledge that you are a United States person, or you otherwise
establish an exemption.
Any amounts withheld under the backup withholding rules may be allowed as a
refund or a credit against your United States federal income tax liability
provided the required information is furnished to the Internal Revenue Service.
ESTATE TAX
Common stock held by an individual Non-United States holder at the time of
death will be included in that holder's gross estate for United States federal
estate tax purposes, unless an applicable estate tax treaty provides otherwise.
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SHARES ELIGIBLE FOR FUTURE SALE
Prior to this offering, there has been no public market for our common
stock, and any sale of substantial amounts of common stock in the open market
may adversely affect the market price of our common stock. Furthermore, since
only a limited number of shares will be available for sale shortly after this
offering because of contractual and legal restrictions on resale, as described
below, sales of substantial amounts of our common stock in the public market
after the restrictions lapse could adversely affect the prevailing market price
and our ability to raise equity capital in the future.
Upon completion of this offering, we will have shares of
Class A common stock outstanding and 69,718,591 shares of Class B common stock
outstanding. Each share of Class B common stock is convertible into one share of
Class A common stock under some circumstances. See "Description of Capital
Stock -- Common Stock." Of the shares of Class A common stock to be outstanding,
the shares offered hereby will be available for immediate sale in
the public market as of the date of this prospectus, except that any shares
acquired by our "affiliates," as that term is defined in Rule 144 under the
Securities Act, generally may be resold in the public market only in compliance
with the provisions of Rule 144 other than the holding period required by Rule
144.
All the remaining 5,863,329 shares of Class A common stock to be
outstanding will be issued to KK Manager LLC and all of the shares of Class B
common stock to be outstanding will be issued to General Instrument in private
transactions as part of our recapitalization. Accordingly, all of these shares,
as well as the 8,480,102 shares of Class A common stock issuable upon the
exercise of an option held by KK Manager LLC, will be "restricted securities,"
as that term is defined in Rule 144. As such, these shares generally may be
resold in the public market only if registered under the Securities Act or sold
in compliance with the provisions of Rule 144, including the one-year holding
period required by Rule 144, which will begin to run upon the completion of our
recapitalization. Following the expiration of the one-year holding period, all
of these shares will be available for sale in the public market, subject to
compliance with the other provisions of Rule 144. In addition, General
Instrument and KK Manager LLC will be entitled to registration rights pursuant
to which they may require that we register their shares under the Securities Act
for sale in the public market prior to or following the expiration of the
one-year holding period under Rule 144. For more information on these
registration rights, see "Certain Relationships and Related
Transactions -- Registration Rights Agreements."
In addition to the legal restrictions on resale described above, each of
General Instrument and KK Manager LLC has entered into a lockup agreement with
the underwriters pursuant to which they have agreed generally not to transfer or
dispose of shares of common stock or securities convertible into common stock
for a period of 180 days after the date of this prospectus. However, these
lockups may be waived on behalf of the underwriters by Merrill Lynch, Pierce,
Fenner & Smith Incorporated. For more information on these lockup agreements and
those described below, see "Underwriting -- No Sales of Similar Securities."
STOCK OPTIONS
Upon completion of this offering we will have outstanding employee stock
options to purchase 6,984,119 shares of Class A common stock. Immediately
following the completion of this offering, options covering
shares will have vested and
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become exercisable. The holders of options to purchase 3,309,213 shares (of
which options to purchase shares will have vested upon completion
of this offering) have entered into 365-day lockup agreements with the
underwriters, and the holders of the remaining options to purchase 3,674,906
shares (of which options to purchase shares will have vested upon
completion of this offering) have entered into 180-day lockup agreements.
Following completion of this offering, we intend to file with the SEC a
registration statement covering the shares issuable upon the exercise of our
outstanding employee options as well as additional shares of
Class A common stock reserved for issuance under our employee stock option and
stock purchase plans. Accordingly, subject to vesting provisions and, in the
case of affiliates, the provisions of Rule 144 other than the holding period,
the shares of Class A common stock issuable upon the exercise of our outstanding
employee options will be eligible for sale into the public market after the
expiration of the applicable lockup period. The lockups may be waived on behalf
of the underwriters by Merrill Lynch, Pierce, Fenner & Smith Incorporated.
RULE 144
In general, under Rule 144 as currently in effect, a person who has
beneficially owned shares of our Class A common stock for at least one year
would be entitled to sell, within any three-month period, a number of shares
that does not exceed the greater of:
- 1% of the number of shares of Class A common stock then outstanding; or
- the average weekly trading volume of the Class A common stock on the
Nasdaq National Market System during the four calendar weeks preceding
the filing of a notice on Form 144 with respect to the sale.
Sales under Rule 144 are also subject to other requirements regarding the
manner of sale, notice filing and the availability of current public information
about us.
Under Rule 144(k), a person who is not deemed to have been our affiliate at
any time during the 90 days preceding a sale, and who has beneficially owned the
shares proposed to be sold for at least two years, would be entitled to sell
these shares under Rule 144(k) without regard to the requirements described
above.
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UNDERWRITING
GENERAL
Merrill Lynch, Pierce, Fenner & Smith Incorporated and Credit Suisse First
Boston Corporation, who are acting as joint book-running managers, and Lehman
Brothers Inc. and Warburg Dillon Read LLC are acting as representatives of each
of the underwriters named below. Subject to the terms and conditions set forth
in a purchase agreement between us and the underwriters, we have agreed to sell
to the underwriters, and each of the underwriters severally and not jointly has
agreed to purchase from us, the number of shares of our Class A common stock set
forth opposite its name below.
<TABLE>
<CAPTION>
NUMBER
UNDERWRITER OF SHARES
----------- ---------
<S> <C>
Merrill Lynch, Pierce, Fenner & Smith
Incorporated..................................
Credit Suisse First Boston Corporation......................
Lehman Brothers Inc.........................................
Warburg Dillon Read LLC.....................................
--------
Total.........................................
========
</TABLE>
In the purchase agreement, the several underwriters have agreed, subject to
the terms and conditions set forth in that agreement, to purchase all of the
shares of our Class A common stock being sold under the terms of the agreement
if any of the shares of Class A common stock are purchased. Under the purchase
agreement, the commitments of non-defaulting underwriters may be increased.
We have agreed to indemnify the underwriters against liabilities under the
Securities Act, or to contribute to payments the underwriters may be required to
make in respect of those liabilities.
The shares of Class A common stock are being offered by the several
underwriters, subject to prior sale, when, as and if issued to and accepted by
them, subject to approval of legal matters by counsel for the underwriters and
other conditions. The underwriters reserve the right to withdraw, cancel or
modify such offer and to reject orders in whole or in part.
COMMISSIONS AND DISCOUNTS
The representatives have advised us that the underwriters propose initially
to offer the shares of our Class A common stock to the public at the initial
public offering price set forth on the cover page of this prospectus, and to
dealers at such price less a concession not in excess of $ per share of
Class A common stock. The underwriters may allow, and such dealers may allow, a
discount not in excess of $ per share of Class A common stock to other
dealers. After the initial public offering, the public offering price,
concession and discount may be changed.
The following table shows the per share and total public offering price,
underwriting discount to be paid by us to the underwriters and the proceeds
before expenses to us. This
77
<PAGE> 82
information is presented assuming either no exercise or full exercise by the
underwriters of their over-allotment options.
<TABLE>
<CAPTION>
PER WITHOUT WITH
SHARE OPTION OPTION
----- ------- ------
<S> <C> <C> <C>
Public offering price................................ $ $ $
Underwriting discount................................ $ $ $
Proceeds, before expenses, to Next Level
Communications..................................... $ $ $
</TABLE>
The expenses of this offering, exclusive of the underwriting discount, are
estimated at $ and are payable by us.
OVER-ALLOTMENT OPTION
We have granted an option to the underwriters, exercisable for 30 days
after the date of this prospectus, to purchase up to an aggregate of an
additional shares of our Class A common stock at the initial public
offering price set forth on the cover of this prospectus, less the underwriting
discount. The underwriters may exercise this option solely to cover
over-allotments, if any, made on the sale of our Class A common stock offered
hereby. To the extent that the underwriters exercise this option, each
underwriter will be obligated to purchase a number of additional shares of our
Class A common stock proportionate to such underwriter's initial amount
reflected in the foregoing table.
RESERVED SHARES
At our request, the underwriters have reserved for sale, at the initial
public offering price, up to 10% of the shares offered hereby to be sold to some
of our employees, directors and other persons with relationships with us. The
number of shares of our Class A common stock available for sale to the general
public will be reduced to the extent that those persons purchase the reserved
shares. Any reserved shares which are not orally confirmed for purchase within
one day of the pricing of this offering will be offered by the underwriters to
the general public on the same terms as the other shares offered by this
prospectus.
NO SALES OF SIMILAR SECURITIES
We, our executive officers and directors and all of our stockholders and
optionholders have agreed not to directly or indirectly:
- 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 for the sale of, lend or otherwise dispose of or
transfer any shares of our Class A common stock or securities convertible
into or exchangeable or exercisable for or repayable with our Class A
common stock, whether now owned or later acquired by the person executing
the agreement or with respect to which the person executing the agreement
later acquires the power of disposition, or file any registration
statement under the Securities Act relating to any shares of our Class A
common stock; or
- enter into any swap or other agreement or any other agreement that
transfers, in whole or in part, the economic consequence of ownership of
our Class A common
78
<PAGE> 83
stock whether any such swap or transaction is to be settled by delivery
of our Class A common stock or other securities, in cash or otherwise;
without the prior written consent of Merrill Lynch on behalf of the underwriters
for a period of 180 days (or, in the case of Peter W. Keeler and Thomas R.
Eames, 365 days) after the date of the prospectus. See "Shares Eligible for
Future Sale."
NASDAQ NATIONAL MARKET LISTING
Before this offering, there has been no market for our Class A common
stock. The initial public offering price will be determined through negotiations
between us and the representatives of the underwriters. The factors to be
considered in determining the initial public offering price, in addition to
prevailing market conditions, include the valuation multiples of publicly traded
companies that the representatives believe to be comparable to us, some of our
financial information, the history of, and the prospects for, us and the
industry in which we compete, and an assessment of our management, its past and
present operations, the prospects for, and timing of, our future revenues, the
present state of our development, the percentage interest of us being sold as
compared to our valuation and the above factors in relation to market values and
various valuation measures of other companies engaged in activities similar to
ours. There can be no assurance that an active trading market will develop for
our Class A common stock or that our Class A common stock will trade in the
public market subsequent to this offering at or above the initial public
offering price.
We have applied to have our Class A common stock approved for listing on
the Nasdaq National Market under the symbol "NXTV."
The underwriters do not expect sales of our Class A common stock to any
accounts over which they exercise discretionary authority to exceed 5% of the
number of shares being offered under the prospectus.
PRICE STABILIZATION AND SHORT POSITIONS
Until the distribution of our Class A common stock is completed, rules of
the SEC may limit the ability of the underwriters and selling group members to
bid for and purchase our Class A common stock. As an exception to these rules,
the underwriters are permitted to engage in transactions that stabilize the
price of our Class A common stock. Such transactions consist of bids or
purchases for the purpose of pegging, fixing or maintaining the price of our
Class A common stock.
If the underwriters create a short position in our Class A common stock in
connection with this offering, i.e., if they sell more shares of our Class A
common stock than are set forth on the cover page of this prospectus, the
underwriters may reduce that short position by purchasing our Class A common
stock in the open market. The underwriters may also elect to reduce any short
position by exercising all or part of the over-allotment option described above.
PENALTY BIDS
The underwriters may also impose a penalty bid on other underwriters and
selling group members. This means that if the underwriters purchase shares of
our Class A common stock in the open market to reduce their short position or to
stabilize the price of
79
<PAGE> 84
our Class A common stock, they may reclaim the amount of the selling concession
from the underwriters and selling group members who sold those shares as part of
this offering.
In general, purchases of a security for the purpose of stabilization or to
reduce a short position could cause the price of the security to be higher than
it might be in the absence of such purchases. The imposition of a penalty bid
might also have an effect on the price of our Class A common stock to the extent
that it discourages resales of our Class A common stock.
Neither we nor any of the underwriters makes any representation or
prediction as to the direction or magnitude of any effect that the transactions
described above may have on the price of our Class A common stock. In addition,
neither we nor any of the underwriters makes any representation that the
representatives will engage in such transactions or that such transactions, once
commenced, will not be discontinued without notice.
LEGAL MATTERS
Gunderson Dettmer Stough Villeneuve Franklin & Hachigian, LLP, Menlo Park,
will pass upon the validity of the Class A common stock we are offering pursuant
to this prospectus. Simpson Thacher & Bartlett, New York, will pass upon certain
other legal matters for us. Skadden, Arps, Slate, Meagher & Flom LLP, New York,
will pass upon certain legal matters in connection with this offering for the
underwriters.
EXPERTS
The financial statements of Next Level Communications L.P. as of December
31, 1997 and 1998 and for each of three years in the period ended December 31,
1998, included in this prospectus have been audited by Deloitte & Touche LLP,
independent auditors, as stated in their report appearing herein (which report
expresses an unqualified opinion and includes an explanatory paragraph referring
to additional funding requirements). The balance sheet of Next Level
Communications, Inc. as of August 25, 1999 included in this prospectus has been
audited by Deloitte & Touche LLP, independent auditors as stated in their report
appearing herein. Such financial statements and balance sheet have been so
included in reliance upon the reports of such firm given upon their authority as
experts in accounting and auditing.
80
<PAGE> 85
WHERE YOU CAN FIND ADDITIONAL INFORMATION
We have filed with the SEC a registration statement on Form S-1, including
exhibits, schedules and amendments filed with this registration statement, under
the Securities Act with respect to the Class A common stock to be sold under
this prospectus. Prior to this offering we were not required to file reports
with the SEC. This prospectus does not contain all the information set forth in
the registration statement. For further information about our company and the
shares of common stock to be sold in this offering, please refer to the
registration statement. Statements made in this prospectus concerning the
contents of any contract, agreement or other document filed as an exhibit to the
registration statement are summaries of the terms of contracts, agreements or
documents and are not necessarily complete. Complete exhibits have been filed
with the registration statement.
The registration statement and exhibits may be inspected, without charge,
and copies may be obtained at prescribed rates, at the SEC's Public Reference
Room at 450 Fifth Street, N.W., Washington, D.C. 20549. The public may obtain
information on the operation of the Public Reference Room by calling the SEC at
1-800-SEC-0330. The registration statement and other information filed with the
SEC are available at the web site maintained by the SEC on the worldwide web at
www.sec.gov.
We intend to furnish our stockholders with annual reports containing
financial statements audited by our independent accountants and quarterly
reports for the first three quarters of each fiscal year containing unaudited
financial statements.
81
<PAGE> 86
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
NEXT LEVEL COMMUNICATIONS L.P.:
Independent Auditors' Report................................ F-2
Balance Sheets as of December 31, 1997 and 1998, June 30,
1999 (unaudited) and Pro Forma as of June 30, 1999
(unaudited)............................................... F-3
Statements of Operations for the Years Ended December 31,
1996, 1997 and 1998 and for the Six Months Ended June 30,
1998 and 1999 (unaudited)................................. F-4
Statements of Partners' Deficit/Stockholder's Deficit for
the Years Ended December 31, 1996, 1997 and 1998 and the
Six Months Ended June 30, 1999 (unaudited)................ F-5
Statements of Cash Flows for the Years Ended December 31,
1996, 1997 and 1998 and the Six Months Ended June 30, 1998
and 1999 (unaudited)...................................... F-6
Notes to Financial Statements............................... F-7
NEXT LEVEL COMMUNICATIONS, INC.:
Independent Auditors' Report................................ F-18
Balance Sheet as of August 25, 1999......................... F-19
Notes to Balance Sheet...................................... F-20
</TABLE>
F-1
<PAGE> 87
The following report is in the form that will be signed upon completion of
the 1-for-3 reverse stock split of Next Level Communications as discussed in
Note 13 to the financial statements assuming that from February 9, 1999 to the
date of such completion, no other material events have occurred that would
affect the accompanying financial statements or required disclosures therein. If
the reverse stock split ratio changes, all references to stock option data
within the financial statements will also change.
Deloitte & Touche LLP
San Francisco, California
August 25, 1999
INDEPENDENT AUDITORS' REPORT
Next Level Communications L.P.:
We have audited the accompanying balance sheets of Next Level
Communications L.P. (formerly Next Level Communications) as of December 31, 1997
and 1998 and the related statements of operations, partners'
deficit/stockholder's deficit and cash flows for each of the three years in the
period ended December 31, 1998. These financial statements are the
responsibility of the Partnership's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of Next Level Communications L.P. as of
December 31, 1997 and 1998 and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1998 in conformity
with generally accepted accounting principles.
As discussed in Note 2, Next Level Communications L.P. has incurred
operating losses and negative cash flows and is dependent upon obtaining
additional capital to fund its operations and meet its obligations.
San Francisco, California
February 9, 1999 (September , 1999 as to Note 13)
F-2
<PAGE> 88
NEXT LEVEL COMMUNICATIONS L.P.
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
ASSETS
<TABLE>
<CAPTION>
PRO FORMA
DECEMBER 31, JUNE 30,
--------------------- JUNE 30, 1999
1997 1998 1999 (NOTE 3)
--------- -------- -------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C>
Current Assets:
Cash and cash equivalents................. $ 377 $ 28,983 $ 34,722 $ 34,722
Trade receivables, less allowance for
doubtful accounts of $170, $490 and $488
(unaudited), respectively............... 4,745 11,068 8,261 8,261
Other receivables......................... 3,470 5,023 1,396 1,396
Inventories............................... 13,384 20,670 28,506 28,506
Receivable from General Instrument........ -- 3,350 2,170 2,170
Other current assets...................... 4,844 735 567 567
--------- -------- -------- --------
Total current assets........................ 26,820 69,829 75,622 75,622
Property and equipment, net................. 18,020 21,558 22,439 22,439
Intangibles less accumulated amortization of
$739, $1,940 and $2,540 (unaudited),
respectively.............................. 7,467 6,266 5,666 5,666
Other assets................................ 382 118 66 66
--------- -------- -------- --------
Total assets................................ $ 52,689 $ 97,771 $103,793 $103,793
========= ======== ======== ========
LIABILITIES AND PARTNERS' DEFICIT/STOCKHOLDER'S EQUITY (DEFICIT)
Current Liabilities:
Payable to General Instrument............. $ 41,077 $ -- $ -- $ --
Accounts payable.......................... 9,326 16,467 10,573 10,573
Other accrued liabilities................. 5,780 10,697 11,565 11,565
Deferred revenue.......................... 208 3,705 16,460 16,460
Current portion of capital lease
obligations............................. -- 396 414 414
--------- -------- -------- --------
Total current liabilities................... 56,391 31,265 39,012 39,012
Note payable to General Instrument.......... -- 80,940 84,230 --
Long-term capital lease obligations......... -- 335 117 117
Commitments and contingencies (Note 12)
Partners' Deficit/Stockholder's Equity
(Deficit):
Partners' deficit......................... -- (14,769) (19,566) --
Common stock -- 100 shares authorized, 100
shares issued and outstanding........... 379,876 -- -- --
Accumulated deficit....................... (383,578) -- -- --
Pro forma common stock -- $.01 par value,
Class A -- 5,863,329 shares............. -- -- -- 59
Class B -- 69,718,591 shares............ -- -- -- 697
Additional paid-in capital................ -- -- -- 63,908
--------- -------- -------- --------
Total partners' deficit/stockholder's
equity (deficit)........................ (3,702) (14,769) (19,566) 64,664
--------- -------- -------- --------
Total liabilities and partners'
deficit/stockholder's equity (deficit).... $ 52,689 $ 97,771 $103,793 $103,793
========= ======== ======== ========
</TABLE>
See notes to financial statements.
F-3
<PAGE> 89
NEXT LEVEL COMMUNICATIONS L.P.
STATEMENTS OF OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31, JUNE 30,
------------------------------- -------------------
1996 1997 1998 1998 1999
--------- -------- -------- -------- --------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues:
Equipment................... $ -- $ 6,045 $ 39,243 $ 4,054 $ 16,429
Software.................... -- 2,266 4,587 2,553 1,761
--------- -------- -------- -------- --------
Total revenues................ -- 8,311 43,830 6,607 18,190
Cost of revenues:
Equipment................... -- 10,954 43,172 6,502 16,582
Software.................... -- 306 261 176 158
--------- -------- -------- -------- --------
Total cost of revenues........ -- 11,260 43,433 6,678 16,740
--------- -------- -------- -------- --------
Gross profit (loss)........... -- (2,949) 397 (71) 1,450
Operating expenses:
Research and development.... 17,102 37,064 47,086 20,418 23,051
Selling, general and
administrative........... 15,850 26,414 26,248 15,400 14,384
Litigation.................. 141,000 -- 5,000 5,000 --
--------- -------- -------- -------- --------
Total operating expenses...... 173,952 63,478 78,334 40,818 37,435
--------- -------- -------- -------- --------
Operating loss................ (173,952) (66,427) (77,937) (40,889) (35,985)
Other income (expense), net... 48 (2) 2,241 1,577 572
Interest expense.............. -- -- (6,035) (2,809) (3,384)
--------- -------- -------- -------- --------
Net loss...................... $(173,904) $(66,429) $(81,731) $(42,121) $(38,797)
========= ======== ======== ======== ========
</TABLE>
See notes to financial statements.
F-4
<PAGE> 90
NEXT LEVEL COMMUNICATIONS L.P.
STATEMENTS OF PARTNERS' DEFICIT/STOCKHOLDER'S DEFICIT
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
GENERAL LIMITED
PARTNER PARTNER COMMON STOCK
CAPITAL CAPITAL ------------------ UNEARNED ACCUMULATED
(DEFICIT) (DEFICIT) SHARES AMOUNT COMPENSATION DEFICIT TOTAL
--------- --------- ------ --------- ------------ ----------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1996... $ -- $ -- 100 $ 141,845 $(1,166) $(143,245) $ (2,566)
Amortization of unearned
compensation........... -- -- -- -- 505 -- 505
Net loss................. -- -- -- -- -- (173,904) (173,904)
------- -------- ---- --------- ------- --------- ---------
Balance, December 31,
1996..................... -- -- 100 141,845 (661) (317,149) (175,965)
Contribution of
capital................ -- -- -- 238,031 -- -- 238,031
Amortization of unearned
compensation........... -- -- -- -- 661 -- 661
Net loss................. -- -- -- -- -- (66,429) (66,429)
------- -------- ---- --------- ------- --------- ---------
Balance, December 31,
1997..................... -- -- 100 379,876 -- (383,578) (3,702)
Conversion of predecessor
corporation into
partnership............ -- (3,702) (100) (379,876) -- 383,578 --
Partner capital
contributions.......... 10,000 60,664 -- -- -- -- 70,664
Net loss................. (8,990) (72,741) -- -- -- -- (81,731)
------- -------- ---- --------- ------- --------- ---------
Balance, December 31,
1998..................... 1,010 (15,779) -- -- -- -- (14,769)
Partner capital
contributions
(unaudited)............ -- 34,000 -- -- -- -- 34,000
Net loss (unaudited)..... (4,257) (34,540) -- -- -- -- (38,797)
------- -------- ---- --------- ------- --------- ---------
Balance, June 30, 1999
(unaudited).............. $(3,247) $(16,319) -- $ -- $ -- $ -- $ (19,566)
======= ======== ==== ========= ======= ========= =========
</TABLE>
See notes to financial statements.
F-5
<PAGE> 91
NEXT LEVEL COMMUNICATIONS L.P.
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31, JUNE 30,
-------------------------------- -------------------
1996 1997 1998 1998 1999
--------- --------- -------- -------- --------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES:
Net loss................................... $(173,904) $ (66,429) $(81,731) $(42,121) $(38,797)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization.......... 2,212 8,324 10,733 3,073 3,834
Loss on disposal of assets............. -- 385 1,162 -- --
Changes in assets and liabilities:
Trade receivables.................... -- (3,486) (6,323) 1,384 2,807
Inventories.......................... (2,031) (11,341) (7,286) (9,769) (7,836)
Other current assets................. (1,428) (2,797) (4,683) 1,061 4,946
Bank overdraft....................... 1,853 (1,068) (785) (785) --
Accrued interest payable to General
Instrument........................ -- -- 5,940 2,800 3,290
Accounts payable..................... 1,298 6,552 7,926 5,458 (5,892)
Accrued liabilities and deferred
revenue........................... 139,029 (138,667) 8,414 478 13,529
--------- --------- -------- -------- --------
Net cash used in operating activities...... (32,971) (208,527) (66,633) (38,421) (24,119)
--------- --------- -------- -------- --------
INVESTING ACTIVITIES:
Purchases of property and equipment........ (9,621) (9,882) (9,612) (5,170) (4,223)
Proceeds from notes receivable............. 306 110 264 195 81
--------- --------- -------- -------- --------
Net cash used in investing activities...... (9,315) (9,772) (9,348) (4,975) (4,142)
--------- --------- -------- -------- --------
FINANCING ACTIVITIES:
Limited Partner capital contribution....... -- 141,000 19,587 3,132 34,000
General Partner capital contribution....... -- -- 10,000 10,000 --
Net increase in payable to General
Instrument............................... 41,687 77,676 -- -- --
Proceeds from note payable to General
Instrument............................... -- -- 75,000 75,000 --
--------- --------- -------- -------- --------
Net cash provided by financing
activities............................... 41,687 218,676 104,587 88,132 34,000
--------- --------- -------- -------- --------
Net increase (decrease) in cash and cash
equivalents.............................. (599) 377 28,606 44,736 5,739
Cash and cash equivalents, beginning
of period................................ 599 -- 377 377 28,983
--------- --------- -------- -------- --------
Cash and cash equivalents, end of period... $ -- $ 377 $ 28,983 $ 45,113 $ 34,722
========= ========= ======== ======== ========
NONCASH INVESTING AND FINANCING ACTIVITIES:
Net assets acquired from contribution of
Telenetworks............................. $ -- $ 14,224 $ -- $ -- $ --
Equipment acquired under capital leases.... -- -- 731 410 --
Conversion of payable to General Instrument
to stockholder's equity.................. -- 82,807 41,077 -- --
Conversion of stockholder's net deficit to
partnership deficit...................... -- -- (3,702) (3,702) --
</TABLE>
See notes to financial statements.
F-6
<PAGE> 92
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS
1. ORGANIZATION AND BUSINESS
Next Level Communications L.P. (the "Partnership") is a leading provider of
broadband communications systems that enable telephone companies and other
emerging communications service providers to cost effectively deliver voice,
data and video services over the existing copper wire telephone infrastructure.
Next Level Communications ("NLC" or the "Limited Partner") was incorporated
as a California corporation on June 22, 1994 and commenced operations in July
1994. In September 1995, NLC was acquired by General Instrument Corporation
("General Instrument").
In January 1998, NLC transferred its net assets, management and workforce
to a newly formed limited partnership, Next Level Communications L.P., in
exchange for an 89% limited partnership interest. At the same time, KK Manager
LLC (the "General Partner") acquired an 11% general partner interest in the
Partnership in exchange for a $10.0 million cash contribution.
Net losses have been allocated to the partners based on their respective
partnership percentages. Upon the Partnership's conversion to a corporation (the
"Successor Corporation") in conjunction with an initial public offering, each
partner will receive voting common stock of the Successor Corporation based on
their respective partnership percentages. The General Partner has an option,
which expires on January 13, 2003, to acquire from the Limited Partner, up to
11% of the Successor Corporation common stock. This option is exercisable after
an IPO or in connection with a merger or sale of the Successor Corporation. Upon
dissolution of the Partnership, the assets would be used to pay all liabilities
of the Partnership and any remaining assets, after establishment of reserves,
would be distributed to the partners in accordance with their respective
partnership percentages.
The accompanying financial statements represent those of the Partnership
for 1998 and the six months ended June 30, 1998 and 1999 (unaudited) and those
of NLC for 1997 and 1996.
2. RESULTS OF OPERATIONS FOR 1998, 1997 AND 1996 AND MANAGEMENT PLANS FOR 1999
The Partnership incurred net losses of $81.7 million, $66.4 million, and
$173.9 million in 1998, 1997 and 1996, respectively, as a result of substantial
research and development expenditures and litigation expenses. Net cash used in
operating activities was $66.6 million, $208.5 million and $33.0 million in
1998, 1997 and 1996, respectively. At December 31, 1998, partners' deficit was
$14.8 million.
The Partnership has prepared cash flow projections for 1999 that indicate
additional capital will be required during the latter part of 1999 to fund its
operations and meet its obligations. The Partnership believes that it has
several alternatives available to it to obtain the required capital, including
additional equity contributions from its partners, private placement financing
and/or an IPO. Management of the Partnership believes that cash and cash
equivalents at December 31, 1998, cash flows from operations, capital
contributions from the Limited Partner (see Note 8), and additional capital from
the
F-7
<PAGE> 93
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
sources noted above will enable the Partnership to fund its operations and meet
its obligations through at least December 31, 1999.
3. SIGNIFICANT ACCOUNTING POLICIES
USE OF ESTIMATES -- The preparation of the accompanying 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 revenue and
expenses during the year. Actual results could differ from those estimates.
INTERIM FINANCIAL INFORMATION (UNAUDITED) -- The financial statements as of
June 30, 1999 and for the six months ended June 30, 1998 and 1999 are unaudited,
and in the opinion of management, contain all adjustments that are of a normal
and recurring nature necessary to present fairly the financial position and
results of operations for such periods. The results of operations for the six
months ended June 30, 1999 are not necessarily indicative of the results
expected for the full year.
PRO FORMA INFORMATION (UNAUDITED) -- The unaudited pro forma balance sheet
at June 30, 1999 presents the Partnership's balance sheet as if the following
(the "Recapitalization") had occurred at June 30, 1999:
(i) the $75.0 million note and accrued interest thereon payable to General
Instrument was contributed by General Instrument to Next Level
Communications, Inc., a newly formed Delaware corporation ("NLC
Delaware"); and
(ii) the Partnership and NLC were merged into NLC Delaware.
In conjunction with the transactions described above, the General Partner
received approximately 5.9 million shares of Class A common stock and the
Limited Partner received approximately 69.7 million shares of Class B common
stock.
Pro forma basic and diluted net loss per share, discussed below, is
computed by dividing the pro forma net loss by the pro forma shares outstanding
for the period giving effect to the Recapitalization as if it had occurred on
January 1, 1998. The pro forma shares outstanding exclude the General Partner's
option to purchase approximately 8.5 million shares of common stock and employee
stock options to purchase 7.1 million and 7.0 million shares of common stock as
of December 31, 1998 and June 30, 1999, respectively. Shares under these options
were not included in the computation of pro forma diluted net loss per common
share since the inclusion of these shares would be antidilutive.
Pro forma basic and diluted net loss per share of $1.00 and $0.47 for the
year ended December 31, 1998 and the six months ended June 30, 1999,
respectively, give effect to the contribution of the note and accrued interest
thereon payable to General Instrument and the related elimination of interest
expense of $5.9 million and $3.3 million for the year ended December 31, 1998
and the six months ended June 30, 1999, respectively. Pro forma shares
outstanding were 75.6 million for the pro forma periods presented.
F-8
<PAGE> 94
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
REVENUE RECOGNITION -- The Partnership recognizes revenue from equipment
sales when the product has been shipped. Sales contracts do not permit the right
of return of product by the customer. Amounts received in excess of revenue
recognized are recorded as deferred revenue. As of June 30, 1999 deferred
revenue primarily relates to advance payments received on equipment sales.
Software license revenues are recognized when software revenue recognition
criteria have been met, pursuant to Statement of Position ("SOP") 97-2, Software
Revenue Recognition. Under SOP 97-2, license revenue is recognized when a
noncancelable license agreement has been signed, delivery has occurred, the fees
are fixed and determinable and collection is probable. The portion of revenues
from new license agreements which relate to the Partnership's obligations to
provide customer support are deferred and recognized ratably over the
maintenance period.
PRODUCT WARRANTY -- The Partnership provides for the estimated costs to
fulfill customer warranty and other contractual obligations upon the recognition
of the related revenue. Actual warranty costs incurred are charged against the
accrual when paid.
CASH EQUIVALENTS -- The Partnership considers all highly liquid debt
instruments with a maturity of three months or less at the date of purchase to
be cash equivalents.
INVENTORIES -- Inventories are stated at the lower of cost, determined on a
first-in, first-out basis, or market.
PROPERTY AND EQUIPMENT -- Property and equipment are stated at cost.
Provisions for depreciation are based on estimated useful lives of the assets
using the straight-line method. Useful lives range from the shorter of five to
ten years or the lease term for leasehold improvements and two to seven years
for machinery and equipment.
INTANGIBLE ASSETS -- Intangible assets consist principally of goodwill,
which is being amortized on a straight-line basis over seven years. Management
continually reassesses the appropriateness of both the carrying value and
remaining life of the intangible assets by assessing recoverability based on
forecasted operating cash flows, on an undiscounted basis, and other factors.
Management believes that the carrying value and remaining lives of these assets
are appropriate.
LONG-LIVED ASSETS -- Whenever events indicate that the carrying values of
long-lived assets or identifiable intangibles may not be recoverable, the
Partnership evaluates the carrying values of such assets using future
undiscounted cash flows. If the sum of the expected undiscounted future cash
flows is less than the carrying amount of the asset, the Partnership will
recognize an impairment loss equal to the difference between the fair value and
carrying value of such asset.
OTHER INCOME (EXPENSE), NET -- Other income (expense), net consists
primarily of interest income.
INCOME TAXES -- Income taxes are not included in the 1998 or 1999 financial
statements since income taxes on the Partnership's income are the responsibility
of the partners.
F-9
<PAGE> 95
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
For the years ended December 31, 1996 and 1997, NLC accounted for income
taxes using the asset and liability method. Deferred income taxes reflect the
future tax consequences of differences between the financial reporting and tax
basis of assets and liabilities. The accompanying financial statements for 1996
and 1997 present NLC's income taxes on a separate company basis. In 1996 and
1997, the results of NLC were included in the consolidated tax returns of
General Instrument, and NLC's net operating losses were utilized by General
Instrument in its tax returns. A valuation allowance is provided when it is more
likely than not that some portion of the deferred tax asset will not be
realized. At December 31, 1997, and 1996 there was a 100% valuation allowance
provided for these deferred tax assets due to the uncertainty of realizing
future tax benefits from these deferred tax assets on a stand-alone NLC basis.
At December 31, 1997, NLC had no amounts due to or from General Instrument
related to income taxes. For the years ended December 31, 1996 and 1997, there
was no current or deferred tax expense or benefit recorded by NLC.
FAIR VALUE OF FINANCIAL INSTRUMENTS -- The carrying amounts of cash and
cash equivalents, accounts receivable and accounts payable approximate fair
value because of the short-term nature of these instruments. The fair value of
long-term debt is based upon current interest rates for debt instruments with
comparable maturities and characteristics.
COMPREHENSIVE INCOME -- Statement of Financial Accounting Standards
("SFAS") No. 130, Reporting Comprehensive Income, requires that all items
recognized under accounting standards as components of comprehensive income be
reported in an annual financial statement that is displayed with the same
prominence as other annual financial statements. There were no items of other
comprehensive income (loss) and therefore comprehensive loss was the same as net
loss for all periods presented.
SEGMENT REPORTING -- SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information establishes standards for the reporting of
information about operating segments, including related disclosures about
products and services, geographic areas and major customers, and requires
selected information about operating segments in interim financial statements.
The Partnership operates in only one reportable segment and one geographic area
and therefore additional information is not required to be presented. In 1998,
revenues attributable to the Partnership's two largest customers were 68% and
20%, respectively, of total revenues. In 1997 these same customers accounted for
17% and 55%, respectively, of total revenues.
CERTAIN SIGNIFICANT RISKS AND UNCERTAINTIES -- Two customers comprised
substantially all of the Partnership's revenue from equipment sales in 1997 and
1998. As of December 31, 1998, 84% of the Partnership's trade accounts
receivable were derived from these two customers. The loss of either of these
customers or any substantial reduction in orders by either of these customers
could have a material adverse affect on the Partnership's operating results.
Additionally, the Partnership relies on certain contract manufacturers to
perform substantially all of its manufacturing activities. The inability of its
contract manufacturers to fulfill their obligations to the Partnership could
adversely impact future results.
F-10
<PAGE> 96
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
The Partnership performs ongoing credit evaluations of its customers and
generally does not require collateral from its customers. The Partnership
maintains allowances for potential losses, and has not incurred any significant
losses to date. The Partnership recorded provisions for doubtful accounts of
$320,000 in 1998 and $170,000 in 1997 primarily related to receivables from
software customers.
NEW ACCOUNTING PRONOUNCEMENTS -- SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended, is effective for fiscal years
beginning after June 15, 2000. SFAS No. 133 requires that all derivative
instruments be measured at fair value and recognized in the balance sheet as
either assets or liabilities. The Partnership is currently evaluating what
impact, if any, SFAS No. 133 may have on its financial statements.
4. ACQUISITION OF TELENETWORKS
In September 1997, General Instrument acquired all of the outstanding
capital stock of Telenetworks, a specialized data protocol communications
software company. The purchase price was approximately $7.0 million in cash. The
acquisition was accounted for using the purchase method of accounting and,
accordingly, the assets acquired and liabilities assumed were recorded at their
estimated fair values as of the date of acquisition. The $6.9 million excess of
the purchase price over the net identifiable assets acquired was allocated to
goodwill. In January 1998, in conjunction with the formation of the Partnership,
the Limited Partner contributed the assets and liabilities of Telenetworks to
the Partnership at its cost. For financial statement purposes, Telenetworks'
assets, liabilities and results of operations have been included in the
accompanying financial statements since September 1, 1997.
In conjunction with the acquisition in September 1997, General Instrument
granted $7.0 million in restricted common stock of General Instrument to certain
Telenetworks employees. The restrictions on the common stock of General
Instrument lapsed over a 270-day period which ended on May 31, 1998. Since this
common stock was contingently payable based on continued employment of the
individuals, prepaid compensation of $7.0 million was recorded and amortized to
compensation expense over the life of the restrictions. Compensation expense of
$3.9 million and $3.1 million was recorded in 1998 and 1997.
In June 1998, the Partnership issued approximately $2.9 million in loans to
former Telenetworks employees due to certain tax liabilities associated with the
restricted stock, $2.5 million of which was outstanding at December 31, 1998 and
recorded in other receivables. The loans were due in April 1999, and were
collateralized by the common stock of General Instrument held by such employees.
As of June 30, 1999 such loans were fully repaid.
F-11
<PAGE> 97
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
5. INVENTORIES
Inventories consist of (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
----------------- JUNE 30,
1997 1998 1999
------- ------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Raw materials..................................... $ 7,152 $ 7,203 $ 7,424
Work-in-process................................... 1,453 1,157 1,616
Finished goods.................................... 4,779 12,310 19,466
------- ------- -------
Total........................................ $13,384 $20,670 $28,506
======= ======= =======
</TABLE>
6. PROPERTY AND EQUIPMENT
Property and equipment consists of (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
------------------ JUNE 30,
1997 1998 1999
------- -------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Machinery and equipment.......................... $20,030 $ 28,315 $ 32,373
Leasehold improvements........................... 3,817 4,457 4,616
------- -------- --------
Total....................................... 23,847 32,772 36,989
Less accumulated depreciation and amortization... (5,827) (11,214) (14,550)
------- -------- --------
Property and equipment -- net.................... $18,020 $ 21,558 $ 22,439
======= ======== ========
</TABLE>
Machinery and equipment includes assets acquired under capital leases of
$900,000 and related accumulated depreciation and amortization of $200,000 at
December 31, 1998.
7. OTHER ACCRUED LIABILITIES
Other accrued liabilities consists of (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
---------------- JUNE 30,
1997 1998 1999
------ ------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Accrued payroll and related expenses............... $4,346 $ 4,767 $ 4,213
Other accrued expenses............................. 1,434 5,930 7,352
------ ------- -------
Total......................................... $5,780 $10,697 $11,565
====== ======= =======
</TABLE>
8. RELATED PARTY TRANSACTIONS WITH GENERAL INSTRUMENT
In January 1998, in conjunction with the formation of the Partnership,
General Instrument advanced $75.0 million to the Partnership in exchange for a
note (the "Note") bearing interest at a rate of 8%. The Note includes certain
covenants including limitations on borrowings, and is due in 2005. The Note
provides for the deferral of scheduled interest payments under certain
circumstances. Deferred interest payments bear interest at 10% and
F-12
<PAGE> 98
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
are not payable until certain earnings levels, as defined, are met. The
Partnership or the Successor Corporation has an option, upon an IPO of the
Successor Corporation, to repay the Note, together with accrued interest, in
shares of stock of the Successor Corporation. At December 31, 1998, the
Partnership owed General Instrument $80.9 million under this Note, including
accrued interest of $5.9 million. The fair value of the Note, computed based
upon current interest rates for debt instruments with comparable maturities and
characteristics, as at December 31, 1998 was approximately $62.5 million. At
June 30, 1999, the Partnership owed General Instrument $84.2 million (unaudited)
under this note, including accrued interest of $9.2 million (unaudited).
At December 31, 1997 NLC had a payable to General Instrument of $41.1
million representing net advances to it during 1997. This amount was contributed
to the Partnership in 1998. During 1998, an additional $19.6 million was
contributed to the Partnership by the Limited Partner.
In 1999, the Limited Partner provided an additional $34.0 million of
capital contributions and increased its Partnership interest to 90.4%.
In 1996 and 1997, General Instrument allocated the cost of certain
corporate general and administrative services and shared services (primarily
certain legal and other costs related to the litigation discussed in Note 12) to
NLC. The allocated expenses were $3.0 million and $1.0 million in 1996 and 1997,
respectively. It is not practicable to determine the actual costs that would
have been incurred if NLC operated on a stand-alone basis; accordingly such
allocations may not necessarily be indicative of the level of expenses which
would have been incurred had it been operating as a separate stand-alone entity
through December 31, 1997. Since January 1, 1998, all costs to operate on a
stand-alone basis were incurred by the Partnership and have been reflected in
the accompanying financial statements. Accordingly, no costs were allocated to
the Partnership during such periods.
9. STOCK OPTION PLANS
Certain employees of the Partnership have been granted contingently
exercisable stock options in NLC which vest over a period of two to three years
and which expire in ten years. Such options are exercisable only in the event of
an IPO or a change in control of NLC (the "Event"). Compensation expense will be
recognized on the date of the Event based on the difference between the exercise
price of the options and the fair value of the common stock of a successor
corporation on the date of the Event. Management believes that the compensation
expense will be material.
In addition, during 1997, as part of a tandem stock option grant certain
employees of NLC were granted options for a total of 2.2 million shares of
common stock of NLC, or options for a total of 1.5 million shares of General
Instrument common stock (the "GI Options"). Under the terms of the grant, the
exercise of options on either NLC or General Instrument common stock results in
the cancellation of options in the other company's common stock at a ratio of
approximately 1.4 shares of NLC common stock to 1 share of General Instrument
common stock. The options have a ten-year life and vest over three years.
F-13
<PAGE> 99
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
The following table summarizes stock option activity relating to NLC's
stock option plan:
<TABLE>
<CAPTION>
WEIGHTED AVERAGE
SHARES EXERCISE PRICE
--------------- ----------------
(IN THOUSANDS)
<S> <C> <C>
Balance at December 31, 1996............. -- --
Granted.................................. 6,914 $0.98
------
Balance at December 31, 1997............. 6,914 0.98
Granted.................................. 179 5.74
Canceled................................. (4) 1.11
------
Balance at December 31, 1998 (none
exercisable)........................... 7,089 1.10
======
</TABLE>
In the six months ended June 30, 1999, options to purchase 112,750
(unaudited) shares were granted at an exercise price of $9.66 per share.
The following table summarizes information about NLC stock options
outstanding at December 31, 1998:
<TABLE>
<CAPTION>
OUTSTANDING EXERCISABLE
------------------------------------------------- -------------------------------
NUMBER WEIGHTED NUMBER
OUTSTANDING AT AVERAGE WEIGHTED EXERCISABLE AT WEIGHTED
EXERCISE DECEMBER 31, REMAINING LIFE AVERAGE DECEMBER 31, AVERAGE
PRICES 1998 (IN YEARS) EXERCISE PRICE 1998 EXERCISE PRICE
- ----------- --------------- -------------- -------------- -------------- --------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
$0.84-$1.53 6,927 8.8 $0.98 -- $ --
$6.18 162 9.8 6.18 -- --
------
7,089
======
</TABLE>
Stock-based awards granted to employees are accounted for using the
intrinsic value method in accordance with Accounting Principles Board Opinion
("APB") No. 25, Accounting for Stock Issued to Employees. SFAS No. 123,
Accounting For Stock Based Compensation, requires the disclosure of pro forma
net income (loss) using the fair value method.
The estimated fair value of an option grant is based, in part, on the
estimated term of the option. NLC options granted under the NLC Plan are not
exercisable unless an Event occurs. As a result, it is not practicable to
determine the expected term of NLC options and therefore it is not possible to
estimate the fair value of such options. The weighted average fair value of the
GI options granted during 1997 was $5.70.
F-14
<PAGE> 100
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
Had compensation cost been determined under SFAS 123 for the GI Options
under the tandem stock option grant, the Partnership's net loss would have been
changed to the pro forma amounts indicated below (in thousands):
<TABLE>
<CAPTION>
1997 1998
-------- --------
<S> <C> <C>
Net loss:
As reported...................................... $(66,429) $(81,731)
Pro forma........................................ (69,190) (84,494)
</TABLE>
The fair value of the GI options granted under the tandem stock option
grant was estimated on the date of grant using the Black-Scholes option pricing
model with the following weighted-average assumptions:
<TABLE>
<S> <C>
Dividend yield........................... 0.0%
Volatility............................... 35.0%
Risk free interest....................... 6.4%
Expected terms (years)................... 4.0
</TABLE>
10. EMPLOYEE BENEFIT PLANS
Employees of the Partnership, who meet certain eligibility requirements are
able to participate in the General Instrument 401(k) Plan. Employees may
contribute up to 10% of their annual compensation, subject to the legal maximum.
The Partnership, contributes an amount equal to 50% of the first 6% of the
employee's salary that the employee contributes. The Partnership's expense
related to the 401(k) Plan was $513,000, $409,000 and $213,000 for the years
ended December 31, 1998, 1997 and 1996, respectively.
The Partnership employees participate in the General Instrument Pension
Plan. The Partnership expensed $419,000, $229,000 and $210,000 related to these
plans for the years ended December 31, 1998, 1997 and 1996, respectively.
11. CAPITAL LEASE OBLIGATIONS
The Partnership leases certain equipment under capital leases. Leases
expire at various dates from 1999 to 2001 and all contain purchase options.
Future minimum lease payments at December 31, 1998 are as follows (in
thousands):
<TABLE>
<S> <C>
Years ending December 31:
1999......................................... $ 526
2000......................................... 342
2001......................................... 25
-----
Total................................ 893
Less amounts representing interest............. (162)
-----
Present value of net minimum lease payments.... $ 731
=====
</TABLE>
F-15
<PAGE> 101
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
12. COMMITMENTS AND CONTINGENCIES
The Partnership leases its facilities and certain equipment under operating
leases. Leases expire at various dates from 1999 to 2006 and certain facilities
leases have renewal options.
During 1998 the Partnership entered into an operating lease for one of its
buildings which expires in 2004. The lease provides for a purchase option but
does not allow for renewal options. General Instrument has provided a residual
value guarantee to the lessor of approximately 82% of the total building cost at
inception. The table of future minimum operating lease payments below excludes
any payments related to the residual guarantee. Rent expense recorded under the
lease was $0.8 million in 1998 and $0.7 million (unaudited) in the six months
ended June 30, 1999.
Future minimum lease payments at December 31, 1998 are as follows:
<TABLE>
<S> <C>
Years ending December 31:
1999................................ $ 3,154
2000................................ 2,943
2001................................ 2,357
2002................................ 2,181
2003................................ 2,098
Thereafter.......................... 2,548
-------
Total....................... $15,281
=======
</TABLE>
Rent expense was $0.4 million in 1996, $1.1 million in 1997, $3.8 million
in 1998, and $2.5 million (unaudited) in the six months ended June 30, 1999.
The Partnership has a commitment with a supplier to purchase approximately
$2.1 million of components in the 12 months following the release of certain
products for sale and approximately $4.3 million in the subsequent 12 months. In
addition, the Partnership has a commitment to purchase $2.4 million of
components prior to September 2002 with a minimum purchase of $0.5 million each
12-month period following the release of the certain products for sale. The
Partnership has a commitment to another supplier to purchase approximately $14.7
million of components prior to December 2001.
On May 5, 1998, the action entitled BroadBand Technologies, Inc. v. General
Instrument Corp., pending in the United States District Court for the Eastern
District of North Carolina, was dismissed with prejudice. In addition, on May 4,
1998, the action entitled Next Level Communications, Inc. v. BroadBand
Technologies, Inc., was dismissed with prejudice. These dismissals were entered
pursuant to a settlement agreement under which, among other things, the
Partnership has paid BroadBand Technologies ("BBT") $5.0 million, which was
expensed in 1998, and BBT and the Partnership have entered into a perpetual
cross-license of patents applied for or issued currently or during the next five
years.
In April 1995, DSC Communications Corporation and DSC Technologies
Corporation (collectively, "DSC") brought suit against NLC and the founders of
NLC. In June 1996, a final judgement against NLC and the individual defendants
was entered in favor of DSC, and an expense for the expected final award of
$141.0 million was recorded. General
F-16
<PAGE> 102
NEXT LEVEL COMMUNICATIONS L.P.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
Instrument paid the $141.0 million judgement in 1997 as required by the 1995
agreement for the acquisition of NLC; accordingly, the $141.0 million has been
shown as a capital contribution in 1997.
On March 5, 1998, an action entitled DSC Communications Corporation and DSC
Technologies Corporation v. Next Level Communications, L.P., KK Manager LLC,
General Instrument Corporation and Spencer Trask & Co., Inc. was filed in the
Superior Court of the State of Delaware in and for New Castle County (the
"Delaware Action"). In that action, DSC alleged that in connection with the
formation of the Partnership and the transfer of the switched digital video
technology, the Partnership and KK Manager LLC misappropriated DSC's trade
secrets; that General Instrument improperly disclosed trade secrets when it
conveyed such technology to the Partnership; and that Spencer Trask conspired to
misappropriate DSC's trade secrets. The plaintiffs sought actual damages for the
defendants' purported unjust enrichment, disgorgement of consideration,
exemplary damages and attorney's fees, all in unspecified amounts. In April
1998, General Instrument and the other defendants filed an action in the United
District Court for the Eastern District of Texas, requesting that the federal
court preliminarily and permanently enjoin DSC from prosecuting the Delaware
Action because by pursuing such action, DSC effectively was trying to circumvent
and relitigate the Texas federal court's November 1997 judgment in a previous
lawsuit involving DSC. On May 14, 1998, the United States District Court for the
Eastern District of Texas granted a preliminary injunction preventing DSC from
proceeding with the Delaware Action. On July 6, 1998, the defendants filed a
motion for summary judgement with the Texas Court requesting a permanent
injunction preventing DSC from proceeding with this litigation. In June 1999 the
United States Court of Appeals for the Fifth Circuit affirmed the judgment of
the Texas court. On July 15, 1999, the Texas federal court granted the Delaware
defendants' motion for summary judgement and issued its final judgement
permanently enjoining DSC from prosecuting and continuing the Delaware action.
13. SUBSEQUENT EVENTS
On August 24, 1999 the Partnership formed a wholly owned subsidiary, Next
Level Communications, Inc., a Delaware corporation.
In anticipation of the Recapitalization, management of NLC intends to
effect a 1-for-3 reverse stock split on September , 1999. All share amounts in
the accompanying financial statements have been restated to give effect to the
reverse stock split.
F-17
<PAGE> 103
INDEPENDENT AUDITORS' REPORT
Next Level Communications, Inc.:
We have audited the accompanying balance sheet of Next Level
Communications, Inc. as of August 24, 1999 (date of incorporation). This balance
sheet is the responsibility of the Company's management. Our responsibility is
to express an opinion on the balance sheet based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the balance sheet is free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the balance sheet. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, such balance sheet presents fairly, in all material
respects, the financial position of Next Level Communications, Inc. as of August
24, 1999 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
San Francisco, California
August 25, 1999
F-18
<PAGE> 104
NEXT LEVEL COMMUNICATIONS, INC.
BALANCE SHEET
AUGUST 24, 1999
(DATE OF INCORPORATION)
<TABLE>
<S> <C>
Assets
Cash...................................................... $ 1
======
Stockholder's Equity
Common Stock, $.01 par value, 1,000 shares authorized, 100
issued and
outstanding............................................ $ 1
======
</TABLE>
F-19
<PAGE> 105
NEXT LEVEL COMMUNICATIONS, INC.
NOTE TO BALANCE SHEET
1. ORGANIZATION AND BUSINESS PURPOSE
Next Level Communications, Inc. (the "Company") is a wholly-owned
subsidiary of Next Level Communications L.P.. The Company is a Delaware
corporation formed on August 24, 1999 for the purpose of merging with Next Level
Communications L.P. to effect an initial public offering.
F-20
<PAGE> 106
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Through and including 1999, (the 25th day after the date of
this prospectus), all dealers effecting transactions in these securities,
whether or not participating in this offering, may be required to deliver a
prospectus. This is in addition to the dealers' obligation to deliver a
prospectus when acting as underwriters and with respect to their unsold
allotments or subscriptions.
SHARES
[Next Level Logo]
CLASS A COMMON STOCK
----------------------
PROSPECTUS
----------------------
MERRILL LYNCH & CO.
CREDIT SUISSE FIRST BOSTON
LEHMAN BROTHERS
WARBURG DILLON READ LLC
, 1999
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE> 107
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the costs and expenses, other than
underwriting discounts and commissions, payable by the Company in connection
with the sale of Common Stock being registered. All amounts are estimates except
the SEC registration fee and the NASD filing fees.
<TABLE>
<S> <C>
SEC Registration fee........................................ $34,750
NASD fee.................................................... 13,000
Nasdaq National Market listing fee..........................
Printing and engraving expenses.............................
Legal fees and expenses.....................................
Accounting fees and expenses................................
Blue sky fees and expenses..................................
Transfer agent fees.........................................
Miscellaneous fees and expenses.............................
-------
Total............................................. $
=======
</TABLE>
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 145 of the Delaware General Corporation Law authorizes a court to
award or a corporation's Board of Directors to grant indemnification to
directors and officers in terms sufficiently broad to permit such
indemnification under certain circumstances for liabilities (including
reimbursement for expenses incurred) arising under the Securities Act of 1933,
as amended (the "Securities Act"). The Registrant's Certificate of Incorporation
provides for mandatory indemnification of its directors and officers and
permissible indemnification of employees and other agents to the maximum extent
permitted by the Delaware General Corporation Law. The Registrant's Certificate
of Incorporation provides that, pursuant to Delaware law, its directors shall
not be liable for monetary damages for breach of the directors' fiduciary duty
as directors to the Company and its stockholders. This provision in the
Certificate of Incorporation does not eliminate the directors' fiduciary duty,
and in appropriate circumstances equitable remedies such as injunctive or other
forms of non-monetary relief will remain available under Delaware law. In
addition, each director will continue to be subject to liability for breach of
the director's duty of loyalty to the Company for acts or omissions not in good
faith or involving intentional misconduct, for knowing violations of law, for
actions leading to improper personal benefit to the director, and for payment of
dividends or approval of stock repurchases or redemptions that are unlawful
under Delaware law. The provision also does not affect a director's
responsibilities under any other law, such as the federal securities laws or
state or federal environmental laws. The Registrant has entered into
Indemnification Agreements with its officers and directors, a form of which is
attached as Exhibit 10.1 hereto and incorporated herein by reference. The
Indemnification Agreements provide the Registrant's officers and directors with
further indemnification to the maximum extent permitted by the Delaware General
Corporation Law." Reference is made to Section 6 of the Underwriting Agreement
contained in Exhibit 1.1 hereto, indemnifying officers and directors of the
Registrant against certain liabilities.
II-1
<PAGE> 108
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
Within the last three years, a predecessor to the Registrant sold
securities in the following transactions, each of which was intended to be
exempt from the registration requirements of the Securities Act of 1933, as
amended.
In January 1998, Next Level Communications, a subsidiary of General
Instrument, acquired an 89% limited partner interest in Next Level
Communications L.P. (the "Partnership") in exchange for the net assets,
management and workforce of Next Level Communications.
In January 1998, General Instrument advanced $75.0 million to the
Partnership in exchange for a note convertible by the partnership into shares.
From November 1998 through May 1999, Next Level Communications has provided
an additional $50.0 million of capital contribution in return for an increase in
its partnership interest.
The sale of the above securities was deemed to be exempt from registration
under the Act in reliance upon Section 4(2) of the Act as transactions by an
issuer not involving any public offering. The recipients of securities in each
such transaction represented their intentions to acquire the securities for
investment only and not with a view to or for sale in connection with any
distribution thereof and appropriate legends were affixed to the securities used
in such transactions. All recipients had adequate access, through their
relationships with the Registrant, to information about the Registrant.
II-2
<PAGE> 109
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C> <C>
1.1 -- *Form of Underwriting Agreement (preliminary form).
2.1 -- *Form of Merger Agreement among General Instrument
Corporation, KK Manager LLC, Next Level Communications, Next
Level Communications L.P. and Registrant.
3.1 -- *Form of Restated Certificate of Incorporation to be filed
upon the closing of this offering.
3.2 -- *Bylaws of the Registrant.
4.1 -- Reference is made to Exhibits 3.1 and 3.2.
4.2 -- *Form of Registration Rights Agreement among General
Instrument Corporation, KK Manager LLC and Registrant.
4.2 -- *Specimen Common Stock certificate.
5.1 -- *Opinion of Gunderson Dettmer Stough Villeneuve Franklin &
Hachigian LLP.
9.1 -- *Form of Voting Trust Agreement among General Instrument
Corporation, Registrant and .
10.1 -- Form of Indemnification Agreement.
10.2 -- *Form of Corporate and Intercompany Agreement between
General Instrument Corporation and Registrant.
10.5 -- *1999 Equity Incentive Plan.
10.6 -- *Employee Stock Purchase Plan.
10.7 -- *Patent and Technical Information Cross-License Agreement.
10.8 -- *Agreement between U S WEST Communications, Inc. and the
Registrant.
10.9 -- *Agreement by and among Telesector Resources Group, Inc.,
General Instrument Corporation and the Registrant.
10.10 -- *Agreement between the Registrant and SCI Technology, Inc.
10.11 -- *Agreement between the Registrant and CMC Mississippi, Inc.
23.1 -- Independent Auditors' Consent.
23.2 -- Consent of Counsel. Reference is made to Exhibit 5.1.
24.1 -- Power of Attorney (see page II-5).
27.1 -- Financial Data Schedule.
</TABLE>
- ---------------
* To be supplied by amendment
(b) FINANCIAL STATEMENT SCHEDULES
Schedules have been omitted because the information required to be set
forth therein is not applicable or is shown in the financial statements or
notes.
ITEM 17. UNDERTAKINGS
The 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.
II-3
<PAGE> 110
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the Delaware General Corporation Law, the Certificate of
Incorporation or the Bylaws of the Registrant, the Underwriting Agreement, 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 Securities 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 hereunder, 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 Securities Act and will be governed by the final adjudication
of such issue.
The Registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities
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 Securities Act shall be deemed to be part of this
Registration Statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act, 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> 111
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Rohnert
Park, State of California, on this 27th day of August, 1999.
NEXT LEVEL COMMUNICATIONS, INC.
By: /s/ PETER W. KEELER
--------------------------------------
Peter W. Keeler
Chief Executive Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each individual whose signature
appears below constitutes and appoints Richard C. Smith and James T. Wandrey,
and each of them, his true and lawful attorneys-in-fact and agents with full
power of substitution, for him and in his name, place and stead, in any and all
capacities, to sign any and all amendments (including post-effective amendments)
to this Registration Statement, and to sign any registration statement for the
same offering covered by this Registration Statement that is to be effective
upon filing pursuant to Rule 462(b) promulgated under the Securities Act of
1933, and all post-effective amendments thereto, and to file the same, with all
exhibits thereto and all documents in connection therewith, with the Securities
and Exchange Commission, granting unto said attorneys-in-fact and agents, full
power and authority to do and perform each and every act and thing requisite and
necessary to be done in and about the premises, as fully to all intents and
purposes as he might or could do in person, hereby ratifying and confirming all
that said attorneys-in-fact and agents, or his substitute or substitutes, may
lawfully do or cause to be done by virtue hereof.
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, AS AMENDED,
THIS REGISTRATION STATEMENT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE
CAPACITIES AND ON THE DATES INDICATED:
<TABLE>
<S> <C> <C>
/s/ PETER W. KEELER Chief Executive Officer, August 27, 1999
- ------------------------------ (Principal Executive Officer)
Peter W. Keeler Chairman of the Board
and President
/s/ JAMES T. WANDREY Senior Vice President and August 27, 1999
- ------------------------------ Chief Financial Officer
James T. Wandrey (Principal Financial and
Accounting Officer)
/s/ RICHARD C. SMITH Director August 27, 1999
- ------------------------------
Richard C. Smith
/s/ KEVIN B. KIMBERLIN Director August 27, 1999
- ------------------------------
Kevin B. Kimberlin
</TABLE>
II-5
<PAGE> 1
EXHIBIT 10.1
INDEMNIFICATION AGREEMENT
THIS AGREEMENT (the "Agreement") is made and entered into as of ____ __,
1999 between Next Level Communications, Inc., a Delaware corporation ("the
Company"), and _____________________ ("Indemnitee").
WITNESSETH THAT:
WHEREAS, Indemnitee performs a valuable service for the Company; and
WHEREAS, the Board of Directors of the Company has adopted Bylaws (the
"Bylaws") providing for the indemnification of the officers and directors of the
Company to the maximum extent authorized by Section 145 of the Delaware General
Corporation Law, as amended ("Law"); and
WHEREAS, the Bylaws and the Law, by their nonexclusive nature, permit
contracts between the Company and the officers or directors of the Company with
respect to indemnification of such officers or directors; and
WHEREAS, in accordance with the authorization as provided by the Law, the
Company may purchase and maintain a policy or policies of directors' and
officers' liability insurance ("D & O Insurance"), covering certain liabilities
which may be incurred by its officers or directors in the performance of their
obligations to the Company; and
WHEREAS, in order to induce Indemnitee to continue to serve as an officer
or director of the Company, the Company has determined and agreed to enter into
this contract with Indemnitee;
NOW, THEREFORE, in consideration of Indemnitee's service as an officer or
director after the date hereof, the parties hereto agree as follows:
1. Indemnity of Indemnitee. The Company hereby agrees to hold harmless
and indemnify Indemnitee to the full extent authorized or permitted by the
provisions of the Law, as such may be amended from time to time, and Article
VII, Section 6 of the Bylaws, as such may be amended. In furtherance of the
foregoing indemnification, and without limiting the generality thereof:
(a) Proceedings Other Than Proceedings by or in the Right of the
Company. Indemnitee shall be entitled to the rights of indemnification provided
in this Section l(a) if, by reason of his Corporate Status (as hereinafter
defined), he is, or is threatened to be made, a party to or participant in any
Proceeding (as hereinafter defined) other than a Proceeding by or in the right
of the Company. Pursuant to this Section 1(a), Indemnitee shall be indemnified
against all Expenses (as hereinafter defined), judgments, penalties, fines and
amounts paid in settlement actually and reasonably incurred by him or on his
behalf in connection with such Proceeding or any claim, issue or matter therein,
if he acted in good faith and in a manner he reasonably believed to be in or not
opposed to the best interests of the
<PAGE> 2
Company and, with respect to any criminal Proceeding, had no reasonable cause to
believe his conduct was unlawful.
(b) Proceedings by or in the Right of the Company. Indemnitee shall
be entitled to the rights of indemnification provided in this Section 1(b) if,
by reason of his Corporate Status, he is, or is threatened to be made, a party
to or participant in any Proceeding brought by or in the right of the Company.
Pursuant to this Section 1(b), Indemnitee shall be indemnified against all
Expenses actually and reasonably incurred by him or on his behalf in connection
with such Proceeding if he acted in good faith and in a manner he reasonably
believed to be in or not opposed to the best interests of the Company; provided,
however, that, if applicable law so provides, no indemnification against such
Expenses shall be made in respect of any claim, issue or matter in such
Proceeding as to which Indemnitee shall have been adjudged to be liable to the
Company unless and to the extent that the Court of Chancery of the State of
Delaware shall determine that such indemnification may be made.
(c) Indemnification for Expenses of a Party Who is Wholly or Partly
Successful. Notwithstanding any other provision of this Agreement, to the extent
that Indemnitee is, by reason of his Corporate Status, a party to and is
successful, on the merits or otherwise, in any Proceeding, he shall be
indemnified to the maximum extent permitted by law against all Expenses actually
and reasonably incurred by him or on his behalf in connection therewith. If
Indemnitee is not wholly successful in such Proceeding but is successful, on the
merits or otherwise, as to one or more but less than all claims, issues or
matters in such Proceeding, the Company shall indemnify Indemnitee against all
Expenses actually and reasonably incurred by him or on his behalf in connection
with each successfully resolved claim, issue or matter. For purposes of this
Section and without limitation, the termination of any claim, issue or matter in
such a Proceeding by dismissal, with or without prejudice, shall be deemed to be
a successful result as to such claim, issue or matter.
2. Additional Indemnity. In addition to, and without regard to any
limitations on, the indemnification provided for in Section 1, the Company shall
and hereby does indemnify and hold harmless Indemnitee against all Expenses,
judgments, penalties, fines and amounts paid in settlement actually and
reasonably incurred by him or on his behalf if, by reason of his Corporate
Status, he is, or is threatened to be made, a party to or participant in any
Proceeding (including a Proceeding by or in the right of the Company),
including, without limitation, all liability arising out of the negligence or
active or passive wrongdoing of Indemnitee. The only limitation that shall exist
upon the Company's obligations pursuant to this Agreement shall be that the
Company shall not be obligated to make any payment to Indemnitee that is finally
determined (under the procedures, and subject to the presumptions, set forth in
Sections 6 and 7 hereof) to be unlawful under Delaware law.
3. Contribution in the Event of Joint Liability.
(a) Whether or not the indemnification provided in Sections 1 and 2
hereof is available, in respect of any threatened, pending or completed action,
suit or proceeding in which Company is jointly liable with Indemnitee (or would
be if joined in such action, suit or proceeding), Company shall pay, in the
first instance, the entire amount of any judgment or settlement of such action,
suit or proceeding without requiring Indemnitee to contribute to such
2
<PAGE> 3
payment and Company hereby waives and relinquishes any right of contribution it
may have against Indemnitee. Company shall not enter into any settlement of any
action, suit or proceeding in which Company is jointly liable with Indemnitee
(or would be if joined in such action, suit or proceeding) unless such
settlement provides for a full and final release of all claims asserted against
Indemnitee.
(b) Without diminishing or impairing the obligations of the Company
set forth in the preceding subparagraph, if, for any reason, Indemnitee shall
elect or be required to pay all or any portion of any judgment or settlement in
any threatened, pending or completed action, suit or proceeding in which Company
is jointly liable with Indemnitee (or would be if joined in such action, suit or
proceeding), Company shall contribute to the amount of expenses (including
attorneys' fees), judgments, fines and amounts paid in settlement actually and
reasonably incurred and paid or payable by Indemnitee in proportion to the
relative benefits received by the Company and all officers, directors or
employees of the Company other than Indemnitee who are jointly liable with
Indemnitee (or would be if joined in such action, suit or proceeding), on the
one hand, and Indemnitee, on the other hand, from the transaction from which
such action, suit or proceeding arose; provided, however, that the proportion
determined on the basis of relative benefit may, to the extent necessary to
conform to law, be further adjusted by reference to the relative fault of
Company and all officers, directors or employees of the Company other than
Indemnitee who are jointly liable with Indemnitee (or would be if joined in such
action, suit or proceeding), on the one hand, and Indemnitee, on the other hand,
in connection with the events that resulted in such expenses, judgments, fines
or settlement amounts, as well as any other equitable considerations which the
law may require to be considered. The relative fault of Company and all
officers, directors or employees of the Company other than Indemnitee who are
jointly liable with Indemnitee (or would be if joined in such action, suit or
proceeding), on the one hand, and Indemnitee, on the other hand, shall be
determined by reference to, among other things, the degree to which their
actions were motivated by intent to gain personal profit or advantage, the
degree to which their liability is primary or secondary, and the degree to which
their conduct is active or passive.
(c) Company hereby agrees to fully indemnify and hold Indemnitee
harmless from any claims of contribution which may be brought by officers,
directors or employees of the Company other than Indemnitee who may be jointly
liable with Indemnitee.
4. Indemnification for Expenses of a Witness. Notwithstanding any other
provision of this Agreement, to the extent that Indemnitee is, by reason of his
Corporate Status, a witness in any Proceeding to which Indemnitee is not a
party, he shall be indemnified against all Expenses actually and reasonably
incurred by him or on his behalf in connection therewith.
5. Advancement of Expenses. Notwithstanding any other provision of this
Agreement, the Company shall advance all Expenses incurred by or on behalf of
Indemnitee in connection with any Proceeding by reason of Indemnitee's Corporate
Status within ten (10) days after the receipt by the Company of a statement or
statements from Indemnitee requesting such advance or advances from time to
time, whether prior to or after final disposition of such Proceeding. Such
statement or statements shall reasonably evidence the Expenses incurred by
Indemnitee and shall include or be preceded or accompanied by an undertaking by
or on behalf of Indemnitee to repay any Expenses advanced if it shall ultimately
be determined that
3
<PAGE> 4
Indemnitee is not entitled to be indemnified against such Expenses. Any advances
and undertakings to repay pursuant to this Section 5 shall be unsecured and
interest free. Notwithstanding the foregoing, the obligation of the Company to
advance Expenses pursuant to this Section 5 shall be subject to the condition
that, if, when and to the extent that the Company determines that Indemnitee
would not be permitted to be indemnified under applicable law, the Company shall
be entitled to be reimbursed, within thirty (30) days of such determination, by
Indemnitee (who hereby agrees to reimburse the Company) for all such amounts
theretofore paid; provided, however, that if Indemnitee has commenced or
thereafter commences legal proceedings in a court of competent jurisdiction to
secure a determination that Indemnitee should be indemnified under applicable
law, any determination made by the Company that Indemnitee would not be
permitted to be indemnified under applicable law shall not be binding and
Indemnitee shall not be required to reimburse the Company for any advance of
Expenses until a final judicial determination is made with respect thereto (as
to which all rights of appeal therefrom have been exhausted or lapsed).
6. Procedures and Presumptions for Determination of Entitlement to
Indemnification. It is the intent of this Agreement to secure for Indemnitee
rights of indemnity that are as favorable as may be permitted under the law and
public policy of the State of Delaware. Accordingly, the parties agree that the
following procedures and presumptions shall apply in the event of any question
as to whether Indemnitee is entitled to indemnification under this Agreement:
(a) To obtain indemnification (including, but not limited to, the
advancement of Expenses and contribution by the Company) under this Agreement,
Indemnitee shall submit to the Company a written request, including therein or
therewith such documentation and information as is reasonably available to
Indemnitee and is reasonably necessary to determine whether and to what extent
Indemnitee is entitled to indemnification. The Secretary of the Company shall,
promptly upon receipt of such a request for indemnification, advise the Board of
Directors in writing that Indemnitee has requested indemnification.
(b) Upon written request by Indemnitee for indemnification pursuant
to the first sentence of Section 6(a) hereof, a determination, if required by
applicable law, with respect to Indemnitee's entitlement thereto shall be made
in the specific case by one of the following three methods, which shall be at
the election of Indemnitee: (1) by a majority vote of the disinterested
directors, even though less than a quorum, or (2) by independent legal counsel
in a written opinion, or (3) by the stockholders.
(c) If the determination of entitlement to indemnification is to be
made by Independent Counsel pursuant to Section 6(b) hereof, the Independent
Counsel shall be selected as provided in this Section 6(c). The Independent
Counsel shall be selected by Indemnitee (unless Indemnitee shall request that
such selection be made by the Board of Directors). Indemnitee or the Company, as
the case may be, may, within 10 days after such written notice of selection
shall have been given, deliver to the Company or to Indemnitee, as the case may
be, a written objection to such selection; provided, however, that such
objection may be asserted only on the ground that the Independent Counsel so
selected does not meet the requirements of "Independent Counsel" as defined in
Section 13 of this Agreement, and the
4
<PAGE> 5
objection shall set forth with particularity the factual basis of such
assertion. Absent a proper and timely objection, the person so selected shall
act as Independent Counsel. If a written objection is made and substantiated,
the Independent Counsel selected may not serve as Independent Counsel unless and
until such objection is withdrawn or a court has determined that such objection
is without merit. If, within 20 days after submission by Indemnitee of a written
request for indemnification pursuant to Section 6(a) hereof, no Independent
Counsel shall have been selected and not objected to, either the Company or
Indemnitee may petition the Court of Chancery of the State of Delaware or other
court of competent jurisdiction for resolution of any objection which shall have
been made by the Company or Indemnitee to the other's selection of Independent
Counsel and/or for the appointment as Independent Counsel of a person selected
by the court or by such other person as the court shall designate, and the
person with respect to whom all objections are so resolved or the person so
appointed shall act as Independent Counsel under Section 6(b) hereof. The
Company shall pay any and all reasonable fees and expenses of Independent
Counsel incurred by such Independent Counsel in connection with acting pursuant
to Section 6(b) hereof, and the Company shall pay all reasonable fees and
expenses incident to the procedures of this Section 6(c), regardless of the
manner in which such Independent Counsel was selected or appointed.
(d) Indemnitee shall be deemed to have acted in good faith if
Indemnitee's action is based on the records or books of account of the
Enterprise, including financial statements, or on information supplied to
Indemnitee by the officers of the Enterprise in the course of their duties, or
on the advice of legal counsel for the Enterprise or on information or records
given or reports made to the Enterprise by an independent certified public
accountant or by an appraiser or other expert selected with reasonable care by
the Enterprise. In addition, the knowledge and/or actions, or failure to act, of
any director, officer, agent or employee of the Enterprise shall not be imputed
to Indemnitee for purposes of determining the right to indemnification under
this Agreement. Whether or not the foregoing provisions of this Section 6(e) are
satisfied, it shall in any event be presumed that Indemnitee has at all times
acted in good faith and in a manner he reasonably believed to be in or not
opposed to the best interests of the Company. Anyone seeking to overcome this
presumption shall have the burden of proof and the burden of persuasion, by
clear and convincing evidence.
(e) If the person, persons or entity empowered or selected under
Section 6 to determine whether Indemnitee is entitled to indemnification shall
not have made a determination within thirty (30) days after receipt by the
Company of the request therefor, the requisite determination of entitlement to
indemnification shall be deemed to have been made and Indemnitee shall be
entitled to such indemnification, absent (i) a misstatement by Indemnitee of a
material fact, or an omission of a material fact necessary to make Indemnitee's
statement not materially misleading, in connection with the request for
indemnification, or (ii) a prohibition of such indemnification under applicable
law; provided, however, that such 30 day period may be extended for a reasonable
time, not to exceed an additional fifteen (15) days, if the person, persons or
entity making the determination with respect to entitlement to indemnification
in good faith requires such additional time for the obtaining or evaluating
documentation and/or information relating thereto; and provided, further, that
the foregoing provisions of this Section 6(g) shall not apply if the
determination of entitlement to indemnification is to be made by the
stockholders pursuant to Section 6(b) of this Agreement and if (A) within
fifteen (15) days after receipt by the Company of the request for such
determination the Board of Directors or the
5
<PAGE> 6
Disinterested Directors, if appropriate, resolve to submit such determination to
the stockholders for their consideration at an annual meeting thereof to be held
within seventy five (75) days after such receipt and such determination is made
thereat, or (B) a special meeting of stockholders is called within fifteen (15)
days after such receipt for the purpose of making such determination, such
meeting is held for such purpose within sixty (60) days after having been so
called and such determination is made thereat.
(f) Indemnitee shall cooperate with the person, persons or entity
making such determination with respect to Indemnitee's entitlement to
indemnification, including providing to such person, persons or entity upon
reasonable advance request any documentation or information which is not
privileged or otherwise protected from disclosure and which is reasonably
available to Indemnitee and reasonably necessary to such determination. Any
Independent Counsel, member of the Board of Directors, or stockholder of the
Company shall act reasonably and in good faith in making a determination under
the Agreement of the Indemnitee's entitlement to indemnification. Any costs or
expenses (including attorneys' fees and disbursements) incurred by Indemnitee in
so cooperating with the person, persons or entity making such determination
shall be borne by the Company (irrespective of the determination as to
Indemnitee's entitlement to indemnification) and the Company hereby indemnifies
and agrees to hold Indemnitee harmless therefrom.
(g) The Company acknowledges that a settlement or other disposition
short of final judgment may be successful if it permits a party to avoid
expense, delay, distraction, disruption and uncertainty. In the event that any
action, claim or proceeding to which Indemnitee is a party is resolved in any
manner other than by adverse judgment against Indemnitee (including, without
limitation, settlement of such action, claim or proceeding with or without
payment of money or other consideration) it shall be presumed that Indemnitee
has been successful on the merits or otherwise in such action, suit or
proceeding. Anyone seeking to overcome this presumption shall have the burden of
proof and the burden of persuasion, by clear and convincing evidence.
7. Remedies of Indemnitee.
(a) In the event that (i) a determination is made pursuant to Section
6 of this Agreement that Indemnitee is not entitled to indemnification under
this Agreement, (ii) advancement of Expenses is not timely made pursuant to
Section 5 of this Agreement, (iii) no determination of entitlement to
indemnification shall have been made pursuant to Section 6(b) of this Agreement
within 90 days after receipt by the Company of the request for indemnification,
(iv) payment of indemnification is not made pursuant to this Agreement within
ten (10) days after receipt by the Company of a written request therefor, or (v)
payment of indemnification is not made within ten (10) days after a
determination has been made that Indemnitee is entitled to indemnification or
such determination is deemed to have been made pursuant to Section 6 of this
Agreement, Indemnitee shall be entitled to an adjudication in an appropriate
court of the State of Delaware, or in any other court of competent jurisdiction,
of his entitlement to such indemnification. Indemnitee shall commence such
proceeding seeking an adjudication within 180 days following the date on which
Indemnitee first has the right to commence such proceeding pursuant to this
Section 7(a). The Company shall not oppose Indemnitee's right to seek any such
adjudication.
6
<PAGE> 7
(b) In the event that a determination shall have been made pursuant
to Section 6(b) of this Agreement that Indemnitee is not entitled to
indemnification, any judicial proceeding commenced pursuant to this Section 7
shall be conducted in all respects as a de novo trial, on the merits and
Indemnitee shall not be prejudiced by reason of that adverse determination under
Section 6(b).
(c) If a determination shall have been made pursuant to Section 6(b)
of this Agreement that Indemnitee is entitled to indemnification, the Company
shall be bound by such determination in any judicial proceeding commenced
pursuant to this Section 7, absent a prohibition of such indemnification under
applicable law.
(d) In the event that Indemnitee, pursuant to this Section 7, seeks a
judicial adjudication of his rights under, or to recover damages for breach of,
this Agreement, or to recover under any directors' and officers' liability
insurance policies maintained by the Company the Company shall pay on his
behalf, in advance, any and all expenses (of the types described in the
definition of Expenses in Section 13 of this Agreement) actually and reasonably
incurred by him in such judicial adjudication, regardless of whether Indemnitee
ultimately is determined to be entitled to such indemnification, advancement of
expenses or insurance recovery.
(e) The Company shall be precluded from asserting in any judicial
proceeding commenced pursuant to this Section 7 that the procedures and
presumptions of this Agreement are not valid, binding and enforceable and shall
stipulate in any such court that the Company is bound by all the provisions of
this Agreement.
8. Non-Exclusivity; Survival of Rights; Insurance; Subrogation.
(a) The rights of indemnification as provided by this Agreement shall
not be deemed exclusive of any other rights to which Indemnitee may at any time
be entitled under applicable law, the certificate of incorporation of the
Company, the Bylaws, any agreement, a vote of stockholders or a resolution of
directors, or otherwise. No amendment, alteration or repeal of this Agreement or
of any provision hereof shall limit or restrict any right of Indemnitee under
this Agreement in respect of any action taken or omitted by such Indemnitee in
his Corporate Status prior to such amendment, alteration or repeal. To the
extent that a change in the Law, whether by statute or judicial decision,
permits greater indemnification than would be afforded currently under the
Bylaws and this Agreement, it is the intent of the parties hereto that
Indemnitee shall enjoy by this Agreement the greater benefits so afforded by
such change. No right or remedy herein conferred is intended to be exclusive of
any other right or remedy, and every other right and remedy shall be cumulative
and in addition to every other right and remedy given hereunder or now or
hereafter existing at law or in equity or otherwise. The assertion or employment
of any right or remedy hereunder, or otherwise, shall not prevent the concurrent
assertion or employment of any other right or remedy.
(b) To the extent that the Company maintains an insurance policy or
policies providing liability insurance for directors, officers, employees, or
agents or fiduciaries of the Company or of any other corporation, partnership,
joint venture, trust, employee benefit plan or other enterprise which such
person serves at the request of the Company, Indemnitee shall be
7
<PAGE> 8
covered by such policy or policies in accordance with its or their terms to the
maximum extent of the coverage available for any such director, officer,
employee or agent under such policy or policies.
(c) In the event of any payment under this Agreement, the Company
shall be subrogated to the extent of such payment to all of the rights of
recovery of Indemnitee, who shall execute all papers required and take all
action necessary to secure such rights, including execution of such documents as
are necessary to enable the Company to bring suit to enforce such rights.
(d) The Company shall not be liable under this Agreement to make any
payment of amounts otherwise indemnifiable hereunder if and to the extent that
Indemnitee has otherwise actually received such payment under any insurance
policy, contract, agreement or otherwise.
9. Exception to Right of Indemnification. Notwithstanding any other
provision of this Agreement, Indemnitee shall not be entitled to indemnification
under this Agreement with respect to any Proceeding brought by Indemnitee, or
any claim therein, unless (a) the bringing of such Proceeding or making of such
claim shall have been approved by the Board of Directors of the Company or (b)
such Proceeding is being brought by the Indemnitee to assert, interpret or
enforce his rights under this Agreement.
10. Duration of Agreement. All agreements and obligations of the Company
contained herein shall continue during the period Indemnitee is an officer or
director of the Company (or is or was serving at the request of the Company as a
director, officer, employee or agent of another corporation, partnership, joint
venture, trust or other enterprise) and shall continue thereafter so long as
Indemnitee shall be subject to any Proceeding (or any proceeding commenced under
Section 7 hereof) by reason of his Corporate Status, whether or not he is acting
or serving in any such capacity at the time any liability or expense is incurred
for which indemnification can be provided under this Agreement. This Agreement
shall be binding upon and inure to the benefit of and be enforceable by the
parties hereto and their respective successors (including any direct or indirect
successor by purchase, merger, consolidation or otherwise to all or
substantially all of the business or assets of the Company), assigns, spouses,
heirs, executors and personal and legal representatives. This Agreement shall
continue in effect regardless of whether Indemnitee continues to serve as an
officer or director of the Company or any other Enterprise at the Company's
request.
11. Security. To the extent requested by the Indemnitee and approved by
the Board of Directors of the Company, the Company may at any time and from time
to time provide security to the Indemnitee for the Company's obligations
hereunder through an irrevocable bank line of credit, funded trust or other
collateral. Any such security, once provided to the Indemnitee, may not be
revoked or released without the prior written consent of the Indemnitee.
12. Enforcement.
(a) The Company expressly confirms and agrees that it has entered
into this Agreement and assumed the obligations imposed on it hereby in order to
induce
8
<PAGE> 9
Indemnitee to serve as an officer or director of the Company, and the Company
acknowledges that Indemnitee is relying upon this Agreement in serving as an
officer or director of the Company.
(b) This Agreement constitutes the entire agreement between the
parties hereto with respect to the subject matter hereof and supersedes all
prior agreements and understandings, oral, written and implied, between the
parties hereto with respect to the subject matter hereof.
13. Definitions. For purposes of this Agreement:
(a) "Corporate Status" describes the status of a person who is or was
a director, officer, employee or agent or fiduciary of the Company or of any
other corporation, partnership, joint venture, trust, employee benefit plan or
other enterprise which such person is or was serving at the express written
request of the Company.
(b) "Disinterested Director" means a director of the Company who is
not and was not a party to the Proceeding in respect of which indemnification is
sought by Indemnitee.
(c) "Enterprise" shall mean the Company and any other corporation,
partnership, joint venture, trust, employee benefit plan or other enterprise of
which Indemnitee is or was serving at the express written request of the Company
as a director, officer, employee, agent or fiduciary.
(d) "Expenses" shall include all reasonable attorneys' fees,
retainers, court costs, transcript costs, fees of experts, witness fees, travel
expenses, duplicating costs, printing and binding costs, telephone charges,
postage, delivery service fees, and all other disbursements or expenses of the
types customarily incurred in connection with prosecuting, defending, preparing
to prosecute or defend, investigating, participating, or being or preparing to
be a witness in a Proceeding.
(e) "Independent Counsel" means a law firm, or a member of a law
firm, that is experienced in matters of corporation law and neither presently
is, nor in the past five years has been, retained to represent: (i) the Company
or Indemnitee in any matter material to either such party (other than with
respect to matters concerning the Indemnitee under this Agreement, or of other
indemnitees under similar indemnification agreements), or (ii) any other party
to the Proceeding giving rise to a claim for indemnification hereunder.
Notwithstanding the foregoing, the term "Independent Counsel" shall not include
any person who, under the applicable standards of professional conduct then
prevailing, would have a conflict of interest in representing either the Company
or Indemnitee in an action to determine Indemnitee's rights under this
Agreement. The Company agrees to pay the reasonable fees of the Independent
Counsel referred to above and to fully indemnify such counsel against any and
all Expenses, claims, liabilities and damages arising out of or relating to this
Agreement or its engagement pursuant hereto.
(f) "Proceeding" includes any threatened, pending or completed
action, suit, arbitration, alternate dispute resolution mechanism,
investigation, inquiry,
9
<PAGE> 10
administrative hearing or any other actual, threatened or completed proceeding,
whether brought by or in the right of the Company or otherwise and whether
civil, criminal, administrative or investigative, in which Indemnitee was, is or
will be involved as a party or otherwise, by reason of the fact that Indemnitee
is or was a director of the Company, by reason of any action taken by him or of
any inaction on his part while acting as an officer or director of the Company,
or by reason of the fact that he is or was serving at the request of the Company
as a director, officer, employee or agent of another corporation, partnership,
joint venture, trust or other Enterprise; in each case whether or not he is
acting or serving in any such capacity at the time any liability or expense is
incurred for which indemnification can be provided under this Agreement;
including one pending on or before the date of this Agreement; and excluding one
initiated by an Indemnitee pursuant to Section 7 of this Agreement to enforce
his rights under this Agreement.
14. Severability. If any provision or provisions of this Agreement shall
be held by a court of competent jurisdiction to be invalid, void, illegal or
otherwise unenforceable for any reason whatsoever: (a) the validity, legality
and enforceability of the remaining provisions of this Agreement (including
without limitation, each portion of any section of this Agreement containing any
such provision held to be invalid, illegal or unenforceable, that is not itself
invalid, illegal or unenforceable) shall not in any way be affected or impaired
thereby and shall remain enforceable to the fullest extent permitted by law; and
(b) to the fullest extent possible, the provisions of this Agreement (including,
without limitation, each portion of any section of this Agreement containing any
such provision held to be invalid, illegal or unenforceable, that is not itself
invalid, illegal or unenforceable) shall be construed so as to give effect to
the intent manifested thereby.
15. Modification and Waiver. No supplement, modification, termination or
amendment of this Agreement shall be binding unless executed in writing by both
of the parties hereto. No waiver of any of the provisions of this Agreement
shall be deemed or shall constitute a waiver of any other provisions hereof
(whether or not similar) nor shall such waiver constitute a continuing waiver.
16. Notice By Indemnitee. Indemnitee agrees promptly to notify the Company
in writing upon being served with any summons, citation, subpoena, complaint,
indictment, information or other document relating to any Proceeding or matter
which may be subject to indemnification covered hereunder. The failure to so
notify the Company shall not relieve the Company of any obligation which it may
have to the Indemnitee under this Agreement or otherwise unless and only to the
extent that such failure or delay materially prejudices the Company.
17. Notices. All notices, requests, demands and other communications
hereunder shall be in writing and shall be deemed to have been duly given if (i)
delivered by hand and receipted for by the party to whom said notice or other
communication shall have been directed, or (ii) mailed by certified or
registered mail with postage prepaid, on the third business day after the date
on which it is so mailed:
(a) If to Indemnitee, to the address set forth below Indemnitee
signature hereto.
10
<PAGE> 11
(b) If to the Company, to:
------------------------------
------------------------------
------------------------------
Attention:
--------------------
or to such other address as may have been furnished to Indemnitee by the Company
or to the Company by Indemnitee, as the case may be.
18. Identical Counterparts. This Agreement may be executed in one or more
counterparts, each of which shall for all purposes be deemed to be an original
but all of which together shall constitute one and the same Agreement. Only one
such counterpart signed by the party against whom enforceability is sought needs
to be produced to evidence the existence of this Agreement.
19. Headings. The headings of the paragraphs of this Agreement are
inserted for convenience only and shall not be deemed to constitute part of this
Agreement or to affect the construction thereof.
20. Governing Law. The parties agree that this Agreement shall be governed
by, and construed and enforced in accordance with, the laws of the State of
Delaware without application of the conflict of laws principles thereof.
21. Gender. Use of the masculine pronoun shall be deemed to include usage
of the feminine pronoun where appropriate.
11
<PAGE> 12
IN WITNESS WHEREOF, the parties hereto have executed this Agreement on and
as of the day and year first above written.
COMPANY
By:
-----------------------------------
Name:
---------------------------------
Title:
--------------------------------
INDEMNITEE
--------------------------------------
Name:
---------------------------------
Address:
------------------------------
------------------------------
------------------------------
------------------------------
<PAGE> 1
Exhibit 23.1
Independent Auditors' Consent
We consent to the use in this Registration Statement of Next Level
Communications, Inc. on Form S-1 of our report dated August 25, 1999, appearing
in the Prospectus, which is part of this Registration Statement.
Deloitte & Touche LLP
San Francisco, California
August 25, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS AND NOTES THERETO INCLUDED IN THE COMPANY'S REGISTRATION
STATEMENT ON FORM S-1 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
REGISTRATION STATEMENT ON FORM S-1.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> YEAR 6-MOS
<FISCAL-YEAR-END> DEC-31-1998 DEC-31-1999
<PERIOD-START> JAN-01-1998 JAN-01-1999
<PERIOD-END> DEC-31-1998 JUN-30-1999
<CASH> 28,983 34,722
<SECURITIES> 0 0
<RECEIVABLES> 11,558 8,749
<ALLOWANCES> 490 488
<INVENTORY> 20,670 28,506
<CURRENT-ASSETS> 69,829 75,622
<PP&E> 32,772 36,989
<DEPRECIATION> (11,214) (14,550)
<TOTAL-ASSETS> 97,771 103,793
<CURRENT-LIABILITIES> 31,265 39,012
<BONDS> 0 0
0 0
0 0
<COMMON> 0 0
<OTHER-SE> (14,769) (19,566)
<TOTAL-LIABILITY-AND-EQUITY> 97,771 103,793
<SALES> 43,830 18,190
<TOTAL-REVENUES> 43,830 18,190
<CGS> 43,433 16,740
<TOTAL-COSTS> 121,767 54,175
<OTHER-EXPENSES> (2,241) (572)
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> (6,035) (3,384)
<INCOME-PRETAX> (81,731) (38,797)
<INCOME-TAX> 0 0
<INCOME-CONTINUING> (81,731) (38,797)
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (81,731) (38,797)
<EPS-BASIC> 0 0
<EPS-DILUTED> 0 0
</TABLE>
