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Filed pursuant to Rule 424(b)(4)
Registration No. 333-86965
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PROSPECTUS
SEPTEMBER 28, 1999
(PARADYNE LOGO)
5,000,000 SHARES OF COMMON STOCK
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PARADYNE NETWORKS, INC.:
- - We make products and provide services to facilitate high-speed transmission of
information over conventional telephone lines.
- - Paradyne Networks, Inc.
8545 126th Avenue North
Largo, Florida 33773
(727) 530-2000
TRADING SYMBOL & MARKET:
- - PDYN/Nasdaq
THE OFFERING:
- - A group of stockholders is offering 5,000,000 shares of our common stock.
- - We will not receive any proceeds from this offering unless the underwriters
exercise an option to purchase an additional 500,000 shares from us to cover
over-allotments.
- - On September 28, 1999, the last reported sale price of our common stock was
$31.13 per share.
- - Closing: October 4, 1999.
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Per Share Total
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Public offering price: $31.00 $155,000,000
Underwriting fees: 1.40 7,000,000
Proceeds to the selling stockholders: 29.60 148,000,000
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THIS INVESTMENT INVOLVES RISK. SEE "RISK FACTORS" BEGINNING ON PAGE 4.
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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.
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DONALDSON, LUFKIN & JENRETTE
BANCBOSTON ROBERTSON STEPHENS
DAIN RAUSCHER WESSELS
A DIVISION OF DAIN
RAUSCHER INCORPORATED
RAYMOND JAMES & ASSOCIATES, INC.
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INSIDE COVER GRAPHICS:
- Diagram depicting customers using Paradyne broadband access solutions to
connect to the Internet and corporate intranets.
The graphic is entitled "Paradyne Broadband Access Solutions" with a
statement at the bottom "High-Speed Access and Service Level Management.
Changing the Way the World Communicates."
Diagram includes the following description of these solutions:
- Frame Relay Service Level Management. Our FrameSaver solution enables
Frame Relay service providers to offer high-speed service, managed
end-to-end. It also enables customers to graphically view real-time and
historical network performance statistics, and trouble-shoot failures
across the Frame Relay network from our Open Lane network management
system.
- High-Speed DSL for Voice and Data. Our Hotwire solution delivers
broadband DSL access across the existing phone line. Hotwire products
enable network service providers to offer broadband access to business
customers and teleworkers at lower rates than conventional services.
- Network Service Providers. The final mile ends at the local central
office, where access lines converge into a high-speed fiber-optic network
called a "backbone" network.
- Business Voice and Data. Our NextEdge products are used by network
service providers and businesses to offer integrated voice and data
services, plus managed Frame Relay services. NextEdge access
consolidation reduces high-speed access costs, and may increase
performance when consolidating narrowband lines into broadband
facilities.
- Small Business and Residential Voice and Data. The SuperLine System
integrates voice and broadband data services for the residential and
small office/home office markets. SuperLine provides up to three phone
lines and high-speed internet access over a single telephone line.
- Diagram and photographs depicting Paradyne Hotwire DSL solutions
connecting customers' voice and data to the public switched telephone
network and to the Internet over the copper local loop.
The graphic is entitled "Paradyne Hotwire DSL Systems, Broadband for the
Last Mile." The graphic includes the following description:
- High-Speed Access for Business and Residential Users. Our Hotwire
solution delivers broadband DSL access across the copper wire last mile.
Hotwire products enable network service providers to provide broadband
access to business customers, teleworkers and residential customers at
reduced rates compared to conventional service offerings. In addition,
our Hotwire solution allows network service providers the ability to
deploy a broad array to serve a wider array of customers, and also allows
for a more efficient utilization of expensive control office equipment
space.
- Diagram and photographs depicting Paradyne FrameSaver customer premise
equipment and service level management network management screens.
The graphic is entitled "Paradyne FrameSaver System, Broadband Service
Level Management." The graphic includes the following description:
- Optimizing End-to-End Network Performance. The FrameSaver solution
enables network service providers to offer managed high-speed service
from end-to-end across their networks and across multicarrier networks.
With an SLM solution, the network service provider and the business
customer can proactively manage and guarantee the level of service across
the network. The FrameSaver solution allows customers to graphically view
real-time and historical network performance statistics and troubleshoot
failures end-to-end across the Frame Relay network from our OpenLane
network management system.
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TABLE OF CONTENTS
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PAGE
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Prospectus Summary....................... 1
Risk Factors............................. 4
Special Note Regarding Forward-Looking
Statements............................. 16
Use of Proceeds.......................... 17
Price Range of Common Stock.............. 17
Dividend Policy.......................... 17
Company Information...................... 17
Capitalization........................... 18
Dilution................................. 19
Selected Consolidated Financial Data..... 20
Management's Discussion and Analysis of
Financial Condition and Results of
Operations............................. 21
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Business................................. 34
Management............................... 56
Certain Transactions..................... 67
Principal and Selling Stockholders....... 76
Description of Capital Stock............. 79
Shares Eligible for Future Sale.......... 81
Underwriting............................. 83
Legal Matters............................ 86
Experts.................................. 86
How to Get Additional Information about
Paradyne............................... 86
Index to Financial Statements............ F-1
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PROSPECTUS SUMMARY
This summary highlights selected information contained elsewhere in this
prospectus. This summary is not complete and does not contain all of the
information that you should consider before buying shares in this offering. We
urge you to read the entire prospectus carefully. Unless stated otherwise, the
information contained in this prospectus assumes that the Underwriters'
over-allotment option to purchase 500,000 shares from us is not exercised.
OUR BUSINESS
Paradyne Networks, through its wholly-owned subsidiary, Paradyne
Corporation, is a leading developer, manufacturer and distributor of broadband,
or high-speed digital, and narrowband, or conventional analog, communications
products for network service providers and business customers. We offer
cost-effective hardware and software products that enable business class,
service level managed, high-speed connectivity over the existing telephone
network infrastructure. We believe that demand for high-speed, broadband
transmission will continue to increase as more business and residential users
find narrowband access technologies inadequate to meet their high-speed
requirements. Our objective is to maintain and build upon our position as one of
the leaders in the broadband access market by focusing on next generation
digital subscriber line, more commonly known as DSL, service level management,
more commonly known as SLM, and other broadband access products. We have a long
history of technological innovation, and we hold over 160 U.S. patents and have
over 100 U.S. patent applications pending. We have sold our products to over 50%
of the Fortune 500 companies and to businesses and network service providers in
over 125 countries.
Since 1996, various DSL products and technologies have been introduced into
the market to increase the speed and reduce the complexity of deploying
high-speed data and voice services over the traditional copper telephone
infrastructure. DSL products are installed on each end of a telephone line and
simultaneously permit high-speed data transmission and voice services. The
advantages of DSL include the ability to be deployed on the existing copper
infrastructure worldwide, to operate at higher speeds for less cost, and to
allow network service providers to offer services that are "always-on" and don't
require the user to initiate a new connection each time the service is used.
Various SLM products and technologies have been developed over the past
several years to allow network managers to obtain critical information regarding
the performance of their networks. Frame Relay is a technology that puts data
into packets, or envelopes, and transports the data across a network that is
shared by many customers. In many cases, SLM technology allows network managers
who purchase shared data services, such as Frame Relay, to obtain information
about their portion of the shared service. Before SLM, this information was
unavailable and network managers were not able to confidently evaluate the
performance of critical applications over shared services.
Over the past several years, data traffic generated by computer users
accessing the Internet or business networks has increased significantly and is
expected to continue in the future. As a result of changes in the
telecommunications industry and the increased demand for high-speed
transmission, network service providers are requiring flexible solutions that
meet their current needs and permit easy, cost-effective enhancements in the
future.
Our current hardware and software products include the following:
- Broadband DSL. Our Hotwire hardware products deliver broadband DSL
access across the existing copper wire infrastructure, more commonly
known as the local loop. Our Hotwire products enable network service
providers to provide broadband access services to business customers,
teleworkers and residential customers at substantially reduced rates
compared to conventional service offerings. The recently introduced
SuperLine system was jointly developed by Paradyne and AG Communications
Systems. Superline incorporates Paradyne's Tripleplay technology that
allows network service providers to offer cost effective, multiple line
voice and high speed data services over a single traditional telephone
line to residential customers, small offices and home offices.
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- Broadband Service Level Management. The FrameSaver solution consists of
a suite of software and hardware products that enable customers to view
performance statistics and troubleshoot failures across the Frame Relay
network.
- Broadband Conventional Access. Our Acculink and NextEdge products enable
network service providers and business customers to offer cost-effective,
service level managed, high-speed access to public and private networks.
- Narrowband Products. Introduced in the early 1990s, our Comsphere modems
enable network service providers and business customers to build
low-cost, centrally managed networks over dial up or dedicated analog
circuits.
The end-users of our equipment are primarily network service providers and
business customers. Network service providers use our broadband products to
enable high-speed managed connections between the network service providers'
central office and the customer premise. Moreover, our broadband products enable
network service providers to more efficiently provide network access services by
allowing a high level of management, monitoring and control over network access
equipment and circuits. Business customers use our broadband products for
high-speed connections of voice and data communications to connect their
employees to corporate networks and to the Internet using both public services
and private leased line services provided by network service providers. We sell
our products worldwide through a multi-tier distribution system that includes
direct sales, strategic partner sales, network service provider sales and
traditional distributor or value added reseller sales. Our network service
providers and business customers include AT&T, Ameritech, Bank of America, First
Union, Lucent, NTT, Rhythms, SITA, Sprint and Unisys.
Paradyne Corporation was originally incorporated in Delaware in 1969,
acquired by AT&T in 1989 and spun out of AT&T as part of Lucent Technologies in
1996. In July 1996, a limited partnership controlled by the Texas Pacific Group
acquired Paradyne Corporation and formed Paradyne Acquisition Corp. as a holding
company to hold the shares of common stock of Paradyne Corporation. In June
1999, Paradyne Acquisition Corp. changed its name to Paradyne Networks, Inc. Our
corporate headquarters are located at 8545 126th Avenue North, Largo, Florida
33773. Our telephone number is (727) 530-2000.
THE OFFERING
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Common stock offered by the selling
stockholders............................... 5,000,000 shares
Over-allotment option........................ 500,000 shares
Common stock to be outstanding after the
offering................................... 30,676,745 shares (1)
Use of proceeds.............................. We will not receive any proceeds from the
shares sold by the selling stockholders. In
the event the underwriters exercise the
over-allotment option, we intend to use the
net proceeds received by us for general
corporate purposes, including working capital
and capital expenditures. See "Use of
Proceeds."
Nasdaq National Market symbol................ PDYN
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(1) Based on the number of shares outstanding as of August 31, 1999. Assumes no
exercise of stock options after that date. Options to purchase 3,424,275
shares of common stock with a weighted average exercise price of $4.26 per
share were outstanding as of August 31, 1999.
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SUMMARY CONSOLIDATED FINANCIAL DATA
You should read the following summary consolidated financial data for
Paradyne together with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and our consolidated financial statements
and notes thereto included elsewhere in this prospectus. The pro forma balance
sheet data reflects the sale by us in July 1999 of 4,000,000 shares of our
common stock in our initial public offering at an initial public offering price
of $17.00 per share, after deducting underwriting discounts and commissions and
offering expenses, and the application of the net proceeds therefrom. See
"Capitalization."
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YEARS ENDED QUARTERS ENDED
DECEMBER 31, ---------------------------------------------------------------
------------------- JUNE 30, SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30,
1997 1998 1998 1998 1998 1999 1999
(IN THOUSANDS, EXCEPT PER SHARE DATA)
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CONSOLIDATED STATEMENTS OF
OPERATIONS DATA
Total Revenues............ $181,303 $198,801 $46,218 $51,384 $58,160 $54,062 $52,780
Gross margin.............. 89,815 90,260 22,214 22,471 24,583 24,096 22,681
Operating income (loss)... (15,580) (1,825) (1,226) (174) 547 1,465 (321)
Net income (loss)(1)...... 21,342 (3,645) (1,397) (339) (758) 2,368 (610)
Income (loss) per common
share:
Basic................... $ 0.84 $ (0.14) $ (0.05) $ (0.01) $ (0.03) $ 0.09 $ (0.02)
Diluted................. 0.81 (0.14) (0.05) (0.01) (0.03) 0.09 (0.02)
Shares used in computing
income (loss) per share:
Basic................... 25,552 25,623 25,610 25,627 25,663 25,893 26,356
Diluted................. 26,291 25,623 25,610 25,627 25,663 27,227 26,356
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AS OF JUNE 30, 1999
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ACTUAL PRO FORMA
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CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents................................... $ 3,663 $ 56,030
Working capital............................................. 14,093 75,333
Total assets................................................ 71,733 124,100
Total debt.................................................. 9,646 773
Total stockholders' equity.................................. 32,363 93,603
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(1) Net income for 1997 includes a $51,200 non-recurring gain in connection with
the renegotiation of a contract with Lucent.
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RISK FACTORS
This offering and an investment in our common stock involve a high degree
of risk. Please carefully consider the following risk factors and the other
information in this prospectus before deciding to purchase shares of our common
stock. Any of the following risks could seriously harm our business and results
of operations. As a result, the trading price of our common stock could decline,
and you could lose part or all of your investment.
RAPID TECHNOLOGICAL CHANGE COULD RENDER OUR PRODUCTS OBSOLETE
The telecommunications and data communications markets are characterized by
rapid technological change. Our success will depend on our ability to adapt and
to respond to technological changes. If we fail to keep pace with technological
change, our product sales could suffer.
Our existing products could become obsolete or unmarketable as a result of
the emergence of new industry standards or customer demands. For example, our
customers could determine that they no longer require service level management,
or SLM, with network access products. Furthermore, our products could become
obsolete or unmarketable as a result of any new technology or products which are
superior to ours. We may be unable to compete effectively if we are unable to
adapt to changes in industry standards, meet customer demands or develop new
products or enhancements to existing products.
Our products compete with numerous high-speed access technologies,
including cable modems, satellite technology and other wireless technologies.
These competing technologies may ultimately prove to be superior to our
products. Our products may become uncompetitive or obsolete as a result of the
development of competing technologies that are more reliable, faster and less
expensive than our technology. For example, substantially all of our products
are deployed in networks that use standard copper telephone wires. The physical
properties of copper wire limit the speed and distance over which data can be
transmitted. Service levels degrade as distance from the central switching
station increases. Other competing technologies, such as wireless and cable are
not subject to such limitations.
OUR SUCCESS WILL DEPEND ON THE ACCEPTANCE OF NEW TELECOMMUNICATIONS SERVICES
BASED ON DSL
Our future success is substantially dependent upon whether DSL technology
gains widespread market acceptance by network service providers, or NSPs, and
end users of their services. If DSL technology fails to gain widespread
acceptance, our revenues and results of operations may be adversely affected.
Historically, we focused on providing innovative solutions to the narrowband
access market. We, however, are increasingly focusing on the broadband access
market. We have invested substantial resources in the development of DSL
technology, and many of our products are based on DSL technology. Many NSPs
continue to evaluate DSL technology and other alternative high-speed data access
technologies, but they may not continue to pursue the deployment of DSL
technology. Even if NSPs adopt policies favoring full-scale deployment of DSL
technology, they may not choose to purchase our DSL product offerings. In
addition, we have limited ability to influence or control decisions made by
NSPs. NSPs are continuously evaluating alternate high-speed data access
technologies and may, at any time, adopt technologies other than the DSL
technologies offered by us.
WE ARE SUBSTANTIALLY DEPENDENT ON NETWORK SERVICE PROVIDERS, WHO MAY REDUCE OR
DISCONTINUE THEIR PURCHASE OF PRODUCTS OR SERVICES AT ANY TIME
We estimate that sales to NSPs accounted for approximately 40% of our total
revenues in 1998. If our NSP customers are forced to defer or curtail their
capital spending programs, we could lose, or experience delays or reductions in
significant sales to such customers. Given the capital requirements, complex
regulatory framework and other barriers to entry in the market, there are a
limited number of NSPs. The market for many of the services provided by NSPs has
only begun to emerge since the passage of the Telecommunications Act of 1996 and
many NSPs are still building their infrastructure and rolling out their
services. Many of these NSPs still need to develop, construct and expand their
networks. The inability of our emerging NSP customers to complete development of
their networks, attract or retain customers, respond to
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trends, such as price reductions for their services or diminished demand for
telecommunications services generally, could cause them to reduce their capital
spending programs.
Generally, our NSP customers do not have an obligation to purchase
additional products or services from us. Termination of purchase arrangements
with these NSP customers or a significant reduction or delay in the amount of
our products they order could materially and adversely affect our revenues. In
addition, the telecommunications industry has recently experienced
consolidation, which may cause us to lose NSP customers. The loss of one or more
of our NSP customers could also materially and adversely affect our revenues.
OUR SUCCESS DEPENDS ON NETWORK SERVICE PROVIDERS INCORPORATING OUR PRODUCTS INTO
THEIR INFRASTRUCTURE
We anticipate that a significant portion of our future revenues will be
attributable to sales to NSPs of our DSL, SLM and other broadband products. Our
future performance will therefore be substantially dependent on incorporation of
our products by NSPs into their service offerings to subscribers. In particular,
while SuperLine has recently been introduced to the market, it has had only
limited sales to date and has not yet been widely incorporated by NSPs into
their service offerings. We cannot predict whether SuperLine will be widely
adopted by NSPs. The failure of our products to become an accepted part of NSPs'
service offerings or a slower than expected increase in the volume of sales by
us of SLM products could materially and adversely affect our revenues. Our
success in the NSP market will depend on numerous factors, many of which are
outside our control. Some of these factors include:
- NSP and subscriber acceptance of and satisfaction with our products;
- the realization of operating cost efficiencies for NSPs when SLM products
are deployed and our ability to demonstrate these operational benefits;
- subscriber demand for our products and support for our products within
the NSPs' sales force;
- our successful development of systems and products that address the
requirements for products deployed as part of an NSP's infrastructure;
- the timing and successful completion of integration development work by
NSPs to incorporate our SLM functionality into their operational support
system; and
- the absence of new technologies that make our products and systems
obsolete before they can achieve broad acceptance.
VARIOUS FACTORS COULD CAUSE OUR RESULTS TO FLUCTUATE
Paradyne's quarterly and annual results of operations have fluctuated in
the past and are likely to fluctuate significantly in the future due to a
variety of factors, many of which are outside of our control. Fluctuations in
our results could cause our stock price to decline substantially. Some of these
factors that might affect our results of operations include:
- - The timing and amount of, or cancellation or rescheduling of, orders for our
products and services to existing and new customers. This may adversely
affect our operating results in any particular quarter if we were unable to
recognize revenue for a particular sale in the quarter in which such sale was
expected.
- - Our ability to develop, introduce, ship and support new products and product
enhancements and manage product transitions on a timely basis. Our failure to
accomplish these tasks could render our products obsolete or non-competitive,
particularly since technology in our industry changes often. As a result,
customers may decide to purchase competitive products, which could cause our
revenues to suffer.
- - Announcements, new product introductions and reductions in price of products
offered by our competitors. These events could also cause our customers to
decide to purchase the products of our competitors which would adversely
affect our revenues and, therefore, our results of operations. Also, we may
feel it necessary to reduce prices of our products, which could impact
operating margins and net income.
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- - Our ability to achieve cost reductions. As with all companies, we constantly
strive to improve our margins through reductions in our cost of sales. Failure
to reduce our costs could reduce our margins which in turn could adversely
affect our ability to operate profitably.
- - Our ability to obtain sufficient supplies of sole or limited source components
for our products. If we cannot obtain components for our products, we may be
unable to produce sufficient quantities of our products to meet demand. As a
result, our revenues could be adversely affected. This is particularly true
with respect to obtaining sole or limited source components because
replacement sources, if any, will take time to identify.
- - The timing and rate of deployment of our products by NSPs. The timing and
rate of deployment by NSPs can affect sales of products to these NSPs and, in
turn, our operating results.
- - Preferential pricing arrangements. We have preferential pricing arrangements
with some of our customers. In our effort to win new business we may negotiate
preferential pricing arrangements in the future with other customers. While
these arrangements are intended to provide greater revenue, they will have a
negative impact on our margins. Furthermore, because our strategy relies on
entering into these arrangements in the future, if we fail to do so, our
results could be below expectations.
- - Our ability to attain and maintain production volumes and quality levels for
our products. Many factors could affect our ability to maintain production
volumes and quality levels. They include an inability to obtain raw materials
or components, labor shortages, and the maintenance of adequate facilities for
production. If we fail to maintain production volumes or quality level we may
be unable to produce sufficient quantities of our products to meet demand,
which would adversely affect our revenues.
- - The mix of products sold and the mix of distribution channels through which
they are sold. The mix of products sold can adversely affect our results.
Margins vary within our newer and older products. If we fail to successfully
sell our higher margin products, our gross margins may be lower than expected.
In addition, some distribution channels have higher costs associated with
sales. As a result, the mix of distribution channels may adversely affect
operating income.
- - Fluctuations in demand for our products and services, especially by our major
customers. Because we are highly dependent on sales to a relatively small
numbers of customers, changes in demand from those customers can have a
disproportionately large effect on our revenues and results of operations. For
example, direct and indirect product sales to, and services performed for,
Lucent constituted approximately 47% of our total revenues in 1998 and 27% in
the first six months of 1999. If Lucent's demand for our products during the
remainder of 1999 or in future years were to decline, our revenues would
suffer.
- - Expiration of favorable supply or purchase contracts. For example, we
currently have a supply agreement with Lucent under which we are the exclusive
supplier through June 2001 of Lucent's requirements for stand-alone network
access products for resale. As a result, Lucent must purchase these products
from us. Direct and indirect sales of these products to Lucent accounted for
approximately 46% of our total revenues in 1998 and 26% in the first six
months of 1999. After the expiration of the agreement, we may be unable to
negotiate a new supply agreement with similar exclusivity provisions. If we
are unable to negotiate a new supply agreement, Lucent could enter into a
supply agreement with another party or purchase these products from multiple
providers. In either case, our sales of these products would decline
substantially.
- - Costs relating to possible acquisitions and integration of technologies or
businesses. The costs to acquire technologies and businesses is substantial.
In addition to the direct costs, there are significant indirect costs related
to integration of personnel and technologies and potential product redesign.
These costs may decrease operating income or increase operating loss if they
are not offset by comparable increases in revenue.
In addition conditions in the telecommunications market, including
consolidation in the industry, and economic conditions generally could adversely
affect both our revenues and costs. Due to these and other factors,
period-to-period comparisons should not be relied upon as indications of future
performance. It is
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possible that in some future periods, our operating results and/or our growth
rate will be below what public market analysts and investors expect.
WE MAY NOT ACHIEVE REVENUE GROWTH OR PROFITABILITY
We cannot be certain that we will continue to achieve revenue growth or
realize sufficient revenues to achieve profitability. Excluding a one-time gain
in connection with a contract renegotiation with Lucent in 1997 and the related
tax effect, we had an accumulated net deficit of approximately $37.2 million
during the period from August 1, 1996 through December 31, 1998. We have not
been profitable in any fiscal year of operations except in 1997 when we were
profitable as a result of the non-recurring gain in connection with the
renegotiation of a contract with Lucent. We anticipate that we will continue to
incur significant product development and selling, general and administrative
expenses and, as a result, we will need to generate higher revenues to achieve
and sustain profitability on an annual basis.
OUR DEPENDENCE ON ONLY A FEW MAJOR CUSTOMERS FOR A SUBSTANTIAL PORTION OF OUR
REVENUES EXPOSES US TO FINANCIAL RISKS
We depend on a small number of customers for a substantial portion of our
revenues. As a result, a loss or a significant reduction or delay in sales to
any of our major customers could materially and adversely affect our revenues.
Direct product sales to Lucent and services performed for Lucent in 1998
accounted for approximately 35% of our total revenues. Sales to Tech Data
Corporation, a distributor, in 1998 accounted for approximately 15% of our total
revenues. We estimate that approximately 70% of our sales to Tech Data
represented products that were resold to Lucent. Collectively, we estimate that
direct and indirect sales to, and services performed for, Lucent accounted for
approximately 47% of our total revenues in 1998 and 27% in the first six months
of 1999. Sales to SITA, an NSP, in 1998 accounted for approximately 9% of our
total revenues in 1998 and 7% in the first six months of 1999, and sales to
Rhythms, also an NSP, accounted for approximately 6% of our total revenues in
1998 and 29% in the first six months of 1999. Unless and until we diversify and
expand our customer base, our future success will significantly depend upon
certain factors which are not within our control, including:
- - the timing and size of future purchase orders, if any, from our larger
customers;
- - the product requirements of our customers;
- - the financial and operational success of our customers; and
- - the success of our customers' services deployed using our products.
Diversification and expansion of our customer base is particularly critical
because of the highly competitive nature of our business. Our contracts are
generally subject to annual renewal with the exception of our contracts with
Lucent and several other customers, which have two to five year terms, and our
customers generally do not have any obligation to purchase products solely from
Paradyne. Under a supply agreement between Lucent and Paradyne, Paradyne is the
exclusive supplier of Lucent's requirements for stand alone network access
products, such as our FrameSaver products, for resale through June 2001.
WE COMPETE IN HIGHLY COMPETITIVE MARKETS AND COMPETITION COULD HARM OUR ABILITY
TO SELL PRODUCTS AND SERVICES
The telecommunications market is highly competitive. We compete directly
with other providers of broadband and narrowband access equipment. If we are
unable to compete effectively in the market for our products or services, our
revenue and future profitability could be materially and adversely affected. We
believe that competition may increase substantially as the introduction of new
technologies, deployment of broadband networks and potential regulatory changes
create new opportunities for established and emerging companies in the industry.
We expect that competition for products that address the broadband access market
will grow as more established and new companies focus on this market.
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Many of our current and potential competitors are larger than we are and
have significantly greater financial, sales and marketing, technical,
manufacturing and other resources and more established channels of distribution.
As a result, these competitors may be able to respond more rapidly to new or
emerging technologies and changes in customer requirements, or to devote greater
resources to the development, promotion and sale of their products. Our
competitors may enter our existing or future markets with solutions that may be
less costly, provide higher performance or additional features or be introduced
earlier than our solutions.
Our markets are characterized by increasing consolidation both within the
data communications sector and by companies combining or acquiring data
communications products and technology for delivering voice-related services, as
exemplified by the recently announced acquisitions of Ascend by Lucent, Diamond
Lane by Nokia and Xylan by Alcatel. We cannot be sure of the impact of any of
these acquisitions on the competitive environment for our products. Increased
competition and consolidation could result in price reductions and a decrease in
our market share.
OUR DEPENDENCE ON DEVELOPMENT RELATIONSHIPS COULD THREATEN OUR ABILITY TO SELL
PRODUCTS
Our success is dependent upon our continued relationship with certain
companies, including AG Communications Systems, Ascend, GlobeSpan, NetScout and
Xylan. If any of these companies breaches or terminates its agreement or fails
to perform its obligations under its agreement, we might not be able to sustain
or grow our business. In particular, if any of these companies, other current
corporate partners or future corporate partners discontinue their support of
products that we have developed in cooperation with them, fail to continue to
develop product enhancements required to meet customer demand, fail to
appropriately address performance issues related to products that we have
developed in cooperation with them, face claims of infringement of third party
intellectual property rights with respect to the technology included in products
that we have developed in cooperation with them or fail to continue to support
joint marketing programs, our ability to sell products that we have developed in
cooperation with them would be hampered. Additionally, in the event that any of
our significant relationships are terminated, we may not be able to replace them
in a timely manner, if at all.
For a further discussion of our corporate development relationships with AG
Communications Systems, Ascend, GlobeSpan, NetScout and Xylan please refer to
"Business -- Corporate Development Relationships."
OUR ABILITY TO SUSTAIN OR GROW OUR BUSINESS MIGHT BE HARMED IF WE LOSE SALES OF
ACCESS PRODUCTS TO LUCENT
We have a relationship with Premisys Communications through which we have
exclusive distribution rights through April 2005 for Premisys' IMACS system,
which we market to Lucent and AT&T under the name Acculink Access Controller. We
have also entered into a supply and exclusivity agreement with Lucent under
which we are the exclusive supplier of Lucent's requirements for various access
products, such as the Acculink Access Controller, for resale through June 2001.
Sales of Acculink Access Controller accounted for greater than 10% of our total
revenues during each of 1997 and 1998. Our revenues would be adversely affected
if Premisys fails to meet its obligations under the agreement or if Lucent or
AT&T were to substantially reduce or discontinue their orders of Acculink Access
Controller.
For a further discussion of our marketing and distribution relationship
with Premisys please refer to "Business -- Sales, Marketing and Distribution."
WE DEPEND ON SOLE AND SINGLE SOURCE SUPPLIERS WHICH EXPOSES US TO POTENTIAL
SUPPLY INTERRUPTION
We currently purchase a number of important parts, such as framers,
semiconductors and embedded communications processors, from sole source vendors
for which alternative sources are not currently available. Delays or
interruptions in the supply of these components result in delays or reductions
in product shipments. The purchase of these components from outside suppliers on
a sole source basis subjects us to risks, including the continued availability
of supplies, price increases and potential quality assurance problems. We
currently purchase key components for which there are currently no immediate
substitutes
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available from approximately 55 vendors. All of these components are critical to
the production of our products. While alternative suppliers may be available to
us, we must first identify these suppliers and qualify them. We cannot be
certain that any such suppliers will meet our required qualifications or that we
will be able to identify alternative suppliers in a timely fashion, if at all.
We may not be able to obtain sufficient quantities of these components on the
same or substantially the same terms. Consolidations involving suppliers could
further reduce the number of alternatives for us and affect the cost of such
supplies. An increase in the cost of such supplies could make our products less
competitive with products which do not incorporate such components. Lower
margins or less competitive product pricing could materially and adversely
affect our business, financial condition and results of operation.
OUR SALES CYCLE IS TYPICALLY LONG AND UNPREDICTABLE
Our business is subject to lengthy sales cycles. As a result, we may not
recognize revenues from the sale of our products for long periods of time.
Delays in product testing or approval, or cancellations of orders by customers,
especially our NSP customers, could materially and adversely affect our
revenues. On average, our sales cycle ranges from six to nine months. Sales of
our products require a substantial commitment of capital and time from our
customers, many of whom have lengthy internal procedures for approving large
capital expenditures and lengthy testing and decision-making processes. Before
our NSP customers purchase products from us, they must first make a decision to
standardize their service on a particular product, which involves extensive
testing. Our sales cycle may be slowed further, or affected by, budgetary
constraints and purchasing requirements of our customers, all of which are
beyond our control. Moreover, sales of our products often require significant
training of both our customers and end users before the decision to purchase. As
a result, we may expend significant resources pursuing potential sales
opportunities that will not be consummated.
BECAUSE OF OUR LONG PRODUCT DEVELOPMENT PROCESS, WE INCUR SUBSTANTIAL EXPENSES
BEFORE WE EARN ASSOCIATED REVENUES
In order to remain competitive, we invest significant resources toward
research and development of our current and potential products. Development
costs and expenses are incurred before we generate any revenues from sales of
products resulting from these efforts. Our current or future customer base may
not purchase any products resulting from our current or future development
efforts.
A FAILURE BY US TO PROTECT OUR TECHNOLOGY MAY ADVERSELY AFFECT OUR ABILITY TO
COMPETE
Our success and ability to compete is substantially dependent upon our
technology. A failure to protect our technology could result in competitors
offering similar products potentially resulting in a loss of competitive
advantage and decreased revenues. We rely on a combination of patent, trademark,
copyright and trade secret laws and non-disclosure agreements to protect such
technology. Currently, we hold over 160 United States patents and have over 100
United States patent applications pending. In addition, we hold certain
corresponding foreign patents and have certain corresponding foreign patent
applications pending. However, we cannot be certain that patents will be issued
with respect to any of our pending or future patent applications. In addition,
we do not know whether any of our issued patents will be upheld as valid or that
they will prevent the development of competitive products.
We seek to protect our intellectual property rights by limiting access to
the distribution of our software, documentation and other proprietary
information. If any third parties infringe our proprietary rights, such
infringement could materially and adversely affect our competitive positions. As
with our issued patents, we cannot be certain that the steps we have taken to
protect our intellectual property will adequately prevent the misappropriation
of any of our technology. Our competitors may independently develop technologies
that are substantially equivalent or superior to our technologies. In addition,
the laws of certain foreign countries do not protect our proprietary rights to
the same extent as do the laws of the United States. Third parties may attempt
to copy or reverse engineer aspects of our products or to obtain and use
information that we regard as proprietary. Accordingly, we may not be able to
protect our proprietary rights against unauthorized third party copying or use.
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We are also subject to the risk of adverse claims and litigation alleging
infringement of the intellectual property rights of others. These claims may
require us to enter into license arrangements or may result in protracted and
costly litigation, regardless of the merits of such claims. We may not be able
to obtain necessary licenses on commercially reasonable terms, if at all. From
time to time, we receive and have received letters from others requesting
licenses or indicating that our products may require a license. These letters
are not uncommon in the industry, and these letters are dealt with according to
normal business practices. For example, in March and July 1999, we received
letters from a third party patent owner alleging infringement by us of patents
allegedly relating to equipment, including bar code scanners and circuit board
manufacturing equipment, which we use in our manufacturing processes, and to
integrated circuit microchips that we buy and incorporate into our products. We
purchase this equipment and the microchips from vendors, who we believe may have
an obligation to indemnify us in the event that the equipment and microchips
infringe the patents. The patents referenced in these letters are also the basis
for several infringement lawsuits commenced by the patent owner to which we are
not a party. In some of those claims, the defendants are in the process of
challenging the validity of the patents. No claim has been asserted beyond these
letters, but we cannot assure you that the third party will not commence an
infringement action against us. We are in the process of investigating the
allegations. If an infringement claim is brought against us, we cannot assure
you that we would prevail and any adverse outcome could require us, among other
things, to pay royalties to the third party patent owner. Based on our
investigation to date, we presently do not believe that any such adverse outcome
would have a material adverse impact on our operations. However, we cannot
assure you that future developments will not affect this conclusion or assure
you that we will not receive other letters alleging infringement in the future.
IF WE ARE UNABLE TO ATTRACT AND RETAIN KEY PERSONNEL AND A SKILLED WORKFORCE, WE
MAY NOT BE ABLE TO SUSTAIN OR GROW OUR BUSINESS
Our success depends to a significant degree upon the continued
contributions of the principal members of our sales, engineering and management
personnel, many of whom would be difficult to replace. The loss of such
personnel could materially and adversely affect our business, financial
condition and results of operations. Specifically, we believe that our future
success is highly dependent on our senior management, and in particular on
Andrew May, President and Chief Executive Officer. Except for agreements with
Messrs. May, Murphy and Slattery, we do not have employment contracts with our
executive officers. In any event, employment contracts would not prevent key
personnel from terminating their employment with us.
We believe that our future success will also depend highly upon our ability
to attract and retain highly skilled customer support and product development
personnel. The market for qualified personnel in the telecommunications industry
is highly competitive, and we frequently experience difficulty in recruiting
qualified personnel. Recruiting qualified personnel is an intensely competitive
and time-consuming process.
OUR RELIANCE ON INTERNATIONAL SALES MAY MAKE US SUSCEPTIBLE TO GLOBAL ECONOMIC
FACTORS, FOREIGN TAX LAW ISSUES AND CURRENCY FLUCTUATIONS
We currently have 10 sales offices and subsidiaries in North America,
Europe and Asia through which we market and sell our products. International
sales accounted for approximately 20% of our total revenues in 1998. Our
international operations subject us to risks to which we would not otherwise be
exposed. These risks may cause our results of operations to fluctuate. For
example, sales to customers outside of the United States accounted for
approximately 30% of revenues in 1997 and 20% of revenues in 1998, respectively.
This decrease was primarily due to the decline in sales of our older narrowband
products and economic instability in Asia. Our international operations subject
us to risks to which we would not otherwise be exposed, such as:
- impact of recessions in economies outside of the United States;
- currency exchange rate fluctuations;
- political and economic instability;
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- policy, legal, regulatory or other changes affecting the
telecommunications and data communications markets;
- uncertain intellectual property rights protection;
- potential adverse tax consequences;
- change in tariffs; and
- difficulties in accounts receivable collection.
OUR FAILURE TO COMPLY WITH REGULATIONS COULD AFFECT OUR PRODUCT OFFERINGS
We are subject to a significant number of communications regulations and
standards, some of which are evolving as new technologies are deployed and due
to ongoing judicial and administrative proceedings. New regulations or new
interpretations of existing laws or regulations, or compliance with additional
existing regulations due to changes in the nature of our products could result
in significant additional cost to Paradyne. Moreover, failure of our products to
comply, or delays in compliance, with the various existing and evolving industry
regulations and standards could delay the introduction of our products. Our
products may be required to comply with various regulations, including those
promulgated by the Federal Communications Commission ("FCC"), state public
utilities commissions and various foreign governments. Our products must comply
with the Communications Act of 1934 and the Telecommunication Act of 1996. In
the United States, in addition to complying with FCC regulations, our products
are required to meet certain safety requirements. For example, NSPs may require
that our products that are located in their facilities be network equipment
building standard certified before they purchase the products from us. Outside
of the United States, our products are subject to the regulatory requirements of
each country in which the products are manufactured or sold. These requirements
vary widely, and we may be unable to obtain on a timely basis, or if at all,
necessary approvals for the manufacture, marketing and sale of our products.
Enactment by federal, state or foreign governments of new laws or
regulations, changes in the interpretation of existing laws or regulations or a
reversal of the trend toward deregulation in the telecommunication industry
could materially and adversely affect our customers, and thereby materially and
adversely affect our business, financial condition and results of operations.
For a further discussion of the impact of governmental regulations on the
telecommunications industry, please refer to "Business -- Government
Regulations."
CHANGES TO REGULATIONS AFFECTING THE TELECOMMUNICATIONS INDUSTRY COULD REDUCE
DEMAND FOR OUR PRODUCTS
If our NSP customers are required to comply with new laws, new regulations
or new interpretations of existing laws or regulations, or if they are required
to comply with additional existing regulations due to changes in the nature of
their services, those changes could materially and adversely affect the market
for our products. A large percentage of our customers are NSPs whose voice
services, and many of their other network services, must comply with the
Communications Act of 1934, the Telecommunications Act of 1996 and regulations
prescribed by the FCC. Furthermore, most of our NSP customers' voice services
are subject to regulation by state public utilities commissions. Some of our NSP
customers are subject to foreign government regulation. Many of these federal,
state and foreign regulations continue to evolve due to ongoing judicial and
administrative proceedings, particularly those federal regulations designed to
define rights and obligations under the Telecommunications Act of 1996. For
example, the FCC is considering changes to its regulations, including those
relating to the access to copper telephone lines, the ability of customers to
install equipment at an NSP's central location and the compatibility
requirements placed upon equipment which may be run on copper telephone lines.
Furthermore, the United States Congress is considering a variety of amendments
to the Communications Act of 1934 and the Telecommunications Act of 1996.
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<PAGE> 15
COMPLIANCE WITH EVOLVING INDUSTRY STANDARDS COULD ADVERSELY AFFECT OUR PRODUCT
OFFERINGS
Many of our products must comply with equipment standards adopted by
national and international standards bodies. If we are required, or deem it
otherwise necessary or advisable, to comply with new standards or with
additional existing standards due to changes in standards, we may have to modify
our current or future products. The costs of any modification could materially
and adversely affect our business, financial condition and results of
operations. Compliance with these standards is important because it often
enhances the marketability of our products. Many of those standards are
influenced by industry committees that develop draft standards and technical
reports. These industry committees often include us, our customers, and our
competitors and their customers.
WE RELY HEAVILY ON DISTRIBUTORS AND RESELLERS
We estimate that in 1998 over 70% of our sales were made through
distributors and resellers. We often rely on distributors and resellers to
provide installation, training and customer support to the ultimate end users of
our products. As a result, our success depends on the continued sales and
customer support efforts of our network of distributors and resellers. Any
reduction, delay or loss of orders from our significant distributors or
resellers could materially and adversely affect our revenues.
OUR ABILITY TO SUSTAIN OR GROW OUR BUSINESS MAY BE HARMED IF WE ARE UNABLE TO
PROVIDE ADEQUATE CUSTOMER SUPPORT
Our ability to continue to grow our company and to retain current and
future customers depends in part upon the quality of our customer support
operations. A failure to offer adequate customer support could materially and
adversely affect our reputation or cause demand for our products to decline. Our
customers generally require significant support and training prior to the
installation and deployment of our products. Providing adequate levels of
support to our customers, requires significant expenditures of resources and
capital. As the market for high-speed access devices grows and as the technology
for these devices continues to evolve, we will need to augment and improve upon
our customer support operations.
WE MAY NOT BE ABLE TO FINANCE OUR GROWTH AND CAPITAL REQUIREMENTS
Substantial working capital is required in order to fund and continue to
build our business. If we fail to do so, we will not be able to remain
competitive or continue to meet the increasing demands for our products. We may
also need to spend significant amounts of cash to fund operating losses and
increases in expenses, take advantage of opportunities or respond to
developments or competitive pressures. We believe that the proceeds from the
initial public offering, together with our existing capital resources and our
revolving line of credit facility with BankAmerica NT&SA, will allow us to meet
our capital requirements for at least the next 24 months. However, our capital
requirements depend on several factors, including the rate of market acceptance
of our products, the ability to expand our client base, the growth of our sales
and marketing efforts and other factors. If capital requirements vary materially
from those currently planned, we may require additional financing sooner than
anticipated. We cannot be certain that additional financing will be available to
us when needed or that such financing can be obtained on terms favorable to us.
If adequate funds are not available or are not available on acceptable terms, we
may be unable to develop or enhance our services, take advantage of future
opportunities or respond to competitive pressures.
WE RELY UPON DISTRIBUTIONS, DIVIDENDS AND LOANS FROM OUR SUBSIDIARIES IN ORDER
TO MEET OUR OBLIGATIONS AND COMMITMENTS
As a holding company, we have no operations of our own. If our subsidiaries
are unable to pay dividends or make loans or other distributions to us, we may
not be able to meet obligations and debts that we incur, and the market price of
our common stock could be adversely affected. In connection with a line of
credit facility, our operating subsidiary Paradyne Corporation and its Canadian
subsidiary are restricted from
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paying dividends and making loans and other distributions. For a further
description of these restrictions, please see "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Liquidity and
Capital Resources."
THE YEAR 2000 PROBLEM MAY SEVERELY DISRUPT OUR BUSINESS, FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
As is true for most companies, the Year 2000 problem creates a risk for us.
Some computers, software and other equipment include programming code in which
calendar year data is abbreviated to only two digits (e.g., 99) rather than four
digits (e.g., 1999). As a result, these systems automatically assume that the
first two digits of a calendar year are "1" and "9." Therefore, time-sensitive
functions of these systems may misinterpret dates after January 1, 2000, to
refer to the twentieth century rather than the twenty-first century (i.e., "02"
could be interpreted as "1902" rather than "2002"). The problems associated with
this design decision are commonly referred to as the "Millennium Bug," "Year
2000 problem" or "Y2K problem." If systems do not correctly recognize date
information when the year changes to 2000, there could be an adverse impact on
our operations. The risk exists primarily in three areas:
- systems we use to run our business;
- systems used by our service providers, distributors and suppliers; and
- the potential for failures of our products, particularly our central
office-based systems, due to Year 2000 problems associated with products
manufactured by other equipment vendors used in conjunction with our
products.
A disruption in the operations of parties with whom we interact could
materially and adversely affect our business, financial condition and results of
operations.
Substantial uncertainty remains in the software industry concerning the
potential effects associated with the Year 2000 problem. We have developed a
comprehensive multi-year plan to ensure that our internal computer software and
hardware systems will be Year 2000 compliant. While we believe that we have
implemented a comprehensive plan for addressing the Year 2000 problem and
anticipate completing our compliance activities in a timely manner, we cannot be
certain that these Year 2000 compliance efforts will be successful. Furthermore,
the financial impact of making the required systems changes cannot be known
precisely at this time.
We are currently developing contingency plans to be implemented as part of
our efforts to identify and correct Year 2000 problems affecting our internal
systems. We expect to complete these contingency plans by the end of the third
quarter of 1999. Depending on the systems affected, these plans could include
accelerated replacement of affected equipment or software, increased work hours
for our personnel or use of contract personnel to correct on an accelerated
schedule any Year 2000 problems which may arise, the provision of manual
workarounds for information systems, and other similar approaches. If we are
required to implement any of these contingency plans, such plans may materially
and adversely affect our business, financial condition and results of
operations. Additionally, we may not complete these contingency plans in a
timely manner, and failure to do so could materially and adversely affect our
business, financial condition and results of operations.
IF OUR PRODUCTS CONTAIN DEFECTS, WE MAY BE SUBJECT TO SIGNIFICANT LIABILITY
CLAIMS FROM OUR CUSTOMERS AND THE END-USERS OF OUR PRODUCTS AND INCUR
SIGNIFICANT UNEXPECTED EXPENSES AND LOST SALES
Our products are complex and, despite extensive testing, may therefore
contain undetected errors or failures. If this happens, we may experience delay
in or loss of market acceptance and sales, product returns, diversion of
research and development resources, injury to our reputation or increased
service and warranty costs. We also have exposure to significant liability
claims with respect to our customers because our products are designed to
provide critical communications services. Although we attempt to limit such
exposure through
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product liability insurance and through contractual limitations in our customer
agreements, such precautions may not cover all potential claims resulting from a
defect in one of our products.
MANAGEMENT AND OUR SINGLE LARGEST STOCKHOLDER MAY LIMIT YOUR ABILITY TO
INFLUENCE THE OUTCOME OF DIRECTOR ELECTIONS AND OTHER STOCKHOLDER MATTERS
Our executive officers, directors and principal stockholders and their
affiliates will beneficially own 18,028,462 shares or approximately 56.66% of
our outstanding shares of common stock (55.78% if the underwriters'
over-allotment option is exercised in full) after the offering (based on the
number of shares outstanding on August 31, 1999). As a result, these
stockholders, if acting together, would be able effectively to control
substantially all matters requiring approval by our stockholders.
Entities associated with Texas Pacific Group will own approximately 41.00%
of Paradyne after the offering (based on the number of shares outstanding on
August 31, 1999) and will be able to exercise control over Paradyne, subject to
the fiduciary duties of its representatives on the board of directors under
Delaware law. The interests of Texas Pacific Group may not always coincide with
the interests of other stockholders. Texas Pacific Group, through its
representatives on the board of directors, could cause us to enter into
transactions or agreements which we would not otherwise consider absent Texas
Pacific Group influence. Texas Pacific Group also is currently the majority
owner of GlobeSpan. See "Certain Transactions."
OUR STOCK PRICE MAY BE VOLATILE AND YOU MAY NOT BE ABLE TO RESELL SHARES AT OR
ABOVE THE OFFERING PRICE
Prior to the effective date of our initial public offering on July 15,
1999, there was no public market for our common stock. The trading price of our
common stock could be subject to wide fluctuations in response to various
factors, some of which are beyond our control, such as:
- actual or anticipated variations in quarterly results of operations;
- changes in intellectual property rights of Paradyne or our competitors;
- announcements of technological innovations;
- the introduction of new products or changes in product pricing by
Paradyne or our competitors;
- changes in financial estimates by securities analysts;
- announcements of significant acquisitions, strategic partnerships, joint
ventures or capital commitments by us or our competitors; and
- additions or departures of key personnel.
A FAILURE TO MANAGE OUR GROWTH COULD ADVERSELY AFFECT OUR BUSINESS
We have experienced expansions and contractions of our operations in the
past. If we are unable to manage our growth effectively, our future
profitability could be adversely affected. We anticipate that expansion of our
operations will be required to address the potential growth in our client base
and the opportunities in the broadband access market. Our current expansion is
placing a significant strain on our managerial, operational and financial
resources. We may not have adequate resources to support our future operations.
WE MAY ENGAGE IN ACQUISITIONS, AND WE MAY BE UNABLE TO SUCCESSFULLY INTEGRATE
ANY NEW OPERATIONS, TECHNOLOGIES, PRODUCTS OR PERSONNEL
Recently, the telecommunications industry has experienced substantial
mergers and acquisitions activity. We have engaged in discussions in the past
with third parties concerning potential acquisitions of product lines,
technologies and businesses. However, we currently have no commitments or
agreements with respect to any such acquisition. In the event that such an
acquisition does occur, because of the small size of our management team, we may
be particularly susceptible to risks associated with the assimilation of
operations,
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technologies, products and personnel and the diversion of management's attention
from other business concerns.
SHOULD WE SELL A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK IN THE PUBLIC
MARKET, THE PRICE OF OUR COMMON STOCK COULD FALL
Sales of a substantial number of shares of our common stock in the public
market could cause the market price of our common stock to decline. This could
impair our ability to raise additional capital through the sale of equity
securities or result in shareholder litigation. In September 1999, the Company
received a communication from an individual claiming to be a stockholder of the
Company. Such individual has threatened the initiation of a class action lawsuit
in the event the Company's follow-on public offering is not terminated. No claim
has been asserted beyond this communication. The Company cannot predict whether
any litigation will be initiated by any stockholder or predict the outcome of
any such litigation, if any. As of August 31, 1999, we had approximately
30,676,745 shares of common stock outstanding, of which approximately 7,024,002
shares are freely transferable without restriction or registration under the
Securities Act, unless such shares are held by our affiliates, as that term is
defined in Rule 144 under the Securities Act. The remaining 23,652,743 shares of
common stock held by existing stockholders as of August 31, 1999 are "restricted
securities" as that term is defined in Rule 144 (the "Restricted Securities").
After this offering, approximately 5,000,000 additional shares will be freely
transferable (approximately 5,500,000 shares if the underwriters' over-allotment
option is exercised in full). Approximately 17,963,735 shares of our common
stock are subject to "lock-up" agreements which generally prohibit the sale or
other transfer of such shares during the period beginning on July 15, 1999 and
ending on January 12, 2000 without the prior written consent of Donaldson,
Lufkin & Jenrette Securities Corporation, the lead manager of our initial public
offering. As of January 12, 2000, all of these shares will become eligible for
sale, subject in most cases to the limitations of Rule 144 and Rule 701.
Restricted shares held by non-affiliates will be eligible for sale under Rule
144(k) without volume and manner of sale restrictions. In addition, we have
filed a registration statement on Form S-8 with the Securities and Exchange
Commission covering the 6,242,507 shares of common stock reserved for issuance
under our 1996 Equity Incentive Plan, 1999 Employee Stock Purchase Plan and 1999
Non-Employee Directors' Stock Option Plan. Upon expiration of the lock-up period
discussed above, approximately 1,984,462 shares will be subject to immediately
exercisable options (based on options outstanding on August 31, 1999). Sales of
a large number of any of these shares could have an adverse effect on the market
price for our common stock.
OUR CORPORATE CHARTER AND BYLAWS MAY DISCOURAGE TAKE-OVER ATTEMPTS AND DEPRESS
THE MARKET PRICE OF OUR STOCK
Provisions in our restated certificate of incorporation and bylaws may have
the effect of delaying or preventing a change of control or changes in our
management. These provisions include:
- the right of the board of directors to elect a director to fill a vacancy
created by the expansion of the board of directors;
- the ability of the board of directors to alter our bylaws without
obtaining stockholder approval;
- the requirement that at least 50% of the outstanding shares of common
stock are needed to call a special meeting of stockholders;
- the division of the board of directors into three classes, with each
class serving staggered three-year terms; and
- the requirement that all actions by stockholders must be effected at a
duly called meeting of the stockholders and may not be effected by a
consent in writing.
These provisions could discourage take-over attempts and could adversely
affect the market price of our common stock. In addition, these provisions may
limit the ability of stockholders to remove our current management. In addition,
our board of directors can issue up to 5,000,000 shares of preferred stock
without the approval of the holders of common stock. Any preferred stock may
have rights senior to the common
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stock. The issuance of preferred stock could adversely affect the voting power
of holders of common stock and reduce the likelihood that such holders will
receive dividend payments and payments upon liquidation. Such issuance could
have the effect of decreasing the market price of the common stock. The issuance
of preferred stock could also have the effect of delaying, deterring or
preventing a change in control of Paradyne. See "Description of Capital Stock"
for a further discussion of these provisions.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements. All statements
regarding future events, our future financial performance and operating results,
our business strategy and our financing plans are forward-looking statements. In
some cases, you can identify forward-looking statements by terminology, such as
"may," "will," "should," "expect," "intend," "plan," "anticipate," "believe,"
"estimate," "predict," "potential" or "continue," the negative of such terms or
other comparable terminology. These statements are only predictions. Known and
unknown risks, uncertainties and other factors could cause actual results to
differ materially from those contemplated by the statements. In evaluating these
statements, you should specifically consider various factors, including the
risks outlined under "Risk Factors." These factors may cause our actual results
to differ materially from any forward-looking statement.
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 such
statements to actual results or to changes in our expectations.
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USE OF PROCEEDS
We will not receive any proceeds from the shares sold by the selling
stockholders in this offering.
In the event the underwriters exercise the over-allotment option in its
entirety, we will receive net proceeds of approximately $14,800,000. If all or
part of the over-allotment option is exercised, we intend to use the net
proceeds for general corporate purposes, including working capital and capital
expenditures. The amounts actually expended for working capital purposes may
vary significantly and will depend on a number of factors, including the amount
of our future revenues and the other factors described under "Risk Factors."
Accordingly, we will retain broad discretion in the allocation of any proceeds
from this offering. Additionally, we may use a portion of the net proceeds to
pursue possible acquisitions of businesses, technologies or products
complementary to our business. We cannot assure you that we will identify
suitable acquisition candidates or that we will consummate any acquisitions.
Pending our use of any net proceeds, we intend to invest the funds in short
term, interest bearing, investment-grade securities.
PRICE RANGE OF COMMON STOCK
Our Common Stock commenced trading publicly on the Nasdaq National Market
on July 16, 1999, and is traded under the symbol PDYN. Prior to such time, there
was no public market for our Common Stock. The following table sets forth the
high and low sales prices of our Common Stock for the periods indicated:
<TABLE>
<CAPTION>
1999 HIGH LOW
- ---- ---- ------
<S> <C> <C>
Third Quarter (from July 16, 1999).......................... $58 $30 3/16
</TABLE>
On September 28, 1999, the last reported sale price for our Common Stock on
the Nasdaq National Market was $31.13 per share. As of August 31, 1999, there
were approximately 231 holders of record of our Common Stock.
DIVIDEND POLICY
We currently anticipate that we will retain all of our future earnings for
use in the operation and expansion of our business and do not anticipate paying
cash dividends in the foreseeable future. Our current financing arrangements
place certain restrictions on the payment of dividends.
COMPANY INFORMATION
We are a Delaware corporation. Our principal executive offices are located
at 8545 126th Avenue North, Largo, Florida 33773, and our telephone number is
(727) 530-2000. Our fiscal year ends on December 31. We maintain a worldwide web
site at http://www.paradyne.com. The reference to our worldwide web address does
not constitute incorporation by reference into this prospectus of the
information contained at that site. Our logo and certain titles and logos of our
publications and products mentioned in this prospectus are our service marks and
trademarks. All other brand names or trademarks appearing in this prospectus are
the property of their respective holders.
17
<PAGE> 21
CAPITALIZATION
The following table sets forth our total capitalization as of June 30,
1999:
- On an actual basis; and
- On a pro forma basis to reflect the sale by Paradyne in July 1999 of
4,000,000 shares of Common Stock in our initial public offering at an
initial public offering price of $17.00 per share and the application of
the net proceeds therefrom.
Please read the following information in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
our consolidated financial statements and the notes thereto beginning on page
F-1 of this prospectus. The information in the table below regarding shares
outstanding is as of June 30, 1999. It excludes 7,250,000 shares of common stock
reserved for issuance under our stock plans, of which 3,536,135 shares were
subject to outstanding options as of June 30, 1999. Options to purchase
3,424,275 shares of common stock were outstanding as of August 31, 1999. See
"Management -- 1996 Equity Incentive Plan."
<TABLE>
<CAPTION>
AS OF JUNE 30, 1999
-------------------
ACTUAL PRO FORMA
(IN THOUSANDS)
<S> <C> <C>
Current portion of debt..................................... $ 9,284 $ 411
======= =======
Long-term debt.............................................. $ 362 $ 362
Stockholders' equity:
Preferred stock, par value $0.001; no shares authorized,
actual; 5,000,000 shares authorized, as adjusted; no
shares outstanding, actual or as adjusted.............. -- --
Common stock, par value $0.001; 60,000,000 shares
authorized; 26,406,608 shares issued and outstanding,
actual................................................. 26 30
Additional paid-in capital................................ 27,716 88,952
Deferred Compensation..................................... (2,808) (2,808)
Retained earnings......................................... 8,397 8,397
Notes receivable for common stock......................... (1,228) (1,228)
Cumulative translation adjustment......................... 260 260
------- -------
Totals stockholders' equity....................... 32,363 93,603
------- -------
Total capitalization.............................. $32,725 $93,965
======= =======
</TABLE>
18
<PAGE> 22
DILUTION
Our net tangible book value as of August 31, 1999 was approximately $102.1
million, or approximately $3.33 per share. This is calculated as our total
tangible assets less total liabilities, divided by the number of shares
outstanding as of August 31, 1999. We will not receive any proceeds from the
sale of shares of common stock by the selling stockholders in this offering. As
a result, our net tangible book value per share will neither increase nor
decrease. The new investors purchasing shares at the public offering price of
$31.00 will have an immediate dilution of $27.67 per share. The following table
illustrates this per share dilution:
<TABLE>
<S> <C> <C>
Public offering price per share............................. $31.00
------
Net tangible book value per share as of August 31, 1999... $ 3.33
------
Increase attributable to new investors.................... 0.00
------
Adjusted net tangible book value as of August 31, 1999...... 3.33
------
Dilution to new investors................................... $27.67
======
</TABLE>
In the event that the over-allotment option is exercised or we issue
additional shares of common stock in the future, purchasers of common stock in
this offering will experience further dilution.
The foregoing discussion and table assume no exercise of any stock options
at a weighted average exercise price of $4.26 per share as of August 31, 1999.
To the extent these options are exercised, new investors will experience further
dilution. See "Management -- 1996 Equity Incentive Plan."
19
<PAGE> 23
SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data is derived from the
consolidated financial statements of Paradyne and from the books and records of
its predecessor business. This data should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" contained elsewhere in this prospectus. The consolidated statement
of operations for the seven months ended July 31, 1996, the five months ending
December 31, 1996 and for the years ended December 31, 1997 and 1998 and the
consolidated balance sheet as of December 31, 1996, 1997 and 1998 are derived
from audited consolidated financial statements. The consolidated statements of
operations data for the six months ended June 30, 1998 and 1999 are derived from
the unaudited consolidated financial statements of Paradyne, which are included
elsewhere herein. The unaudited consolidated financial information reflects all
adjustments (consisting only of normal recurring adjustments) that the Company
considers necessary for a fair statement of the financial data for such period.
The results of operations of the six months ended June 30, 1999 are not
necessarily indicative of results to be expected in any future period. The
selected consolidated financial data for the years ended December 31, 1994 and
1995 have not been audited. The predecessor business consists of certain
operating activities of AT&T Paradyne Corporation, a wholly owned subsidiary of
Lucent Technologies Inc., on a carve-out basis, which were acquired by Paradyne
effective July 31, 1996. In the opinion of our management, the predecessor
business operated in a substantially different organizational structure and
manner than we do and, accordingly, we believe that a comparison of its
operating activities and results to ours is not meaningful. See Note 2 of the
Notes to the Consolidated Financial Statements of Paradyne for an explanation of
the method used to calculate earnings per share. Earnings per share data is not
presented for the predecessor business since the predecessor business did not
have its own capital structure. As a result, this information would not be
meaningful.
<TABLE>
<CAPTION>
PREDECESSOR BUSINESS PARADYNE
---------------------------------- --------------------------------------------------------
SIX MONTHS
YEARS ENDED SEVEN MONTHS FIVE MONTHS YEARS ENDED ENDED
DECEMBER 31, ENDED ENDED DECEMBER 31, JUNE 30,
------------------- JULY 31, DECEMBER 31, ------------------- -------------------
1994 1995 1996 1996 1997 1998 1998 1999
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENTS OF
OPERATIONS DATA:
Revenues:
Sales............................ $277,935 $259,654 $128,099 $112,293 $177,850 $195,153 $ 87,879 $103,133
Service.......................... 5,334 3,910 1,975 1,413 3,040 2,256 1,028 891
Royalties........................ 120 1,425 464 325 413 1,392 350 2,818
-------- -------- -------- -------- -------- -------- -------- --------
Total Revenues............. 283,389 264,989 130,538 114,031 181,303 198,801 89,257 106,842
Cost of sales:
Equipment........................ 148,711 137,459 73,208 59,634 90,334 107,921 45,744 59,740
Service.......................... 4,862 3,980 1,803 744 1,154 620 307 325
-------- -------- -------- -------- -------- -------- -------- --------
Total cost of sales........ 153,573 141,439 75,011 60,378 91,488 108,541 46,051 60,065
-------- -------- -------- -------- -------- -------- -------- --------
Gross margin..................... 129,816 123,550 55,527 53,653 89,815 90,260 43,206 46,777
Operating expenses:
Research & development(1)........ 30,510 30,100 28,019 31,174 37,339 35,132 17,282 17,835
Selling, general &
administrative................. 119,761 115,155 42,928 29,409 66,278 55,969 28,063 27,663
Amortization of deferred stock
compensation................... -- -- -- -- -- -- -- 135
Restructuring charges............ -- -- -- -- 1,778 984 59 --
-------- -------- -------- -------- -------- -------- -------- --------
Total operating expenses... 150,271 145,255 70,947 60,583 105,395 92,085 45,404 45,633
-------- -------- -------- -------- -------- -------- -------- --------
Operating income (loss)........... (20,455) (21,705) (15,420) (6,930) (15,580) (1,825) (2,198) 1,144
Other (income) expenses:
Interest......................... 1,279 1,437 200 3,502 7,712 1,711 1,040 691
Lucent settlement gain........... -- -- -- -- (51,183) -- -- --
Other, net....................... (1,439) (3,708) (2,074) 382 (1,753) 1,191 67 (2,540)
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) before provision for
income tax....................... (20,295) (19,434) (13,546) (10,814) 29,644 (4,727) (3,305) 2,993
Provision (benefit) for income
tax.............................. 1,565 948 184 -- 8,302 (1,082) (757) 1,235
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss)................. $(21,860) $(20,382) $ 13,730) $(10,814) $ 21,342 $ (3,645) $ (2,548) $ 1,758
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) per common share:
Basic............................ $ (0.42) $ 0.84 $ (0.14) $ (0.10) $ 0.07
Diluted.......................... (0.42) 0.81 (0.14) (0.10) 0.06
Shares used in computing income
(loss)
per share:
Basic............................ 25,500 25,552 25,623 25,606 26,124
Diluted.......................... 25,500 26,291 25,623 25,606 27,477
</TABLE>
<TABLE>
<CAPTION>
AS OF AS OF AS OF AS OF AS OF
DECEMBER 31, JULY 31, DECEMBER 31, DECEMBER 31, JUNE 30,
------------------- -------- ------------ ----------------- -----------------
1994 1995 1996 1996 1997 1998 1998 1999
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents................. $ 5,715 $ 3,094 $ 5,717 $ 1,354 $ 3,240 $ 2,356 $ 2,783 $ 3,663
Working capital........................... 61,318 26,991 20,265 9,990 9,606 8,382 12,202 14,093
Total assets.............................. 162,941 126,428 103,050 144,142 83,200 75,063 77,584 71,733
Total debt................................ 946 302 52 82,182 18,184 16,836 15,044 9,646
Total divisional equity(2)................ 118,585 80,372 73,327 -- -- -- -- --
Total stockholders' equity................ -- -- -- 5,979 31,402 27,339 28,800 32,363
</TABLE>
- ------------------------------
(1) Includes $13,114 of purchased research and development for the five months
ended December 31, 1996.
(2) Since the predecessor business was not a legal entity, there was no
stockholders' equity. "Divisional equity" represents the net assets of the
predecessor business.
20
<PAGE> 24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the
consolidated financial statements and the related notes contained elsewhere in
this prospectus. The following discussion contains forward-looking statements
that involve risks and uncertainties. All statements regarding future events,
our future financial performance and operating results, our business strategy
and our financing plans are forward-looking statements. In many cases, you can
identify forward-looking statements by terminology, such as "may," "will,"
"should," "expects," "intends," "plans," "anticipates," "believes," "estimates,"
"predicts," "potential" or "continue," or the negative of such terms and other
comparable terminology. These statements are only predictions. Known and unknown
risks, uncertainties and other factors could cause our actual results to differ
materially from those projected in the forward-looking statements. In evaluating
these statements, you should specifically consider various factors, including,
but not limited to, those set forth under "Risk Factors" and elsewhere in this
prospectus.
OVERVIEW
We are a leading developer, manufacturer and distributor of broadband and
narrowband network access products for network service providers ("NSPs") and
business customers. We offer solutions that enable business class, service level
managed, high-speed connectivity over the existing telephone network
infrastructure and provide for cost-effective access speeds of up to 45 Mbps.
Our equipment has been sold to over 50% of the Fortune 500 companies and in
businesses in over 125 countries. We estimate that sales to NSPs represented
approximately 40% of our total revenues in 1998. With our reputation and history
as a supplier of access solutions to a large customer base, we believe that we
are well positioned to provide broadband access solutions to NSPs and business
customers as they upgrade their networks.
In July 1996, as part of a divestiture by Lucent, Paradyne Acquisition
Corp., a wholly owned subsidiary of Communication Partners, L.P., a limited
partnership controlled by the Texas Pacific Group, acquired all of the
outstanding shares of common stock of Paradyne Corporation. In June 1999
Paradyne Acquisition Corp. changed its name to Paradyne Networks, Inc. Our
business was created when operations of Paradyne Corporation were either
retained by Lucent or assigned to newly created entities in connection with the
divestiture. The business that remained with Paradyne Corporation is referred to
as the predecessor business. The predecessor business derived most of its
revenues through July 1996 from the sale of narrowband products. The predecessor
business purchased products and services from preferred suppliers of AT&T and
Lucent and incurred intercompany charges for services provided by other AT&T
operations. Following the 1996 acquisition, we introduced a series of new
products, including many new broadband products, and discontinued sales of the
Tellabs 74X family of products which were transitioned to Lucent. In addition,
we lowered our expenses and restructured our operations. The cost of the
restructuring was accounted for as part of the purchase accounting associated
with the 1996 acquisition. We believe the revenues and expenses of the
predecessor business are not representative of our current business, financial
condition or results of operations. Accordingly, we believe that a
period-to-period comparison of operating results prior to 1997 is not
meaningful.
In 1997, Paradyne recorded a restructuring charge of approximately $1.8
million. Most of this charge related to staff reductions in our U.S. operations
in November 1997. Staff reductions were appropriate as a result of improved
operating efficiencies resulting from an investment in new systems and processes
as well as changing the composition of our workforce to update the availability
of strategic skills. During 1998, we also incurred expenses of $1.0 million,
related to a restructuring of our international operations.
Through 1997, our revenues were derived principally from the sale and
service of narrowband network access products and, to a much lesser extent,
technology licensing. In 1998, our broadband products, including our Hotwire and
FrameSaver products, which were introduced in 1997, comprised the majority of
our revenue, and we expect broadband products to represent an increasing portion
of future revenues. Royalty revenues consist principally of licensing of
technology, and service revenues are derived from repair of out-
21
<PAGE> 25
of-warranty products. We do not expect that either royalty or service revenues
will constitute a substantial portion of our revenues in future periods.
In July 1999, we completed an initial public offering of 4,000,000 shares
of our common stock at an initial public offering price of $17.00 per share. We
received net proceeds of approximately $61,240,000, after deducting estimated
underwriting discounts and commissions and other offering expenses.
We market and sell our products worldwide to NSPs and business customers
through a multi-tier distribution system that includes direct sales, strategic
partner sales, NSP sales and traditional distributor or value added reseller
sales. Direct sales to Lucent in 1998 accounted for approximately 35% of our
total revenues. Sales to Tech Data accounted for approximately 15% of our total
revenues. We estimate that approximately 70% of our sales to Tech Data
represented products that were resold to Lucent. Collectively, we estimate that
direct and indirect sales to, and service performed for, Lucent accounted for
approximately 47% of our total revenues in 1998 and 27% in the first six months
of 1999. This percentage reduction principally results from lower Lucent
equipment sales of some of our older products in the first six months of 1999. A
majority of our sales to Lucent represented sales to Lucent as a reseller of our
products. Sales to SITA, an NSP, in 1998 accounted for approximately 9% of our
total revenues in 1998 and 7% in the first six months of 1999, and sales to
Rhythms, an NSP, accounted for approximately 6% of our total revenues in 1998
and 29% in the first six months of 1999. The percentage increase of our total
revenues to Rhythms in the second quarter of 1999 is primarily due to an
increase in the deployment of their infrastructure using our products. A loss or
a significant reduction or delay in sales to any of our major customers could
materially and adversely affect our business, financial condition and results of
operations. See "Risk Factors -- We Depend on Major Customers for a Substantial
Portion of Our Revenues."
We generally recognize revenue from product sales upon shipment. No revenue
is recognized on products shipped on a trial basis. Estimated sales returns
based on historical experience by product are recorded at the time the product
revenue is recognized. Charges for warranty work are included in cost of
equipment sales. We believe that our accrued warranty reserve is sufficient to
meet our responsibilities for potential future warranty work on products sold.
Revenue from services, which consists mainly of repair of out-of-warranty
products, is recognized when the services are performed and all substantial
contractual obligations have been satisfied. License and royalty revenues are
recognized when we have completed delivery of technical specifications and
performed substantially all required services under the related agreement.
We expect our gross margin to be affected by many factors, including
competitive pricing pressures, fluctuations in manufacturing volumes, costs of
components and sub-assemblies, and the mix of products or system configurations
sold and timing of sales of follow-on line cards and endpoints for central
office systems. Follow-on line cards and endpoints are components that are sold
separately from central office systems and margins vary on these products.
Central office systems are often sold as stand-alone chassis with limited number
line cards. Customers purchase follow-on line cards and endpoints in order to
increase the capacity of their central office system. Additionally, our gross
margin may fluctuate due to changes in our mix of distribution channels. Sales
prices of some of our products have decreased recently as a result of increased
competition. Further price reductions may be necessary to remain competitive.
Although we have been able to offset most price declines with reductions in our
manufacturing costs, there can be no assurance that we will be able to offset
further price declines with cost reductions.
Research and development expenses primarily consist of: personnel costs
related to engineering and technical support; consultant and outside testing
services fees; research and development facilities expenses; equipment and
supplies expenses associated with enhancing existing products and the
development of new products; an allocation of information systems charges; and
software and software maintenance expenses. We expense all research and
development expenses as incurred. We believe that continued investment in
research and development is critical to attaining our strategic product and
cost-reduction objectives. We will, however, attempt to control and optimize our
research and development expenditures in order to meet our strategic goals while
at the same time allowing us to meet our profitability goals. Over time, as
revenues increase, research and development expenditures are expected to
increase as well.
22
<PAGE> 26
We had twelve in-process research and development projects, consisting of
nine broadband and three narrowband projects that were acquired in connection
with the 1996 acquisition. These projects included three Acculink projects, one
Comsphere project, three Frame Relay projects, three Hotwire projects and two
digital service unit projects. We acquired the in-process research and
development projects in order to gain additional product enhancements,
technologies and skills, through which we would enter into new markets and
distribution channels and grow our market share for high-speed access products.
At the time of the divestiture, we estimated the value of each in-process
project to range from $100,000 to $3.2 million, and the aggregate value to be
approximately $13.1 million and anticipated that each project would require
between five and nine months to complete. Based on our technological expertise
and experience in completing and commercializing access products, we did not
believe there were any material risks that would affect the timely completion of
the projects. The total cost to complete the development of these projects at
the time of the acquisition was estimated to be approximately $15.2 million.
Subsequent developments have demonstrated that most of the projects have met or
exceeded the initial valuation placed on such projects. Three projects have
proven to be less successful than originally forecast primarily due to
unforeseen changes in the marketplace.
Selling, general and administrative expenses primarily consist of:
salaries, commissions and related expenses for personnel engaged in marketing,
sales and field service support functions, finance, human resource and
administrative activities; advertising, promotional and trade show expenses,
including the related travel expenses; consultant fees; equipment and facilities
expenses, including intangibles amortization; supplies, software and software
maintenance; and consignments. We intend to continue to invest in selling,
marketing and promotional programs. In addition, we expect to expand our field
sales operations and customer support organizations. We expect general and
administrative expenses to increase moderately as our business grows and we
begin operations as a public company. General and administrative expenses have
been significantly reduced since the 1996 acquisition by improving systems and
processes and eliminating unnecessary expenses, and we expect to continue our
focus on controlling expenses in the future.
Sales to customers outside of the United States accounted for approximately
30% and 20% of revenues in 1997 and 1998, respectively. This decrease was
primarily due to the decline in sales of our older narrowband products and
economic instability in Asia. In 1998, approximately 94% of our sales were
denominated in U.S. dollars. While Paradyne is subject to fluctuations in
foreign currency exchange rates with respect to income derived from
international sales not denominated in U.S. dollars, the costs associated with a
majority of these sales are in the same currency, which partially mitigates the
effect of such fluctuations. Historically, currency exchange movements have not
had a material effect on our business, financial condition or results of
operations. If our non-U.S. operations expand, the effect of currency
fluctuations may have a more significant impact on our revenues and costs. At
December 31, 1998, we had no material monetary assets, liabilities or
commitments denominated in currencies other than U.S. dollars. We do not hedge
foreign currency transactions. Our strategy for managing currency risk is to
minimize our foreign currency exposure.
Despite growing revenues, excluding a non-recurring gain recognized in 1997
in connection with a contract renegotiation, we have not been profitable on an
annual basis, and we may continue to incur net losses. In addition to the
customer concentration we have experienced, we also have lengthy development and
sales cycles for our products, and there is often a significant delay between
the time we incur expenses and the time we realize the related revenue. To the
extent that future revenues do not increase significantly in the same periods in
which operating expenses increase, our operating results will be adversely
affected. See "Risk Factors -- Various Factors Could Cause Our Results to
Fluctuate" and "-- We May Not Achieve Revenue Growth and Profitability."
Paradyne's quarterly and annual operating results have fluctuated in the
past and are likely to fluctuate in the future due to a variety of factors, many
of which are outside of our control. Some of these factors include:
- the timing and amount of, or cancellation or rescheduling of, orders for
our products and services to existing and new customers;
23
<PAGE> 27
- our ability to develop, introduce, ship and support new products and
product enhancements and manage product transitions on a timely basis;
- announcements, new product introductions and reductions in price of
products offered by our competitors;
- our ability to achieve cost reductions;
- our ability to obtain sufficient supplies of sole or limited source
components for our products;
- the ability of our NSP customers to raise financing to purchase our
products;
- the timing and rate of deployment of our products by NSPs;
- preferential pricing arrangements;
- our ability to attain and maintain production volumes and quality levels
for our products;
- the mix of products sold and the mix of distribution channels through
which they are sold;
- fluctuations in demand for our products and services, especially by our
major customers;
- expiration of favorable supply or purchase contracts;
- costs relating to possible acquisitions and integration of technologies
or businesses; and
- conditions in the telecommunications market, including consolidation in
the industry, and economic conditions generally.
Due to these and other factors, quarterly and annual revenues, expenses and
results of operations could vary significantly in the future, and
period-to-period comparisons should not be relied upon as indications of future
performance. Additionally, due to all of the foregoing factors, it is possible
that in some future periods, our operating results and/or our growth rate will
be below what public market analysts and investors expect. If that happens, the
market price of our common stock could decline materially.
24
<PAGE> 28
RESULTS OF OPERATIONS
The following table summarizes Paradyne's operating results as a percentage
of revenues for each of the periods shown.
<TABLE>
<CAPTION>
PREDECESSOR BUSINESS PARADYNE
------------------------------- ----------------------------------------------
YEAR ENDED FIVE MONTHS YEAR ENDED SIX MONTHS
DECEMBER 31, SEVEN MONTHS ENDED DECEMBER 31, ENDED JUNE 30,
-------------- ENDED JULY 31, DECEMBER 31, ------------- ---------------
1994 1995 1996 1996 1997 1998 1998 1999
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues:
Sales.................................... 98.1% 98.0% 98.1% 98.5% 98.1% 98.2% 98.5% 96.5%
Service.................................. 1.9 1.5 1.5 1.2 1.7 1.1 1.1 .8
Royalties................................ -- 0.5 0.4 0.3 0.2 0.7 .4 2.7
----- ----- ----- ----- ----- ----- ----- -----
Total revenues..................... 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0
Cost of sales:
Equipment................................ 52.5 51.9 56.1 52.3 49.8 54.3 51.3 55.9
Service.................................. 1.7 1.5 1.4 0.7 0.6 0.3 .3 .3
----- ----- ----- ----- ----- ----- ----- -----
Total cost of sales................ 54.2 53.4 57.5 52.9 50.5 54.6 51.6 56.2
----- ----- ----- ----- ----- ----- ----- -----
Gross margin............................... 45.8 46.6 42.5 47.1 49.5 45.4 48.4 43.8
Operating expenses:
Research & development................... 10.8 11.4 21.5 27.3 20.6 17.7 19.4 16.7
Selling, general & administrative........ 42.3 43.5 32.9 25.8 36.6 28.2 31.4 25.9
Amortization of deferred stock
compensation............................. -- -- -- -- -- -- -- .1
Restructuring charges.................... -- -- -- -- 1.0 0.5 .1 --
----- ----- ----- ----- ----- ----- ----- -----
Total operating expenses........... 53.0 54.8 54.3 53.1 58.1 46.3 50.9 42.7
----- ----- ----- ----- ----- ----- ----- -----
Operating income (loss).................... (7.2) (8.2) (11.8) (6.1) (8.6) (0.9) (2.5) 1.1
Other (income) expenses:
Interest................................. 0.5 0.5 0.2 3.1 4.3 0.9 1.1 .7
Lucent settlement gain................... -- -- -- -- (28.2) -- -- --
Other, net............................... (0.5) (1.4) (1.6) 0.3 (1.0) 0.6 .1 (2.4)
----- ----- ----- ----- ----- ----- ----- -----
Income (loss) before provision for income
tax.................................... (7.2) (7.3) (10.4) (9.5) 16.4 (2.4) (3.7) 2.8
Provision (benefit) for income tax......... 0.6 0.4 0.1 -- 4.6 (0.5) ( .8) 1.2
----- ----- ----- ----- ----- ----- ----- -----
Net income (loss).......................... (7.7)% (7.7)% (10.5)% (9.5)% 11.8% (1.8)% (2.9)% 1.6%
===== ===== ===== ===== ===== ===== ===== =====
</TABLE>
SIX MONTHS ENDED JUNE 30, 1999 COMPARED TO SIX MONTHS ENDED JUNE 30, 1998
Revenues. Total revenues increased $17.6 million, or 19.7% to $106.8
million for the six months ended June 30, 1999 from $89.3 million for the same
period in 1998. The increase was primarily due to an increase in the volume of
sales of our broadband access products. As a percentage of total revenues,
equipment sales were 96.5% of total revenues for the six months ended June 30,
1999 compared to 98.5% for the six months ended June 30, 1998. The percentage
decrease is mostly due to a $2.5 million increase in royalty income in 1999
which includes $1.1 million from a one-time royalty fee from Globespan related
to termination of an existing agreement, and $1.5 million from a one-time
license fee from a third party for intellectual property relating to narrowband
technology.
Gross Margin. Gross margin increased $3.6 million or 8.3% to $46.8 million
for the six months ended June 30, 1999 from $43.2 million for the six months
ended June 30, 1998. A substantial portion of the increase was due to the
recognition of $2.8 million of royalty revenues. Gross margin as a percentage of
total revenues decreased to 43.8% in 1999 from 48.4% in 1998 primarily because
our newer, competitively priced products comprised a greater portion of our
total revenues. Gross margin for equipment sales increased $1.3 million
reflecting increased sales at lower margins resulting from the competitive
pricing of recently introduced products.
Research and Development Expenses. Research and development expenses
increased $500,000, or 3.2%, to $17.8 million for the six months ended June 30,
1999 from $17.3 million for the first half of 1998. As a percentage of total
revenues, research and development expense decreased to 16.7% for the first six
months of 1999 from 19.4% in the first half of 1998. This decrease is primarily
attributable to the increase in revenue during the period.
25
<PAGE> 29
Selling, General and Administrative ('SG&A') Expenses. SG&A expenses
decreased $400,000, or 1.4%, to $27.7 million for the six months ended June 30,
1999 from $28.1 million for the six months ended June 30, 1998. The decrease is
primarily attributable to a $1.1 million decrease in professional and contractor
fees, a $600,000 decrease in advertising, and a $600,000 decrease in rental
expenses, offset by a $700,000 increase in personnel related expenses mainly due
to higher incentive based expenses as a result of the higher revenues, an
increase in expense related to consignment of equipment to customers of $600,000
and higher depreciation expense of $500,000. SG&A as a percentage of revenue
declined from 31.4% for the six months ended June 30, 1998 to 25.9% for the six
months ended June 30, 1999. This decrease resulted primarily due to the 19.7%
increase in revenue during the period.
Amortization of Deferred Stock Compensation. Deferred stock compensation
is related to the granting of stock options to key employees at prices deemed to
be below fair market value for financial reporting purposes. The deferred stock
compensation is being amortized over the vesting period of the options,
generally four years. Amortization of deferred stock compensation of $135,000
was recorded during the quarter ended June 30, 1999.
Interest and Other (Income) Expense, Net. Interest and other (income)
expense, net, increased by $2.9 million to $1.8 million of income for the six
months ended June 30, 1999, from $1.1 million of expense for the same period in
1998. Interest and other (income) expense, net, is related to interest on notes
payable and borrowings under lines of credit, gains and losses on equity
investments and foreign exchange gains and losses. This increase was primarily
attributable to the receipt by Paradyne of approximately $3.0 million of income
from the sale of patents. Interest expense also decreased by $300,000 due to a
reduction in the debt related to Lucent and Communication Partners, L.P. which
was offset by a $300,000 increase in foreign exchange losses.
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Revenues. Total revenues increased $17.5 million, or 9.7%, to $198.8
million in 1998 from $181.3 million in 1997. This increase was primarily due to
an increase in the sales of our broadband access products. The increase in sales
was primarily a result of higher average selling price due to product mix and to
volume increases in broadband products. As a percentage of total revenues,
equipment sales were 98.2% in 1998 compared to 98.1% in 1997. In 1998 and 1997,
we also earned relatively small amounts of service revenues through the repair
of out of warranty equipment and royalty revenues from the licensing of
technology.
Gross Margin. Gross margin increased $400,000, or 0.5%, to $90.3 million
in 1998 from $89.8 million in 1997. Gross margin as a percentage of total
revenues decreased to 45.4% in 1998 from 49.5% in 1997 for the following
reasons:
- some of our older products faced competitive price pressures, which
resulted in lower average sales prices and accounted for a decline in
gross margin of approximately 3 percentage points out of the 4.1
percentage point net decline in gross margin; and
- In 1997 we had a large one-time customer purchase of an out-of-production
product for which we were able to obtain a substantially higher than
average sales price. No similar purchase occurred in 1998, resulting in a
decrease in gross margin of 1 percentage point out of the 4.1 percentage
point net decline in gross margin.
Research and Development Expenses. Research and development expenses
decreased $2.2 million, or 5.9%, to $35.1 million in 1998 from $37.3 million in
1997. This decrease was primarily due to a reduction in the number of
contractors and a decrease in employees, as a result of the restructuring in
November 1997. Research and development expenses declined to 17.7% of total
revenues in 1998 from 20.6% in 1997 primarily due to the increase in total
revenues in 1998 along with the expense reductions.
Selling, General and Administrative Expenses. SG&A expenses decreased
$10.3 million, or 15.6%, to $56.0 million in 1998 from $66.3 million in 1997.
The decrease was primarily attributable to a $6.4 million reduction in
amortization expense related to the Lucent settlement, a $3.3 million reduction
in consultant fees and a $2.4 million decrease in advertising costs, offset by a
$900,000 increase in personnel costs and a
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<PAGE> 30
$900,000 increase in rental expenses. SG&A expenses as a percentage of total
revenues decrease to 28.2% in 1998 from 36.6% in 1997 primarily due to the
increase in total revenues in 1998 along with expense reductions.
Restructuring Charges. During 1998, we incurred expenses of $1.0 million,
or 0.5% of total revenues, related to restructuring our international
operations.
Interest and Other (Income) Expense, Net. Interest and other (income)
expense, net, decreased $3.1 million, or 51.3%, to $2.9 million in 1998 from
$6.0 million in 1997. Interest and other (income) expense, net, is related to
interest on notes payable and borrowings under lines of credit, gains and losses
on equity investments and foreign exchange gains and losses. The decrease in
1998 was primarily attributable to a reduction in interest expense associated
with the $63.0 million forgiveness of debt by Lucent in 1997.
Income Taxes. Our 1998 income tax benefit was $1.1 million, or 22.9% of
the loss before income tax of $4.7 million. The tax benefit was less than the
statutory federal and state income tax rates principally due to losses incurred
in foreign jurisdictions for which no income tax benefit was available.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO THE SEVEN MONTH PERIOD ENDED JULY 31,
1996 (PREDECESSOR BUSINESS) AND THE FIVE MONTH PERIOD ENDED DECEMBER 31, 1996
References to the seven month period ended July 31, 1996 and the five month
period ended December 31, 1996 (the "1996 Periods") reflect the combination of
the predecessor business for seven months of 1996 with the operations of
Paradyne for five months of 1996, and do not include any adjustments related to
the purchase.
Revenues. Total revenues decreased $63.2 million, or 25.9%, to $181.3
million in 1997 from $244.5 million in 1996. This decrease was primarily due to
the following factors:
- sales of our older narrowband products, overall, declined at a rapid
rate;
- in an attempt to meet their 1996 contractual targets, Lucent purchased
products from us at the end of 1996, which resulted in lower Lucent
purchases in 1997 as it sold off its inventory (See "Certain
Transactions"); and
- we discontinued selling Premisys products through channels other than
Lucent and AT&T and discontinued selling other network access products
which were transitioned to Lucent after the sale of Paradyne.
As a percentage of total revenues, equipment sales were 98.1% in 1997 and
98.3% in the 1996 Periods. We also earned relatively small amounts of service
revenues through the repair of out of warranty equipment and royalty revenues
from the licensing of technology.
Gross Margins. Gross margin decreased $19.4 million, or 17.7%, to $89.8
million in 1997 from $109.2 million in the 1996 Periods. Gross margin as a
percentage of total revenues increased to 49.5% in 1997 from 44.6% in the 1996
Periods for the following reasons:
- we were able to reduce the material costs of some of our products by
obtaining more competitive pricing from our existing and new suppliers,
which resulted in savings in the form of lower product costs in 1997, and
we were able to obtain a higher average sales price for some of our older
products due to increased sales of products with higher margin
configurations, which translated into higher margins. Together these
changes accounted for an increase of approximately 7 percentage points
out of the 4.9 percentage point net increase in gross margin.
- one of our major customers making a large one-time purchase of an
out-of-production product in 1997 for which we were able to obtain a
substantially higher than average sales price (resulting in an increase
to gross margin of approximately 1 percentage point out of the 4.9
percentage point net increase in gross margin.)
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<PAGE> 31
- we introduced new, competitively priced access products, which resulted
in a decrease in gross margin of approximately 4 percentage points out of
the 4.9 percentage point net increase in gross margin.
Research and Development Expenses. Research and development expenses
decreased $21.9 million, or 36.9%, to $37.3 million in 1997 from $59.2 million
in the 1996 Periods. Research and development expenses declined to 20.6% of
total revenues in 1997 from 24.2% in the 1996 Periods. This decrease was
primarily attributable to recognition of purchased research and development of
$13.1 million at the time of the 1996 acquisition and a $7.7 million reduction
associated with a reduction in the number of support personnel and contractors
as a result of the restructuring in November 1997.
Selling, General and Administrative Expenses. SG&A expenses decreased $6.1
million or 8.4%, to $66.3 million in 1997 from $72.3 million in the 1996
Periods. This decrease was primarily due to a reduction in personnel following
the 1996 acquisition and $10.3 million associated with a reduction of SG&A
related personnel and contractors in the fourth quarter of 1997 as a result of
the November 1997 restructuring, which more than offset the $4.1 million
increase in amortization primarily due to the Lucent supply contract. SG&A
expenses as a percentage of total revenues increased to 36.6% in 1997 from 29.6%
in the 1996 Periods. This increase was primarily attributable to the reduction
of revenues in 1997.
Restructuring Charges. In the fourth quarter of 1997, we incurred a
restructuring charge of $1.8 million, or 1.0% of total revenues. This
restructuring was necessary to reduce redundant headcount and bring operating
expenses in line with revenues.
Interest and Other (Income) Expense, Net. Interest and other (income)
expense, net, increased $3.9 million, or 196.5%, to $6.0 million in 1997 from
$2.0 million in the 1996 Periods. Interest and other (income) expense, net, is
related to interest on notes payable and borrowings under lines of credit, gains
and losses on equity investments and foreign exchange gains and losses. The
increase in 1997 was primarily attributable to interest expense associated with
the Lucent debt.
Lucent Settlement Gain. As a condition to the closing of the 1996
acquisition, Paradyne entered into a volume purchase letter agreement, whereby
Lucent agreed to purchase minimum levels of network access products from us. At
December 31, 1997, Lucent had not satisfied its obligations and, therefore, was
subject to take or pay provisions contained in the volume purchase letter
agreement. However, in August 1998, Lucent and Paradyne entered into an
arrangement under which we terminated the volume purchase letter agreement,
received an exclusivity agreement with Lucent extending through June 2001 and
received $8.2 million of cash and the forgiveness of debt in the amount of $63.0
million owed to Lucent by Paradyne. This resulted in the recording of a $51.2
million non-recurring gain in 1997, which is net of the $16.4 million
unamortized cost of the agreement. See "Certain Transactions."
Income taxes. In 1997, as a result of the Lucent settlement gain of $51.2
million, we were able to utilize our net operating loss carryforwards reducing
our federal and state income tax provision to $8.3 million or 28.0% of pretax
income.
LIQUIDITY AND CAPITAL RESOURCES
From our inception through December 31, 1998, we financed our operations
through a combination of debt financing and cash generated from operations. In
connection with the 1996 acquisition, Communication Partners, L.P. acquired the
predecessor business through an equity investment of $17.1 million. In addition,
we incurred acquisition debt totaling $76.8 million and acquisition costs of
$8.4 million. Additionally, in July 1996 we entered into a $45.0 million
revolving line of credit facility with Bank of America NT&SA. This facility was
voluntarily reduced to $35.0 million in March 1999. On July 21, 1999 we received
net proceeds of approximately $61.2 million from our initial public offering of
our common stock, and all outstanding debt under this facility was paid off.
Availability under the credit facility is the lesser of $35.0 million or
the sum of 85% of eligible trade accounts receivable and the lesser of: $6.0
million, 40% of the value of eligible inventory, or the amount of the machinery
and equipment appraisal. Availability is further reduced by a $3.0 million
borrowing base reserve, in lieu of any financial covenants. The line of credit
facility is secured by substantially all of our
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assets and contains non-financial covenants and restrictions as to various
matters, including our ability to pay dividends or to effect mergers or
acquisitions, incur other indebtedness or to make investments without the bank's
prior approval. As of August 31, 1999, we were not in breach of any of these
restrictive covenants.
This facility, which terminates on January 31, 2000, bears an annual
interest rate of Bank of America NT&SA's reference rate plus 0 - 100 basis
points, depending on our quarterly fixed charge coverage ratio. The facility
also provides for an unused line fee of 0.375% to 0.50%. The principal amount
outstanding at December 31, 1998 was $16.1 million. The weighted average
interest rate was 9.2% for the year ended December 31, 1998.
In August 1997, Communication Partners, L.P. agreed to provide a revolving
line of credit facility in the maximum amount of $5.0 million. This agreement
was amended in October 1998 to increase the maximum amount of the facility to
$10.0 million. Amounts outstanding may be repaid and reborrowed at any time
during the term of the note that matures on August 25, 2002. Borrowings under
this agreement are subordinated to debt under the Bank of America NT&SA line of
credit facility and bear interest at 8% per annum. The agreement does not impose
specific financial covenants upon Paradyne. We terminated this line of credit
facility in September 1999.
We are a holding company with no business operations of our own. In the
event we incur obligations, we would be dependent on payments, loans, dividends
and distributions from our subsidiaries for funds to pay our obligations. The
ability of our subsidiaries to pay dividends or distributions or make loans to
us is subject to restrictions. Under the line of credit agreement, neither
Paradyne Corporation nor its Canadian subsidiary may pay dividends or make
distributions to us unless Paradyne Corporation and its subsidiaries meet
minimum financial ratios related to earnings, interest expense and total
indebtedness and obtain the prior approval of Bank of America NT&SA. The line of
credit agreement limits the aggregate payment of dividends and distributions to
fifty percent (50%) of the consolidated net income of Paradyne Corporation for
the period from August 1, 1996 to the end of the immediately preceding fiscal
quarter. The line of credit agreement also requires the prior approval of Bank
of America NT&SA for any loans Paradyne Corporation or its Canadian subsidiary
may make to us.
Six Months Ended June 30, 1999
Cash provided by operations for the six months ended June 30, 1999 totaled
$7.6 million and resulted primarily from $4.3 million in net proceeds from a
license of intellectual property related to modem technology and sale of
patents. Further contributing to cash from operations was a reduction in trade
receivables reflecting a 9% decrease in revenues in the second quarter of 1999
compared to the fourth quarter of 1998 due to lower sales of narrowband products
and a $1.1 million reduction in inventory mainly due to normal monthly
fluctuations. The decrease in trade receivables primarily resulted from lower
equipment sales to one of our largest customers. Decreases to cash from
operating activities partially offsetting the above increases resulted from
increases in receivables from affiliates reflecting a $1.1 million one-time
royalty fee from GlobeSpan related to the termination of an existing agreement
and a $1.6 million decrease in payroll and benefit-related liabilities related
to payments of 1998 commissions and management bonuses.
Net cash used in investing activities for the six months ended June 30,
1999 totaled $2.2 million and reflects capital expenditures made in support of
operations. We anticipate that capital requirements for the remainder of the
year will be in the $1.5 million to $3.0 million per quarter range.
Net cash used in financing activities for the six months ended June 30,
1999 totaled $4.6 million primarily reflecting debt repayments on our Bank of
America NT&SA revolving credit facility of $7.2 million, offset in part by
proceeds from the exercise of stock options totaling $2.6 million. Net
borrowings were not required to fund operations and capital expenditures in the
period.
We had $3.7 million of cash and cash equivalents at June 30, 1999
representing an increase of $1.3 million from $2.4 million at December 31, 1998.
Working capital increased by $5.7 million or 68% from $8.4 million at December
31,1998 to $14.1 million at June 30, 1999.
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We believe that the proceeds from the initial public offering, together
with the cash flows from operations and borrowings under the Bank of America
NT&SA line of credit facility, will be sufficient to meet our working capital
needs for at least the next 24 months.
Year Ended December 31, 1998
Net cash used in operating activities was $4.6 million for the five months
ended December 31, 1996 as compared to $1.1 million for 1997. Net cash provided
by operating activities was $6.2 million for 1998. The reduction in net cash
used in operating activities for the five month period ending December 31, 1996
to 1997 was primarily driven by a reduction in accounts receivable and
inventory, net of a decrease in accounts payable, as a result of lower sales
volume as well as a reduction in the annual run rate of operating expenses after
normalizing for the 1996 non cash related write off of purchased research and
development. Net cash provided by operating activities increased $7.3 million
from 1997 to 1998 primarily as a result of a reduction in receivables reflecting
the collection of the other receivables totaling $8.2 million at December 31,
1997 in connection with the termination of the Lucent volume purchase letter
agreement offset in part by an increase in trade receivables. Trade receivables
increased due to increased sales volume offset in part by a reduction in the
time it takes to collect from customers. Other activities impacting net cash
provided by operations included reductions in operating expense, increased
accounts payable, reflecting timing of incurrence of obligations and payments to
vendors, offset by increased inventory, due to increased sales volume, as well
as an increase in income tax receivable, reflecting overpayment of income taxes
in 1998.
Net cash (used in) provided by investing activities was ($29.0 million),
$11.6 million and ($5.1 million) for the five months ended December 31, 1996 and
the years ended December 31, 1997 and 1998, respectively. Effective July 31,
1996, Communication Partners, L.P. acquired Paradyne's net assets for $24.6
million in cash and $69.3 million in debt to seller. Net proceeds from the sale
of the Largo, Florida facility in June 1997 totaled $20.8 million. Net capital
expenditures relating primarily to the support of operations totaled $4.4
million, $9.2 million, and $5.4 million for the five-month period ending
December 31, 1996, 1997 and 1998, respectively.
Net cash provided by financing activities totaled $30.1 million for the
five months ended December 31, 1996. Net cash used in financing activities in
1997 totaled $8.7 million, as compared to $1.7 million for 1998. Communication
Partners, L.P.'s 1996 investment in Paradyne totaled $102.3 million, consisting
of a $17.1 million equity investment, $69.3 million in seller notes to Lucent,
debt to Communication Partners of $7.5 million and $8.4 million of other
acquisition costs. Borrowings under other debt obligations totaling $2.5 million
and $6.0 million for the five months ended December 31, 1996 and the year ending
December 31, 1997 consisted primarily of deferred interest associated with
seller debt. Proceeds from the 1997 sale of the Largo, Florida facility were
used to retire debt of $20.8 million under various notes and the Bank of America
NT&SA revolving credit facility. Additionally, debt was further reduced by $63.0
million as part of the Lucent settlement discussed above. Net borrowings under
our bank line of credit to fund operations, capital expenditures and payment of
other acquisition costs totaled $10.6 million and $4.4 million for the
five-month period ending December 31, 1996 and the year ended December 31, 1997.
Net borrowings against our bank line of credit were not required to fund
operations, capital expenditures and payment of other acquisition costs in 1998.
The net borrowings against this line in 1998 reflected the payoff of $2.7
million in seller debt. Additionally, in 1998 we borrowed and repaid $5.0
million from Communication Partners to cover working capital needs.
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QUARTERLY RESULTS
The following table sets forth unaudited quarterly operating information
for each of the nine quarters ending with the quarter ended June 30, 1999. This
data has been prepared on the same basis as the audited financial statements
contained elsewhere in this prospectus and in the opinion of management,
includes all adjustments necessary for the fair presentation of the information
for the periods presented. This information should be read in conjunction with
the financial statements and notes thereto. The operating results in any quarter
are not necessarily indicative of the results that may be expected for any
future period.
<TABLE>
<CAPTION>
QUARTER ENDED
--------------------------------------------------------------------------------------------------
JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30,
1997 1997 1997 1998 1998 1998 1998 1999 1999
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues:
Sales...................... $42,469 $45,739 $46,009 $42,655 $45,224 $49,966 $57,308 $50,969 $52,164
Service.................... 490 947 757 384 644 573 655 475 416
Royalties.................. 155 251 -- -- 350 845 197 2,618 200
------- ------- ------- ------- ------- ------- ------- ------- -------
Total revenues....... 43,114 46,937 46,766 43,039 46,218 51,384 58,160 54,062 52,780
Total cost of
sales.............. 22,710 23,221 24,253 22,047 24,004 28,913 33,577 29,966 30,099
------- ------- ------- ------- ------- ------- ------- ------- -------
Gross margin............... 20,404 23,716 22,513 20,992 22,214 22,471 24,583 24,096 22,681
Operating expenses:
Research & development..... 9,049 9,477 9,208 8,554 8,728 8,866 8,984 8,768 9,067
Selling, general &
administrative........... 17,187 17,353 15,115 13,410 14,653 13,612 14,294 13,863 13,800
Amortization of deferred
stock compensation....... -- -- -- -- -- -- -- -- 135
Restructuring charges...... -- -- 1,778 -- 59 167 758 -- --
------- ------- ------- ------- ------- ------- ------- ------- -------
Total operating
expenses........... 26,236 26,830 26,101 21,964 23,440 22,645 24,036 22,631 23,002
Operating income (loss)...... (5,832) (3,114) (3,588) (972) (1,226) (174) 547 1,465 (321)
Lucent settlement gain..... -- -- (51,183) -- -- -- -- -- --
Interest and other (income)
expenses, net.............. 1,269 1,876 171 521 586 265 1,530 (2,418) 569
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (loss) before
provision for income tax... (7,101) (4,990) 47,424 (1,493) (1,812) (439) (983) 3,883 (890)
Provision (benefit for income
tax........................ -- -- 8,302 (342) (415) (100) (225) 1,515 (280)
------- ------- ------- ------- ------- ------- ------- ------- -------
Net income (loss)............ $(7,101) $(4,990) $39,122 $(1,151) $(1,397) $ (339) $ (758) $ 2,368 $ (610)
======= ======= ======= ======= ======= ======= ======= ======= =======
</TABLE>
Our revenues, historically, have tended to be strongest in the fourth
quarter and lowest in the first quarter of the following year. We believe this
is primarily due to the calendar year budgeting of many of our customers and to
compensation policies tending to compensate sales personnel in our distribution
channels for achieving annual quotas. Consequently, if revenue levels are below
expectations for a given quarter, operating results are likely to be
disproportionately affected when viewed by quarter since only a relatively small
portion of our operating expenses vary materially with revenues.
Our quarterly results are likely to vary due to a number of factors, such
as demand for our products, the size and timing of significant orders and their
fulfillment, the length of sales cycles for some of our newer products to our
larger customers, changes in our level of operating expenses, improvements in
operating efficiencies resulting from changes in systems and processes,
customers' budgeting cycles, changes in our sales incentive plans, changes in
the mix of products sold and conditions in foreign markets.
YEAR 2000 ISSUES
Background: Some computers, software and other equipment include
programming code in which calendar year data is abbreviated to only two digits
(e.g., 99) rather than four digits (e.g., 1999). As a result, these systems
automatically assume that the first two digits of a calendar year are "1" and
"9." Therefore, time-sensitive functions of these systems may misinterpret dates
after January 1, 2000, to refer to the twentieth century rather than the
twenty-first century (i.e., "02" could be interpreted as "1902" rather than
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"2002"). The problems associated with this design decision are commonly referred
to as the "Millennium Bug," "Year 2000 problem" or "Y2K problem."
Assessment: In 1996 we identified the Year 2000 problem as a potential
risk to our operations. As a result, we developed a comprehensive multi-year
plan to make our internal computer software and hardware systems Year 2000
compliant. Our Year 2000 compliance plan is comprised of 3 phases: an assessment
phase; an implementation phase; and a testing phase. This plan, initiated in the
first quarter of fiscal 1997, is in the final stages of implementation. While we
believe that we have implemented a comprehensive plan for addressing the Year
2000 problem and anticipate completing our compliance activities in a timely
manner, we cannot be certain that these Year 2000 compliance efforts will be
successful. The financial impact of making the required systems changes cannot
be known precisely at this time, but we currently expect these expenses to be
less than approximately $4.0 million. The financial impact, could, however,
exceed this estimate. Nonetheless, these costs are not expected to be material
to our business, financial condition, or results of operation. To date, we have
incurred expenses of approximately $3.7 million.
Internal Infrastructure: We believe that we have identified all of the
major computer hardware, software applications and other calendar year dependent
equipment used in connection with our internal operations. Our Year 2000
compliance plan addresses items that must be modified, upgraded, or replaced in
order to minimize the possibility of a material disruption of our business. We
have replaced our accounting, sales, distribution and manufacturing systems with
what we believe to be a Year 2000 compliant enterprise resource planning system.
We have replaced our human resource and payroll systems application software
with what we believe to be Year 2000 compliant software, and we have replaced
our internal phone system and associated equipment with what we believe to be a
Year 2000 compliant system. Currently, we are in the process of modifying,
upgrading and replacing, as appropriate, other computer software applications,
hardware, and equipment that could potentially be adversely affected by the Year
2000 problem. Monthly updates on Year 2000 activities are made available to all
employees. We expect to complete this implementation phase by the end of the
third quarter of 1999. The fourth quarter of 1999 has been reserved for final
testing of all of our systems for compliance.
Network Service Providers: Our ongoing operations are dependent on the
uninterrupted service provided to us by our voice (landline and wireless), data
and Internet service vendors. We have initiated communications with our various
service providers and have received assurance that they have or will address
Year 2000 compliance issues associated with their ability to provide
uninterrupted service. Any failure of these vendors to resolve any outstanding
Year 2000 issues in a timely manner could materially and adversely affect our
business, financial condition and results of operation.
Distributors and Suppliers: We have initiated communications with our key
distributors, service support providers and suppliers to establish the status of
their Year 2000 compliance. We have communicated with our major suppliers of
minicomputers, servers, computers, software and other equipment used, operated
or maintained by us to identify and, to the extent possible, resolve issues
associated with the Year 2000 problem. We are also gathering Year 2000
compliance information from web sites and other public sources for our second
and third-tier distributors and suppliers. We believe that we have identified
all of the potential Year 2000 problems with respect to these distributors,
service support providers and suppliers and have received their commitment to
resolve any outstanding issues in a timely manner. However, any failure on our
part to identify potential third party Year 2000 problems or any failure of
these parties to resolve any outstanding issues with their systems in a timely
manner could materially and adversely affect our business, financial condition
and results of operations.
As we must rely to a large extent on representations made by our suppliers
and distributors from surveys and questionnaires, a failure by these parties to
adequately address and resolve Year 2000 problems poses the most likely
unresolved Year 2000 risk to us. In the event our suppliers are unable to
adequately address Year 2000 problems, such inability could disrupt their supply
of critical components to us for the manufacture of our products.
Contingency Plans: We are currently developing contingency plans to be
implemented as part of our efforts to identify and correct Year 2000 problems
affecting our internal systems. We expect to complete these
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contingency plans by the end of the third quarter of 1999. Depending on the
systems affected, these plans could include (i) accelerated replacement of
effected equipment or software, (ii) increased work hours for our personnel or
use of contract personnel to correct on an accelerated schedule any Year 2000
problems which may arise, (iii) the provision of manual workarounds for
information systems and (iv) other similar approaches. If we are required to
implement any of these contingency plans, such plans may have a material adverse
effect on our business, financial condition or results of operations.
Additionally, we may not complete these contingency plans in a timely manner,
and failure to do so could have a material adverse effect on our business,
financial condition or results and operations.
The discussion of our efforts and expectations relating to Year 2000
compliance are forward-looking statements. Our ability to achieve Year 2000
compliance and the level of incremental costs associated with achieving this
compliance could be adversely impacted by, among other things, the availability
and cost of programming and testing resources, the ability of parties with whom
we interact to resolve Year 2000 issues and unanticipated problems identified in
our ongoing compliance review.
MARKET RISK
If we were to borrow from our revolving line of credit facility with Bank
of America NT&SA, we would be exposed to changes in interest rates. We are also
exposed to changes in interest rates from investments in some held-to-maturity
securities. Under our current policies, we do not use interest rate derivative
instruments to manage exposure to interest rate changes. Additionally, we do not
currently engage in foreign currency hedging transactions to manage exposure for
transactions denominated in currencies other than U.S. dollars.
INFLATION
Because of the relatively low levels of inflation experienced in 1996, 1997
and 1998, inflation did not have a significant effect on our results in such
years.
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BUSINESS
OVERVIEW
We are a leading developer, manufacturer and distributor of broadband and
narrowband network access products for network service providers, commonly
referred to as NSPs, and business customers. Paradyne operates in a single
business segment. We offer solutions that enable business class, service level
managed, high-speed connectivity over the existing telephone network
infrastructure and provide for cost-effective access speeds of up to 45 megabits
per second, or Mbps. We believe that demand for high-speed, broadband
transmission will continue to increase as more business and residential users
find narrowband access technologies inadequate to meet their high-bandwidth
requirements. Our objective is to maintain and build upon our position as one of
the leaders in the broadband access market by focusing on next generation
digital subscriber line, more commonly known as DSL, service level management,
more commonly known as SLM, and other broadband access solutions.
We have a long history of technological innovation, and we hold over 160
U.S. patents and have over 100 U.S. patent applications pending. Our equipment
has been sold to over 50% of the Fortune 500 companies and in businesses in over
125 countries. We estimate that sales to NSPs represented approximately 40% of
our total revenues in 1998. With our reputation and history as a supplier of
access solutions to a large customer base, we believe that we are well
positioned to provide broadband access solutions to NSPs and business customers
as they upgrade their networks.
INDUSTRY BACKGROUND
Over the past several years, data traffic generated by computer users
accessing the Internet or business networks has increased significantly.
Industry analysts believe that the volume of this data traffic, referred to as
wide area network traffic, will continue to expand rapidly due to four key
trends:
- the dramatic growth in the use of the Internet;
- the proliferation of distributed computing applications, such as
electronic mail, electronic transaction processing, enterprise resource
planning and inter-enterprise information transfer based on Web-
technologies;
- the deregulation of the telecommunications services industry which has
increased the number of service providers and intensified competition;
and
- the continued deployment of high capacity fiber optic networks and the
emergence of high-volume bandwidth network access technologies that
increase the ability to transfer large volumes of information.
In order to accommodate increasingly high volumes of data, NSPs have
invested significant resources to upgrade central office switching centers and
the interconnecting infrastructure, known as the network backbone. While
capacity constraints in the network backbone continue to be addressed through
the use of high speed digital and fiber-optic equipment, the network that
connects end users to NSPs central offices, typically known as the "last mile,"
remains a bottleneck that limits high-speed data transmission. The last mile was
originally constructed with copper twisted-pair wiring designed to support
analog voice traffic. There is an installed base of over 170 million copper
lines in the United States, and over 780 million worldwide. End users have been
frustrated by the limitations on the ability of NSPs to cost effectively deliver
high-speed services, such as telecommuting, branch office internetworking and
Internet access, over the last mile using standard, narrowband dial-up
connections, which are typically limited to data transmission rates of 28.8
kilobits per second, or Kbps, to 56.0 Kbps. We believe that most business and
residential users are finding these types of narrowband access technologies
inadequate to meet their high bandwidth requirements.
Global regulatory changes are increasing the number of competitors in the
access portion of the network and are further accelerating the need for NSPs to
upgrade their networks and increase their service offerings. Internationally, a
number of developed and developing nations have privatized their state-owned
telecommuni-
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cations monopolies and opened their markets to new NSPs. Competitors that have
emerged and potentially could take customers from incumbent carriers include
competitive local exchange carriers, often called CLECs, Internet service
providers, satellite operators, cable operators and electric utilities. For
example, cable operators are already beginning to provide data transmission
services to customers by leveraging the high bandwidth capabilities of their
coaxial cable based infrastructure. This increase in competition for the access
portion of the network is also helping to facilitate the transition from analog
to digital and narrowband to broadband access over the last mile.
New digital technologies have been introduced to increase the speed and
quality of digital transmission over the copper wire infrastructure, or local
loop, in the last mile and provide alternative means of accessing the network
backbone. The increased speed, lower transmission cost, higher reliability and
quality of digital networks are better suited for transmitting the increased
level of enhanced voice and high-speed data traffic that now must pass over the
last mile. Recently, NSPs have begun to install higher-speed, digital broadband
transmission technologies, such as DSL, in the last mile. Dataquest forecasts
that the market for DSL equipment will grow from approximately $286 million in
1998 to over $1.6 billion by 2002.
NSPs have deployed various narrowband and broadband technologies across
customers' wide area networks in order to provide cost-effective access
solutions for their customers. Demand for high-speed access services has
increased and more protocols have emerged to facilitate the connections of
business customers to NSPs' network backbones. Protocols are computer languages
that allow two or more communications devices, such as modems, to communicate
with one another. These protocols include Frame Relay, asynchronous transfer
mode, commonly referred to as ATM, integrated services digital network, commonly
referred to as ISDN, DSL and others. When networks must support multiple
protocols, network management is more difficult because many protocols are being
used simultaneously and the network management devices must decipher each
protocol. The proliferation of protocols makes the provisioning and management
of high-speed access technologies and services increasingly difficult. As a
result, NSPs are required to operate and maintain hybrid networks comprised of
recently adopted new technologies and existing installed equipment.
The performance, quality and maintainability of network services are highly
dependent on the volume and type of traffic running over these hybrid networks.
As a result, NSPs and business customers need sophisticated diagnostic and
management capabilities to monitor business customer application traffic. The
required tools should analyze the physical transmission characteristics as well
as enable NSPs and business customers to evaluate compliance with service level
agreement parameters such as, how much data gets through the network, the time
it takes data to get through the network and availability of the network.
Business customers also need management solutions that can be scaled to meet
growing demand for services, improve network quality, reduce the number of
support personnel managing their networks and lower the overall costs for
bandwidth and maintenance tools.
As demand for high-speed transmission continues to increase, we believe
that the telecommunications industry will continue to develop and deploy new
broadband access technologies, which will become increasingly cost competitive
with traditional technologies. As a result of changes in the telecommunications
industry, NSPs are requiring flexible solutions that can be scaled to meet
growing demand for services, and also permit easy, cost-effective enhancements
in the future. With the increasing number of access protocols and equipment
options, customers are placing a higher level of importance on the ability of
equipment providers to deliver integrated system solutions.
THE PARADYNE SOLUTION
Paradyne is a leading developer, manufacturer and distributor of network
access products for NSPs and business customers. We offer solutions that enable
business class, service level managed, high-speed connectivity over the existing
telephone network infrastructure and provide for cost-effective access speeds of
up to 45 Mbps. NSPs use our broadband products to enable high-speed managed
connections from the central office to the customer premise. Moreover, our
broadband products enable NSPs to more efficiently provide network access
services by allowing a high level of management, monitoring and control over
network access equipment and circuits. Business customers use our broadband
products for high-speed connection of voice
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and data communications to connect their employees to corporate wide area
networks and to the Internet using both public and private services provided by
NSPs. Our products are designed for easy installation by NSPs and end users,
significantly reducing the need for installation by an onsite service
technician, thereby reducing costs for network access. Additionally, our
narrowband products are used by NSPs and business customers to provide
connectivity between an NSP's analog or digital circuit and a customer's digital
equipment.
[Graphic depicting Paradyne Hotwire DSL, SuperLine, FrameSaver SLM and
conventional access solutions connecting to multiple network backbone
facilities.--Graphic entitled "Paradyne Broadband Access Solutions."]
BROADBAND SOLUTIONS
- Broadband DSL Access. Our Hotwire solution delivers broadband DSL access
across the existing copper wire infrastructure. The Hotwire products
enable competitive local exchange carriers, incumbent carriers and other
NSPs to provide broadband access to business customers, teleworkers and
residential customers at substantially reduced rates compared to
conventional service offerings. We believe our Hotwire solution allows
NSPs the ability to deploy the broadest array of DSL technologies of any
commercially available product in a single platform. This enables NSPs to
match the appropriate DSL technology to the customer's application
requirements and thereby serve a wider array of customers. This also
allows for a more efficient utilization of expensive central office
equipment space and minimizes operational support requirements, such as
training and inventory, by using a single vendor. The recently introduced
SuperLine system incorporates our Tripleplay technology, a technology
developed by Paradyne that enables multi-line voice and data service over
a single telephone line, and allows NSPs to offer cost effective,
multiple line voice and high speed data services over a single
traditional telephone line to residential customers, small offices and
home offices. The SuperLine system incorporates products and technology
manufactured and developed by AG Communication Systems and Paradyne.
Contractually, both AG and Paradyne have the rights to sell the entire
system. The SuperLine product can be easily installed by customers to
meet their broadband access needs.
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<PAGE> 40
- Broadband SLM. The FrameSaver solution enables competitive local
exchange carriers, incumbent carriers and other Frame Relay service
providers to offer managed high-speed service from end-to-end across
their networks and across multi-carrier networks. Using packet
technology, Frame Relay and asynchronous transfer mode networks allow for
the economical use of the broadband network backbone. Packet technology
allows many customers data to share the same network. Each customer's
data is put into packets, or envelopes, that contain only their data and
have an identification stamp that designates the customer. These packets,
or envelopes, are then sent over a broadband network along with other
customer's packets. These packets are able to simultaneously share the
broadband network. However, without the use of an SLM solution, the NSP
and the business customer are unable to proactively manage and guarantee
the level of service across the network. The FrameSaver solution allows
customers the ability to graphically view real time and historical
network performance statistics and troubleshoot failures end-to-end
across the Frame Relay network from our OpenLane network management
system.
- Broadband Conventional Access. Our Acculink and NextEdge solutions
deliver broadband access across the existing NSP infrastructure utilizing
T1/E1 links. A T1/E1 link is a connection between two locations that
carries data at the rate of 1.544 megabits per second (T1) or 2.048
megabits per second (E1). The T1/E1 infrastructure is the most commonly
deployed broadband network system today and is widely available in the
United States. Customers often have both voice and data networks that
were installed using multiple broadband and/or narrowband access lines. A
single conventional broadband facility can typically accommodate up to 24
narrowband lines. Acculink and NextEdge act as the required
communications interface to these broadband networks and enable the
elimination of narrowband access lines by consolidating voice and data
over the same broadband circuit. Access consolidation reduces the cost of
high-speed access and may also increase performance, particularly when
customers consolidate multiple narrowband access lines onto broadband
facilities. Additionally, NextEdge incorporates FrameSaver SLM functions
to deliver access consolidation and SLM in the same platform. Acculink
and NextEdge solutions are used by competitive local exchange carriers,
incumbent carriers and other NSPs to offer service level managed,
high-speed access to public and private networks. Business customers
choosing to manage their own networks also deploy our Acculink and
NextEdge solutions.
NARROWBAND SOLUTIONS
- Subrate Digital Access and Analog Modems. Our Comsphere digital access
products provide an interface between a customer's digital equipment and
an NSP's digital circuit operating at speeds of up to 64 Kbps. Our
Comsphere modems enable analog communications over dial-up or dedicated
circuits. These products enable NSPs and business customers to build
low-cost, centrally managed networks. Introduced in the early 1990s,
these products are widely deployed in NSP networks and business networks
around the world.
STRATEGY
Our objective is to maintain and build upon our position as one of the
leaders in the broadband access market utilizing next generation DSL solutions,
conventional copper broadband solutions and SLM solutions. Key elements of our
strategy include:
CONTINUE TO DEVELOP INNOVATIVE BROADBAND TECHNOLOGY AND SYSTEM SOLUTIONS
We will continue to focus on providing innovative, cost-effective broadband
access solutions that improve communications over the traditional copper
telephone wire infrastructure for NSPs and business customers. We believe that
our internally developed technologies play a key role in differentiating our
products from those of our competitors. We have over 160 U.S. patents issued and
over 100 U.S. patent applications pending, and we expect many of these patents
and patent applications will contribute to the development of new technologies
and systems. In addition, we will continue to collaborate with technology
partners to facilitate the development of competitive products, as we have
previously done with NetScout, AGCS and
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others. Our DSL technological innovations include our MVL and Tripleplay
technologies, which have been implemented in our Hotwire and SuperLine products.
Our SLM technology innovations have been implemented in our FrameSaver, NextEdge
and OpenLane products. We intend to enhance our Hotwire DSL solutions with
higher port densities, additional customer premises equipment capabilities and
additional features for our DSL access multiplexer, commonly referred to DSLAM.
Higher port densities will allow more modems to be deployed in one DSLAM which
lowers the cost of deploying a modem. The cost is lowered because more modems
can share the common cost of the DSLAM chassis and power supplies and because
customers can put more modems in the same amount of shelf space. In order to
increase customer premises equipment capabilities, we intend to build products
that allow customers to perform many functions over their DSL network. These
products could allow voice and data to share the DSL network, SLM to be deployed
over a DSL network, streaming audio and video over a DSL network or special
protocols to be transmitted over a DSL network. In order to create additional
features for our DSLAM we plan to continue to develop new versions of both
hardware and software to support new requirements from our customers. We also
intend to enhance our Tripleplay technology to support additional voice channels
and faster data speeds. Further, we intend to integrate our FrameSaver SLM
technology into additional platforms, including those that support DSL and
asynchronous transfer mode. As our customers continue to expand their DSL
networks into the application space of conventional broadband networks, we
believe our technological leadership and products provide Paradyne a competitive
advantage.
CONTINUE TO CAPITALIZE ON BUILDOUT OF DSL INFRASTRUCTURE
Revenues from worldwide sales of DSL equipment are projected by industry
sources to increase by approximately 275% from 1998 to 2002. To capitalize on
this projected growth, we intend to continue to pursue "design wins" from NSPs
that are offering or plan to offer DSL services. A "design win" is achieved when
an NSP adopts Paradyne products as one of a limited number of DSL platforms for
its central office. A typical NSP buildout includes DSLAMs in an NSP's central
office, resulting in an installed base into which Paradyne will be well
positioned to sell DSL line-cards for the DSLAMs and DSL customer premises
equipment for the end user. Since the third quarter of 1997, Paradyne had
shipped over 2,700 DSLAMs. Some of our current DSL customers include CFW
Communications, Guangdong PTA, HarvardNet, NAS CuNet, Rhythms, TDS Telecom and
Tunisia Telecom. We will continue to focus on increasing our number of design
wins with new NSPs as well as maintain our existing relationships with NSPs who
have awarded us design wins in the past. We also intend to continue to produce a
variety of DSL line-cards and DSL customer premises equipment to handle the
diverse needs of our NSP customers. We intend to install DSL interfaces on our
FrameSaver and NextEdge products which will allow customers to deploy those
solutions into DSL networks. We further plan to enhance our DSLAMs so that they
may be interoperable with other companies' technologies and DSL customer
premises equipment in order to provide a more comprehensive DSL solution.
INCREASE WORLDWIDE DEPLOYMENT OF FRAMESAVER AS PART OF NSP/SLM SOLUTIONS
NSPs are enhancing their service offerings by providing service level
agreements for their Frame Relay and asynchronous transfer mode business
customers. Service level agreements are put in place between an NSP and the
NSP's customer to document how the NSP and the customer expect the service to
operate. If the service does not operate as specified, then there is typically
some type of remedy. An example might be that the service is supposed to be
available 24 hours a day, 365 days a year. If the service is not available for
one of those days, then the NSP might be required to reimburse the customer for
one day's worth of charges. We believe that as service level agreements become
more widely adopted, NSPs and end user customers will increasingly require SLM
solutions and, therefore, that NSPs will be required to incorporate these
solutions in their networks. We intend to focus on further integrating
FrameSaver as part of our existing NSP customers' service level agreement
solutions and obtaining additional FrameSaver design wins from new NSPs.
Currently, Ameritech, Intermedia, IXC and MCI WorldCom offer FrameSaver
solutions to their customers. In addition, we intend to work with other Frame
Relay and ATM equipment vendors to leverage our FrameSaver products.
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<PAGE> 42
FOCUS ON PRODUCT SALES TO AND THROUGH NSPS
We intend to continue focusing on NSPs that provide managed network access
services to capitalize on the increased demand for such services. Over the past
three years, our sales to NSPs have increased as a result of the efforts of our
worldwide NSP direct sales force. We estimate that over 40% of our revenues in
1998 were generated from sales to NSPs. We intend to focus the efforts of our
direct sales force on maintaining and increasing sales within our current NSP
customer base as well as attracting new NSPs. We plan on focusing primarily on
NSPs deploying DSL, Frame Relay and second and third line voice and data
services.
LEVERAGE FORTUNE 500 CUSTOMER BASE AS THEY UPGRADE THEIR NETWORKS TO BROADBAND
We intend to leverage our installed base of Fortune 500 companies and other
businesses that have purchased our narrowband products and conventional
broadband products. Many of these customers have deployed networks including a
combination of our narrowband and broadband solutions, and we expect that over
the next few years many of these companies will upgrade their networks with
additional broadband solutions. We believe that our existing customers prefer to
buy broadband products from Paradyne as a result of the ability to integrate
Paradyne products into their existing networks more efficiently than the
products of our competitors. In order to capitalize on this potential equipment
upgrade within Fortune 500 companies, we intend to continue to provide
cost-effective solutions for our current customers while increasing our sales
effort with our Fortune 500 customer base.
PRODUCTS AND TECHNOLOGIES
We develop, manufacture and distribute an extensive line of broadband and
narrowband network access products and technologies. Sales of broadband products
represented approximately 38% of our total product sales in 1997 and 53% of our
total product sales in 1998. In addition, we provide advanced network management
systems that allow business customers and NSPs to have a high level of
management, monitoring and control over their network access equipment and
circuits. Although advanced network management systems are an important aspect
of our products and technology, they have not been a material aspect of our
sales revenue generation. The table below includes a summary of our principal
products. A further description of such products follows the table.
PARADYNE PRODUCT PORTFOLIO
<TABLE>
<CAPTION>
PRODUCT DESCRIPTION APPLICATION
<S> <C> <C>
BROADBAND SOLUTIONS
Hotwire DSLAM A standalone or stackable Typically resides inside a
chassis that houses different network service provider's
line cards supporting a central office and terminates
variety of DSL technologies many DSL lines and aggregates
them into a high-speed
connection to a network
backbone.
Hotwire RADSL Consists of: The card in the DSLAM and the
- A line card that fits inside endpoint create a high speed
the digital subscriber line packet connection operating at
access multiplexer, or transmission rates up to 7
DSLAM, and supports megabits per second over a two
asymmetric digital wire telephone line. Also
subscriber line, or ADSL, allows voice to be transmitted
and symmetric digital at the same time data is being
subscriber line, or SDSL, transmitted.
technologies that operate at
the highest possible speed
based on the quality of the
telephone line; and
- A standalone endpoint that
connects the user to the
telephone line.
</TABLE>
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<PAGE> 43
<TABLE>
<CAPTION>
PRODUCT DESCRIPTION APPLICATION
<S> <C> <C>
Hotwire MSDSL Consists of: The card in the DSLAM and the
- A line card that fits inside endpoint create a high speed
the DSLAM and supports SDSL connection operating at
technology that operates at transmission rates up to 2
the highest possible speed megabits per second over a two
based on the quality of the wire telephone line. Also
telephone line; and allows voice to be transmitted
- A standalone endpoint that at the same time data is being
connects the user to the transmitted.
telephone line.
Hotwire MHDSL Consists of: The card in the DSLAM and the
- A line card that fits inside endpoint create a high speed
the DSLAM and supports SDSL connection operating at
technology that operates at transmission rates up to 2
the highest possible speed megabits per second over a
based on the quality of the four wire telephone line. Also
telephone line; and allows voice to be transmitted
- A standalone endpoint that at the same time data is being
connects the user to the transmitted.
telephone line.
Hotwire MHDSL Consists of: The card in the DSLAM and the
- A line card that fits inside endpoint create a high speed
the DSLAM and supports high connection operating at
bit rate digital subscriber transmission rates up to 2
line, or HDSL; megabits per second over a
- Technology that operates at four wire telephone line. Also
the highest possible speed allows voice to be transmitted
based on the quality of the at the same time data is being
telephone line; and transmitted.
- A standalone endpoint that
connects the user to the
telephone line.
Hotwire MVL (Multiple Virtual Consists of: The card in the DSLAM and the
Lines) - A line card that fits inside endpoint create a high speed
the DSLAM and supports MVL packet connection operating at
technology that operates at transmission rates up to 768
the highest possible speed kilobits per second over a two
based on the quality of the wire telephone line. Also
telephone line; and allows voice to be transmitted
- A standalone endpoint that at the same time data is being
connects the user to the transmitted.
telephone line.
SuperLine A standalone endpoint that The endpoint allows up to
allows three telephone lines three distinct telephones,
and one Ethernet port to share each with a different phone
a single telephone line. number, to share the single
telephone line into a business
or residence. In addition,
there is an Ethernet port that
also allows up to 640 kilobits
per second of data to share
the telephone line.
FrameSaver Consists of: Many locations are connected
- A standalone endpoint that to a Frame Relay network and
connects remote offices to a the service level management
frame relay network. Also software is used to make sure
available as a line card; each location is operating
and efficiently per the
- Service level management configuration of the Frame
software for monitoring and Relay service.
managing a Frame Relay
network.
</TABLE>
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<TABLE>
<CAPTION>
PRODUCT DESCRIPTION APPLICATION
<S> <C> <C>
FrameSaver Network to Network A standalone endpoint that Allows two different Frame
connects two Frame Relay Relay networks to be connected
networks together. together and support the
service level management
software applications.
FrameSaver/ATM A standalone endpoint that Allows one high speed
connects large locations to a connection to a Frame Relay
Frame Relay network through a network that is more efficient
45 megabits per second than many lower speed
connection to an asynchronous connections.
transfer mode network.
Acculink Broadband Digital Standalone endpoints that Allows voice and data traffic
Access transmit data and voice over to share a single, high-speed
high-speed circuits. Also circuit to a variety of
available as a line card. backbone networks.
NextEdge A standalone endpoint that Allows many different data and
supports many data and voice voice services at a remote
connections over several high- office to share one or two
speed circuits. Also supports high speed circuits to a
the FrameSaver service level variety of backbone networks.
management system. In addition, it can be
integrated into a FrameSaver
service level management
system.
NARROWBAND SOLUTIONS
Comsphere Subrate Digital Standalone and line card Allows data services to be
Access products that support data connected over digital leased
transmission over digital lines at narrowband speeds.
network facilities.
Comsphere Modems Standalone and line card Dial-up and leased line modems
products that support data that allow narrowband
transmission over analog connectivity over analog
network facilities. lines.
NETWORK MANAGEMENT
SOLUTIONS
OpenLane Network Management Software for managing networks Used as a standalone system or
System built with Paradyne products. part of a larger system to
manage all the Paradyne
products deployed in a
network.
</TABLE>
BROADBAND SOLUTIONS
Broadband DSL
Hotwire. The Hotwire multiservices system includes DSLAM termination
equipment, which provides aggregation of services in the central office, and an
array of customer premises equipment, which extend various broadband access
services over the local loop to the customer premise. The system supports a
range of broadband multimedia access services, such as business and residential
Internet access, remote local area networks access and virtual private network
access at symmetric rates (similar transmission rate for sending and receiving
data over the same line) of up to 1 Mbps and asymmetric rates (varying
transmission rates for sending and receiving data over the same line) of up to 7
Mbps. Hotwire also supports Frame Relay, asynchronous transfer mode T1/E1
channelized access to the wide area networks. With channelized access, customers
can send and receive voice or data traffic on different channels. For example,
channels 1-12 could be used to send data while channels 13-24 could be used to
send voice. In addition to supporting high density configurations for central
office applications, the efficient packaging for lower density market entry
applications allows Hotwire products to be deployed in a variety of private
copper networks, including multi-dwelling-units for both business and
residential access services, universities, hotels, and government campus private
networks.
Our primary customers for Hotwire products are competitive local exchange
carriers, incumbent carriers and other NSPs. Their services are typically
focused on meeting the broadband networking requirements of business customers,
teleworkers and the small office/home office market -- often with an emphasis on
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<PAGE> 45
broadband Internet access. Competitive local exchange carriers customers, such
as Rhythms, are deploying a nationwide network using our Hotwire systems.
Incumbent carriers such as North Pittsburgh Telephone are deploying Hotwire in
their local service areas. NSPs outside the United States, such as the Guangdong
PTA in China, are using Hotwire products to deliver broadband access to the
provinces they serve. The principal focus of these customers, particularly in
the early stages, is to build out central office installations. Our Hotwire
products are easily installed, scaleable and operate over long loops, which
enhance an NSP's ability to deploy them quickly and service new customers.
We believe that the ability to support multiple access services, with a
choice of symmetric or asymmetric DSL technologies, multiple backbone
capabilities and the ability to scale to over 1,000 DSL lines per system makes
Hotwire one of the most flexible and scalable DSL systems available. We believe
this is important because our NSP customers may want to supply symmetric
services to their business customers and asymmetric services to their consumer
customers. In addition, our NSP customers may want to use asynchronous transfer
mode on some backbone connections and Frame Relay on other backbone connections.
The Hotwire system can be configured, monitored and controlled through our
OpenLane network management system that provides complete end-to-end management
and reporting coverage of the entire broadband DSL access solution.
Hotwire products consist of two major product family categories, DSLAMs and
customer premises equipment.
[Diagram depicting Paradyne Hotwire DSL CPE supporting RADSL, MSDSL, MHDSL and
MVL connecting to the supporting DSLAM line cards over the copper local loop
demonstrating DSLAM aggregation to multiple network backbone
facilities.--Graphic entitled "Hotwire Multiservices DSL System."
Graphic indicates that "The Paradyne Hotwire DSLAM supports multiple types of
voice and data transport"]
- Hotwire Multiservices DSLAMs: A DSLAM is a DSL access multiplexer
installed in NSPs' central offices and private copper networks that provides
termination and aggregation of multiple DSL lines and associated services
protocol translation. The Hotwire Multiservices DSLAM systems consist of network
equipment building standard certified chassis and associated DSL line cards, and
an aggregation system with a variety of wide area network options and a
standards based network management system. Network
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<PAGE> 46
equipment building standard certification is generally necessary in order for a
product to be installed in the central office of an NSP. Key features of a
Hotwire DSLAM system include:
- the ability to support line cards that support between four and 24
ports per card;
- multiple DSLAM configurations, which include our highly-compact,
stackable DSLAM supporting as few as 4-8 DSL lines which is scalable
to 68 lines and our high-density DSLAM supporting as many as 432 lines
per shelf;
- the ability to support a range of voice and data applications that
operate over packet technologies and channelized access technologies;
- a broad set of available interfaces to consolidate traffic onto a
backbone network. These interfaces operate from between 1.544 Mbps up
to 45 Mbps and can be configured to support Ethernet, Frame Relay or
asynchronous transfer mode. These interfaces include: 10base-T,
100base-T, Channelized T1 and E1, Frame Relay T1 and E1 and
asynchronous transfer mode; and
- a simple network management protocol compliant distributed network
management architecture that supports efficient network management
required for large NSP network deployments.
- Hotwire DSL customer premises equipment: Hotwire customer premises
equipment terminates DSL access services at the customer premise for
connectivity to local area networks, personal computers, plan systems, routers
and other voice and data equipment. Hotwire customer premises equipment operates
at a variety of transmission speeds and loop lengths to meet the needs of our
customers. Hotwire customer premises equipment and associated DSLAM line cards
support multiple DSL technologies.
We expect to continue to implement these multiple DSL technologies in our
Hotwire products, and, consistent with market requirements, to implement
additional DSL technologies, such as G.lite. Additionally, Hotwire customer
premises equipment will be enhanced to include new features required by our
customers and the general market. While we purchase some of the DSL technologies
implemented in the Hotwire DSLAM and customer premises equipment, our MVL
product represents a new DSL technology developed and implemented by Paradyne
that does not require a telephone line splitter and works over very long loops.
The primary advantages of MVL technology are:
- simultaneous voice and data capability over copper loops up to 24,000
feet and is not affected by multiple terminations of copper loop,
commonly known as bridged taps, which provides for ease of customer
installation and eliminate rewiring at the customer premise; and
- operates using low power, which allows higher density DSLAMs which
lowers the cost for our NSP customers.
In March 1999, we received approval from the FCC to register Hotwire MVL
under Part 68 of the FCC's Rules for the Registration of Telephone Equipment
code. The FCC requires that all customer-installed equipment that resides on the
telephone infrastructure be registered under Part 68. This approval is based on
the FCC's decision that Hotwire MVL benefits the public's interest by providing
enhanced customer choice and improved service quality for data transmission over
the public switched telephone network and does not pose a risk of harm to the
public switched telephone network. We believe that the approval should allow
more customers to deploy MVL while meeting the network requirements of incumbent
carriers.
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SuperLine. SuperLine is an integrated access system that provides
integrated voice and data broadband access services to the residential and small
office/home office markets.
[Diagram depicting the SuperLine integrated access system connecting a
residential customer's data and multi-line voice applications over a single
copper pair to the central office. - Graphic entitled "Superline
Integrated Access Solution."
Graphic indicates that "Superline reduces the cost of adding multi-line voice
and Internet access." Graphic also lists the main features of Superline
Integrated Access Solution as having the following:
- Regular phone line and up to two additional phone lines
- 56 kbps modem support on additional lines
- Consumer installation - no truck roll
- Toll quality voice and calling features supported
- High-speed data (up to 640 kbps)
- Automatic quality of service for voice
- Optimized dynamic bandwidth for data
- Uses a single copper pair]
SuperLine offers several advantages over other currently available
solutions through its support of as many as three telephone lines and a
high-speed Internet access connection over a single existing phone line. We
believe SuperLine is currently the only product to offer such a solution.
SuperLine provides access at rates up to 10 times faster than current narrowband
products. SuperLine can be installed by the end user simply by plugging it into
a standard telephone jack. SuperLine allows carriers to increase service
offerings without installing additional copper lines. The primary customers for
our SuperLine integrated access system are incumbent carriers, many of which are
facing a shortage of available copper wire lines and are seeking alternatives to
physically installing new lines or deriving lines with existing technologies.
The SuperLine system is also compatible with most major switching systems
currently sold in North America. Developed through a partnership with AG
Communications Systems, SuperLine integrates Tripleplay, a technology developed
by Paradyne that enables multi-line voice and data service over a single
telephone line. We also designed and manufacture the associated SuperLine
integrated access device that is distributed as part of the SuperLine system.
The NSP central office equipment included in the SuperLine system was developed
and is manufactured by AG Communications Systems. See "Corporate Development
Relationships." The SuperLine system was introduced in January 1999 and is
distributed by Lucent and AG Communications Systems.
Effective July 16, 1999, we received approval from the FCC to register
SuperLine under Part 68 of the FCC's Rules for the Registration of Telephone
Equipment code.
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<PAGE> 48
Broadband Service Level Management
[Diagram depicting the FrameSaver SLM products interconnecting over a Frame
Relay network and an NSP's OpenLine network management system connecting to
monitor and analyze the performance of the network by collecting the data from
the FrameSaver customer premises equipment.--Graphic entitled "Paradyne
FrameSaver--WAN Service Level Management Solution."]
FrameSaver. Our FrameSaver system is an innovative SLM system for Frame
Relay and Frame Relay/ asynchronous transfer mode networks. The FrameSaver
system consists of customer premises equipment, NSP equipment and network
management software to monitor and measure network performance across public
Frame Relay systems. The FrameSaver system measures performance and stores the
results for retrieval by our OpenLane network management system. The storage and
data retrieval mechanisms have been implemented according to recognized industry
standards, which makes the FrameSaver system compatible and interoperable with
many other systems that business customers or NSPs may have installed. The
FrameSaver network access units also provide extensive non-disruptive diagnostic
and testing capabilities along with standard access functionality, to give
enterprise customers or service providers a complete managed solution. The
remote monitoring technology included in the FrameSaver System, called RMON-2,
was developed by NetScout and is included in the FrameSaver system pursuant to a
collaboration between Paradyne and NetScout. The significance of utilizing
RMON-2 is that it is a communications language that has been standardized.
Therefore, many different companies build products that utilize RMON-2 which
enables communication with the FrameSaver system. See "Corporate Development
Relationships."
Key features of our FrameSaver system include:
- extensive performance management with diagnostic and control capabilities
that are used to identify and resolve problems quickly without disrupting
the network;
- standards based measurements that allow customers to measure data
throughput both within and above their committed information rates;
- available in a range of network access speeds, from 64 Kbps up to T3;
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<PAGE> 49
- non disruptive management that can be accessed over the Frame Relay
network or through an integrated dial modem;
- the ability to install and diagnose without the presence of a router;
- dial backup through integrated service digital network to protect against
network failures;
- network to network interface for SLM across multiple Frame Relay
networks;
- auto configuration of customer premises equipment for ease of
installation; and
- the ability to scale from small single customer networks to very large
service provider networks.
FrameSaver allows companies to build and manage data networks based on
public network services, while maintaining the same operational efficiency and
confidence used in the management of private networks. By deploying FrameSaver,
business customers can move applications from costly leased lines to shared
public networks and benefit from reduced network services costs, while
maintaining a high degree of control of the network. The FrameSaver system
enables NSPs and business customers to accurately monitor the performance of
individual customer connections across a public or private Frame Relay or Frame
Relay/ asynchronous transfer mode network and to report details of that
performance at varying time intervals.
While competing products may offer some of the features of the FrameSaver
product, we believe that no other product on the market today offers such a wide
variety of features. With our FrameSaver solution's ability to operate
completely independent of a router, NSPs are able to manage the network
end-to-end without relying on the customer's router. Router independence is a
key differentiating feature because during installation of the circuit, the
router might not be installed and when diagnosing an operational circuit, it may
be the router that is actually causing the problem. FrameSaver offers NSPs the
ability to perform non-disruptive circuit loopback testing from their network
operations center. This FrameSaver feature allows an NSP to respond to a trouble
call within a few minutes instead of hours, saving time and personnel expense
while increasing customer satisfaction. For these reasons, management believes
that due to its comprehensive feature set, FrameSaver offers NSPs and business
customers cost savings not found in competing solutions.
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Broadband Conventional Access
[Diagram depicting the Paradyne NextEDGE solution aggregating multiple voice and
data applications over a single broadband access facility connecting to the
public switched telephone network and a Frame Relay network and providing
SLM.--Graphic entitled "Paradyne NextEdge Consolidated Access Solution."
Graphic indicates that "Multi-Services T1 Access reduces overall network access
charges" and that "FrameSaver inside NextEDGE unit provides Service Level
Management."]
Acculink and NextEdge T1/E1 digital access products consist of a range of
products that provide an interface between a T1 circuit, which carries data at
1.544 Mbps or E1 circuit, which carries data at 2.048 Mbps, and a customer's
high-speed digital equipment, such as a computer, router, multiplexer, wide area
network switch or telephone system. The Acculink and NextEdge products are
managed by our OpenLane network management system, which provides centralized
management of large, geographically disbursed networks for NSPs and businesses.
Businesses, service providers, government entities and other organizations use
these products to build low-cost, centrally managed networks for high-speed,
digital applications. Our T1/E1 digital access products provide a broad range of
features, including centralized, standards-based network management multiple
voice and data interface ports and multiplexing.
Acculink. Acculink products provide integrated voice and data network
access to business customers who want to take full advantage of their T1/E1
bandwidth capacity. The products are used primarily in applications where voice
and data integration over a T1 or E1 line is required. The Acculink T1/E1
products were introduced as a standard part of AT&T's High-Speed Accunet digital
services in the early 1990s, and have been deployed widely in large business
networks ever since.
NextEdge. The NextEdge products add the SLM capabilities of FrameSaver to
the functionality provided by the Acculink products. NextEdge products are used
by NSPs and business customers to deploy integrated voice and data services plus
managed Frame Relay services over a common T1 infrastructure. Business customers
are seeking to maintain the SLM capabilities they have come to view as essential
for their public Frame Relay services as they integrate other network services
onto available bandwidth in their T1 access lines.
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NARROWBAND SOLUTIONS
Our Comsphere digital access products consist of a family of managed
digital service units that provide a network interface for a digital circuit
operating at up to 64 Kbps and a customer's digital equipment, such as a
computer, terminal controller, router or other narrowband digital communications
equipment. We introduced the Comsphere digital service unit in the early 1990s,
when they were offered as a standard part of AT&T's digital data services. Our
Comsphere analog modems enable communications over dial-up or dedicated analog
circuits. These analog modems are approved for use around the world and are
widely deployed in business and NSP networks. These highly managed modems
operate on both dial circuits and analog private line circuits where network
applications demand an extremely high degree of network uptime and
manageability. All of the Comsphere products are managed by our OpenLane network
management system, which provides centralized management of large,
geographically disbursed networks for NSPs and businesses.
Businesses, service providers, government entities and other organizations
use these products to build low-cost, centrally managed networks for their
digital applications. Many of these customers have also begun installing our
Acculink, NextEdge and FrameSaver products for their broadband network access
applications. We estimate that we have shipped more than 775,000 narrowband
access products over the past five years.
NETWORK MANAGEMENT SOLUTIONS
OpenLane. The OpenLane network management system, a centralized management
platform, integrates OpenLane into all of our product families and provides NSPs
and business customers with the ability to manage their network access products
located at the edge of the wide area network. The OpenLane software is purchased
separately with each of our products in order to utilize OpenLane's management
capabilities. OpenLane consists of a suite of network management tools that
provide SLM and visibility into network circuits and network access unit
performance. The management tools work together to provide business customers
and NSPs with detailed, accurate performance metrics needed to understand
precisely how their network is performing and where performance problems or
potential problems may reside. The OpenLane network management system offers a
user-friendly graphical user interface and graphical reporting. OpenLane is
designed to work with Hewlett-Packard's OpenView network management platform and
is based extensively on standards, such as simple network management protocol,
which enable it to interface with many third-party network management
applications that our business and NSP customers may be using. OpenLane can
provide reports and access to screens either directly or by using the Internet
for web-based delivery. Recent releases of our OpenLane software modules are
based on Java programming to permit a platform independent system. Our NSP and
business customers depend on the OpenLane network management system as the
central management system they use to monitor and control the network access
products that they have deployed in their networks.
CORPORATE DEVELOPMENT RELATIONSHIPS
Our success is dependent upon our continued development relationships with
a number of companies with whom we have development arrangements. We expect to
continue to collaborate with technology partners to facilitate the development
of competitive products. Currently, our development relationships include the
following:
AG Communication Systems. In June 1998, we entered into a joint
development and distribution agreement with AGCS. Paradyne granted a
non-exclusive license to AGCS to incorporate Paradyne's Tripleplay technology
into AGCS's central office switch, digital loop carrier and/or DSLAM equipment
and distribute to sellers of telecommunications systems the products that
incorporate the Tripleplay technology. AGCS agreed to pay a license fee to
Paradyne for the Tripleplay technology. Paradyne granted AGCS a non-exclusive
right to purchase Tripleplay hardware and software for distribution, and AGCS
granted Paradyne a non-exclusive right to purchase switch products for
distribution. The agreement will expire in June 2003, unless renewed.
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NetScout. In January 1998, we entered into a marketing and license
agreement with NetScout under which Paradyne agreed to utilize exclusively
NetScout's RMON-2 network management software with our FrameSaver Frame Relay
access unit products, to market and sell NetScout Manager Plus software with our
FrameSaver system and not to compete against NetScout with respect to RMON-2
based technology. NetScout agreed to reference Paradyne as a strategic partner
for digital service units, DSLs and multiplexers and agreed to give preference
to Paradyne when sourcing or integrating digital service units. NetScout granted
a non-exclusive license to promote, market, sell, license and distribute any
NetScout software or product embedded into Paradyne's FrameSaver products in
exchange for royalty fees to NetScout. The agreement will expire in January
2003, unless renewed.
Xylan. Effective March 1999, we entered into a joint development and
supply arrangement with Xylan under which Xylan granted us a non-exclusive,
worldwide right to market, distribute and sell its OmniSwitch product and
related products with our DSL products. The agreement further provides that
through at least March 2001, we are Xylan's primary reseller of these products
for connections to our DSLAMs. Paradyne and Xylan have agreed upon feature
enhancements to these products to meet specific customer requirements. The
agreement continues for two years, after which it may be automatically renewed
for successive one-year periods.
Ascend Communications. In November 1998, we entered into a joint
development and marketing agreement with Ascend in connection with our OpenLane
SLM software and Ascend's Navis, a network management system. Under the
agreement, we agreed to develop interface software which integrates OpenLane
with Navis, creating a single integrated solution for competitive local exchange
carriers, incumbent carriers and other NSPs. Ascend and Paradyne jointly market
Navis, together with OpenLane SLM software, to NSPs. The agreement will continue
unless terminated upon 60 days written notice.
GlobeSpan. Effective March 1999, we entered into a supply agreement with
GlobeSpan which provides for preferential pricing to Paradyne and other terms in
connection with the purchase of GlobeSpan products by Paradyne. Under the terms
of this agreement, GlobeSpan is required to honor Paradyne's orders for
GlobeSpan products in quantities at least consistent with Paradyne's past
ordering practices and agreed to afford Paradyne at least the same priority for
its orders as GlobeSpan affords other similarly situated customers. Paradyne was
also granted immunity under GlobeSpan's intellectual property rights for all
Paradyne customers that purchase Paradyne products that incorporate GlobeSpan
products. GlobeSpan has been selling products to Paradyne pursuant to these
terms since July 1998. The agreement will expire in March 2003, unless
terminated upon one year's notice. In addition to the supply agreement, Paradyne
and GlobeSpan work very closely together to develop capabilities that are
jointly defined by the two companies. Our marketing and research and development
organizations meet on a regular basis to review the status of projects.
SALES, MARKETING AND DISTRIBUTION
We sell our products worldwide through a multi-tier distribution system
that includes direct sales, strategic partner sales, NSP sales and traditional
distributor or value added reseller sales. Our sales teams are supported with
marketing programs, educational programs, field technical support and telephone
technical support. Our Internet and intranet sites are used extensively to
communicate with our sales teams, our customers and our resellers.
Our direct sales teams are organized to sell directly to NSP, value added
reseller and distributor customers. Our NSP and value added reseller customers
purchase our products and then sell them or provide them in a service offering
to business customers. We support our resellers' sales activity with a demand
generation sales force. This team markets to business customers in support of
our value added reseller and NSP partners. Our resellers add value by providing
order processing, credit and significant sales and technical support. Our field
sales teams are comprised of sales and systems engineering personnel that are
experienced and knowledgeable about the products and technologies we provide and
support. Our field sales teams are further supported by Paradyne's telesales
team. This inside sales team answers all incoming emails and
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telephone calls, makes outbound telephone calls, follows up on leads generated
through advertising and provides telephone support to our resellers.
Our resellers are responsible for identifying potential business customers,
selling our products as part of complete solutions and, in some cases,
customizing and integrating our products at end users' sites. We establish
relationships with resellers through written agreements that provide prices,
discounts and other material terms and conditions under which the distributor is
eligible to purchase our products for resale. Such agreements generally do not
grant exclusivity to the resellers, prevent the resellers from carrying
competing product lines or require the resellers to sell any particular dollar
amount of our products, although the contracts may be terminated at our election
if specified sales targets and end user satisfaction goals are not attained. We
nurture these relationships with resellers with incentive and training programs.
This multi-channel sales strategy encourages broad market coverage by allowing
our sales personnel to create demand for our products while giving customers the
flexibility to choose the most appropriate delivery channels.
We participate in trade shows and seminars and make extensive use of the
Internet and our web presence at www.paradyne.com to promote and generate demand
for our products. (The reference to our worldwide web address does not
constitute incorporation by reference into this prospectus of the information
contained at this web site.) Since most of our customers utilize the Internet,
we believe that our Internet presence is a low cost and highly effective method
for educating our customers about our products and creating demand for our
products. As a result, we place Internet advertising and conduct targeted email
marketing. Our web site includes product information, multimedia presentations
and customer testimonials. We also host Internet based interactive seminars for
promotional seminars, training events and press conferences.
Channel marketing programs allow us to attract and support our resellers,
including NSPs. Our "Connect to Success" reseller program markets and sells
products directly to large resellers and through national distributors, such as
Ingram Micro and Tech Data, to hundreds of value added resellers and NSPs. Our
relationships with these distributors provide significant value to our reseller
partners by giving them immediate availability to product without the cost of
stocking. These well known distributors also extend credit to resellers,
increasing their buying power, and providing them with direct shipments to end
customers further reducing costs. Our reseller programs provide advertising
support, volume incentive rebates, exclusive access to technical support via 800
numbers and through our web site. Special programs encourage value added
reseller loyalty, focus on strategic products, and focus on winning new
accounts. Specialized product training programs are provided to our resellers at
our headquarters, in the field and over the web.
In addition to the marketing and sale of our products, we resell the
Acculink Access Controller, our private label for the IMACS system of Premisys
Corporation, through a small, focused sales team. Paradyne and Premisys entered
into a distribution agreement in 1992, which has been amended and extended,
under which we have exclusive distribution rights through April 2005 for
Premisys' IMACS system, which we market to Lucent and AT&T. In 1995 and 1996, we
sold the Acculink Access Controller to Lucent, AT&T and many other companies. In
1997, we discontinued selling the product to customers other than Lucent and
AT&T for various pricing and distribution reasons. Currently, we sell the
Acculink Access Controller to Lucent and AT&T for a variety of wireless and
wireline applications. We have also developed and sell a limited number of
hardware and software enhancements for the Acculink Access Controller.
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CUSTOMERS
The end-users of our equipment are primarily businesses and NSPs.
BUSINESS CUSTOMERS
Business customers include businesses around the world that purchase
equipment for their company's wide area network from Paradyne's resellers or,
for some international customers, directly from Paradyne. Set forth below is a
representative list of businesses who purchased over $100,000 of our products in
1998:
<TABLE>
<S> <C> <C>
Aon Fifth Third Bank Norwest
Bank of America First Union Paine Webber
Bank One Freddie MAC Progressive
Boise Cascade General Electric Prudential
Chase Manhattan Hartford Roadway Express
Cigna Hertz The Associates
Citigroup JC Penney Toyota
CSX Liberty Mutual Unisys
Delta Airlines Litton Utilicorp
Everen Securities Lucent VISA
Farmers Insurance Merrill Lynch Xerox
</TABLE>
NETWORK SERVICE PROVIDERS
NSPs purchase equipment for their network or for resale into their
customers' networks. Set forth below is a representative list of NSPs who
purchased over $100,000 of our products in 1998:
<TABLE>
<S> <C> <C>
AT&T Guangdong PTA RAM Mobile Data
Ameritech HarvardNet Rhythms
Bell Canada Henan PTA Saudi Telecom
Bell South IBM Global Network Shandong PTA
Cable & Wireless Panama Metronet Shenzhen PTT
Cadvision MGC Communications SITA
CFW Communications MT&T Sprint
Egypt Telecom North Pittsburgh Telephone TDS Telecom
Fonorola NTT Telus Communications
Guangzhou PTT PLDT Tunisia Telecom
</TABLE>
In the year ended December 31, 1998, two of our customers accounted for
greater than 10% of revenues. Direct sales to Lucent in 1998 accounted for
approximately 35% of our total revenues. Sales to Tech Data accounted for
approximately 15% of our total revenues. We estimate that approximately 70% of
our sales to Tech Data represented products that were resold to Lucent.
Collectively, we estimate that direct and indirect sales to Lucent accounted for
approximately 47% of our total revenues in 1998. Lucent purchases products to
include in their data networking solutions products, which it sells to
businesses worldwide. Lucent also purchases our products to package with their
various telephone systems. Tech Data purchases products from us as a
distributor.
CUSTOMER SUPPORT
We maintain a strong focus on customer service and support for our
resellers and end user customers. We accomplish this at our customers' sites
through systems engineers who work with customers in a pre-sales role, and
through the support teams of our resellers. The Paradyne Technical Support
Center provides telephone based pre- and post-sales support to resellers and
customers on a seven day, 24 hour basis and also provides proposal support to
the sales organization. Our training organization provides technical training to
end users, maintenance service providers, NSPs and sales channels. Training is
included as a part of our channel programs or is provided on a fee basis.
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We provide maintenance support offerings that utilize a variety of service
organizations based on geography and skills required. Our authorized service
providers include Lucent, NCR, Myriad and TechForce. These service providers
provide service offerings that include various maintenance packages,
installation, remote management, project management and other professional
service options.
Warranties on most of our hardware products extend for 24 months. A number
of products carry a 12 month warranty and others carry a 60 month warranty.
Software products carry a 90 day warranty. Factory repair or replacement is
provided by us.
COMPETITION
The telecommunications market is highly competitive. If we fail to compete
effectively our business will be adversely affected. We believe that competition
may increase substantially as the introduction of new technologies, deployment
of broadband networks and potential regulatory changes create new opportunities
for established and emerging companies in the industry. We compete directly with
other providers of broadband and narrowband access equipment, including ADC
Telecommunications, Adtran, Alcatel, Ascend, Cisco, Copper Mountain, Digital
Link, Larscom, Motorola, Nokia, Nortel Networks, Orckit, PairGain, Sync
Research, 3Com, Tut Systems and Visual Networks. We expect that competition for
products that address the broadband access market will grow as more companies
and an increasing number of new companies focus on this market to develop
solutions for higher speed access to public networks. We expect that competition
for products that address the narrowband market will not dramatically change
over the course of the next few years.
Many of our current and potential competitors are larger than we are and
have significantly greater financial, sales and marketing, technical,
manufacturing and other resources and more established channels of distribution.
As a result, these competitors may be able to respond more rapidly to new or
emerging technologies and changes in customer requirements, or to devote greater
resources to the development, promotion and sale of their products. Our
competitors may enter our existing or future markets with solutions that may be
less costly, provide higher performance or additional features or be introduced
earlier than our solutions. Some of our competitors currently offer financing
alternatives to their customers at levels at which we cannot compete.
Our markets are characterized by increasing consolidation both within the
data communications sector and by companies combining or acquiring data
communications products and technology for delivering voice-related services, as
exemplified by the recently announced acquisitions of Ascend by Lucent, Diamond
Lane by Nokia and Xylan by Alcatel. Increased competition and consolidation
could result in price reductions and loss of market share by Paradyne. We cannot
be sure of the impact of any of these acquisitions on the competitive
environment for our products. Our future success will depend on our ability to
compete successfully against our competitors based on the following factors:
- key product features;
- system reliability and performance;
- technological innovation;
- price;
- time to market;
- breadth of product lines;
- conformity to industry standards;
- ease of installation and use;
- brand recognition;
- ability to help customers finance purchases;
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- technical support and customer service; and
- size and stability of operations.
RESEARCH AND DEVELOPMENT
Since 1969, we have been developing technologies and solutions for the
communications market. We believe that our future success is dependent on our
ability to continue to rapidly deliver innovative broadband access solutions.
Time to market is critical in order to meet the requirements of our extensive
customer base and to be able to quickly adapt to the constantly emerging needs
in the market. Innovation is critical in order to provide the capabilities that
differentiate the products and solutions that we offer from those of our
competitors. We intend to maintain an ongoing investment in research and
development that will support technological innovation.
Our research and development efforts are focused on sustaining and
enhancing our existing products and developing innovative new solutions in the
emerging broadband market. We emphasize early and frequent interaction between
our research and development systems engineers, key technologists and customers
to arrive at unique solutions to meet specific product requirements. Customer
feedback is also obtained from resellers and through participation in industry
events, organizations, and standards bodies.
We have developed core competencies in SLM, broadband systems
internetworking, network management, and broadband access technologies. We will
continue to rely on the use of industry and technology partnerships to further
enhance the capability to quickly introduce new solutions into the broadband
market, and we expect to continue to employ a strategy that uses a combination
of internally developed solutions and external partnering.
We maintain research and development sites in Largo, Florida and Red Bank,
New Jersey. In addition, engineering work is completed in Mexico and India
through technology partnering arrangements. In order to maintain our rapid pace
of product introduction, we will need to continue to attract talented engineers
and invest in state-of-the-art research and development tools and processes. We
will continue to invest resources in key skill areas, such as Java programming,
system software, digital signal processing, internetworking, data communication
protocols, test automation, central office solutions, RISC processing,
transmission technologies, and telephony.
Currently, we are developing enhancements for all of our broadband and SLM
product families. We expect this work to result in feature improvements to these
products, reduce our costs associated with their manufacture or reduce the cost
to deploy them. We are focused on increasing the density of our DSL systems and
expect to introduce 12 and 24 line cards for our Hotwire DSLAM. We are also
adding SLM to products that did not previously include SLM capability, enhancing
the SLM features for those products that already support SLM and adding DSL
function to products that currently have only conventional broadband
capabilities.
INTELLECTUAL PROPERTY
Our success and ability to compete is dependent in part upon our
proprietary technology. We rely on a combination of patent, copyright, trademark
and trade secret laws and non-disclosure agreements to protect our proprietary
technology. We currently hold over 160 U.S. patents and have over 100 U.S.
patent applications pending. In addition, we hold corresponding foreign patents
and have corresponding foreign patent applications pending. There can be no
assurance that patents will be issued with respect to pending or future patent
applications or that our patents will be upheld as valid or will prevent the
development of competitive products. We seek to protect our intellectual
property rights by limiting access to the distribution of our software,
documentation and other proprietary information. In addition, our employees
execute proprietary information agreements and we enter into nondisclosure
agreements with some of our strategic partners. There can be no assurance that
the steps taken by us in this regard will be adequate to prevent
misappropriation of our technology or that our competitors will not
independently develop technologies that are substantially equivalent or
independently developed technologies that are substantially equivalent or
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superior to our technologies. We also are subject to the risk of adverse claims
and litigation alleging infringement of the intellectual property rights of
others. In this regard, there can be no assurance that third parties will not
assert infringement claims in the future with respect to our current or future
products or that any such claims will not require the us to enter into license
arrangements or result in protracted and costly litigation, regardless of the
merits of such claims. Furthermore, from time to time, we receive and have
received letters from others requesting licenses or indicating that our products
may require a license. These letters are not uncommon in the industry, and these
letters are dealt with according to normal business practices. For example, in
March and July of 1999, we received letters from a third party patent owner
alleging infringement by us of patents allegedly relating to equipment,
including bar code scanners and circuit board manufacturing equipment, which we
use in our manufacturing processes, and to integrated circuit microchips that we
buy and incorporate into our products. We purchase this equipment and the
microchips from vendors, who we believe may have an obligation to indemnify us
in the event that the equipment and microchips infringe the patents. The patents
referenced in these letters are also the basis for several infringement lawsuits
commenced by the patent owner to which we are not a party. In some of those
claims, the defendants are in the process of challenging the validity of the
patents. No claim has been asserted beyond these letters, but we cannot assure
you that the third party will not commence an infringement action against us. We
are in the process of investigating the allegations. If an infringement claim is
brought against us, we cannot assure you that we would prevail and any adverse
outcome could require us, among other things, to pay royalties to the third
party patent owner. Based on our investigation to date, we presently do not
believe that any such adverse outcome would have a material adverse impact on
our operations. However, we cannot assure you that future developments will not
affect this conclusion or assure you that we will not receive other letters
alleging infringement in the future.
Most of Paradyne's existing patent portfolio, will be enforceable in the
United States for at least the next ten years, provided that periodic
maintenance fees are paid to the U.S. Patent & Trademark Office and unless
determined to be invalid or unenforceable by an appropriate court or the U.S.
Patent & Trademark Office. Most of Paradyne's inventions that are directed to
DSL and Service Level Management technologies are covered in pending
applications that have yet to issue as patents and that have been filed in the
last several years. If and once issued, these patents will be enforceable for 20
years from the date the application was originally filed, pursuant to applicable
laws, provided that periodic maintenance fees are paid to the U.S. Patent &
Trademark Office and unless determined to be invalid or unenforceable by an
appropriate court or the U.S. Patent & Trademark Office.
MANUFACTURING AND FACILITIES
Our principal administrative, engineering and manufacturing facilities are
located in two leased buildings totaling approximately 333,000 square feet in
Largo, Florida. In addition, we maintain a research and development facility of
approximately 29,000 square feet in Red Bank, New Jersey. The leases for the
Largo, Florida facility and the Red Bank, New Jersey facility expire in 2007 and
2003, respectively, and there are two five-year renewal options on the Largo,
Florida facility. Additionally, there is an automatic extension of the lease
term of the Largo, Florida lease if the current landlord sells this property
within the first three years of the lease. The Red Bank lease is not renewable
but we retain the right to renegotiate with the landlord. We also lease offices
for branch sales and administration in Virginia, as well as in Canada, France,
Egypt, Japan, Hong Kong, Singapore and the People's Republic of China.
Collectively, these offices occupy approximately 27,000 square feet. Leases for
these facilities expire at various times during 1999 and 2002. We believe that
the current facilities will be able to accommodate anticipated expansion of
operations in these locations over the next 24 months.
We manufacture substantially all of our products. All of our major
operations are ISO-9001 registered. Many of our parts are procured from a
variety of qualified suppliers per our specification. Some of our strategic
suppliers are electronically linked, and given 26 week visibility of demand. We
believe that this is critical in maintaining high delivery volumes and
minimizing inventory. We use a combination of standard parts and components,
which are generally available from more than one vendor and some parts that are
obtained from a single source. We have generally been able to obtain adequate
supplies in a timely manner
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from our current vendors or, when necessary, to meet production needs from
alternative vendors. We believe that, in most cases, alternate vendors can be
identified if current vendors are unable to fulfill our needs. However, if we
are unable to obtain sufficient quantities of necessary supplies, or if there is
a significant increase in the price of key components or materials, delays or
reductions in manufacturing or product shipments could occur, which would have a
material adverse effect on our business, financial condition and results of
operations.
We believe that we have sufficient production capacity to meet current
demand for our product offerings and anticipate meeting future demand through a
combination of the use of additional employees and increased outsourcing of
products or components. In addition, we have the right of first refusal on the
construction of any building on some lands adjacent to our Largo, Florida
facilities if more space is needed to expand our manufacturing operations.
EMPLOYEES
As of August 31, 1999, we employed approximately 857 full time employees.
None of our employees is covered by collective bargaining agreements, and we
believe that our relations with our employees are good.
GOVERNMENT REGULATION
In the U.S., the Telecommunications Act of 1996 changed the regulatory
environment for all NSPs, including the competitive local exchange carriers and
incumbent carriers among our customer base. The Telecommunications Act of 1996
removed federal, state and local barriers to entry into the local telephone
market by CLECs. The Telecommunications Act of 1996 also imposed significant
obligations on incumbent carriers, including obligations to interconnect their
networks with competitors' networks and to unbundle their networks and provide
competitors with access to unbundled network elements. Competitive local
exchange carriers and incumbent carriers are a significant part of our customer
base. The Telecommunications Act of 1996 also directs the Federal Communications
Commission to adopt local loop access rules to enable competitive providers of
advanced services, such as high-speed Internet access, to deploy new
technologies on a faster, more cost-effective basis to consumers. The United
States Congress is considering a variety of amendments to the Telecommunications
Act of 1996. The FCC currently is considering changes to its regulations,
including those relating to network equipment registration and the deployment of
broadband services. We cannot predict whether any amendments to the
Telecommunications Act of 1996 or any future FCC Regulations will have a
negative impact on our business or the businesses of our customers or suppliers.
Companies selling terminal equipment to be connected to the public switched
telephone network must register some of their products with the FCC and conform
them to technical standards promulgated by the FCC in its regulations. These
regulations are designed to protect the public switched telephone network from
harm, including interference and service degradation.
LEGAL PROCEEDINGS
We are not a party to any pending material litigation.
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MANAGEMENT
OFFICERS AND DIRECTORS
Our officers and directors, the positions held by them, and their ages as
of August 31, 1999 are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
<S> <C> <C>
Andrew S. May............................. 39 President, Chief Executive Officer and Director
Sean E. Belanger.......................... 44 Senior Vice President, Worldwide Sales
Patrick M. Murphy......................... 42 Senior Vice President, Chief Financial Officer and
Treasurer
James L. Slattery......................... 60 Senior Vice President, Chief Legal and Intellectual
Property Officer and Corporate Secretary
J. Scott Eudy............................. 42 Vice President, Corporate Development
Paul H. Floyd............................. 41 Vice President, Research and Development
John M. Guest............................. 54 Vice President, Chief Information Officer
Mark Housman.............................. 47 Vice President, Marketing
Sherril A. Claus Melio.................... 48 Vice President, Human Resources and Administration
H. Edward Thompson........................ 52 Vice President, Manufacturing
Frank J. Wiener........................... 38 Vice President, Broadband Access Products
Thomas E. Epley........................... 58 Chairman, Board of Directors
David Bonderman........................... 56 Director
Keith B. Geeslin.......................... 46 Director
David M. Stanton.......................... 37 Director
William R. Stensrud....................... 49 Director
Peter F. Van Camp......................... 43 Director
</TABLE>
Andrew S. May has served as President since December 1996, Director since
January 1997, and Chief Executive Officer since May 1997. From October 1995 to
November 1996, he served as Vice President and General Manager of 3Com
Corporation's Network Service Provider division. From April 1992 to October
1995, Mr. May served as Vice President of Marketing for Primary Access
Corporation, which was acquired by 3Com in 1995. Mr. May holds a B.A. in
economics from the University of New Hampshire.
Sean E. Belanger has served as Senior Vice President of Worldwide Sales
since June 1997. From November 1996 to May 1997, he served as Vice President and
General Manager of 3Com Corporation's Network Service Provider division. From
September 1992 to November 1996, he was Vice President of Sales for Primary
Access Corporation. Mr. Belanger holds a B.S. in business management from
Virginia Polytechnic Institute and State University.
Patrick M. Murphy has served as Senior Vice President, Chief Financial
Officer and Treasurer since August 1996. He also has served as a director and
Vice President, Chief Financial Officer, and Treasurer of Paradyne Credit Corp.,
an affiliated entity, since August 1996. From August 1996 to July 1998 he served
as Vice-President, Treasurer, Chief Financial Officer of GlobeSpan, an
affiliated entity. From January 1987 to August 1996, he served as Chief
Financial Officer of Continental Broadcasting, Ltd., a television and radio
broadcast company. Mr. Murphy holds a B.S./B.A. in finance from John Carroll
University and is a certified public accountant.
James L. Slattery has served as Senior Vice President, Chief Legal and
Intellectual Property Officer and Corporate Secretary since August 1996 and held
various executive positions at Paradyne since April 1985. He has also served as
a director and Vice President and Corporate Secretary for Paradyne Credit Corp.,
an affiliated entity, since August 1996. From August 1996 to March 1999 he
served as Vice President and Secretary of GlobeSpan, an affiliated entity. Mr.
Slattery holds a B.S. from New York University in international relations and
commerce and a J.D. from Washington & Lee School of Law.
J. Scott Eudy has served as Vice President of Corporate Development since
August 1999. From December 1997 to July 1999 he served as Vice President of
Network Access Products. From February 1981
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to September 1996, he held various sales, engineering and marketing positions
with AT&T. Mr. Eudy holds a B.S. in mechanical engineering and an M.B.A. from
Texas Tech University.
Paul H. Floyd has served as Vice President of Research and Development
since July 1996. From October 1992 to June 1996, he was Director of Research and
Development for AT&T Paradyne's digital products development group. Mr. Floyd
holds a B.S. and M.S. in electrical engineering from Stevens Institute of
Technology and an M.B.A. from the University of South Florida.
John M. Guest has served as Vice President and Chief Information Officer
since October 1996. From April 1990 to October 1996 he served in numerous
management capacities with Paradyne. Prior to joining Paradyne in 1990, he was a
senior manager at AT&T responsible for its data communications product line. Mr.
Guest attended Rutgers University.
Mark Housman has served as Vice President of Marketing since May 1997.
Previously, Mr. Housman was a Vice President of Sales from October 1994 to May
1997. Mr. Housman holds a B.S. in mechanical engineering from the New York
Institute of Technology and an M.B.A. in marketing from New York University.
Sherril A. Claus Melio has served as Vice President of Human Resources and
Administration since May 1997. From July 1993 to May 1997, she was Vice
President of Human Resources. Ms. Melio holds a B.S. in behavioral science from
San Jose State University.
H. Edward Thompson has served as Vice President of Manufacturing since
August 1993. Mr. Thompson holds a B.S. in mechanical engineering from Georgia
Institute of Technology and a Masters of Engineering Administration from the
University of South Florida.
Frank J. Wiener has served as Vice President of Broadband Access Products
since August 1999. From August 1996 to August 1999, he served as Vice President
of Paradyne's DSL Products. From February 1989 to August 1996, he served as a
director and manager of various marketing, sales and business development
departments at Paradyne. Mr. Wiener holds a B.S. in electrical engineering from
the University of South Florida.
Thomas E. Epley has served as the Chairman of the board of directors since
August 1996. He also served as President from August 1996 to December 1996 and
Chief Executive Officer from August 1996 to May 1997. From August 1996 to April
1997, Mr. Epley was Chief Executive Officer and President of GlobeSpan, an
affiliated entity. He has served as a director of GlobeSpan since August 1996
and was Chairman of the board of directors from August 1996 to March 1999. He
has served as a director and President and Chief Executive Officer of Paradyne
Credit Corp., an affiliated entity, since August 1996. From 1993 to 1996, he was
a director of Carlton Communications. From 1991 to 1996, he served as Chairman
and Chief Executive Officer of Technicolor, a provider of services and products
to the entertainment industry. He is also a limited partner in Communication
Partners, L.P. Mr. Epley holds a B.S. degree in mechanical engineering from the
University of Cincinnati and an M.B.A. from the Kellogg School of Northwestern
University.
David Bonderman has served as a director of Paradyne since June 1999. Mr.
Bonderman has been a managing partner in Texas Pacific Group, a limited partner
in Communication Partners, L.P., since its formation in 1992. Prior to forming
Texas Pacific Group, Mr. Bonderman had served as the Chief Operating Officer of
the Robert M. Bass Group, Inc. since 1983. He is a director of several public
and privately held companies including Continental Airlines, Inc., Bell & Howell
Company, Ducati Motorcycles, S.p.A., Costar Group Inc., Berringer Wine Estates,
Denbury Resources, Inc., Washington Mutual, Inc., Oxford Health Plans, Inc.,
UroGenesys, Inc., J. Crew Group, Inc., Landis & Gyr Communications, and Virgin
Entertainment Group, Ltd. Mr. Bonderman holds a B.A. degree from the University
of Washington and a J.D. from Harvard Law School.
Keith B. Geeslin has served as a director of Paradyne since June 1999. Mr.
Geeslin is a general partner of The Sprout Group, a venture capital firm, where
he has been employed since July 1984. In addition, he is a general or limited
partner in a series of investment funds associated with The Sprout Group, a
division of
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DLJ Capital Corporation, which is a subsidiary of Donaldson, Lufkin & Jenrette.
The Sprout Group are direct and indirect equity owners in Communication
Partners, L.P. Mr. Geeslin is also a director of SDL, Inc., Rhythms
NetConnections Inc., GlobeSpan, and several privately held companies. Mr.
Geeslin received a B.S. degree in electrical engineering from Stanford
University, an M.A. degree in philosophy, politics and economics from Oxford
University and an M.S. degree in engineering and economic systems from Stanford
University.
David M. Stanton has served as a director of Paradyne since August 1996.
Mr. Stanton is currently the founding partner of Francisco Partners, an
investment partnership specializing in private technology companies. From 1996
until August 12, 1999, Mr. Stanton was a partner of Texas Pacific Group, a
limited partner in Communication Partners, L.P. During this time, he also served
as Vice President of TPG Advisors, Inc. and as President of Communication
Genpar, Inc., entities affiliated with Communication Partners, L.P. Prior to
joining Texas Pacific Group, Mr. Stanton was a venture capitalist with Trinity
Ventures, where he specialized in information technology, software and
telecommunications investing. Mr. Stanton currently serves as a director of
Denbury Resources, Inc., and GlobeSpan, Inc. and several private companies,
including Paradyne Credit Corp., an affiliated entity of Paradyne. Mr. Stanton
holds a B.S. in chemical engineering from Stanford University and an M.B.A. from
the Stanford Graduate School of Business.
William R. Stensrud has served as a director of Paradyne since January
1997. Mr. Stensrud has been a general partner at the venture capital investment
firm of Enterprise Partners since January 1997. From February 1997 to June 1997,
he served as President and Chief Executive Officer of Rhythms NetCommunications,
Inc., a network service provider. Previously, from January 1992 to July 1995,
Mr. Stensrud served as President and Chief Executive Officer of Primary Access
Corporation which was acquired by 3Com Corporation, and where Mr. Stensrud
remained as an executive at Primary Access Corporation through March 1996. Mr.
Stensrud is a director of several public and privately held companies, including
Rhythms NetCommunications, Inc. and Juniper Networks. Mr. Stensrud holds a B.S.
in electrical engineering and computer science from the Massachusetts Institute
of Technology.
Peter F. Van Camp has served as a director of Paradyne since June 1999. Mr.
Van Camp serves as President of Internet Markets for UUNET, the Internet
division of MCI WorldCom. Prior to joining MCI WorldCom, he served as an
executive at CompuServe, Inc. and President of CompuServe Network Services. Mr.
Van Camp holds a B.S. degree in accounting and computer science from Boston
College.
The board of directors is divided into three classes, with each class
serving staggered three-year terms. Class I consists of Messrs. Epley and
Bonderman, with a term expiring in 2000, Class II consists of Messrs. Geeslin
and Van Camp, with a term expiring in 2001 and Class III consists of Messrs.
May, Stanton and Stensrud, with a term expiring in 2002.
COMMITTEES OF THE BOARD OF DIRECTORS
The board of directors has established an Audit Committee and a
Compensation Committee. The Audit Committee consists of Messrs. Geeslin and Van
Camp. The Audit Committee makes recommendations to the board of directors
regarding the selection of independent auditors, reviews the results and scope
of the audit and other services provided by our independent auditors and reviews
and evaluates our audit and control functions.
The Compensation Committee consists of Messrs. Stanton and Stensrud. The
Compensation Committee makes recommendations regarding our Amended and Restated
1996 Equity Incentive Plan and concerning salaries and incentive compensation
for our employees and consultants.
DIRECTOR COMPENSATION
During 1998, our outside directors were not compensated for serving as
members of the board of directors. Since July 15, 1999, outside directors
receive $1,500 for participation in meetings of the board of directors and $750
for participation in committee meetings held on days other than those on which
meetings
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of the board of directors are held. In addition, outside directors receive
automatic option grants under our 1999 Non-Employee Directors' Stock Option Plan
as described below.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
As of August 31, 1999, the Compensation Committee of the board of directors
consisted of Messrs. Stanton and Stensrud.
Mr. Stanton was the sole director and President of Communication GenPar,
Inc. from 1996 until August 12, 1999. Until August 12, 1999, he had a pecuniary
interest in the Paradyne shares formerly held by Communication Partners, L.P.,
which held approximately 97.1% of our common stock and 83.2% of the common stock
of GlobeSpan. In May 1999, Communication Partners, L.P. distributed an aggregate
of 19,348,618 shares of Paradyne common stock to TPG Partners, L.P. and TPG
Parallel I, L.P., limited partners of Communication Partners, L.P. and to
Communication GenPar, Inc., the general partner of Communication Partners, L.P.
Mr. Stanton was the sole director and president of Communication GenPar, Inc.
and was a partner of Texas Pacific Group, which organized TPG Partners, L.P. and
TPG Parallel I, L.P.
Mr. Stensrud has a pecuniary interest in the Paradyne shares formerly held
by Communication Partners, L.P. In May 1999, Communication Partners, L.P.
distributed its Paradyne shares to its limited partners and general partner. Mr.
Stensrud and the Stensrud Family Trust are limited partners of Communication
Partners, L.P. and received an aggregate of 533,476 Paradyne shares in the
distribution.
For a further description of interlocking transactions, see "Certain
Transactions."
EXECUTIVE COMPENSATION
The following table sets forth information concerning compensation for
services rendered during the fiscal year ended December 31, 1998 by our Chief
Executive Officer and our four other most highly compensated executive officers
whose salary and bonus for the last fiscal year exceeded $100,000, collectively
referred to as the Named Executive Officers. There were no options granted to
the Named Executive Officers during fiscal 1998.
<TABLE>
<CAPTION>
ANNUAL COMPENSATION (1)
------------------------ ALL OTHER
NAME AND PRINCIPAL POSITION SALARY BONUS COMPENSATION
<S> <C> <C> <C>
Thomas E. Epley.......................................... $586,541(2) -- $18,102(3)
Chairman, Board of Directors
Andrew S. May............................................ 323,094(4) $ 97,425 536(5)
President, Chief Executive Officer and Director
Patrick M. Murphy........................................ 223,628(6) 51,335 479(7)
Senior Vice President and Chief Financial Officer
Sean E. Belanger......................................... 200,018(8) 114,000 492(9)
Senior Vice President, Worldwide Sales
James L. Slattery........................................ 197,002 71,569 2,155(10)
Senior Vice President, Chief Legal and Intellectual
Property Officer and Corporate Secretary
</TABLE>
- ------------------------------
(1) In accordance with the rules of the Securities and Exchange Commission (the
"Commission"), the compensation described in this table does not include
medical, group life insurance or other benefits which are available
generally to all salaried employees of Paradyne and other perquisites and
personal benefits received which do not exceed the lesser of $50,000 or 10%
of any officer's salary and bonus disclosed in this table.
(2) In order to meet its obligations under an intercompany services agreement
with Paradyne Credit Corporation, Paradyne entered into a Key Employee
Agreement with Thomas E. Epley for the period beginning April 1, 1999 and
ending July 31, 1999. Pursuant to the terms of the Key Employee
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Agreement, Mr. Epley was entitled to an annualized base salary of $600,000.
Mr. Epley was neither eligible to participate in our 1996 Equity Incentive
Plan nor was he eligible for a discretionary or incentive bonus. During the
term of this agreement, Mr. Epley served as President and Chairman of the
board of directors of Paradyne Credit Corporation. Pursuant to the terms of
the intercompany services agreement, Paradyne Credit Corporation was
required to reimburse Paradyne for all costs related to these services.
Either Paradyne or Mr. Epley had the right to terminate Mr. Epley's
employment at any time for any reason. On June 30, 1999, the Key Employee
Agreement was terminated and Mr. Epley received the remainder of his salary
through July 31, 1999 as provided for in the Key Employee Agreement. Mr.
Epley continues to serve as Chairman of the board of directors of Paradyne.
(3) Mr. Epley received life insurance benefits and payments for living expenses
during 1998.
(4) Includes $139,522 contributed to the Key Employee Stock Option Plan.
(5) Mr. May received life insurance benefits during 1998.
(6) Includes $60,000 contributed to the Key Employee Stock Option Plan.
(7) Mr. Murphy received life insurance benefits during 1998.
(8) Includes $47,344 contributed to the Key Employee Stock Option Plan.
(9) Mr. Belanger received life insurance benefits during 1998.
(10) Mr. Slattery received life insurance benefits during 1998.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR END OPTION
VALUES
The following table sets forth information regarding options exercised
during fiscal 1998 by the Named Executive Officers and the number and value of
securities underlying unexercised options held on December 31, 1998.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING IN-THE
NUMBER OF UNEXERCISED OPTIONS AT MONEY OPTIONS AT
SHARES DECEMBER 31, 1998 DECEMBER 31, 1998 (1)
ACQUIRED ON VALUE --------------------------- ---------------------------
NAME EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
<S> <C> <C> <C> <C> <C> <C> <C>
Thomas E. Epley........... -- -- -- -- -- --
Andrew S. May............. -- -- 637,500 637,500 $8,062,500 $8,062,500
Patrick M. Murphy......... -- -- 84,375 65,625 1,265,625 984,375
Sean E. Belanger.......... -- -- 112,500 187,500 1,687,500 2,812,500
James L. Slattery......... -- -- -- 45,000 -- 675,000
</TABLE>
- ------------------------------
(1) The calculations of the value realized and of the unexercised in-the-money
options are based on the initial public offering price of $17.00 per share
less the exercise price payable for such shares.
EMPLOYMENT AGREEMENTS
In order to meet its obligations under an intercompany services agreement
with Paradyne Credit Corporation, Paradyne entered into a Key Employee Agreement
with Thomas E. Epley for the period beginning April 1, 1999 and ending July 31,
1999. Pursuant to the terms of the Key Employee Agreement, Mr. Epley was
entitled to an annualized base salary of $600,000. Mr. Epley was neither
eligible to participate in our 1996 Equity Incentive Plan nor was he eligible
for a discretionary or incentive bonus. During the term of this agreement, Mr.
Epley served as President and Chairman of the board of directors of Paradyne
Credit Corporation. Pursuant to the terms of the intercompany services
agreement, Paradyne Credit Corporation was required to reimburse Paradyne for
all costs related to these services. Either Paradyne or Mr. Epley had the right
to terminate Mr. Epley's employment at any time for any reason. On June 30, 1999
the Key Employee Agreement was terminated and Mr. Epley received the remainder
of his salary through July 31, 1999 as provided for in the Key Employee
Agreement. Mr. Epley continues to serve as Chairman of the board of directors of
Paradyne.
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Paradyne has an Employment Agreement with Andrew S. May dated as of October
31, 1996 and continuing indefinitely. Under the agreement, Mr. May is entitled
to receive an annualized base salary of not less than $300,000. He received a
commencement bonus in the amount of $35,000 and is eligible to receive an annual
cash bonus of up to 50% of his base salary. He is also eligible to participate
in the Amended and Restated 1996 Equity Incentive Plan. During the term of the
agreement, Mr. May is serving as President and Chief Executive Officer. Either
Paradyne or Mr. May has the right to terminate Mr. May's employment at any time
for any reason. If we terminate Mr. May's employment without cause or he resigns
for a material breach by us of his employment agreement, he will receive a
severance payment equal to one year's salary.
Paradyne has a Key Employee Agreement with Patrick M. Murphy dated as of
August 1, 1996 and continuing indefinitely. Under the agreement, Mr. Murphy is
entitled to receive an annualized base salary of not less than $215,000. He is
eligible for a discretionary bonus in an annualized amount of up to $70,000. He
is also eligible to participate in the 1996 Equity Incentive Plan. During the
term of the agreement, Mr. Murphy is serving as Senior Vice President, Chief
Financial Officer and Treasurer. Either Paradyne or Mr. Murphy has the right to
terminate Mr. Murphy's employment at any time for any reason. If we terminate
Mr. Murphy's employment without cause, he will receive a severance payment equal
to one year's salary.
Paradyne has a Key Employee Agreement with James L. Slattery dated as of
August 1, 1996 and continuing indefinitely. Under the agreement, Mr. Slattery is
entitled to receive an annualized base salary of not less than $189,410. He is
eligible for a discretionary bonus in an annualized amount of up to $85,000. He
is also eligible to participate in the 1996 Equity Incentive Plan. During the
term of the agreement, Mr. Slattery is serving as Senior Vice President, Chief
Legal and Intellectual Property Officer and Corporate Secretary. Either Paradyne
or Mr. Slattery has the right to terminate Mr. Slattery's employment at any time
for any reason. If we terminate Mr. Slattery's employment without cause, he will
receive a severance payment equal to one year's salary.
CHANGE OF CONTROL PROVISIONS
We have an arrangement with Andrew S. May governing the vesting of stock
options upon a change in control. The agreement provides that all of Mr. May's
options shall become exercisable upon a change in control. We have arrangements
with Patrick M. Murphy and James L. Slattery governing the vesting of stock
options upon a change of control. Each agreement provides that in the event of a
change in control, 50% of the unvested options held by the officer shall become
immediately exercisable and the remaining unvested shares shall become
exercisable if the officer does not receive comparable employment following the
change of control. Furthermore, if the officer receives comparable employment,
the remaining unvested shares shall become exercisable upon the earlier of the
one year anniversary of the change in control or the officer's termination
without cause. The Company has agreed to guarantee the value of the unvested
shares equal to the value on the date of the change in control. We have an
arrangement with Sean E. Belanger governing the vesting of stock options upon a
change in control. The arrangement provides that all of Mr. Belanger's options
shall become exercisable in the event Mr. Belanger is not offered comparable
employment following a change of control, and his stock options are not either
assumed or replaced with similar stock options.
1996 EQUITY INCENTIVE PLAN
The Amended and Restated 1996 Equity Incentive Plan (the "1996 Plan") was
adopted by Paradyne Acquisition Corp.'s board of directors in January 1997 and
approved by its stockholders in April 1997. An amendment and restatement of the
1996 Plan was adopted by our board of directors and our stockholders in June
1999 which added the provision described below that increases the share reserve
under the 1996 Plan automatically each year and made other minor amendments to
the 1996 Plan.
A total of 6,000,000 shares have been reserved for issuance under the 1996
Plan. Each year, the number of shares reserved for issuance under the 1996 Plan
will automatically be increased by the lesser of 4,500,000 shares or 5.0% of the
total number of shares of common stock then outstanding. The 1996 Plan provides
for grants of incentive stock options that qualify under Section 422 of the
Internal Revenue Code of 1986, as amended (the "Code"), to our employees
(including officers and employee directors) or the employees of any
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of our affiliates. Nonstatutory stock options, rights to acquire restricted
stock, and stock bonuses may be granted to employees (including officers),
directors of and consultants to Paradyne or any of our affiliates. The 1996 Plan
may be administered by the board of directors or a committee appointed by the
Board of Directors; references herein to the board of directors shall include
any such committee. The 1996 Plan is currently administered by a Compensation
Committee consisting of "non-employee directors" under applicable securities
laws and "outside directors," as defined under the Code and the regulations
thereunder. The Compensation Committee has the authority to determine to whom
awards are granted, the terms of such awards, including the type of awards to be
granted, the exercise price, the number of shares subject to the awards and the
vesting and exercisability of the awards.
The term of a stock option granted under the 1996 Plan generally may not
exceed 10 years. The exercise price of options granted under the 1996 Plan is
determined by the Compensation Committee, but, in the case of an incentive stock
option, cannot be less than the fair market value of the common stock on the
date of grant. Options granted under the 1996 Plan vest at the rate specified in
the option agreement. Except as expressly provided by the terms of a
nonstatutory stock option agreement, no option may be transferred by the
optionee other than by will or the laws of descent or distribution or, in
limited instances, pursuant to a qualified domestic relations order, provided
that an optionee may designate a beneficiary who may exercise the option
following the optionee's death. An optionee whose relationship with Paradyne or
any of our affiliates ceases for any reason (other than due to death or
permanent and total disability) may generally exercise vested options in the
three month period following such cessation (unless such options terminate or
expire sooner by their terms) or in such longer or shorter period as may be
determined by the board and set forth in the option agreement. Vested options
may generally be exercised during the twelve month period after an optionee's
relationship with Paradyne or any of our affiliates ceases due to death or
disability.
No incentive stock option may be granted to any person who, at the time of
the grant, owns (or is deemed to own) stock possessing more than 10% of the
total combined voting power of Paradyne or any of our affiliates, unless the
option exercise price is at least 110% of the fair market value of the stock
subject to the option on the date of grant and the term of the option does not
exceed five years from the date of grant. In addition, the aggregate fair market
value, determined at the time of grant, of the shares of common stock with
respect to incentive stock options granted under any plan, which become
exercisable by an optionee during any calendar year, may not exceed $100,000.
Any incentive stock options, or portions thereof, which exceed this limit are
treated as nonstatutory options.
If we become subject to Section 162(m) of the Code, which denies a
deduction to publicly held corporations for specific compensation paid to
specific employees in a taxable year to the extent that the compensation exceeds
$1,000,000, no person may be granted options under the 1996 Plan covering more
than 2,500,000 shares of common stock in any calendar year. Shares subject to
stock awards that have lapsed or terminated, without having been exercised in
full, and any shares repurchased by Paradyne pursuant to a repurchase option
provided under the 1996 Plan may again become available for the grant of awards
under the 1996 Plan.
Rights to acquire restricted stock granted under the 1996 Plan may be
granted subject to a repurchase option in favor of Paradyne that will expire
pursuant to a vesting schedule. The purchase price of such awards will be at
least 85% of the fair market value of the common stock on the date of grant.
Stock bonuses may be awarded in consideration for past services without the
payment of a purchase price. Rights under a stock bonus or restricted stock
bonus agreement may not be transferred other than by will, the laws of descent
and distribution or a qualified domestic relations order while the stock awarded
pursuant to such an agreement remains subject to the agreement, provided that a
holder of such rights may designate a beneficiary who may exercise the right
following the holder's death.
Upon particular types of changes in control of Paradyne, all outstanding
stock awards under the 1996 Plan may be assumed by the surviving entity or
replaced with similar stock awards granted by the surviving entity. If the
surviving entity does not assume such awards or provide substitute awards, then
with respect to persons whose service with Paradyne or an affiliate has not
terminated prior to such change in control, the awards shall become fully vested
and will terminate if not exercised prior to such change in control.
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As of August 31, 1999, there were options to acquire 3,404, 275 shares of
common stock outstanding under the 1996 Plan. The 1996 Plan will terminate in
May 2009, unless terminated sooner by the board of directors.
1999 EMPLOYEE STOCK PURCHASE PLAN
In June 1999, our board of directors adopted and the stockholders approved
the 1999 Employee Stock Purchase Plan (the "Purchase Plan"). A total of
1,000,000 shares of common stock have been reserved for issuance under the
Purchase Plan. Each year, the number of shares reserved for issuance under the
Purchase Plan will automatically be increased by 2.0% of the total number of
shares of common stock then outstanding or, if less, by 1,000,000 shares. The
Purchase Plan is intended to qualify as an employee stock purchase plan within
the meaning of Section 423 of the Code. Under the Purchase Plan, the board of
directors or a committee comprised of at least two members of the board of
directors may authorize participation by eligible employees, including officers,
in periodic offerings following the commencement of the Purchase Plan. The
initial offering under the Purchase Plan commenced on the effective date of our
initial public offering and will terminate on April 30, 2001.
Unless otherwise determined by the board of directors, employees are
eligible to participate in the Purchase Plan only if they are customarily
employed by us or one of our subsidiaries designated by the board of directors
for at least 20 hours per week and five months per calendar year. Employees who
participate in an offering may have up to 15% of their earnings withheld
pursuant to the Purchase Plan. The amount withheld is then used to purchase
shares of the common stock on specified dates determined by the board of
directors. The price of common stock purchased under the Purchase Plan will be
equal to 85% of the lower of the fair market value of the common stock at the
commencement date of each offering period or the relevant purchase date.
Employees may end their participation in an offering at any time during such
offering, and their participation will end automatically on termination of their
employment with us or one of our subsidiaries.
In the event of a merger, reorganization, consolidation or liquidation
involving Paradyne, the board of directors has discretion to provide that each
right to purchase common stock will be assumed or an equivalent right
substituted by the successor corporation or the board of directors may provide
for all sums collected by payroll deductions to be applied to purchase stock
immediately prior to such merger or other transaction. The board of directors
has the authority to amend or terminate the Purchase Plan, provided, however,
that no such action may adversely affect any outstanding rights to purchase
common stock.
1999 NON-EMPLOYEE DIRECTORS' STOCK OPTION PLAN
In June 1999, the board of directors adopted and the stockholders approved
the 1999 Non-Employee Directors' Stock Option Plan (the "Directors' Plan") to
provide for the automatic grant of options to purchase shares of common stock to
non-employee directors of Paradyne. The Directors' Plan is administered by the
board of directors.
The aggregate number of shares of common stock that may be issued pursuant
to options granted under the Directors' Plan is 250,000. Pursuant to the terms
of the Directors' Plan, each of our directors who was not an employee of
Paradyne (a "Non-Employee Director") was automatically granted an option to
purchase 10,000 shares of common stock on July 15, 1999, the effective date of
our initial public offering (an "Initial Grant"). Each person who is elected or
appointed to be a Non-Employee Director thereafter, will be granted an Initial
Grant upon such election or appointment. In addition, each Non-Employee Director
who continues to serve as a Non-Employee Director of Paradyne and who attends at
least seventy-five percent (75%) of the regularly scheduled meetings of the
board and the committees of the board of which he or she is a member during the
year preceding each annual meeting of our stockholders will automatically be
granted an option to purchase 5,000 shares of common stock on the day following
each such annual meeting (an "Annual Grant"). The number of shares subject to
the Annual Grant will be reduced pro rata for each full quarter prior to the
date of the grant during which such person did not serve as a Non-Employee
Director any Non-Employee Director who has not continuously served as a director
for the entire 12-month period prior to the
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date of grant. Each Annual Grant shall be fully vested on the date it is
granted. Initial Grants may, at the discretion of the board of directors, be
fully vested on the day they are granted or be vested as to 50% of the shares
subject to such Initial Grants on the date they are granted and as to the
remaining 50% of the shares subject to the Initial Grant on the first
anniversary of the date they are granted. The Initial Grants made on July 15,
1999 were fully vested upon grant. No option granted under the Directors' Plan
may have a term in excess of ten years from the date on which it was granted.
The exercise price of options under the Directors' Plan will equal the fair
market value of the common stock on the date of grant. A Non-Employee Director
whose service as a Non-Employee Director or employee of or consultant to
Paradyne or any of our affiliates ceases for any reason other than death or
permanent and total disability may generally exercise vested options in the
three-month period following such cessation (unless such options terminate or
expire sooner by their terms). Vested options may be exercised during the
12-month period after a Non-Employee Director's service ceases due to disability
and during the 18-month period after such service ceases due to death. The
Directors' Plan will terminate in May 2009, unless earlier terminated by the
board of directors.
As of August 31, 1999, 60,000 options to purchase common stock had been
granted pursuant to the Directors' Plan, of which options to acquire 20,000
shares were outstanding on such date.
KEY EMPLOYEE STOCK OPTION PLAN
The Key Employee Stock Option Plan (the "Key Employee Plan") was adopted by
our board of directors on December 29, 1997. The Key Employee Plan is
administered by the Plan Committee (the "Benefits Committee"), which committee
consists of John M. Guest, Patrick M. Murphy and H. Edward Thompson. Employees
of Paradyne holding the position of Vice President or above are eligible to
participate in the Key Employee Plan. As of August 31, 1999, fifteen employees
are eligible to participate in the plan. Participants may elect to defer up to
fifty percent (50%) of their total annual compensation in exchange for options
to purchase shares of common or preferred stock of any publicly-traded
corporation, shares of our common stock or shares in investment funds.
Currently, participants in the Key Employee Plan may only receive options to
purchase shares of investment funds administered by Fidelity Investments. The
Key Employee Plan allows the Benefits Committee, after consultation with an
employee holding an option under the Key Employee Plan, to change the shares
subject to purchase by the optionee upon exercise of such option. The options
granted under the Key Employee Plan are not intended to qualify as "incentive
stock options" under Section 422 of the Code.
Upon the grant of an option under the Key Employee Plan, Paradyne is
required to acquire shares of the stock or investment fund subject to the option
in a number equal to 75% of the shares subject to such option. These shares will
be held by Paradyne under a trust arrangement.
The exercise price of an option granted under the Key Employee Plan will be
equal to the greater of 25% of the fair market value of the shares subject to
the option on the date of issuance of the option or 25% of the fair market value
of the shares subject to the option on the date of exercise of the option. The
cost to the employee is the exercise price. Options granted under the Key
Employee Plan are fully vested upon grant and may be exercised at any time after
the date that is six months after the date they are granted. The term of an
option granted under the Key Employee Plan may not exceed ten years. An optionee
whose service with Paradyne terminates may exercise options granted under the
Key Employee Plan within twelve months following such termination.
Unless the terms of an option granted under the Key Employee Plan provide
otherwise, such options may be transferred to an optionee's spouse or lineal
descendants or the trustee of a trust established for the optionee's spouse or
lineal descendants.
As of August 31, 1999, Andrew May, Patrick Murphy, Sean Belanger, Paul
Floyd and John Guest were the only participants in the Key Employee Plan.
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401(K) PLAN
We have established the Paradyne Corporation Retirement Savings Plan
effective August 1, 1996 (the "401(k) Plan"). The 401(k) Plan is intended to
qualify under Section 401 of the Code so that contributions by employees or by
Paradyne, and income earned thereon, are not taxable until withdrawn and so that
contributions by Paradyne will be deductible by Paradyne when made. The 401(k)
Plan provides that each participant may reduce his or her pre-tax gross
compensation by up to 16% (up to a statutorily prescribed annual limit of
$10,000 in 1999) and have that amount contributed to the 401(k) Plan. Employees
become eligible to participate in the 401(k) Plan upon commencement of their
employment with Paradyne. Participants are fully vested in all amounts they
contribute under the 401(k) Plan and in the earnings on such amounts.
In addition to the employee salary deferrals described above, the 401(k)
Plan requires Paradyne to make contributions under the 401(k) Plan on behalf of
the participants. These contributions include a matching contribution of 66 2/3%
of the first 6% of salary deferral contributions made by each participant. The
401(k) Plan also permits Paradyne to make an employer contribution in an amount
to be determined by the board of directors or, if no such amount is determined,
in an amount of between 1% and 4.5% of the annual compensation of each
participant. The amount of such employer contributions to be received by each
participant will be determined based on the age of the participant. Participants
become vested in matching contributions and employer contributions according to
a graded vesting schedule under which they become fully vested after four years
of service with Paradyne.
Employee participants may elect to invest their accounts under the 401(k)
Plan in various established funds.
LIMITATIONS ON DIRECTORS' AND EXECUTIVE OFFICERS' LIABILITY AND INDEMNIFICATION
Our bylaws provide that Paradyne shall indemnify its directors and
executive officers to the fullest extent permitted by Delaware law, except with
respect to some specific proceedings initiated by such persons. Paradyne is also
empowered under its bylaws to enter into indemnification contracts with its
directors and executive officers. Paradyne is similarly authorized to purchase
insurance on behalf of any person it is required or permitted to indemnify.
In addition, our restated certificate provides that a director of Paradyne
will not be personally liable to Paradyne or its stockholders for monetary
damages for any breach of fiduciary duty as a director, except for:
- any breach of the director's duty of loyalty to Paradyne or its
stockholders;
- acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law;
- unlawful payments of dividends or unlawful stock repurchases or
redemptions; and
- any transaction from which the director derives an improper personal
benefit.
The restated certificate also provides that if the Delaware General
Corporation Law is amended after the approval by our stockholders of the
restated certificate to authorize corporate action further eliminating or
limiting the personal liability of directors, then the liability of Paradyne's
directors shall be eliminated or limited to the fullest extent permitted by the
Delaware General Corporation Law, as so amended. The provision does not affect a
director's responsibilities under any other law, such as the federal securities
laws or state or federal environmental laws.
We entered into an indemnification agreement with William Stensrud, one of
our directors, on November 6, 1996. Under the agreement, we agreed to reimburse
and indemnify Mr. Stensrud for civil or criminal proceedings or governmental
investigations relating to Mr. Stensrud's actions as a director, except if such
conduct was committed in bad faith or was a breach of Mr. Stensrud's duty of
loyalty to us. This agreement was superseded by our indemnification agreement
with Mr. Stensrud entered into on June 21, 1999 and described below.
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We entered into indemnification agreements with Messrs. Belanger,
Bonderman, Epley, Geeslin, May, Murphy, Slattery, Stanton, Stensrud and Van Camp
in June 1999. Under the agreements, we agreed to reimburse and indemnify each
individual for civil or criminal proceedings or governmental investigations
relating to his actions as a director or officer, except if such conduct was
committed in bad faith or was a breach of his duty of loyalty to us.
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CERTAIN TRANSACTIONS
The following is a description of transactions since January 1, 1996, to
which Paradyne has been a party, in which the amount involved in the transaction
exceeds $60,000, and in which any of our directors, executive officers or
holders of more than 5% of the capital stock had or will have a direct or
indirect material interest other than compensation arrangements which are
otherwise required to be described under "Management."
DIVESTITURE BY LUCENT
Initial Formation
Prior to the divestiture, the predecessor business operated several
businesses, which were either acquired by Communication Partners, L.P. or
retained by Lucent. Shares of common stock of the predecessor business were
traded on the New York Stock Exchange from 1978 to 1989 at which point the
predecessor business was acquired by AT&T. Communication Partners, L.P. was
originally formed under the name Paradyne Partners, L.P. in connection with the
divestiture for the primary purpose of holding investments in Paradyne and
GlobeSpan. In the divestiture, Communication Partners, L.P. formed:
- Lease Acquisition Corp., as a subsidiary
- Paradyne Credit Corp. which was formerly called Rental Acquisition Corp.,
as a subsidiary
- GlobeSpan, Inc., which was formerly called CAP Acquisition Group, as a
subsidiary
- Paradyne Acquisition Corp., as a wholly-owned subsidiary to hold the
common stock of Paradyne Corporation and Lease Acquisition Corp.
The following chart illustrates the ownership structure of Communication
Partners, LP and its subsidiaries.
COMMUNICATION PARTNERS, L.P.
(formerly, Paradyne Partners, L.P.)
|
|
- --------------------------------------------------------------------------------
| | |
| | |
PARADYNE NETWORKS, INC. PARADYNE CREDIT CORP. GLOBESPAN, INC.
(formerly, (formerly, (formerly,
Paradyne Acquisition Corp.) Rental Acquisition Corp.) CAP Acquisition
| Group)
|
|
- ----------------------------
| |
| |
Paradyne Lease
Corporation Acquisition Corporation
The predecessor business operated a services business and personal end user
business, which Lucent retained. The predecessor business also operated a
development, manufacturing and distribution business for broadband and
narrowband access products, which was retained by Paradyne Corporation, a
high-speed access integrated circuit business, which was acquired by GlobeSpan,
a short-term equipment leasing business, which was acquired by Paradyne Credit
Corp. and a long-term equipment leasing business, which was acquired by Lease
Acquisition Corp. In connection with these acquisitions, the predecessor
business assigned appropriate assets and resources to the subsidiaries. Lease
Acquisition Corp. sold its assets to Paradyne Credit Corp. and was subsequently
merged with and into Paradyne Networks. See "-- Subsequent
Transactions -- Transactions with Paradyne Credit Corporation."
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The following table illustrates the corporate structure of Paradyne and
GlobeSpan both before and after the divestiture by Lucent.
<TABLE>
<CAPTION>
PERCENTAGE
INTEREST IN PERCENTAGE PERCENTAGE
GLOBESPAN INTEREST IN INTEREST IN
AND PARADYNE PARADYNE GLOBESPAN
PRIOR TO FOLLOWING FOLLOWING
FORMATION FORMATION FORMATION
------------ ----------- -----------
<S> <C> <C> <C>
Lucent Technologies......................................... 100% -- 10.3%(1)
General and Limited Partners of Communication Partners, L.P.
Entities Associated with Texas Pacific Group.............. -- 75.9% 68.1%
Entities Associated with Sprout Group(2).................. -- 13.4% 12.1%
Entities Associated with Thomas Epley..................... -- 8.8% 7.9%
Entities Associated with William Stensrud................. -- 1.9% 1.7%
</TABLE>
- ------------------------------
(1) Represents a warrant held by Lucent to purchase 1,312,500 shares of
GlobeSpan's common stock and assumes a cash exercise of the warrant.
(2) Consists of indirect ownership interests through limited partnership
interests in Communication Partners L.P. and limited partnership interests
in some Texas Pacific Group entities.
In addition to their common ownership, Lucent, GlobeSpan and Paradyne have
continuing business relationships with each other.
Our current board of directors consists of Messrs. Epley, May, Stensrud and
Stanton, Bonderman, Geeslin and Van Camp. Of the current members of the board of
directors, Messrs. Epley, Geeslin and Stanton are directors of both GlobeSpan
and Paradyne. Mr. Stensrud was a member of the board of directors of both
GlobeSpan and Paradyne until his resignation from GlobeSpan's board of directors
in March 1999. Mr. Stensrud will continue as a board member of Paradyne.
As of May 1999, Communication Partners, L.P. owned approximately 97.1% of
our outstanding common stock and approximately 83.2% of the outstanding capital
stock of GlobeSpan. In May 1999, Communication Partners, L.P. distributed its
GlobeSpan shares and its Paradyne shares to its general and limited partners.
See "Principal Stockholders."
From 1996 until August 12, 1999, Mr. Stanton was the sole director and
president of Communication GenPar, Inc., the general partner of Communication
Partners, L.P., and, from 1994 to August 12, 1999, was a partner of TPG
Partners, L.P. and TPG Parallel I, L.P., each a limited partner of Communication
Partners, L.P. and the shareholders of Communication GenPar, Inc. Messrs. Epley
and Stensrud, either directly or through various investment partnerships and
corporations, are limited partners of Communication Partners, L.P.
Interim Promissory Note. In connection with the divestiture, we issued an
interim promissory note payable to Lucent in the amount of $7.5 million. This
note matured on December 31, 1997 and carried an interest rate of 8.5% per annum
for the period July 31, 1996 through December 31, 1996 and 11.5% per annum
thereafter. This note was secured by the land and buildings in Largo, Florida
owned by us at the time of the divestiture. On June 27, 1997, the land and
buildings in Largo, Florida were sold, and this indebtedness was repaid. We
recognized interest expense of approximately $267,000 and $421,000 for the five
months ended October 31, 1996 and the year ended December 31, 1997,
respectively.
Promissory Note. In connection with the divestiture, we issued a
promissory note payable to Lucent in the amount of $61.8 million. This note
carried an interest rate of 8.5% per annum for the period July 31, 1996 through
December 31, 1997, 11.5% per annum for the period January 1, 1998 through
December 31, 1998 and 14.5% per annum thereafter. Under the terms of this note,
interest payments totaling $7.6 million were deferred for the period August 1,
1996 through December 31, 1997. Interest was payable quarterly subsequent to
December 31, 1997. The principal balance, along with any deferred interest, was
due and payable on June 30, 2000. Additionally, the terms of this note called
for a mandatory prepayment of principal and related interest under certain
circumstances. One such circumstance was the sale of the land and
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buildings in Largo, Florida, and as such, we paid Lucent $3.7 million in
principal and deferred interest in June 1997. Of the remainder of the principal
and deferred interest, $63.0 million was forgiven in 1997 and $2.7 million was
paid in 1998 in connection with a settlement with Lucent as described under
"Subsequent Transactions -- Transactions with Lucent -- Lucent Settlement"
below.
TRANSACTIONS WITH LUCENT
Intellectual Property Agreement. As part of the divestiture, we entered
into an intellectual property agreement with Lucent and GlobeSpan. Under this
agreement, Lucent irrevocably assigned to us and our successors all rights in
particular patents related to our proprietary technology. In exchange, we
granted to Lucent a non-exclusive license to develop, manufacture, test or
repair products using the assigned patents.
Non-Competition Agreement. As part of the divestiture, Lucent entered into
a non-competition agreement with GlobeSpan and us. Under this agreement, Lucent
agreed not to compete with us (with a separate agreement not to compete with
GlobeSpan) with respect to the manufacture and sale of products, which either
compete with the principal products of Paradyne or compete with technologies
under development by Paradyne at the time of the divestiture. The cross-license
and non-competition agreements do not prevent GlobeSpan and AT&T from competing
with Paradyne.
AT&T Trademark and Patent Agreement. As part of the divestiture, AT&T
(Lucent's principal stockholder at the time) entered into a trademark and patent
agreement with us and GlobeSpan. Under this agreement, AT&T granted us a
non-exclusive, non-transferable, irrevocable, worldwide, royalty-free license
under particular listed AT&T patents to develop, manufacture, test or repair our
products existing at the time of the divestiture.
Supply Agreement. As part of the divestiture, we entered into a supply
agreement with Lucent and GlobeSpan. Under the terms of this agreement, we
agreed to sell a variety of listed products to Lucent at prices at least as low
as those prices offered to other customers and Lucent agreed to purchase minimum
amounts of products from Paradyne. We also entered into a volume purchase letter
agreement, whereby Lucent agreed to purchase minimum levels of products from us
for a period of four years. The volume purchase letter agreement was
subsequently terminated with an effective date in 1997 in connection with a
settlement with Lucent. In 1997, we amended the supply agreement in connection
with a settlement with Lucent and became the exclusive supplier to Lucent of
Lucent's requirements for network access products for resale through June 2001,
provided that these products possess satisfactory design, function, and
performance characteristics. See "Subsequent Transactions -- Transactions with
Lucent -- Lucent Settlement" below.
TRANSACTIONS WITH GLOBESPAN
Cross-License. As part of the divestiture, we entered into a cross-license
agreement with GlobeSpan. Under this agreement, each party granted to the other
party a non-exclusive, non-transferable, irrevocable, world-wide, royalty-free
license to the patents Lucent assigned to the granting party in the divestiture,
for use in the other party's products that existed as of the date of the
divestiture, and subsequent modifications to those products. Each party also
granted to the other party a non-exclusive, non-transferable, irrevocable,
world-wide, royalty-free license to the granting party's other technical
information and intellectual property existing at the time of the divestiture.
These licenses give us the right to make, have made, use, sell and import our
products within the scope of the license grants as well as the tools used to
develop, manufacture, test or repair such products. We were also given the right
to convey to any of our customers the right to use and resell such products.
Each party also granted to the other party a non-exclusive, non-transferable,
irrevocable, world wide, royalty-free license to use particular listed
trademarks. All of these licenses have an indefinite duration, subject to the
expiration of patent and copyright terms.
Royalty Payments to GlobeSpan. In conjunction with the license to
reproduce GlobeSpan software, we paid GlobeSpan a total of $235,000 in royalty
payments in 1996. This payment reflected the cost of a chip set reference design
guide and a right-to-use fee. The rates were determined in accordance with a
September 1995 license agreement. Effective July 1998, the Company revised its
pricing arrangement with GlobeSpan such that GlobeSpan sold products to the
Company at preferential prices. In exchange, GlobeSpan agreed to
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pay a 1.25% royalty based on net revenues up to an aggregate amount of $1.5
million. The Company recorded $381,000 of royalty revenue related to the
agreement during the year ended December 31, 1998.
Services Agreement. As part of the divestiture, we entered into an
intercompany services agreement under which we agreed, for a period of time, to
provide GlobeSpan with the following services due to their limited
infrastructure.
- human resources, staffing and legal services;
- administrative services, including risk management, patent
management, tax management and accounting support; and
- operational services, including office communications and
telecommunications systems management, facilities management, rent
and other services.
GlobeSpan now provides all of the above-mentioned services directly.
GlobeSpan paid us a total of $155,000 and $231,000 for the years ended December
31, 1997 and 1998 under the services agreement. In 1998, we subleased additional
office space to GlobeSpan. In connection with the relocation of our offices,
GlobeSpan reimbursed us approximately $392,000 of our moving expenses.
Various Insurance Policies. Through August 30, 1999, the directors and
officers of Communication Partners, Communication GenPar, Inc., Paradyne,
Paradyne Acquisition Corp., Paradyne Credit Corp. and GlobeSpan were covered
under one umbrella insurance policy providing up to $10.0 million of liability
coverage. Additionally, Paradyne, Paradyne Credit Corp. and GlobeSpan were
jointly covered under various general liability, property, casualty and workers'
compensation policies. These policies expired on August 30, 1999, by which time
GlobeSpan and Paradyne Credit Corp. had procured their own insurance policies.
401(k) Plan. We maintain a 401(k) plan, which substantially all of
GlobeSpan's employees had participated in due to the administrative economic
benefits of a single employer plan. Effective in May 1999, GlobeSpan adopted its
own 401(k) plan for its employees. Contributions for the five months ended
December 31, 1996 and for the years 1997 and 1998, including discretionary
matches, paid by Paradyne on behalf of GlobeSpan amounted to approximately
$65,000, $321,000 and $379,000. All payments made on behalf of GlobeSpan have
been or will be reimbursed.
TRANSACTIONS WITH LEASE ACQUISITION CORP.
Services Agreement. As part of the divestiture, we entered into an
intercompany services agreement with Lease Acquisition Corp. under which we
agreed to provide:
- general management consulting and services administration, including
lease contract servicing and remarketing services;
- administrative services, including risk management, financial and cash
management, tax management and accounting services;
- human resources, staffing and legal services; and
- operational services, including facilities management, office
communications, telecommunication systems, systems management and other
services.
In exchange for these services, Lease Acquisition Corp. agreed to pay us a
monthly service fee of $5,000 per month. This agreement was terminated by mutual
consent in August 1997. Payments received for these services were $25,000 for
the five months ended December 31, 1996 and $35,000 for the period January 1,
1997 through August 1, 1997.
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TRANSACTIONS WITH PARADYNE CREDIT CORP.
Services Agreement. As part of the divestiture, we entered into an
intercompany services agreement with Paradyne Credit Corp. under which we agreed
to provide:
- general management consulting and services administration, including
rental contract servicing administration and remarketing services;
- administrative services, including risk management, financial and cash
management, tax management and accounting services;
- human resources, staffing and legal services; and
- operational services, including facilities management, office
communications, telecommunication systems, systems management and other
services.
In exchange for these services, Paradyne Credit Corp. agreed to pay us a
monthly service fee equal to 5% of their net revenue. This agreement may be
terminated by Paradyne Credit Corp. upon 60 days notice and by us upon 180 days
notice. Payments received for these services were $407,000 and $521,000 for the
five months ending December 31, 1996 and the seven month period ending July 31,
1997, respectively. See "Subsequent Transactions -- Transactions with Paradyne
Credit Corp." below.
In addition, Paradyne Credit Corp. received an option to purchase our used
equipment that had been returned from expired or terminated leases, sales to
customers or consignment activities. Payments received for the purchase of the
equipment totaled $115,000 and $81,000 for the five months ended December 31,
1996 and the year ended December 31, 1997. This option terminated in August 1997
as described under "Subsequent Transactions -- Transactions with Paradyne Credit
Corp. -- Sale of Lease Receivables and Related Equipment" below.
TRANSACTIONS WITH COMMUNICATION PARTNERS
Interim Promissory Note. In connection with the divestiture, we issued a
promissory note payable to Communication Partners in the amount of $7.5 million.
This note matured on December 31, 1997 and carried an interest rate of 8.5% per
annum for the period July 31, 1996 through December 31, 1996 and 11.5% per annum
thereafter. This note was secured by the land and buildings in Largo, Florida
owned by us at the time of the divestiture. On June 27, 1997, the land and
buildings in Largo, Florida were sold, and this indebtedness was repaid. We
recognized interest expense of approximately $267,000 and $421,000 for the five
months ended December 31, 1996 and the year ended December 31, 1997,
respectively.
SUBSEQUENT TRANSACTIONS
TRANSACTIONS WITH LUCENT
Lucent Settlement. As at December 31, 1997, Lucent had not satisfied its
obligations under the volume purchase letter agreement and, therefore, was
subject to take or pay provisions. We entered into a settlement with Lucent,
effective in 1997 whereby we agreed to terminate the volume purchase letter
agreement, amended our supply agreement with Lucent to become the exclusive
supplier to Lucent of Lucent's requirements for network access products for
resale through June 2001 and received $8.2 million of cash and the cancellation
of the promissory note to Lucent in the amount of $63.0 million. In addition,
GlobeSpan amended a warrant that it originally granted to Lucent at the time of
the 1996 acquisition. The amendment extended the warrant terms by three years.
Because both GlobeSpan and Paradyne were subsidiaries of Communication Partners,
we recognized a contribution of capital by Communication Partners of $3.6
million, reflecting the estimated fair market value of the extension of the
GlobeSpan warrant.
TRANSACTIONS WITH GLOBESPAN
Reimbursement for Chip Set Purchases. Due to GlobeSpan's limited
infrastructure at the beginning of its existence in 1996, GlobeSpan purchased
chip sets from Lucent through us for sale to GlobeSpan
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customers. We paid Lucent for these chip sets on GlobeSpan's behalf, and
GlobeSpan reimbursed us for their cost. These reimbursements totaled $194,000.
Cooperative Development Agreement/Termination Agreement/Supply
Agreement. In November 1996, we entered into a cooperative development
agreement and a related rider agreement with GlobeSpan. Under the terms of these
agreements and in consideration for a contribution of $6.0 million by
Communication Partners to GlobeSpan, we were provided with a broad,
royalty-free, unrestricted license to use GlobeSpan's technical information and
patents for any purpose related to our products. We were also granted the right
to acquire GlobeSpan's chip sets at prices not to exceed cost plus 15%. The term
of the cooperative development agreement was 5 years. The term of rider
agreement was 10 years and we had the right to extend it for an additional
10-year term. In addition, we leased assets and equipment to GlobeSpan for an
annual lease fee of $1.00. Effective December 1998, GlobeSpan and we terminated
these agreements pursuant to a termination agreement. The termination agreement
provided that GlobeSpan agreed, effective July 1998, to pay us a total of $1.5
million in royalties. GlobeSpan and we agreed that approximately $400,000 of
these royalties had been paid as of the effective date of the termination
agreement and that GlobeSpan would pay to us the approximately $1.1 million
balance of royalties the sooner of December 31, 1999 or within 30 days of the
effective date of GlobeSpan's initial public offering. The balance of the
royalties was paid in July 1999.
In conjunction with the signing of the termination agreement, we entered
into a four-year supply agreement with GlobeSpan, which gives us preferential
pricing and other terms in connection with the purchase of GlobeSpan products.
Under the terms of this agreement, GlobeSpan is required to honor our orders for
GlobeSpan products in quantities at least consistent with our past ordering
practices and must afford us at least the same priority for its orders as
GlobeSpan affords other similarly situated highly preferred customers. We were
also granted immunity under GlobeSpan's intellectual property rights for all our
customers that purchase our products that incorporate GlobeSpan products.
GlobeSpan has been selling products to us pursuant to these terms since July
1998. In 1997 and 1998, we paid to GlobeSpan a total of $373,000 and $962,000,
respectively, for products purchased under the cooperative development
agreement, the related rider agreement and the termination agreement.
Inventory Repurchases by GlobeSpan. In December 1997 and September 1998,
GlobeSpan repurchased some of its chip sets for their own inventory needs, which
we held in more than adequate supply in our inventory in the amounts of $98,000
and $29,000, respectively.
Purchase of Fixed Assets. In 1997 and in 1998, GlobeSpan purchased fixed
assets in a non-arm's-length transaction for approximately $350,000 and
$400,000, respectively, which were owned by us but which they used in their
business. Prior to the sale of the equipment to GlobeSpan, the related
depreciation expense of $106,000 in 1996 and $244,000 in 1997 was transferred to
GlobeSpan for its use, which was reflected as a distribution of equity to a
related party in the statement of changes in stockholder equity. In 1998,
GlobeSpan purchased fixed assets from us related to a subleased facility that
they needed for their operations for $1.0 million, which included costs to
remodel offices previously used by us.
Real Property Agreements. Under a sublease dated August 1997, and
subsequently amended in August 1998, between GlobeSpan and us, GlobeSpan
subleases property at 100 Schulz Drive, Red Bank, New Jersey. The sublease
reimburses us for 100% of all costs we incur under the primary lease. GlobeSpan
currently pays us approximately $68,000 a month for approximately 50,000
rentable square feet, plus approximately $10,000 per month for rent operating
costs. After October 2001, the rent will increase to approximately $79,000 a
month for a period of six months. The sublease expires in April 2002.
TRANSACTIONS WITH LEASE ACQUISITION CORP.
Merger of Lease Acquisition Corp. into Paradyne Acquisition Corp. In August
1997, Lease Acquisition Corp. sold its net assets to Paradyne Credit Corp. in
exchange for a promissory note totaling approximately $4.8 million and merged
with and into Paradyne Acquisition Corp. As a result of this merger, Paradyne
Acquisition Corp. acquired Paradyne Credit Corp.'s promissory note.
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<PAGE> 76
TRANSACTIONS WITH PARADYNE CREDIT CORP.
Purchase of Installment and Accounts Receivables. In December 1996, we
purchased installment and accounts receivables relating to long-term equipment
leases in the aggregate amount of $14.0 million from Paradyne Credit Corp. in
exchange for a promissory note of $13.7 million. A deferred gain of $291,000 was
included in other current liabilities at December 1996. The promissory note bore
an interest rate of 9.25% and was scheduled to mature in December 1997. In
January 1997, we sold the receivables back to Paradyne Credit Corp. in exchange
for cancellation of the promissory note. We recognized interest expense of
approximately $10,000 in connection with the transaction.
Sale of Lease Receivables and Related Equipment. In August 1997, we sold
all equipment under lease, as well as the related future lease payments, to
Paradyne Credit Corp., our equipment leasing affiliate, for approximately $3.5
million, the approximate book value of the equipment and related future lease
payments. We, however, are allowed to purchase from Paradyne Credit Corp.
equipment that has been returned to Paradyne Credit Corp. after the termination
of the lease. These purchases are on terms no more favorable to us than would be
obtained in a comparable arm's length transaction and totaled $0 and $141,000
for the year ended December 31, 1997 and 1998, respectively. Paradyne Credit
Corp. may purchase equipment manufactured or sold by us at prices substantially
equal to those received by us through normal selling channels. Payments received
from the sales of such equipment totaled $181,000 and $317,000 for the year
ended December 31, 1997 and 1998, respectively.
In connection with this sale, the Paradyne Credit Corp. services agreement
was amended to change the monthly service fee to equal the sum of: (i) all
direct costs incurred by us to provide services to Paradyne Credit Corp. and
(ii) up to five percent (5%) of the net revenues of Paradyne Credit Corp. for
any indirect costs. Payments received for these services were $344,000 and
approximately $1.2 million for the five months ended December 31, 1997 and for
the year ended December 31, 1998, respectively.
In April 1999, this agreement was again modified to adjust the monthly
service fee to equal to the sum of: (i) all direct costs incurred by us to
provide services to Paradyne Credit Corp., (ii) all indirect costs incurred by
us to provide services to Paradyne Credit Corp. and (iii) a 5% mark up on all
charges.
In connection with a sale of lease receivables to AT&T Capital Corp., we
guaranteed collection of selected receivables to AT&T Capital Corp. As of
December 31, 1998, lease receivables for which we were contingently liable, but
for which we have recourse, were outstanding in the amount of $886,000. The
ultimate responsibility for the collection of these receivables is with Paradyne
Credit Corp.
TRANSACTIONS WITH COMMUNICATION PARTNERS
Subordinated Revolving Promissory Note. In August 1997, Communication
Partners agreed to provide to us a revolving line of credit facility in the
maximum amount of $5.0 million. This agreement was amended in October 1998 to
increase the maximum principal amount of the facility to $10.0 million. Interest
paid under this note totaled $0 and $305,000 for the year ended December 31,
1997 and 1998, respectively. As of August 31, 1999, there was no outstanding
balance on the credit facility. We terminated this facility in September 1999.
Continuing Limited Guaranty. In October 1998, Communication Partners
entered into a continuing guaranty for the benefit of Bank of America NT&SA in
connection with our revolving credit facility. The maximum liability under this
guaranty was $10.0 million, reduced by any principal amount outstanding under
the subordinated revolving promissory note discussed above. This guaranty was
canceled in March 1999.
PROMISSORY NOTES FROM OFFICERS
On May 5, 1997, James L. Slattery, Senior Vice President, Chief Legal and
Intellectual Property Officer and Corporate Secretary, issued to us a promissory
note in the amount of $149,850 in connection with his purchase of 75,000 shares
of our common stock. The full recourse note accrues interest at a rate of 6.65%
per annum. The principal balance of this note and accrued interest are payable
at the earlier of termination of employment or five years from the date of the
note. The note is secured by the shares of common stock
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<PAGE> 77
acquired with the note, which shares are held in escrow by us. As of August 31,
1999, the balance outstanding was $149,850, plus accrued interest.
On March 29, 1999, Sean E. Belanger, Senior Vice President of Worldwide
Sales, issued to us a promissory note in the amount of $199,800 in connection
with his purchase of 100,000 shares of our common stock. The full recourse note
accrues interest at a rate of 4.72% per annum. The principal balance of this
note and accrued interest are payable at the earlier of termination of
employment or five years from the date of the note. The note is secured by the
shares of common stock acquired with the note, which shares are held in escrow
by us. The balance outstanding as of August 31, 1999 was $199,800, plus accrued
interest.
On March 26, 1999, Paul H. Floyd, Vice President Research and Development,
issued to us a promissory note in the amount of $74,925 in connection with his
purchase of 37,500 shares of our common stock. The full recourse note accrues
interest at a rate of 4.72% per annum. The principal balance of this note and
the accrued interest are payable at either the earlier of termination of
employment or five years from the date of the note. The note is secured by the
shares of common stock acquired with the note, which shares are held in escrow
by us. All unvested shares purchased with the note are subject to repurchase by
us if Mr. Floyd terminates his employment prior to becoming fully vested in
these shares. The shares vest on a quarterly basis and will be fully vested
after August 1, 2000. The balance outstanding as of August 31, 1999 was $74,925,
plus accrued interest. On March 26, 1999, Mr. Floyd issued to us a promissory
note in the amount of $62,475 in connection with his purchase of 12,500 shares
of our common stock. The full recourse note accrues interest at a rate of 4.72%
per annum. The principal balance of this note and accrued interest are payable
at the earlier of termination of employment or five years from the date of the
note. The note is secured by the shares of common stock acquired with the note,
which shares are held in escrow by us. All unvested shares purchased with the
note are subject to repurchase by us if Mr. Floyd terminates his employment
prior to becoming fully vested in those shares. A quarter of the shares vest on
the first anniversary of the note and the remainder vest in equal quarterly
installments thereafter. The balance outstanding as of August 31, 1999 was
$62,475, plus accrued interest.
On March 26, 1999, Frank J. Wiener, Vice President of Broadband Access
Products, issued to us a promissory note in the amount of $159,915 in connection
with his purchase of 42,500 shares of our common stock. The full recourse note
accrues interest at a rate of 4.72% per annum. The principal balance of this
note and the accrued interest are payable at either the earlier of termination
of employment or five years from the date of the note. The note is secured by
the shares of common stock acquired with the note, which shares are held in
escrow by us. All unvested shares purchased with the note are subject to
repurchase by us if Mr. Wiener terminates his employment prior to becoming fully
vested in these shares. The shares vest on a quarterly basis and will be fully
vested after January 1, 2001. The balance outstanding as of August 31, 1999 was
$159,915, plus accrued interest. On April 2, 1999, Mr. Wiener issued to us a
promissory note in the amount of $24,990 in connection with his purchase of
5,000 shares of our common stock. The full recourse note accrues interest at a
rate of 5.15% per annum. The principal balance of this note and accrued interest
are payable at the earlier of termination of employment or five years from the
date of the note. The note is secured by the shares of common stock acquired
with the note, which shares are held in escrow by us. All shares purchased with
the note are subject to repurchase by us if Mr. Wiener terminates his employment
prior to becoming fully vested in those shares. A quarter of the shares vest on
the first anniversary of the loan and the remainder vest in equal quarterly
installments thereafter. The balance outstanding as of August 31, 1999 was
$24,990, plus accrued interest.
On March 27, 1999, Mark Housman, Vice President of Marketing, issued a
promissory note to us in the amount of $64,935 in connection with his purchase
of 32,500 shares of our common stock. The full recourse note accrues interest at
a rate of 4.72% per annum. The principal balance of this note and the accrued
interest are payable at either the earlier of termination of employment or five
years from the date of the note. The note is secured by the shares of common
stock acquired with the note, which shares are held in escrow by us. All
unvested shares purchased with the note are subject to repurchase by us if Mr.
Housman terminates his employment prior to becoming fully vested in these
shares. The shares vest on a quarterly basis and will be fully vested after
February 2000. The balance outstanding as of August 31, 1999 was $64,935, plus
accrued interest.
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On March 31, 1999, Andrew S. May, President, Chief Executive Officer, and
Director, issued to us a promissory note in the amount of $99,900 in connection
with his purchase of 50,000 shares of our common stock. The full recourse note
accrues interest at a rate of 4.72% per annum. The principal balance of this
note and the accrued interest are payable at either the earlier of termination
of employment or five years from the date of the note. The note is secured by
the shares of common stock acquired with the note, and those shares are held in
escrow by us. The balance as of August 31, 1999 was $99,900, plus accrued
interest.
On March 31, 1999, Patrick M. Murphy, Senior Vice President and Chief
Financial Officer, issued to us a promissory note in the amount of $74,925 in
connection with his purchase of 37,500 shares of our common stock. The full
recourse note accrues interest at a rate of 4.72% per annum. The principal
balance of this note and the accrued interest are payable at either the earlier
of termination of employment or five years from the date of the note. The note
is secured by the shares of common stock acquired with the note, and those
shares are held in escrow by us. The balance outstanding as of August 31, 1999
was $74,925 plus accrued interest. On April 2, 1999, Mr. Murphy issued to us a
promissory note in the amount of $37,485 in connection with his purchase of
7,500 shares of our common stock. The full recourse note accrues interest at a
rate of 5.15% per annum. The principal balance of this note and accrued interest
are payable at the earlier of termination of employment or five years from the
date of the note. The note is secured by the shares of common stock acquired
with the note, which shares are held in escrow by us. All shares purchased with
the note are subject to repurchase by us if Mr. Murphy terminates his employment
prior to becoming fully vested in those shares. A quarter of the shares vest on
the first anniversary of the loan and the remainder vest in equal quarterly
installments thereafter. The balance outstanding as of August 31, 1999 was
$37,485, plus accrued interest.
On July 1, 1999, J. Scott Eudy, Vice President of Corporate Development,
issued to us a promissory note in the amount of $92,595 in connection with his
purchase of 15,000 shares of our common stock. The full recourse note accrues
interest at a rate of 5.67% per annum. The principal balance of this note and
the accrued interest are payable at either the earlier of termination of
employment or five years from the date of the note. The note is secured by the
shares of common stock acquired with the note, and those shares are held in
escrow by us. All unvested shares purchased with the note are subject to
repurchase by us if Mr. Eudy terminates his employment prior to becoming fully
vested in these shares. The shares vest on a quarterly basis and will be fully
vested after January 2, 2002. The balance outstanding as of August 31, 1999 was
$92,595 plus accrued interest. Also on July 1, 1999, Mr. Eudy issued to us a
promissory note in the amount of $73,418 in connection with his purchase of
22,500 shares of our common stock. The full recourse note accrues interest at a
rate of 5.67% per annum. The principal balance of this note and accrued interest
are payable at the earlier of termination of employment or five years from the
date of the note. The note is secured by the shares of common stock acquired
with the note, which shares are held in escrow by us. All unvested shares
purchased with the note are subject to repurchase by us if Mr. Eudy terminates
his employment prior to becoming fully vested in these shares. The shares vest
on a quarterly basis and will be fully vested after October 24, 2000. The
balance outstanding as of August 31, 1999 was $73,418, plus accrued interest.
Except where noted, each of the transactions disclosed in this Section are
on terms no less favorable to Paradyne than it could obtain from non-affiliated
third parties.
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PRINCIPAL AND SELLING STOCKHOLDERS
This table sets forth certain information regarding the beneficial
ownership of our outstanding common stock as of August 31, 1999, except as
provided in footnote 14, by the following:
- each person known by us to own beneficially more than five percent of the
outstanding common stock;
- each director of Paradyne;
- each Named Executive Officer;
- each stockholder of Paradyne who is selling shares of common stock in
this offering; and
- all directors and executive officers of Paradyne as a group.
The following calculations of the percentage of outstanding shares are
based on 30,676,745 shares of our common stock outstanding as of August 31, 1999
and 30,676,745 shares outstanding immediately following the completion of this
offering and assumes no exercise of the underwriters' over-allotment option,
under which the underwriters have an option to purchase an additional 500,000
shares from us. Beneficial ownership is determined in accordance with the rules
of the Securities and Exchange Commission and generally includes voting or
investment power with respect to securities, subject to community property laws,
where applicable. Shares of our common stock subject to options that are
presently exercisable or exercisable within 60 days of August 31, 1999 are
deemed to be outstanding and beneficially owned by the person holding such
options for the purpose of computing the percentage of ownership of such person
but are not treated as outstanding for the purpose of computing the percentage
of any other person.
The numbers shown in the table below assume no exercise by the underwriters
of their over-allotment option.
<TABLE>
<CAPTION>
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP
PRIOR TO THE OFFERING NUMBER OF AFTER THE OFFERING
---------------------- SHARES BEING --------------------
NUMBER OF OFFERED NUMBER OF
SHARES PERCENT SHARES PERCENT
<S> <C> <C> <C> <C> <C>
FIVE PERCENT STOCKHOLDERS:
Entities Associated with
Texas Pacific Group
Communication GenPar, Inc. (1).......... 216,474 * 51,138 165,336 *
TPG Partners, L.P. (1).................. 14,778,764 48.18 3,490,786 11,287,978 36.80
TPG Parallel I, L.P. (1)................ 1,473,380 4.80 348,448 1,124,932 3.67
Entities Associated with
Sprout Group
Sprout Capital VII, L.P. (2)............ 1,646,993 5.37 389,068 1,257,925 4.10
Sprout Growth II, L.P. (2).............. 1,346,461 4.39 318,074 1,028,387 3.35
DLJ First ESC L.P. (2).................. 342,326 1.12 80,867 261,459 *
DLJ Capital Corporation (2)............. 68,460 * 16,172 52,288 *
The Sprout CEO Fund, L.P. (2)........... 19,132 * 4,520 14,612 *
DIRECTORS AND OFFICERS:
Andrew S. May (3)....................... 876,563 2.78 -- 876,563 2.78
Sean E. Belanger (4).................... 168,750 * -- 168,750 *
Patrick M. Murphy (5)................... 112,500 * -- 112,500 *
James L. Slattery (6)................... 90,000 * -- 90,000 *
David Bonderman (7)..................... 16,468,618 53.68 -- 12,578,246 41.00
Thomas E. Epley (8)(14)................. 1,011,433 3.30 -- 1,011,433 3.30
Keith B. Geeslin (9).................... 3,433,372 11.19 -- 2,624,671 8.56
David M. Stanton (10)................... -- * -- -- *
William R. Stensrud (11)................ 543,476 1.77 -- 543,476 1.77
Peter F. Van Camp (12).................. 10,000 * -- 10,000 *
All directors and executive officers
as a group (17 persons) (13)............ 23,028,462 72.37 18,028,462 56.66
</TABLE>
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<TABLE>
<CAPTION>
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP
PRIOR TO THE OFFERING NUMBER OF AFTER THE OFFERING
---------------------- SHARES BEING --------------------
NUMBER OF OFFERED NUMBER OF
SHARES PERCENT SHARES PERCENT
<S> <C> <C> <C> <C> <C>
OTHER SELLING STOCKHOLDERS:
Westar Capital(14)...................... 550,268 1.79 137,566 412,702 1.35
Bain & Company, Inc.(14)................ 151,324 * 37,831 113,493 *
Squam Lake Investors II, L.P.(14)....... 151,324 * 37,831 113,493 *
Steve Sebastian(14)..................... 22,011 * 5,503 16,508 *
Hagopian Family Trust(14)............... 55,027 * 13,757 41,270 *
Hagopian Family Foundation(14).......... 9,630 * 2,407 7,223 *
Pennington Family Revocable Trust(14)... 55,027 * 16,508 38,519 *
Davisson Family Trust(14)............... 27,513 * 13,757 13,756 *
Donald J. Willfong(14).................. 27,513 * 27,513 -- *
Barton Family Trust(14)................. 16,508 * 8,254 8,254 *
</TABLE>
- ---------------
* Represents beneficial ownership of less than 1.0%.
(1) TPG Partners, L.P. and TPG Parallel I, L.P., affiliates of Texas Pacific
Group, are sole shareholders in Communication GenPar, Inc. TPG Advisors,
Inc. is the general partner of TPG Genpar, L.P., which is the general
partner of both TPG Partners, L.P. and TPG Parallel I, L.P. David Stanton,
a director of Paradyne, was the sole director and President of
Communication GenPar, Inc. and a Partner in Texas Pacific Group until
August 12, 1999. The address of Texas Pacific Group is 201 Main Street,
Suite 2420, Fort Worth, TX 76102.
(2) The address for each of these entities is 3000 Sand Hill Road, Bldg. 3,
Suite 170, Menlo Park, CA 94025. Of the aggregate of 3,423,372 shares
beneficially owned by these entities prior to the offering (2,614,671
shares after the offering), 2,121,880 shares prior to the offering
(1,313,179 shares after the offering) are subject to a voting trust
agreement and are held and voted by an independent third party, Norwest
Bank Indiana, N.A., as voting trustee.
(3) Includes 826,563 shares subject to options which are exercisable within 60
days of August 31, 1999.
(4) Includes 68,750 shares subject to options which are exercisable within 60
days of August 31, 1999.
(5) Includes 67,500 shares subject to options which are exercisable within 60
days of August 31, 1999.
(6) Includes 15,000 shares subject to options which are exercisable within 60
days of August 31, 1999.
(7) Includes 216,474 shares held by Communication GenPar, Inc., 14,778,764
shares held by TPG Partners, L.P. and 1,473,380 shares held by TPG Parallel
I, L.P. TPG Partners, L.P. and TPG Parallel I, L.P. are shareholders in
Communication GenPar, Inc. Mr. Bonderman, a director of Paradyne, through
various investment partnerships and corporations, has a pecuniary interest
in the shares held by TPG Partners, L.P. and TPG Parallel I, L.P. However,
Mr. Bonderman disclaims beneficial ownership of the shares held by TPG
Partners, L.P. and TPG Parallel I, L.P. except to the extent of his
pecuniary interest therein.
(8) Includes 10,000 shares subject to options under the 1999 Non-Employee
Directors' Stock Option Plan.
(9) Includes 10,000 shares held by Mr. Geeslin individually and 3,423,372
shares held by entities associated with The Sprout Group prior to the
offering (2,614,671 shares after the offering). Mr. Geeslin is a general
partner of Sprout Growth II, L.P. and Sprout Capital VII, L.P. Mr. Geeslin
is also a Senior Vice President of DLJ Capital Corporation, the managing
general partner of Sprout Growth II, L.P., Sprout Capital VII, L.P. and The
Sprout CEO Fund, L.P. Mr. Geeslin is also one of several individual general
partners of DLJ Associates VII, L.P., which is a general partner of Sprout
Growth II, L.P., Sprout Capital VII, L.P. and the Sprout CEO Fund, L.P. DLJ
First ESC L.P. is an affiliate of DLJ Capital Corporation. As such, he may
be deemed to have voting and dispositive power over the shares held by
entities associated with the Sprout Group. However, Mr. Geeslin disclaims
beneficial ownership of these shares except to the extent of his pecuniary
interest therein.
(10) Mr. Stanton, a director of Paradyne, was the sole director and President of
Communication GenPar, Inc. from 1996 until August 12, 1999.
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(11) Includes 352,326 shares held by the Stensrud Family Trust and 146,150
shares held by Mr. Stensrud individually.
(12) Includes 10,000 shares subject to options under the 1999 Non-Employee
Directors' Stock Option Plan.
(13) Includes 1,144,063 shares subject to options which are exercisable within
60 days of August 31, 1999.
(14) Each of these Other Selling Stockholders was a member of Epley Investors,
LLC and their beneficial ownership reflects a distribution of 1,711,753
shares held by Epley Investors, LLC to its members on September 28, 1999.
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DESCRIPTION OF CAPITAL STOCK
The authorized capital stock of Paradyne Networks consists of 60,000,000
shares of common stock, $.001 par value and 5,000,000 shares of preferred stock
$.001 par value. There were 30,676,745 shares of Paradyne common stock
outstanding as of August 31, 1999, held of record by approximately 231
stockholders, and there are no outstanding shares of preferred stock.
COMMON STOCK
The holders of common stock of Paradyne Networks are entitled to one vote
per share on all matters to be voted on by the stockholders. Subject to
preferences that may be applicable to any outstanding shares of preferred stock,
holders of common stock are entitled to receive ratably such dividends as may be
declared by the board of directors out of funds legally available therefor. In
the event we liquidate, dissolve or wind up, holders of common stock are
entitled to share ratably in all assets remaining after payment of liabilities
and the liquidation preferences of any outstanding shares of preferred stock.
Holders of common stock have no preemptive, conversion, or subscription rights.
There are no redemption or sinking fund provisions applicable to the common
stock. All outstanding shares of common stock are, and all shares of common
stock to be outstanding upon completion of this offering will be, fully paid and
nonassessable.
PREFERRED STOCK
Under the amended and restated certificate of Paradyne Networks, the board
has the authority, without further action by stockholders, to issue up to
5,000,000 shares of preferred stock in one or more series and to fix the rights,
preferences, privileges, qualifications and restrictions granted to or imposed
upon such preferred stock, including dividend rights, conversion rights, voting
rights, rights and terms of redemption, liquidation preference and sinking fund
terms, any or all of which may be greater than the rights of the common stock.
The issuance of preferred stock could adversely affect the voting power of
holders of common stock and reduce the likelihood that such holders will receive
dividend payments and payments upon liquidation. Such issuance could have the
effect of decreasing the market price of the common stock. The issuance of
preferred stock could also have the effect of delaying, deterring or preventing
a change in control of Paradyne. We have no present plans to issue any shares of
preferred stock.
WARRANTS
There are no outstanding warrants for the purchase or acquisition of stock
of Paradyne.
REGISTRATION RIGHTS
Paradyne is in discussions with Texas Pacific Group regarding a proposed
agreement that would grant registration rights to the stock of Paradyne held by
entities affiliated with Texas Pacific Group. Under the terms of this proposed
agreement, if we propose to register shares not held by the affiliates of Texas
Pacific Group, these affiliates would be entitled to notice of such registration
and would be allowed to include their shares in such registration, subject to
various conditions and limitations which have yet to be finalized. In addition,
we might be required to prepare and file a registration statement under the
Securities Act of 1933 if requested to do so by entities affiliated with Texas
Pacific Group owning at least 5% of our common stock. We would be required to
use our best efforts to effect such registration, subject to various conditions
and limitations, which have yet to be finalized. We would be required to bear
substantially all costs in connection with any such registrations.
DELAWARE ANTI-TAKEOVER LAW
Paradyne is subject to the provisions of Section 203 of the Delaware
General Corporation Law. In general, Section 203 prohibits a publicly held
Delaware corporation from engaging in a "business combination" with an
"interested stockholder" for a period of three years after the date of the
transaction in which the person became an interested stockholder, unless the
business combination is approved in a prescribed manner. A "business
combination" includes mergers, asset sale or other transactions resulting in a
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financial benefit to the stockholder. An "interested stockholder" is a person
who, together with affiliates and associates, owns (or within three years, did
own) 15% or more of the corporation's voting stock. The statute could have the
effect of delaying, deferring or preventing a change in control of Paradyne.
Our amended and restated certificate provides that any action required or
permitted to be taken by our stockholders must be effected at a duly called
annual or special meeting of stockholders and may not be effected by any consent
in writing. In addition, our amended and restated bylaws provide that special
meetings of our stockholders may be called only by the Chairman of the board of
directors, the Chief Executive Officer or the board of directors pursuant to a
resolution adopted by a majority of the total number of authorized directors, or
by the holders of 50% of the outstanding voting stock of Paradyne. Our amended
and restated certificate also specifies that our board of directors will be
classified into three classes of directors. Under Delaware law, directors of a
corporation with a classified board may be removed only for cause unless the
corporation's certificate of incorporation provides otherwise. The amended and
restated certificate does not provide otherwise. In addition, the amended and
restated certificate specifies that the authorized number of directors may be
changed only by resolution of the board of directors and does not include a
provision for cumulative voting for directors. Under cumulative voting, a
minority stockholder holding a sufficient percentage of a class of shares may be
able to ensure the election of one or more directors. Our amended and restated
certificate may only be amended with the approval of 66 2/3% of our outstanding
voting stock and our amended and restated bylaws may be amended either by the
board or by the approval of 66 2/3% of our outstanding voting stock.
Furthermore, our amended and restated certificate requires the advance notice of
stockholders' nominations for the election of directors and business brought
before a meeting of stockholders. Lastly, the amended and restated certificate
provides that a majority of the directors in office, even if less than a quorum,
are entitled to fill vacancies created by resignation, death, disqualification,
removal or by an increase in the size of the board. These provisions contained
in the amended and restated certificate and our amended and restated bylaws
could delay or discourage certain types of transactions involving an actual or
potential change in control of Paradyne or its management, which includes
transactions in which stockholders might otherwise receive a premium for their
shares over then current prices, and may limit the ability of stockholders to
remove our current management or approve transactions that stockholders may deem
to be in their best interests and, therefore, could adversely affect the price
of our common stock.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for our common stock is Norwest Bank
Minnesota, N.A.
80
<PAGE> 84
SHARES ELIGIBLE FOR FUTURE SALE
Prior to the effective date of our initial public offering on July 15,
1999, there was no public market for our common stock. Future sales of
substantial amounts of common stock in the public market could adversely affect
the market price of the common stock.
Upon completion of this offering, we will have outstanding 30,676,745
shares of common stock, assuming no exercise of options after August 31, 1999.
Of these shares, the 5,000,000 shares sold in this offering, together with
7,024,002 shares currently outstanding, will be freely tradable without
restriction or further registration under the Securities Act, unless such shares
are purchased by "affiliates" as that term is defined in Rule 144 under the
Securities Act (whose sales would be subject to certain limitations and
restrictions described below).
The remaining 18,652,743 shares of common stock held by existing
stockholders as of August 31, 1999 will be "restricted securities" as that term
is defined in Rule 144 (the "Restricted Securities"). Shares totaling 17,963,735
are subject to "lock-up" agreements entered into in connection with our initial
public offering, based on shares outstanding as of August 31, 1999. Upon
expiration of the lock-up agreements on January 12, 2000, all of these shares
will become eligible for sale, subject in most cases to the limitations of Rule
144 and Rule 701. Restricted Securities held by non-affiliates will be eligible
for sale pursuant to Rule 144(k), as described below. In addition, holders of
stock options could exercise such options and sell certain of the shares issued
upon exercise as described below.
As of August 31, 1999, there were a total of 3,424,275 shares of common
stock subject to outstanding options under our 1996 Equity Incentive Plan and
1999 Non-Employee Directors' Plan, 1,639,982 of which were vested. However, most
of these shares are subject to lock-up agreements. Following the completion of
our initial public offering, we filed registration statements on Form S-8 under
the Securities Act to register all of the shares of common stock reserved for
future issuance under our 1996 Equity Incentive Plan. On January 12, 2000,
approximately 1,984,462 shares of common stock will be subject to immediately
exercisable options. Shares purchased upon exercise of options granted pursuant
to the 1996 Equity Incentive Plan generally would be available for resale in the
public market.
Our officers, directors and certain stockholders have agreed not to sell or
otherwise dispose of any of their shares until the expiration of the lock-up
agreements on January 12, 2000. Donaldson, Lufkin & Jenrette, however, may in
its sole discretion, at any time without notice, release all or any portion of
the shares subject to lock-up agreements.
RULE 144
In general, under Rule 144 as currently in effect, beginning 90 days after
the date of our public offering, a person who has beneficially owned shares of
our common stock for at least one year, including any affiliates of ours, would
be entitled to sell, within any three-month period, a number of shares that does
not exceed the greater of:
- 1% of the number of shares of common stock then outstanding, which will
equal approximately 306,767 shares immediately after this offering; or
- the average weekly trading volume of the common stock on the Nasdaq
National Market during the four calendar weeks preceding the filing of a
notice on Form 144 with respect to such sale.
Sales under Rule 144 are also subject to certain other requirements
regarding the manner of sale, notice filing and the availability of current
public information about Paradyne.
RULE 144(K)
Under Rule 144(k), a person who is not deemed to have been one of
Paradyne's "affiliates," as defined in Rule 144, 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, including the holding period of any prior owner other
than an "affiliate," is entitled to sell such shares without complying with the
manner of sale, notice filing, volume
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<PAGE> 85
limitation or notice provisions of Rule 144. Therefore, unless otherwise
restricted, "144(k) shares" may be sold immediately upon the completion of this
offering.
RULE 701
In general, under Rule 701, any Paradyne employee, director, officer,
consultant or advisor who purchases shares from Paradyne in connection with a
compensatory stock or option plan or other written agreement before the
effective date of our initial public offering is entitled to resell such shares
90 days after the effective date of our initial public offering in reliance on
Rule 144, without having to comply with certain restrictions, including the
holding period, contained in Rule 144.
The SEC has indicated that Rule 701 will apply to stock options granted by
an issuer before it becomes subject to the reporting requirements of the
Securities Exchange Act of 1934, along with the shares acquired upon exercise of
such options, including exercises after the date of our initial public offering.
Securities issued in reliance on Rule 701 are restricted securities and, subject
to the contractual restrictions described above, beginning 90 days after the
date of our initial public offering, may be sold by persons other than
"affiliates," as defined in Rule 144, subject only to the manner of sale
provisions of Rule 144 and by "affiliates" under Rule 144 without compliance
with its one-year minimum holding period requirement.
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<PAGE> 86
UNDERWRITING
Subject to the terms and conditions contained in an underwriting agreement,
dated September 28, 1999, the underwriters named below have severally agreed to
purchase from the selling stockholders the respective number of shares of common
stock set forth opposite their names below.
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITERS SHARES
<S> <C>
Donaldson, Lufkin & Jenrette Securities Corporation......... 2,350,000
BancBoston Robertson Stephens Inc........................... 1,100,000
Dain Rauscher Wessels....................................... 1,050,000
Raymond James & Associates, Inc............................. 500,000
----------
Total............................................. 5,000,000
==========
</TABLE>
The underwriting agreement provides that the obligations of the several
underwriters to purchase and accept delivery of the shares of common stock
offered hereby are subject to approval by their counsel of certain legal matters
and to certain other conditions. The underwriters are obligated to purchase and
accept delivery of all the shares of common stock offered hereby (other than
those shares covered by the over-allotment option described below) if any are
purchased.
The underwriters initially propose to offer the shares of common stock in
part directly to the public at the public offering price set forth on the cover
page of this prospectus and in part to certain dealers (including the
underwriters) at such price less a concession not in excess of $0.84 per share.
The underwriters may allow, and such dealers may re-allow, to certain other
dealers a concession not in excess of $0.10 per share. After the initial
offering of the common stock, the public offering price and other selling terms
may be changed by the underwriters at any time without notice.
The underwriters do not intend to confirm sales to any accounts over which
they exercise discretionary authority.
The following table shows the underwriting fees to be paid to the
underwriters by the selling stockholders and Paradyne in connection with this
offering. These amounts are shown assuming both no exercise and full exercise of
the underwriters' option to purchase additional shares of Paradyne common stock.
<TABLE>
<CAPTION>
PAID BY SELLING
STOCKHOLDERS PAID BY PARADYNE
--------------------------- ---------------------------
NO EXERCISE FULL EXERCISE NO EXERCISE FULL EXERCISE
<S> <C> <C> <C> <C>
Per share............................... $ 1.40 $ 1.40 $ -- $ 1.40
Total......................... 7,000,000 7,000,000 -- 700,000
</TABLE>
The offering expenses, estimated to be approximately $500,000, will be paid
by Paradyne.
DLJdirect Inc., an affiliate of Donaldson, Lufkin & Jenrette Securities
Corporation and a member of the selling group, is facilitating the distribution
of the shares sold in the offering over the Internet. The underwriters have
agreed to allocate a limited number of shares to DLJdirect Inc. for sale to
brokerage account holders. DLJdirect Inc. will receive the same selling
concession that other dealers will receive in connection with sales of shares
over the Internet.
Paradyne has granted to the underwriters an option, exercisable within 30
days after the date of this prospectus, to purchase, from time to time, in whole
or in part, up to an aggregate of 500,000 additional shares of common stock at
the public offering price less underwriting discounts and commissions. The
underwriters may exercise such option solely to cover overallotments, if any,
made in connection with the offering. To the extent that the underwriters
exercise such option, each underwriter will become obligated, subject to certain
conditions, to purchase its pro rata portion of such additional shares based on
such underwriter's initial purchase commitment.
83
<PAGE> 87
Paradyne and the selling stockholders have agreed to indemnify the
underwriters against certain liabilities, including liabilities under the
Securities Act of 1933, as amended, or to contribute to payments that the
underwriters may be required to make in respect thereof.
Each of Paradyne, its executive officers and directors and certain
stockholders and optionholders of Paradyne, including the selling stockholders,
have agreed, subject to certain exceptions, not to
- offer, pledge, sell, contract to sell, sell any option or contract to
purchase, purchase any option or contract to sell, grant any option,
right or warrant to purchase or otherwise transfer or dispose of,
directly or indirectly, any shares of common stock or any securities
convertible into or exercisable or exchangeable for common stock, or
- enter into any swap or other arrangement that transfers all or a portion
of the economic consequences associated with the ownership of any common
stock
without the prior written consent of Donaldson, Lufkin & Jenrette Securities
Corporation for a period of 180 days after the effective date of our initial
public offering on July 15, 1999. During this 180-day period (the last day of
which is January 11, 2000), Paradyne may issue shares of common stock in
connection with acquisitions of other businesses, products or technologies, so
long as the recipients of common stock in such acquisitions agree in writing to
be bound by the same restrictions applicable to Paradyne and the selling
stockholders. In addition, during this 180-day period, Paradyne has also agreed
not to file any registration statement with respect to, and each of its
executive officers, directors and certain stockholders of Paradyne, including
the selling stockholders, has agreed not to make any demand for, or exercise any
right with respect to, the registration of any shares of common stock or any
securities convertible into or exercisable or exchangeable for common stock
without the prior written consent of Donaldson, Lufkin & Jenrette Securities
Corporation.
The common stock is quoted on the Nasdaq National Market under the symbol
"PDYN."
Other than in the United States, Canada and as described below with respect
to the United Kingdom, no action has been taken by Paradyne, the selling
stockholders, or the underwriters that would permit a public offering of the
shares of common stock offered hereby in any jurisdiction where action for that
purpose is required. The shares of common stock offered hereby may not be
offered or sold, directly or indirectly, nor may this prospectus or any other
offering material or advertisements in connection with the offer and sale of any
such shares of common stock be distributed or published in any jurisdiction,
except under circumstances that will result in compliance with the applicable
rules and regulations of such jurisdiction. Persons into whose possession this
prospectus comes are advised to inform themselves about and observe any
restrictions relating to the offering and the distribution of this prospectus.
This prospectus does not constitute an offer to sell or a solicitation of an
offer to buy any shares of common stock offered hereby in any jurisdiction in
which such an offer or a solicitation is unlawful.
Sprout Capital VII, L.P., Sprout Growth II, L.P., DLJ First ESC L.P., The
Sprout CEO Fund, L.P. and DLJ Capital Corporation (collectively, the "Sprout
Entities") are affiliates of Donaldson, Lufkin & Jenrette Securities
Corporation, one of the underwriters. As described under "Principal and Selling
Stockholders," the Sprout Entities beneficially own an aggregate of 3,423,372
shares of the outstanding common stock prior to this offering, which represent
more than 10% of the outstanding common stock, and the Sprout Entities will
beneficially own an aggregate of 2,614,671 shares of the outstanding common
stock after this offering, which will represent more than 8% of the outstanding
common stock after this offering. Of the shares beneficially owned by the Sprout
Entities, 2,121,880 shares prior to this offering (1,313,179 shares after the
offering) are subject to a voting trust agreement and are held and voted by an
independent third party, Norwest Bank Indiana, N.A., as voting trustee.
Because the Sprout Entities affiliated with Donaldson, Lufkin & Jenrette
Securities Corporation beneficially own more than 10% of the outstanding common
stock prior to this offering, this offering is being conducted in accordance
with Rule 2720 of the Conduct Rules of the National Association of Securities
Dealers, Inc., which provides that the public offering price of an equity
security be no higher than that recommended by a "qualified independent
underwriter" ("QIU") meeting certain standards. In accordance
84
<PAGE> 88
with this requirement, BancBoston Robertson Stephens has assumed the
responsibilities of acting as QIU and will recommend a price in compliance with
the requirements of Rule 2720. In connection with this offering, BancBoston
Robertson Stephens has performed due diligence investigations and reviewed and
participated in the preparation of this prospectus and the registration
statement of which this prospectus forms a part. Paradyne will pay BancBoston
Robertson Stephens a fee of $5,000 in connection with its services as QIU and
will reimburse the QIU for its fees and expenses. Paradyne has agreed to
indemnify BancBoston Robertson Stephens, in its capacity as the QIU, against
certain liabilities, including liabilities under the Securities Act.
Donaldson, Lufkin & Jenrette Securities Corporation, BancBoston Robertson
Stephens Inc., Dain Rauscher Wessels, a division of Dain Rauscher Incorporated
and Raymond James & Associates, Inc. participated as underwriters in our initial
public offering in July 1999, for which they received customary compensation.
In the event the common stock does not constitute an excepted security
under the provisions of Regulation M promulgated by the Securities and Exchange
Commission, the underwriters and dealers may engage in passive market making
transactions in the common stock in accordance with Rule 103 of Regulation M. In
general, a passive market maker may not bid for or purchase shares of common
stock at a price that exceeds the highest independent bid. In addition, the net
daily purchases made by any passive market maker generally may not exceed 30% of
its average daily trading volume in the common stock during a specified two
month prior period, or 200 shares, whichever is greater. A passive market maker
must identify passive market making bids as such on the Nasdaq electronic
inter-dealer reporting system. Passive market making may stabilize or maintain
the market price of the common stock above independent market levels.
Underwriters and dealers are not required to engage in passive market making and
may end passive market making activities at any time.
In connection with the offering, the underwriters may engage in
transactions that stabilize, maintain or otherwise affect the price of
Paradyne's common stock. Specifically, the underwriters may overallot the
offering, creating a syndicate short position. The underwriters may bid for and
purchase shares of common stock in the open market to cover such syndicate short
position or to stabilize the price of the common stock. These activities may
stabilize or maintain the market price of the common stock above independent
market levels. The underwriters are not required to engage in these activities,
and may end any of these activities at any time.
There are restrictions on the offer and sale of the common stock in the
United Kingdom. All applicable provisions of the Financial Services Act 1986 and
the Public Offers of Securities Regulations 1995 with respect to anything done
by any person in relation to the common stock in, from or otherwise involving
the United Kingdom must be complied with.
Each underwriter has also agreed that it has:
- not offered or sold and prior to the date six months after the date of
issue of the shares of common stock will not offer or sell any shares of
common stock to persons in the United Kingdom except to persons whose
ordinary activities involve them in acquiring, holding, managing or
disposing of investments (as principal or agent) for the purpose of their
businesses or otherwise in circumstances which have not resulted and will
not result in an offer to the public in the United Kingdom within the
meaning of the Public Offers of Securities Regulations 1995;
- complied, and will comply with, all applicable provisions of the
Financial Services Act 1986 of Great Britain with respect to anything
done by it in relation to the shares of common stock in, from or
otherwise involving the United Kingdom; and
- only issued or passed on and will only issue or pass on in the United
Kingdom any document received by it in connection with the issuance of
the shares of common stock to a person who is of a kind described in
Article 11(3) of the Financial Services Act 1986 (Investment
Advertisements) (Exemptions) Order 1996 (as amended) of Great Britain or
is a person to whom the document may otherwise lawfully be issued or
passed on.
85
<PAGE> 89
LEGAL MATTERS
The legality of the shares of common stock offered hereby will be passed
upon for us by Cooley Godward LLP, Palo Alto, California. Certain legal matters
will be passed upon for the underwriters by Alston & Bird LLP, Atlanta, Georgia.
EXPERTS
The financial statements of Paradyne Networks, Inc. (formerly "Paradyne
Acquisition Corp.") as of December 31, 1998 and 1997 and for each of the two
years in the period ended December 31, 1998 and for the five months ended
December 31, 1996 and the financial statements of AT&T Paradyne for the seven
months ended July 31, 1996, included in this Prospectus, have been so included
in reliance on the reports of PricewaterhouseCoopers LLP, independent
accountants, given on the authority of said firm as experts in giving said
reports.
HOW TO GET ADDITIONAL INFORMATION ABOUT PARADYNE
We have filed with the Commission a Registration Statement on Form S-1
under the Securities Act, with respect to the common stock offered hereby. As
permitted by the rules and regulations of the Commission, this prospectus, which
is a part of the Registration Statement, omits certain information, exhibits,
schedules and undertakings set forth in the Registration Statement. We are
subject to the informational requirements of the Securities and Exchange Act of
1934, as amended, and in accordance therewith, file annual, quarterly and
special reports, proxy statements and other information with the Securities and
Exchange Commission. For further information pertaining to Paradyne and the
common stock offered hereby, reference is made to such Registration Statement
and the exhibits and schedules thereto. Statements contained in this prospectus
as to the contents or provisions of any contract or other document referred to
herein are not necessarily complete, and in each instance reference is made to
the copy of such contract or other document filed as an exhibit to the
Registration Statement, each such statement being qualified in all respects by
such reference. A copy of the Registration Statement may be inspected without
charge at the office of the Commission at 450 Fifth Street, N.W., Washington,
D.C. 20549, and at the Commission's regional offices located at the Northwestern
Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661 and
Seven World Trade Center, 13th Floor, New York, New York 10048. Copies of all or
any part of the Registration Statement may be obtained from such offices upon
the payment of the fees prescribed by the Commission. In addition, registration
statements and certain other filings made with the Commission through its
Electronic Data Gathering, Analysis and Retrieval ("EDGAR") system are publicly
available through the Commission's web site on the Internet's World Wide Web,
located at http://www.sec.gov. The Registration Statement, including all
exhibits thereto and amendments thereof, was filed with the Commission through
EDGAR.
Our common stock is quoted on the Nasdaq National Market under the symbol
"PDYN," and reports, proxy statements and other information concerning Paradyne
can also be inspected at the offices of Nasdaq Operations, 1735 K Street, N.W.,
Washington, D.C. 20006.
86
<PAGE> 90
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
<S> <C>
PARADYNE NETWORKS, INC.
Report of Independent Certified Public Accountants........ F-2
Consolidated Balance Sheets as of December 31, 1997 and
1998 and June 30, 1999 (unaudited)..................... F-3
Consolidated Statements of Operations for the Period from
Inception through December 31, 1996 and for each of the
years ended December 31, 1997 and 1998 and the Six
Months Ended June 30, 1998 and 1999 (unaudited)........ F-4
Consolidated Statements of Changes in Stockholders' Equity
for the Period from Inception through December 31, 1996
and for each of the years ended December 31, 1997 and
1998 and the Six Months Ended June 30, 1999
(unaudited)............................................ F-5
Consolidated Statements of Cash Flows for the Period from
Inception through December 31, 1996 and for each of the
years ended December 31, 1997 and 1998 and the Six
Months Ended June 30, 1998 and 1999 (unaudited)........ F-6
Notes to Consolidated Financial Statements................ F-7
PARADYNE PREDECESSOR BUSINESS (A CARVE-OUT BUSINESS OF AT&T
PARADYNE CORPORATION)
Report of Independent Certified Public Accountants........ F-23
Consolidated Statements of Operations for the Seven Months
ended July 31, 1996.................................... F-24
Consolidated Statement of Cash Flows for the Seven Months
ended July 31, 1996.................................... F-25
Notes to Financial Statements............................. F-26
</TABLE>
F-1
<PAGE> 91
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
Paradyne Networks, Inc.
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, of stockholders' equity and of cash flows
present fairly, in all material respects, the financial position of Paradyne
Networks, Inc. (formerly "Paradyne Acquisition Corp.") and its subsidiaries at
December 31, 1997 and 1998, and the results of their operations and their cash
flows for each of the two years in the period ended December 31, 1998 and for
the period from inception (August 1, 1996) through December 31, 1996 in
conformity with generally accepted accounting principles. These financial
statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
generally accepted auditing standards which require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for the opinion expressed
above.
PricewaterhouseCoopers LLP
Tampa, Florida
June 8, 1999
F-2
<PAGE> 92
PARADYNE NETWORKS, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
----------------- -----------
1997 1998 1999
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 3,240 $ 2,356 $ 3,663
Accounts receivable, less allowance for doubtful accounts
of $2,966, $3,007 and $3,351, respectively............. 28,852 29,641 26,814
Accounts receivable from affiliates....................... 1,519 721 2,199
Other receivables (Note 4)................................ 8,214 -- --
Income tax receivable..................................... 536 4,230 3,379
Inventories............................................... 14,821 16,997 15,849
Prepaid expenses and other current assets................. 3,820 1,808 1,197
------- ------- -------
Total current assets.............................. 61,002 55,753 53,101
Property, plant and equipment, net.......................... 15,552 16,103 15,786
Deferred tax assets......................................... 2,783 1,143 1,141
Other assets................................................ 3,863 2,064 1,705
------- ------- -------
Total assets...................................... $83,200 $75,063 $71,733
======= ======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $10,201 $17,205 $17,911
Current portion of debt................................... 17,782 16,483 9,284
Deferred tax liability.................................... 11,975 2,357 1,914
Payroll and benefit related liabilities................... 5,131 6,263 4,686
Other current liabilities................................. 6,307 5,063 5,213
------- ------- -------
Total current liabilities......................... 51,396 47,371 39,008
Long-term debt.............................................. 402 353 362
------- ------- -------
Total liabilities................................. 51,798 47,724 39,370
------- ------- -------
Commitments and contingencies (Note 12)
Stockholders' equity:
Common stock, par value $0.001; 60,000,000 shares
authorized, 25,592,182 and 25,668,723 shares issued and
outstanding as of December 31, 1997 and 1998,
respectively........................................... 26 26 26
Additional paid-in capital................................ 20,817 21,058 27,716
Deferred compensation..................................... -- -- (2,808)
Retained earnings......................................... 10,284 6,639 8,397
Note receivable for common stock (Note 14)................ (150) (150) (1,228)
Unrealized gain on available-for-sale securities.......... 409 -- --
Cumulative translation adjustment......................... 16 (234) 260
------- ------- -------
Total stockholders' equity........................ 31,402 27,339 32,363
------- ------- -------
Total liabilities and stockholders' equity........ $83,200 $75,063 $71,733
======= ======= =======
</TABLE>
The accompanying Notes to Consolidated Financial Statements are
an integral part of these financial statements.
F-3
<PAGE> 93
PARADYNE NETWORKS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
FIVE MONTHS YEARS ENDED SIX MONTHS ENDED
ENDED DECEMBER 31, JUNE 30,
DECEMBER 31, ------------------- -------------------------
1996 1997 1998 1998 1999
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues:
Sales.................................. $112,293 $177,850 $195,153 $87,879 $103,133
Service................................ 1,413 3,040 2,256 1,028 891
Royalty................................ 325 413 1,392 350 2,818
-------- -------- -------- ------- --------
Total revenues................. 114,031 181,303 198,801 89,257 106,842
-------- -------- -------- ------- --------
Cost of sales:
Equipment.............................. 59,634 90,334 107,921 45,744 59,740
Service................................ 744 1,154 620 307 325
-------- -------- -------- ------- --------
Total cost of sales............ 60,378 91,488 108,541 46,051 60,065
-------- -------- -------- ------- --------
Gross margin............................. 53,653 89,815 90,260 43,206 46,777
Operating expenses:
Research and development (includes
$13,114 of purchased R&D in 1996)... 31,174 37,339 35,132 17,282 17,835
Selling, general and administrative
expenses............................ 29,409 66,278 55,969 28,063 27,663
Amortization of deferred stock
compensation........................ -- -- -- -- 135
Restructuring charges.................. -- 1,778 984 59 --
-------- -------- -------- ------- --------
Total operating expenses....... 60,583 105,395 92,085 45,404 45,633
-------- -------- -------- ------- --------
Operating income (loss).................. (6,930) (15,580) (1,825) (2,198) 1,144
Other (income) expenses:
Interest............................... 3,502 7,712 1,711 1,040 691
Lucent settlement gain................. -- (51,183) -- -- --
Other, net............................. 382 (1,753) 1,191 67 (2,540)
-------- -------- -------- ------- --------
Income (loss) before provision for income
taxes.................................. (10,814) 29,644 (4,727) (3,305) 2,993
Provision (benefit) for income tax..... -- 8,302 (1,082) (757) 1,235
-------- -------- -------- ------- --------
Net income (loss)........................ $(10,814) $ 21,342 $ (3,645) $(2,548) $ 1,758
======== ======== ======== ======= ========
Basic income (loss) per common share..... $ (0.42) $ 0.84 $ (0.14) $ (0.10) $ 0.07
======== ======== ======== ======= ========
Weighted average number of common shares
outstanding............................ 25,500 25,552 25,623 25,606 26,124
======== ======== ======== ======= ========
Diluted income (loss) per common share... $ (0.42) $ 0.81 $ (0.14) $ (0.10) $ 0.06
======== ======== ======== ======= ========
Weighted average number of common shares
outstanding............................ 25,500 26,291 25,623 25,606 27,477
======== ======== ======== ======= ========
</TABLE>
The accompanying Notes to Consolidated Financial Statements are
an integral part of these financial statements.
F-4
<PAGE> 94
PARADYNE NETWORKS, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
COMPREHENSIVE COMMON STOCK ADDITIONAL RETAINED
INCOME -------------------- PAID-IN DEFERRED EARNINGS
(LOSS) SHARES AMOUNT CAPITAL COMPENSATION (DEFICIT) OTHER
<S> <C> <C> <C> <C> <C> <C> <C>
August 1, 1996.............. $ -- -- $-- $ -- $ -- $ --
Equity investment in the
Company................. 25,500,000 26 17,036
Net loss.................. (10,814) (10,814)
Cumulative translation
adjustment.............. (163) (163)
Asset allocation to
related party (Note
14)..................... (106)
-------- ---------- --- ------- ------- -------- -------
Balance, December 31,
1996...................... $(10,977) 25,500,000 26 16,930 -- (10,814) (163)
========
Contribution from Paradyne
Partners (Note 4)....... 3,600
Proceeds from exercise of
stock options and
related tax benefit..... 92,182 287 (150)
Net income................ $ 21,342 21,342
Cumulative translation
adjustment.............. 179 179
Unrealized investment
gain.................... 409 409
Asset allocation to
related party (Note
14)..................... (244)
-------- ---------- --- ------- ------- -------- -------
Balance, December 31,
1997...................... $ 21,930 25,592,182 26 20,817 -- 10,284 275
========
Proceeds from exercise of
stock options and
related tax benefit..... 76,541 241
Net loss.................. $ (3,645) (3,645)
Cumulative translation
adjustment.............. (250) (250)
Unrealized investment
loss.................... (409) (409)
-------- ---------- --- ------- ------- -------- -------
Balance, December 31,
1998...................... $ (4,304) 25,668,723 26 21,058 -- 6,639 (384)
========
Proceeds from exercise of
stock options and
related tax benefit..... 737,885 3,715 (1,078)
Issuance of stock options
below fair value........ 2,943 (2,943)
Vesting of stock options
issued below fair
value................... 135
Net income................ $ 1,758 1,758
Cumulative translation
adjustment.............. 494 494
-------- ---------- --- ------- ------- -------- -------
Balance, June 30, 1999
(unaudited)............... $ 2,252 26,406,608 $26 $27,716 $(2,808) $ 8,397 $ (968)
======== ========== === ======= ======= ======== =======
<CAPTION>
TOTAL
STOCKHOLDERS'
EQUITY
<S> <C>
August 1, 1996.............. $ --
Equity investment in the
Company................. 17,062
Net loss.................. (10,814)
Cumulative translation
adjustment.............. (163)
Asset allocation to
related party (Note
14)..................... (106)
--------
Balance, December 31,
1996...................... 5,979
Contribution from Paradyne
Partners (Note 4)....... 3,600
Proceeds from exercise of
stock options and
related tax benefit..... 137
Net income................ 21,342
Cumulative translation
adjustment.............. 179
Unrealized investment
gain.................... 409
Asset allocation to
related party (Note
14)..................... (244)
--------
Balance, December 31,
1997...................... 31,402
Proceeds from exercise of
stock options and
related tax benefit..... 241
Net loss.................. (3,645)
Cumulative translation
adjustment.............. (250)
Unrealized investment
loss.................... (409)
--------
Balance, December 31,
1998...................... 27,339
Proceeds from exercise of
stock options and
related tax benefit..... 2,637
Issuance of stock options
below fair value........
Vesting of stock options
issued below fair
value................... 135
Net income................ 1,758
Cumulative translation
adjustment.............. 494
--------
Balance, June 30, 1999
(unaudited)............... $ 32,363
========
</TABLE>
The accompanying Notes to Consolidated Financial Statements are
an integral part of these financial statements.
F-5
<PAGE> 95
PARADYNE NETWORKS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS
FIVE MONTHS YEARS ENDED ENDED
ENDED DECEMBER 31, JUNE 30,
DECEMBER 31, ------------------- -----------------
1996 1997 1998 1998 1999
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Cash flows provided by (used in) operating activities:
Net income (loss)......................................... $(10,814) $ 21,342 $ (3,645) $(2,548) $ 1,758
Adjustments to reconcile net income (loss) to cash
provided by (used in) operating activities:
Lucent settlement gain.................................. -- (51,183) -- -- --
Investment (income) loss ABI............................ -- (1,668) 1,353 -- --
(Gain) loss on sale of assets........................... -- 22 232 (38) 4
Increase in allowance for bad debts..................... -- 181 41 1,825 344
Depreciation and amortization........................... 5,571 10,558 5,243 2,480 2,967
Purchased in-process research and development........... 13,114 -- -- -- --
Deferred income taxes................................... (625) 9,817 (7,978) (1,056) (441)
(Increase) decrease in assets:
Receivables............................................. (16,313) 15,061 7,384 5,864 2,483
Accounts receivable from affiliates..................... (2,230) 711 798 (56) (1,478)
Income tax receivable................................... -- (536) (3,694) (24) 851
Inventories............................................. (79) 5,266 (2,176) (2,516) 1,148
Prepaid expenses and other current assets............... (180) (543) (97) 198 611
Other long term assets.................................. -- 2,564 1,186 730 53
Increase (decrease) in liabilities:
Accounts payable........................................ 5,643 (7,484) 7,629 4,372 706
Payroll and related liabilities......................... -- (258) 1,132 (1,345) (1,577)
Other current liabilities............................... 1,358 (4,987) (1,244) (1,762) 150
-------- -------- -------- ------- -------
Net cash provided by (used in) operating
activities........................................ (4,555) (1,137) 6,164 6,124 7,579
-------- -------- -------- ------- -------
Cash flows provided by (used in) investing activities:
Cash used to acquire net assets........................... (24,562) -- -- -- --
Capital expenditures...................................... (4,497) (9,636) (6,945) (3,733) (2,236)
Proceeds from sale of property, plant and equipment....... 51 21,218 1,532 429 23
Proceeds from sale of investment.......................... -- -- 347 -- --
-------- -------- -------- ------- -------
Net cash provided by (used in) investing
activities........................................ (29,008) 11,582 (5,066) (3,304) (2,213)
-------- -------- -------- ------- -------
Cash flows provided by (used in) financing activities:
Proceeds from debt issued to parent....................... 7,500 -- 5,000 5,000 --
Repayment of debt issued to parent........................ -- (7,500) (5,000) -- --
Capital contribution from parent.......................... 17,062 -- -- -- --
Payment of acquisition costs.............................. (7,314) (377) (625) (83) --
Proceeds from stock options exercised..................... -- 137 241 67 2,637
Borrowings under (repayment of) bank line of credit,
net..................................................... 10,553 4,390 1,139 (8,421) (7,208)
Borrowings under other debt obligations................... 2,464 6,038 623 837 329
Repayment of other debt obligations....................... (185) (11,426) (3,110) (556) (311)
-------- -------- -------- ------- -------
Net cash provided by (used in) financing
activities........................................ 30,080 (8,738) (1,732) (3,156) (4,553)
-------- -------- -------- ------- -------
Effect of foreign exchange rate changes on cash............. (163) 179 (250) (121) 494
-------- -------- -------- ------- -------
Net increase (decrease) in cash and cash equivalents........ (3,646) 1,886 (884) (457) 1,307
Cash and cash equivalents at beginning of period............ 5,000 1,354 3,240 3,240 2,356
-------- -------- -------- ------- -------
Cash and cash equivalents at end of period.................. $ 1,354 $ 3,240 $ 2,356 $ 2,783 $ 3,663
======== ======== ======== ======= =======
Supplemental disclosures of cash flow information:
Cash paid for:
Interest................................................ $ 798 $ 2,658 $ 1,711
======== ======== ========
Income taxes............................................ $ 471 $ 10,041
======== ========
Non-cash transaction:
Note issued to seller to acquire net assets............... $ 69,350
========
Investment acquired (written down) in exchange for
intellectual property................................... $ 1,668 $ (1,353)
======== ========
Acquisition of installment and affiliate receivables in
consideration for related party note (Note 14).......... $ 13,735 $(13,735)
======== ========
Debt forgiveness (Note 4)................................. $ 63,000
========
Contribution from Paradyne Partners (Note 4).............. $ 3,600
========
Asset allocation to related party (Note 14)............... $ 106 $ 244
======== ========
Stock issued for note..................................... $ 150 $ 1,078
======== =======
Accrual and amortization of deferred stock compensation,
net..................................................... $ 2,808
=======
</TABLE>
The accompanying Notes to Consolidated Financial Statements are
an integral part of these financial statements.
F-6
<PAGE> 96
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
1. BASIS OF PRESENTATION:
Pursuant to a Purchase Agreement dated June 18, 1996 (the "Purchase
Agreement"), Paradyne Partners, L.P. ("Paradyne Partners") acquired certain
assets and operations of AT&T Paradyne Corporation from Lucent Technologies Inc.
("Lucent") for cash and seller notes totaling $146.0 million. This transaction
was consummated through five direct and indirect subsidiaries of Paradyne
Partners which included Paradyne Acquisition Corp. ("PAC") and its wholly-owned
subsidiary, Paradyne Corporation and its subsidiaries (the "Company"). The
acquisition was accounted for as a purchase. The purchase price was allocated to
the assets acquired and liabilities assumed based on fair values including
long-lived tangible and intangible assets. Property, plant and equipment,
purchased research and development and the Lucent supply agreement values were
based on independent appraised values.
The following reflects a summary of the net assets acquired by the Company
at July 31, 1996:
<TABLE>
<S> <C>
Current assets.............................................. $ 52,957
Property, plant and equipment............................... 30,366
Purchased research and development.......................... 13,114
Premisys contract........................................... 2,251
Lucent contract............................................. 25,441
Other non-current assets.................................... 4,963
Current liabilities......................................... (22,113)
Restructuring liability..................................... (4,629)
--------
Total............................................. $102,350
========
</TABLE>
The restructuring liability related principally to involuntary employee
termination costs ($2.9 million) and costs of exiting surplus facilities ($1.5
million). Approximately $3.1 million of this liability was paid during 1996,
with the remaining $1.5 million paid during 1997.
That portion of the acquired assets and operations of AT&T Paradyne
Corporation that remained with the Company were purchased for $102.3 million,
consisting of a $17.1 million equity investment, $69.3 million in seller notes
to Lucent, debt to the Paradyne Partners of $7.5 million and $8.4 million of
other acquisition costs.
As further discussed in Note 15, subsequent to December 31, 1998, the legal
name of PAC was changed to Paradyne Networks, Inc. The accompanying financial
statements reflect the consolidated historical financial position, results of
operations and cash flows of Paradyne Networks, Inc., Paradyne and Paradyne's
wholly-owned subsidiaries from inception. Also, see Note 14 for discussion of
related party transactions.
The Company is a leading developer, manufacturer and distributor of
broadband and narrowband network access products for network service providers
and business customers. The Company offers solutions that enable business class,
service level managed, high-speed connectivity over the existing telephone
network infrastructure.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The significant accounting principles and practices used in the preparation
of the accompanying consolidated financial statements are summarized below:
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the results of
the Company and its wholly-owned subsidiaries: Paradyne Corporation; Paradyne
Canada Ltd.; Paradyne Japan Corporation; Paradyne International Ltd.; Paradyne
Worldwide Corp. (formerly Paradyne Far East Corporation); Ark Electronic
Products Inc.; Paradyne GmbH; and Paradyne International Sales Ltd. Intercompany
accounts and transactions have been eliminated in consolidation.
F-7
<PAGE> 97
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
REVENUE RECOGNITION
Revenue from equipment sales is generally recognized at the date of
shipment. Revenue from services, which consists mainly of repair of
out-of-warranty products, is recognized when the services are performed and all
substantial contractual obligations have been satisfied. Provision is made
currently for estimated product returns. Royalty revenue is recognized when the
Company has completed delivery of technical specifications and performed
substantially all required services under the related agreement. See discussion
of product warranty below.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods presented. Actual results could differ from those estimates.
The markets for the Company's products are characterized by intense competition,
rapid technological development and frequent new product introductions, all of
which could impact the future value of the Company's inventory and certain other
assets.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid instruments purchased with an
original maturity of three months or less to be cash equivalents.
INVESTMENTS
In accordance with Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," the Company
has classified its equity securities as available-for-sale. These securities, of
which $2.1 million and $0 are included in prepaid expenses and other current
assets and $180 and $0 are included in other assets at December 31, 1997 and
1998, respectively, are stated at fair value, with the unrealized gain or loss,
net of taxes, reported in stockholders' equity until realized.
CONCENTRATION OF CREDIT RISK
The Company sells products to value added distributors and other customers
and extends credit based on an evaluation of the customer's financial condition,
generally without requiring collateral. Exposure to losses on receivables is
principally dependent on each customer's financial condition. The Company
monitors its exposure for credit losses and maintains allowances for anticipated
losses. Sales to one customer were approximately 42% of total revenues for the
five months ended December 31, 1996. Sales to two customers were approximately
34% and 12% of total revenues for the year ended December 31, 1997 and 35% and
15% of total revenues for the year ended December 31, 1998.
Purchases from one vendor were approximately 37% of total purchases for the
five months ended December 31, 1996. Purchases from two vendors were
approximately 23% and 18% of total purchases for the year ended December 31,
1997 and purchases from one vendor were approximately 15% of total purchases for
the year ended December 31, 1998.
F-8
<PAGE> 98
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
International sales accounted for 24% of total revenue during the five
months ended December 31, 1996, and 30% and 20% of total revenue during the
years ended 1997 and 1998, respectively, summarized as follows:
<TABLE>
<CAPTION>
REVENUES (A)
--------------------------------------------
5 MONTHS ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1996 1997 1998
GEOGRAPHIC INFORMATION -------------- ------------ ------------
<S> <C> <C> <C>
United States................................... $ 86,609 $126,802 $158,593
Canada.......................................... 11,439 29,082 26,224
Japan........................................... 6,920 9,790 3,279
Other foreign countries......................... 9,063 15,629 10,705
-------- -------- --------
Total................................. $114,031 $181,303 $198,801
======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
LONG-LIVED ASSETS
--------------------------------------------
DECEMBER 31,
1996 1997 1998
GEOGRAPHIC INFORMATION -------------- ------------ ------------
<S> <C> <C> <C>
United States................................... $56,074 $20,105 $17,867
Canada.......................................... 2,660 887 511
Japan........................................... 1,056 922 798
Other foreign countries......................... 328 284 134
------- ------- -------
Total................................. $60,118 $22,198 $19,310
======= ======= =======
</TABLE>
- ---------------
(a) Revenues are attributed to countries based on location of customer.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying value of the Company's financial instruments, which includes
cash, receivables and variable-rate debt, approximates fair value due to the
short maturities of those instruments.
INVENTORIES
Inventories are stated at the lower of cost or market. Cost includes
material, labor and manufacturing overhead. Cost is determined on a first in,
first out basis.
INTANGIBLE ASSET
Intangible asset, which consists of a contract with Premisys Communications
for exclusive distribution rights, is included in other assets (see Note 7).
This contract is amortized on a straight-line basis over the term of the
agreement of approximately four years. See Note 4 related to favorable supply
contract with Lucent, which was renegotiated. The original contract value was
based on estimated cash flows.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost. Leasehold improvements
are amortized on a straight-line method over the period of the lease or the
estimated service lives of the improvements, whichever is shorter. Depreciation
expense includes the amortization of capital lease assets.
Expenditures for renewals and improvements that significantly add to
productive capacity or extend the useful life of an asset are capitalized.
Expenditures for maintenance and repairs are charged to operations
F-9
<PAGE> 99
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
when incurred. When assets are sold or retired, the cost of the asset and the
related accumulated depreciation are eliminated from the accounts and any gain
or loss is recognized at such time.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company evaluates the recoverability of its long-lived assets whenever
adverse events or changes in business climate indicate that the expected
undiscounted future cash flows from the related asset may be less than
previously anticipated. If the net book value of the related asset exceeds the
undiscounted future cash flows of the asset, the carrying amount would be
reduced to the present value of its expected future cash flows and an impairment
loss would be recognized in accordance with Financial Accounting Standards
No. 121. As of December 31, 1997 and 1998, management does not believe that an
impairment reserve is required.
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred. The Company
purchased in process research and development valued at $13.1 million which was
expensed during the period ended December 31, 1996. The purchased R&D was valued
based on projected discounted cash flows, on a project-by-project basis for 12
projects, using a risk adjusted discount rate of 22%. These projects were
scheduled for completion in late 1996 and 1997. There were no expected
significant variances from historical pricing, margins or expense levels in the
projections other than the normal decline in prices and margins as products age.
PRODUCT WARRANTY
The Company generally provides a return to factory warranty for a period of
two years from the date of sale. A current charge to income is recorded at the
time of sale to reflect the amount the Company estimates will be needed to cover
future warranty obligations for products sold during the year. The accrued
liability for warranty costs is included in the caption "other current
liabilities" in the accompanying consolidated balance sheet.
INCOME TAXES
The Company accounts for income taxes under the provisions of Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes," which
requires use of the asset and liability method of accounting for deferred income
taxes.
EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per share is computed by dividing income available to
common stockholders by the weighted average number of common shares outstanding
during the year. Diluted earnings per share assume the exercise of stock options
for which market price exceeds exercise price, less shares assumed purchased by
the Company with related proceeds.
Options are not included in the 1998 calculation of diluted loss per share
due to their antidilutive effect.
F-10
<PAGE> 100
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1997
---------------------------------------
INCOME SHARES PER-SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- ---------
<S> <C> <C> <C>
BASIC EPS
(Loss) income available to common stockholders.............. $21,342 25,552 $0.84
EFFECT OF DILUTIVE SECURITIES
Incremental shares for employee options..................... -- 739
DILUTED EPS
(Loss) income available to stockholders & assumed
conversions............................................... $21,342 26,291 $0.81
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30, 1999
---------------------------------------
INCOME SHARES PER-SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- ---------
<S> <C> <C> <C>
BASIC EPS
(Loss) income available to common stockholders.............. $ 1,758 26,124 $0.07
EFFECT OF DILUTIVE SECURITIES
Incremental shares for employee options..................... -- 1,353
DILUTED EPS
(Loss) income available to stockholders & assumed
conversions............................................... $ 1,758 27,477 $0.06
</TABLE>
FOREIGN CURRENCY
The local currency is the functional currency of each of the foreign
subsidiaries. Assets and liabilities of the Company's foreign subsidiaries are
translated using fiscal year-end exchange rates, and revenue and expenses are
translated using average exchange rates prevailing during the year. The effects
of translating foreign subsidiaries' financial statements are recorded as a
separate component of stockholders' equity.
In addition, included in other (income) expense are realized foreign
currency exchange losses of $323 for the five months ended December 31, 1996 and
$596 for the year ended December 31, 1997. A foreign currency gain of $181 is
included for the year ended December 31, 1998.
INTERIM FINANCIAL DATA
The accompanying financial statements as of June 30, 1999 and for the six
months then ended are unaudited. In the opinion of management, these interim
statements have been prepared on the same basis as the audited financial
statements and include all adjustments, consisting only of normal recurring
adjustments, necessary for the fair presentation of the results of the interim
periods. The financial and other data disclosed in these notes to the financial
statements for these periods are also unaudited. The results of the operations
for the interim periods are not necessarily indicative of the results to be
expected for any future periods.
3. RESTRUCTURING CHARGES:
The Company recorded a restructuring charge of $1.8 million related to
staff reductions in the U.S. operations in November 1997. Termination charges
related to approximately 93 employees spread throughout all major functions
within the Company. Staff reductions were necessary because the Company had
F-11
<PAGE> 101
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
significantly improved operating efficiencies with its investment in new systems
and processes, as well as changing the composition of our workforce to update
the availability of strategic skills.
In 1998, the Company recorded a restructuring charge of $984. This charge
related to the change in the Company's model for operating within certain
international operations. The Company now operates through a system of
distributors with branch operation support in most foreign locations. In this
restructuring approximately 25 employees were terminated from employment. In
addition, charges were incurred to exit from leased facilities in international
locations.
During 1997 and 1998, the Company paid approximately $957 and $1.4 million
related to restructurings. The remaining $388 accrued as of year end, which is
expected to be paid during 1999, related to the international restructuring.
As of June 30, 1999, the balance of the reserve related to restructuring
was $282.
4. AMENDMENT TO LUCENT SUPPLY AGREEMENT:
At July 31, 1996, Lucent delivered, as a condition to the closing specified
in Note 1, a four year Volume Purchase Letter ("VPL") whereby Lucent agreed to
purchase a baseline level of certain products or pay a penalty. At December 31,
1997 Lucent had not achieved the baseline commitment under the VPL and,
therefore, was subject to certain take-or-pay provisions. In August, 1998 the
Company, GlobeSpan Semiconductor Inc., a subsidiary of Paradyne Partners
("GlobeSpan"), and Lucent terminated the VPL including the elimination of all
existing and future minimum purchase requirements under a revised Exclusivity
and Amendment Agreement.
As a result of the Exclusivity and Amendment Agreement, the Company
received $8.2 million in cash and $63.0 million of the outstanding note payable
to Lucent was forgiven. The Company also paid Lucent the remaining $2.7 million
outstanding under the existing terms of the note payable. In addition, GlobeSpan
agreed to amend the warrant originally granted to Lucent at the time of Paradyne
Partners' acquisition of GlobeSpan to acquire 1,500,000 shares of GlobeSpan by
extending the warrant term by three years, which would have expired upon
repayment of the seller notes. Additionally, Lucent and the Company agreed that
the Company will be Lucent's exclusive provider for certain access products for
resale through June 30, 2001.
The contract renegotiation and resolution has been reflected in the
accompanying consolidated financial statements at December 31, 1997 and resulted
in a pretax gain of approximately $51.2 million and a contribution of capital by
Paradyne Partners of $3.6 million reflecting the estimated fair value of the
extension of the GlobeSpan warrant.
5. INVENTORIES:
Inventories are summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
----------------- -----------
1997 1998 1999
(UNAUDITED)
<S> <C> <C> <C>
Raw materials........................................... $12,691 $11,064 $ 9,988
Work-in-process......................................... 569 1,970 1,953
Finished goods.......................................... 1,561 3,963 3,908
------- ------- -------
$14,821 $16,997 $15,849
======= ======= =======
</TABLE>
F-12
<PAGE> 102
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
6. PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1997 1998
<S> <C> <C>
Leasehold improvements...................................... $ 2,252 $ 1,375
Office furniture and fixtures............................... 1,733 2,556
Machinery and equipment..................................... 18,166 22,922
------- --------
22,151 26,853
Less accumulated depreciation............................... (6,599) (10,750)
------- --------
$15,552 $ 16,103
======= ========
</TABLE>
Depreciation expense amounted to $2.7 million, $3.6 million and $4.6
million for the five months ended December 31, 1996 and the years ending
December 31, 1997 and 1998, respectively.
7. OTHER ASSETS:
Other assets consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------
1997 1998
<S> <C> <C>
Intangible asset, net of accumulated amortization of $872
and $1.5 million, respectively............................ $1,379 $ 766
Notes receivable, interest ranging from 8% to 9.25%......... 1,250 429
Security deposits........................................... 905 831
Other....................................................... 329 38
------ ------
$3,863 $2,064
====== ======
</TABLE>
8. OTHER CURRENT LIABILITIES:
Other current liabilities consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
---------------
1997 1998
<S> <C> <C>
Accrued professional fees................................... $2,548 $1,013
Accrued product warranty.................................... 1,319 1,682
Accrued taxes............................................... 637 611
Accounts payable to affiliates.............................. 354 7
Other....................................................... 1,449 1,750
------ ------
$6,307 $5,063
====== ======
</TABLE>
F-13
<PAGE> 103
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
9. INDEBTEDNESS:
Indebtedness consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------
1997 1998
<S> <C> <C>
Revolving credit facility interest at the bank's stated
reference rate plus 0% to 1% (9.50% and 7.75%,
respectively at December 31, 1997 and 1998) collateralized
by certain assets of the Company, payable monthly,
maturing January 2000..................................... $14,943 $16,082
Note payable, interest ranging from 8.5% to 14.5%
collateralized by the capital stock of the Company,
interest payable quarterly from March 31, 1998 through
June 30, 2000, principal payment due August 28, 1998 (Note
4)........................................................ 2,712 --
Capitalized lease obligations, interest ranging from 8.8% to
9.5%, maturing various dates through July 2001............ 529 754
------- -------
18,184 16,836
Less current portion........................................ (17,782) (16,483)
------- -------
$ 402 $ 353
======= =======
</TABLE>
Scheduled principal repayments on debt for the next five years are as
follows: 1999 -- $16,483, 2000 -- $306; 2001 -- $47; 2002 and thereafter -- $0.
REVOLVING CREDIT FACILITIES
On July 31, 1996, the Company entered into an agreement (the "Agreement")
with a commercial lending institution to provide a revolving credit facility in
the amount of $45.0 million with availability subject to a borrowing base
formula. The facility provides for a sub-limit of $5.0 million for letters of
credit, of which none were outstanding at December 31, 1997 or 1998. The
Agreement includes a fee ranging from .375% to .50% of the unused line. Certain
assets of the Company, including accounts receivable, inventories, equipment and
intellectual property rights, are pledged as collateral. The Company is subject
to various non-financial covenants under the terms of the Agreement. Effective
December 31, 1997 and 1998, the Company was in compliance with or had obtained
waivers to the Agreement for such covenants.
Additionally, the Agreement restricts the Company with respect to making
dividends.
On August 25, 1997, the Company entered into a subordinated revolving
credit agreement (the "Credit Agreement") with Paradyne Partners. The Credit
Agreement made available $5.0 million through August 25, 2002. This agreement
was amended in October 1998 to make available $10.0 million. In connection
therewith, Paradyne Partners provided a limited continuing guarantee of the
Agreement. Borrowings under the Credit Agreement are subordinated to debt under
the Agreement and bears interest at 8% per annum. There were no borrowings under
this Credit Agreement as of December 31, 1998. This facility was terminated by
mutual consent in September 1999.
CAPITAL LEASES
The Company executed several long-term lease agreements for computer and
other equipment. For financial reporting purposes, the leases have been
classified as capital leases; accordingly, assets of approximately $1.2 million
(included in machinery and equipment) and accumulated depreciation of $283 have
been recorded at December 31, 1998.
F-14
<PAGE> 104
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
Future minimum lease payments for assets under capital leases at December
31, 1998 are as follows:
<TABLE>
<S> <C>
1999........................................................ $ 452
2000........................................................ 322
2001........................................................ 48
-----
Total minimum lease payments................................ 822
Less amount representing interest........................... (68)
-----
Present value of net minimum lease payments................. 754
Less current portion........................................ (401)
-----
Long-term capital lease obligations......................... $ 353
=====
</TABLE>
10. INCOME TAXES:
The Company files a consolidated federal income tax return. The provision
(benefit) for income taxes is as follows:
<TABLE>
<CAPTION>
FIVE MONTHS
ENDED YEARS ENDED
DECEMBER 31, DECEMBER 31,
1996 1997 1998
------------ ------- -------
<S> <C> <C> <C>
Current:
Foreign............................................ $ -- $ 37 $ 38
Federal............................................ 545 (1,429) 6,316
State.............................................. 80 (123) 542
----- ------- -------
625 (1,515) 6,896
----- ------- -------
Deferred:
Foreign............................................ -- -- --
Federal............................................ (545) 9,041 (7,348)
State.............................................. (80) 776 (630)
----- ------- -------
(625) 9,817 (7,978)
----- ------- -------
Income tax provision................................. $ -- $ 8,302 $(1,082)
===== ======= =======
</TABLE>
Deferred tax assets (liabilities) are comprised of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------
1997 1998
<S> <C> <C>
Payable for cancellation of indebtedness.................... $(18,658) $ --
US net operating loss carryforward.......................... 6,683 --
Property, plant and equipment............................... (2,573) (1,951)
Intangibles................................................. 5,644 117
Foreign net operating loss carryforwards.................... 3,352 1,350
Other....................................................... (288) 620
-------- -------
(5,840) 136
Valuation allowance......................................... (3,352) (1,350)
-------- -------
Net deferred tax liability.................................. $ (9,192) $(1,214)
======== =======
</TABLE>
The Company recorded a valuation allowance at December 31, 1997 and 1998
with respect to the foreign net operating losses due to the uncertainty of their
ultimate realization.
F-15
<PAGE> 105
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
At December 31, 1998, Paradyne Canada had net operating loss carryforwards
of approximately $3.0 million expiring 2003. In the U.K. and Japan, management
has decided that operations will no longer be conducted through Paradyne
International Ltd. and Paradyne Japan Corporation, and thus, there will be no
future benefit related to the NOL carryforwards of Paradyne International Ltd.
and Paradyne Japan Corporation. The foreign net operating losses as of December
31, 1998 have been adjusted to reflect the elimination of loss carryforwards
related to the exit of these foreign subsidiaries.
The provision for income taxes differed from the statutory rate as follows:
<TABLE>
<CAPTION>
1996 1997 1998
--------------- --------------- ---------------
<S> <C> <C> <C> <C> <C> <C>
U.S. Statutory Rate.............. $(3,676) -34.0% $10,375 35.0% $(1,654) -35.0%
Foreign loss..................... -- 0.0 -- 0.0 523 11.0
State taxes...................... (540) -5.0 746 2.5 (95) -2.0
Basis adjustments................ -- 0.0 1,561 5.3 -- 0.0
Other............................ 113 1.4 (277) -1.0 144 3.1
Valuation allowance.............. 4,103 37.6 (4,103) -13.8 -- 0.0
------- ----- ------- ----- ------- -----
Provision for income taxes....... $ -- 0.0% $ 8,302 28.0% $(1,082) -22.9%
======= ===== ======= ===== ======= =====
</TABLE>
11. STOCK OPTION PLAN:
The Company has a stock option plan (the "1996 Plan") whereby the Board of
Directors may discretionarily reserve common shares for the purpose of granting
to employees (including officers and employee directors) or the employees of the
Company's affiliates, options to purchase common stock. Nonstatutory stock
options, rights to acquire restricted stock and stock bonuses may be granted to
employees (including officers), directors of and consultants to the Company or
its affiliates. Under the plan, 6,000,000 shares have been reserved related to
options available for grant to employees, directors and consultants through
December 31, 1998. The options are generally fully vested in four years, and
they have a maximum contractual life of 10 years. The exercise price of options
granted under the 1996 Plan are determined by the Board of Directors. The
Company has granted 4,731,025 options to the Company's employees, directors and
consultants of which 4,028,047 options are outstanding as of December 31, 1998.
During 1998, the Company granted 47,950 fixed options to purchase shares of
common stock with exercise prices below fair market value. As a result, $96 of
compensation expense will be recognized ratably over the vesting period of the
related options, of which $6 was recognized in 1998.
Information on stock options is summarized as follows:
<TABLE>
<CAPTION>
1996 1997 1998
----------------- -------------------- --------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of
year......................... -- -- $ -- 3,883,716 $2.87
Granted........................ -- 4,259,125 2.80 471,900 5.00
Exercised...................... -- (92,182) 2.00 (76,541) 2.03
Canceled....................... -- (283,227) 2.08 (251,028) 2.30
--------- ---------
Outstanding at end of year..... -- 3,883,716 2.87 4,028,047 3.17
--------- ---------
Exercisable at end of year..... -- 949,589 2.81 1,898,226 2.86
========= =========
</TABLE>
F-16
<PAGE> 106
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
<TABLE>
<CAPTION>
OPTIONS WEIGHTED AVERAGE NUMBER OF OPTIONS
WEIGHTED AVERAGE OUTSTANDING AT REMAINING CONTRACTUAL EXERCISABLE AT
EXERCISE PRICES DECEMBER 31, 1998 LIFE OF OPTIONS (YEARS) DECEMBER 31, 1998
<S> <C> <C> <C>
$ 2.00........................... 3,079,678 7.79 1,667,652
5.00........................... 573,369 9.10 43,074
10.00........................... 375,000 7.92 187,500
--------- ---------
4,028,047 1,898,226
========= =========
</TABLE>
The Company applies APB Opinion No. 25 and related interpretations for
accounting for stock options. Accordingly, no compensation costs at the grant
dates are recorded for options granted at fair market value. Had compensation
cost for the Company's option plans been determined based on the fair value at
the grant dates as prescribed by Statement of Financial Accounting Standards No.
123, "Accounting for Stock Based Compensation" ("FAS 123"), the Company's net
income and net income per share on a pro forma basis would have been (in
thousands, except per share data):
<TABLE>
<CAPTION>
1997 1998
<S> <C> <C>
Net income (loss):
As reported............................................... $21,342 $(3,645)
======= =======
Pro forma................................................. $20,971 $(4,035)
======= =======
Net income (loss) per share:
As reported............................................... $ 0.84 $ (0.14)
======= =======
Pro forma basic........................................... $ 0.82 $ (0.16)
======= =======
Pro forma diluted......................................... $ 0.80 $ (0.16)
======= =======
</TABLE>
The preceding pro forma results were calculated with the use of the Black
Scholes option pricing model. The following assumptions were used for the years
ended December 31, 1997 and 1998: (1) risk-free interest rate of 6.60%; (2)
dividend yield of 0.0%; (3) expected life of 5.0 years; and (4) volatility of
0.0001%.
At December 31, 1998 the Company has 73,800 options issued to employees at
a weighted average price of $2.13 which vest only in the event of an initial
public offering of the Company's common stock. Accordingly, in the event of an
initial public offering compensation expense will be recorded to the extent fair
value exceeds the option price.
During the first quarter of 1999, the Company issued options to acquire
52,200 shares of the Company's common stock at a weighted average price of $5.00
per share, which was less than fair value by $271, and which is being amortized
ratably over the vesting period. During the three months ended March 31, 1999,
$17 of compensation expense has been included in selling, general and
administrative expenses for all stock options issued at less than fair market
value.
During March 1999, various executives of the Company issued full recourse
promissory notes, totaling $939 to the Company in connection with the purchase
of 394,938 shares of common stock. Additionally, in May 1997, an executive
issued a full recourse promissory note in the amount of $150 in connection with
the purchase of 75,000 shares of common stock. The principal balance of the
notes and the related accrued interest (4.72% and 6.65% per annum) are payable
at the earlier of the termination of employment or five years from the date of
the note. The notes are secured by the shares of common stock acquired with the
notes, and those shares are held in escrow by the Company. All unvested shares
purchased with the notes are subject to repurchase by the Company if the
respective executive terminates their employment before becoming fully vested.
The balance as of March 31, 1999 was $1.1 million plus accrued interest.
F-17
<PAGE> 107
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
12. COMMITMENTS AND CONTINGENCIES:
OPERATING LEASES
The Company is obligated under noncancelable operating leases for office
and warehouse equipment and facilities. The leases expire at various dates
through 2007. Rent expense for the years ended December 31, 1997 and 1998
approximated $3.0 million and $3.9 million, respectively. Minimum required
future lease payments under noncancelable operating leases are as follows:
<TABLE>
<S> <C>
1999........................................................ $ 4,182
2000........................................................ 3,921
2001........................................................ 3,817
2002........................................................ 3,968
2003 and thereafter......................................... 16,130
</TABLE>
The Company leases facilities in Red Bank, NJ and subleases this space to
GlobeSpan under a non-cancelable operating lease. Future minimum lease payment
receivables under the leasing agreement as of December 31, 1998 are as follows:
1999 -- $934; 2000 -- $934; 2001 -- $955; 2002 -- $352; 2003 and $0 thereafter
(see Note 14).
SALE/LEASEBACK
In June 1997, the Company sold all of its land and the improvements thereon
at its Largo, Florida facility at approximately net book value, and at the same
time leased back two of the buildings. The primary term of the lease is for 10
years with annual rents approximating $1.8 million for the first five years and
$2.1 million for the remaining five years. If the buildings are sold within
three years of acquisition, the primary lease term will be 12 years. The Company
has the option to renew the lease for two additional five year terms on the same
conditions as the current lease. The Company is responsible for paying for any
necessary improvements to the property and is responsible for its proportionate
share of most operating costs and taxes on the property.
SALE OF INSTALLMENT RECEIVABLES
At December 31, 1998, sales-type lease receivables sold to AT&T Capital
Corporation with recourse were $886. The ultimate responsibility for the
collection of these receivables is with Paradyne Credit Corp., a related party.
13. EMPLOYEE BENEFITS:
401(k) Plan
The Company has a 401(k) plan covering substantially all employees of the
Company. Benefits vest based on number of years of service. The Company's policy
is to match two-thirds of an employee's contributions, up to six percent of an
employee's annual salary. Additionally, the Board of Directors may grant
discretionary contributions. Contributions to the plan were approximately $1.1
million, $2.4 million and $2.4 million for the five months ended December 31,
1996 and the years ended December 31, 1997 and 1998, respectively.
Key Employee Stock Option Plan
The Key Employee Stock Option Plan (the "Key Employee Plan") was adopted in
December 1997, and covers employees holding the position of Vice President or
above. Key Employee Plan participants may elect to defer a portion of their
annual compensation in exchange for options to purchase shares of common or
preferred stock of any publicly-traded corporation, shares of the Company's
common stock or shares in
F-18
<PAGE> 108
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
certain investment funds. Upon the grant of an option under the Key Employee
Plan, the Company is required to acquire and hold under a trust arrangement,
shares of the stock or investment subject to the option in a number equal to 75%
of the shares subject to option.
14. RELATED PARTY TRANSACTIONS:
On December 30, 1996, the Company purchased certain installment and
affiliate receivables in the amount of $14.0 million from Paradyne Credit Corp.
("PCC"), a subsidiary of Paradyne Partners, in exchange for a note payable of
$13.7 million. A deferred gain of $291 is included in other current liabilities
at December 31, 1996. The note bore an interest rate of 9.25% and matured
December 30, 1997. The Accounts Receivable Purchase and Servicing Agreement
allowed the Company to require PCC to repurchase the receivables prior to the
due date of the note. On January 3, 1997, the Company sold the receivables back
to PCC in exchange for cancellation of the note payable.
Notes payable to affiliate were owed to Paradyne Partners. As further
discussed in Note 9, the Company executed a revolving subordinated credit
agreement with Paradyne Partners in fiscal 1997. The Company recorded interest
expense of approximately $267, $421 and $305 related to these notes during the
five months ended December 31, 1996 and the years ended December 31, 1997 and
1998, respectively.
The Company provides operating, management and other administrative
services for certain subsidiaries of Paradyne Partners. Total charges to these
entities were approximately $432 for the five months ended December 31, 1996 and
$1.1 million and $1.4 million for the years ended December 31, 1997 and 1998,
respectively. This amount is recorded as a reduction of general and
administrative expenses.
PCC had an option to acquire all used equipment owned by the Company and
its subsidiaries for which the original lease had expired or terminated.
Additionally, the option allowed PCC to purchase all used equipment which had
been returned from sales to customers or consignment activities. The exercise
price of the option was equivalent to one month's rental revenue from the
related equipment. Purchases of such equipment totaled $115, $81 and $0 for the
five months ended December 31, 1996 and the years ended December 31, 1997 and
1998, respectively. In 1997, the Company sold all equipment under leases, as
well as the related lease streams, to PCC in exchange for approximately $3.5
million. As a result of this sale, the option is no longer valid.
In connection with this sale of equipment and related lease streams to PCC
in 1997, the Company entered into an agreement to allow PCC to purchase
equipment manufactured or sold by the Company at prices substantially equal to
those received by the Company through normal selling channels. Purchases under
this agreement totaled $181 and $317 for the years ended December 31, 1997 and
1998, respectively. Additionally, this agreement provides for the Company to
purchase from PCC equipment that has been returned to PCC at the end of the
lease. These purchases are on terms no more favorable to the Company than would
be obtained in a comparable arm's length transaction. Purchases for such
equipment totaled $0 and $141 for the years ended December 31, 1997 and 1998,
respectively.
The Company entered into a license agreement with GlobeSpan for the use of
certain technologies. Total royalty expense related to the use of these
technologies was approximately $235 for the five months ended December 31, 1996
and $0 for each of the years ended December 31, 1997 and 1998. This amount has
been included in equipment cost of sales. In November 1996, the Company entered
into a Cooperative Development Agreement with GlobeSpan. Under this agreement,
the Company was granted an unrestricted license to use GlobeSpan's technical
information and patents. Additionally, the agreement provided for the Company to
purchase GlobeSpan chip sets at prices not to exceed cost plus 15%. The Company
purchased goods approximating $0, $373 and $962 during the period ended December
31, 1996 and the years ended December 31 1997 and 1998, respectively, under this
agreement. Effective July 1998, the Company revised its pricing arrangement with
GlobeSpan such that GlobeSpan sold products to the Company at preferential
F-19
<PAGE> 109
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
prices. In exchange, GlobeSpan agreed to pay a 1.25% royalty based on net
revenues up to an aggregate amount of $1.5 million. The Company recorded $381 of
royalty revenue related to the agreement during the year ended December 31, 1998
(see Note 15).
Beginning in August 1996, GlobeSpan participates in a 401K plan which is
maintained by the Company. Contributions paid by the Company on behalf of
GlobeSpan approximated $65, $321 and $379 for the five months ended December 31,
1996 and the years ended December 31, 1997 and 1998, respectively. GlobeSpan has
reimbursed the Company for all payments made on their behalf.
In 1996 and 1997, the Company provided the use of certain assets to
GlobeSpan related to their research activities without material fee.
Depreciation of $106 in 1996 and $244 in 1997 related to those assets has been
excluded from the results of operations and reflected as a distribution of
equity to a related party. Those assets were subsequently sold to GlobeSpan. The
Company sold fixed assets to GlobeSpan for approximately $350 in fiscal year
1997 and $1.4 million in fiscal 1998. These assets were transferred at their
approximate net book values since the transaction involved entities under common
control.
In 1997, the Company received $194 from GlobeSpan as reimbursement for
purchases of product from a supplier on behalf of GlobeSpan. In December 1997
and September 1998, the Company sold to GlobeSpan certain chip sets which it
held in its inventory in the amounts of $98 and $29, respectively. GlobeSpan
purchased these chip sets for resale to other customers.
In May 1997, an executive of the Company issued a promissory note in the
amount of $150 in connection with the purchase of 75,000 shares of common stock.
The full recourse note accrues interest of a rate of 6.65% per annum. The
principal balance and accrued interest are payable at the earlier of the
termination of employment or five years from the date of the note. The note is
secured by the shares of common stock acquired with the note.
In December 1998, the Company subleased additional office space to
GlobeSpan (see Note 12). Also see Note 4 regarding GlobeSpan warrant extension
and Note 9 regarding parent company debt guaranty. In connection therewith,
GlobeSpan reimbursed approximately $392 of the Company's moving expenses.
15. SUBSEQUENT EVENTS:
In March 1999, the Company and GlobeSpan agreed to terminate the
Cooperative Development Agreement ("Termination Agreement") effective December
31, 1998 (see Note 14). In connection with such termination agreement, GlobeSpan
agreed to pay the Company an aggregate of $1.5 million. Of this amount,
approximately $400 was recorded in 1998 and included in royalty revenue. The
remaining $1.1 million is expected to be received in 1999 and is included in
royalty revenue and receivable from affiliates as of March 31, 1999. In
addition, GlobeSpan and the Company as part of the Termination Agreement
affirmed that the earlier technology license provisions of the Cooperative
Development Agreement were never implemented. In conjunction with the signing of
the Termination Agreement, GlobeSpan and the Company also entered into a
four-year Supply Agreement which gave the Company favorable pricing and other
terms in connection with the sale by GlobeSpan of products to the Company. In
addition, under the terms of the Supply Agreement, GlobeSpan is required to
honor the Company's orders for GlobeSpan's products in quantities at least
consistent with the Company's past ordering practices and must afford the
Company at least the same priority for the Company's orders as GlobeSpan affords
its other similarly situated customers. GlobeSpan also granted the Company a
standard customer immunity under GlobeSpan's intellectual property rights with
respect to any of the Company's products which incorporate GlobeSpan's products.
Effective February 25, 1999, Paradyne Partners was renamed Communication
Partners, L.P. In March 1999, the Company voluntarily reduced the amount
available for borrowing under its revolving credit facility
F-20
<PAGE> 110
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
to $35.0 million and Communication Partners' continuing limited guaranty under
the facility was canceled (see Note 9).
During April 1999, the Company issued options to acquire 213,250 shares of
the Company's common stock at $5.00 per share, which is less than fair value by
$1.4 million, and which is being amortized ratably over the vesting period.
Effective April 1, 1999, the intercompany services agreement between the
Company and Paradyne Credit Corporation ("PCC") was amended to provide that
Paradyne will charge PCC for all direct and indirect costs incurred on behalf of
PCC by Paradyne plus a 5% service charge on all charges.
In March 1999 the Company recorded $1.5 million from the License and
Assignment Agreement ("Telogy Agreement") entered into with Telogy Networks,
Inc. which is included in royalty revenue for the three months ended March 31,
1999. Finder's fees in connection with the Telogy Agreement in the amount of
$225 or 15% of revenue were paid to a third party and are included in selling,
general and administrative expenses. The Telogy Agreement further provided for
the sale of intellectual property in the amount of $3.5 million which is
included in other income net of $525 or 15% in finder's fees.
In March and April of 1999, 10 employees of the Company issued promissory
notes to the Company in the amount of $1.0 million in connection with the
purchase of 411,187 shares of common stock. The full recourse notes accrue
interest at rates ranging from 4.72% to 5.15% per annum. The principal balance
and accrued interest are payable at the earlier of the termination of employment
or five years from the date of the note. The notes are secured by the shares of
common stock acquired with the note.
In June 1999, the Board of Directors adopted the 1999 Employee Stock
Purchase Plan (the "Purchase Plan"). Under the Purchase Plan, the Company is
authorized to issue up to 1,000,000 shares of common stock to eligible
employees. Employees may elect to have up to 15% of their earnings withheld. The
amounts withheld are used to purchase shares of common stock, on specified dates
determined by the Board of Directors, at 85% of the lower of the fair market
value of the common stock at the commencement date of each offering period or
the relevant purchase date.
Also in June 1999, the Board of Directors adopted the 1999 Non-Employee
Directors' Stock Option Plan (the "Directors' Plan") and reserved 250,000 shares
under the plan to provide for the automatic grant of options to purchase shares
of common stock to non-employee directors of the Company. Each non-employee
director will be granted an initial grant upon appointment. Annual grants of an
additional 5,000 shares will be made to any of the non-employee directors,
subject to attendance of regularly scheduled meetings of the Board as described
in the plan.
On June 8, 1999, the Company changed its legal name from Paradyne
Acquisition Corp. to Paradyne Networks, Inc., which change has been reflected in
the accompanying consolidated financial statements. At the same time, the
Company's Board of Directors authorized a 1-for-2 reverse split of its common
stock, with no change in par value. All share and per-share amounts in the
accompanying consolidated financial statements have been restated to give effect
to the stock split.
Also in June 1999, the Board of Directors authorized 5,000,000 shares of
preferred stock, with a par value of $0.001 per share.
UNAUDITED SUBSEQUENT EVENTS
During the second quarter of 1999, various executives and key employees of
the Company issued promissory notes, totaling $139,000 to the Company in
connection with the purchase of 44,219 shares of common stock. The principal
balance of the notes and the related accrued interest at rates ranging from 4.9%
to 5.15% are payable at the earlier of the termination of employment or five
years from the date of the note
F-21
<PAGE> 111
PARADYNE NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA OR AS OTHERWISE NOTED)
unless otherwise stated. The notes which are held in escrow by the Company are
secured by the shares of common stock acquired with the notes. All unvested
shares purchased with the notes are subject to repurchase by the Company if the
respective executive or key employee terminates their employment before becoming
fully vested. The balance of all notes receivable in connection with the
purchase of common stock as of June 30, 1999 was $1.2 million plus accrued
interest.
Effective May 1999, GlobeSpan no longer participates in the Company's
401(k) plan (see Note 14).
On July 15, 1999 the Company raised $63.2 million, net of underwriting
fees, in an initial public offering ("IPO"). On July 21, 1999, $10.4 million of
the proceeds from this offering were used to pay off the outstanding balance
under the line of credit with Bank of America NT & SA. While this line of credit
continues to be available to the Company, there have been no borrowings under
this line of credit since July 21, 1999.
In connection with the IPO, the Company recorded compensation expense
approximating $1.1 million, related to stock options that vested upon completion
of the IPO (see Note 11). In September 1999, the Company received a
communication from an individual claiming to be a stockholder of the Company.
Such individual has threatened the initiation of a class action lawsuit in the
event the Company's follow-on public offering is not terminated. No claim has
been asserted beyond this communication. The Company cannot predict whether any
litigation will be initiated by any stockholder or predict the outcome of any
such litigation, if any.
F-22
<PAGE> 112
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
Paradyne Corporation
In our opinion, the accompanying consolidated statements of operations and of
cash flows present fairly, in all material respects, the results of its
operations and its cash flows for the period from January 1, 1996 through July
31, 1996 of Paradyne Predecessor Business and its subsidiaries (a carve-out
business of AT&T Paradyne Corporation which was a wholly-owned subsidiary of
Lucent Technologies Inc. and predecessor entity to Paradyne Acquisition Corp.),
in conformity with generally accepted accounting principles. These financial
statements are the responsibility of AT&T Paradyne's management; our
responsibility is to express an opinion on these financial statements based on
our audit. We conducted our audit of these statements in accordance with
generally accepted auditing standards which require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are
free of material misstatement. Our audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audit provides a reasonable basis for the opinion expressed
above.
PricewaterhouseCoopers LLP
Tampa, Florida
November 23, 1998
F-23
<PAGE> 113
PARADYNE PREDECESSOR BUSINESS
(A CARVE-OUT BUSINESS OF AT&T PARADYNE CORPORATION)
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SEVEN
MONTHS
ENDED
JULY 31,
1996
------------
<S> <C>
Revenues:
Equipment sales........................................... $128,099
Service revenues.......................................... 1,975
Royalty revenues.......................................... 464
--------
Total revenues.................................... 130,538
Cost of sales:
Equipment costs........................................... 73,208
Service costs............................................. 1,803
--------
Gross margin................................................ 55,527
--------
Operating expenses:
Research and development expenses......................... 28,019
Selling, general and administrative expenses.............. 42,928
--------
Total operating expenses.......................... 70,947
--------
Operating loss.............................................. (15,420)
Other (income) expenses:
Interest.................................................. 200
Other, net................................................ (2,074)
--------
Loss before interest and income taxes....................... (13,546)
Income tax provision........................................ 184
--------
Net loss.................................................... $(13,730)
========
</TABLE>
The accompanying Notes to Financial Statements are
an integral part of these financial statements.
F-24
<PAGE> 114
PARADYNE PREDECESSOR BUSINESS
(A CARVE-OUT BUSINESS OF AT&T PARADYNE CORPORATION)
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SEVEN
MONTHS
ENDED
JULY 31,
1996
------------
<S> <C>
Cash flows provided by (used in) operating activities:
Net loss.................................................. $(13,730)
Adjustments to reconcile net loss to cash used in
operating activities:
Amortization and depreciation.......................... 6,108
Decrease in assets:
Accounts receivable.................................... 24,735
Inventories............................................ 202
Prepaid expenses and other............................. 495
Other long-term assets................................. 1,057
Increase (decrease) in liabilities:
Accounts payable....................................... 6,641
Accrued expenses....................................... (13,922)
Other current liabilities.............................. (11,069)
Income taxes........................................... 2,267
Other long-term liabilities............................ (250)
--------
Net cash provided by operating activities......... 2,534
--------
Cash flows used in investing activities:
Capital expenditures...................................... (6,596)
--------
Cash flows provided by financing activities:
Advances from parent...................................... 6,454
--------
Effect of foreign exchange rate changes on cash............. 231
--------
Net increase in cash and cash equivalents................... 2,623
Cash and cash equivalents at beginning period............... 3,094
--------
Cash and cash equivalents at end of period.................. $ 5,717
========
</TABLE>
The accompanying Notes to Financial Statements are
an integral part of these financial statements.
F-25
<PAGE> 115
PARADYNE PREDECESSOR BUSINESS
(A CARVE-OUT BUSINESS OF AT&T PARADYNE CORPORATION)
NOTES TO FINANCIAL STATEMENTS
(IN THOUSANDS)
1. BASIS OF PRESENTATION:
Pursuant to a Purchase Agreement dated June 18, 1996 (the "Purchase
Agreement"), Paradyne Partners, L.P. ("Paradyne Partners") acquired certain
assets and operations of AT&T Paradyne Corporation from Lucent Technologies Inc.
("Lucent") for cash and seller notes totaling $146 million. This transaction was
consummated through five direct and indirect subsidiaries of Paradyne Partners
which included Paradyne Acquisition Corp. ("PAC") and its wholly-owned
subsidiary, Paradyne Corporation and its subsidiaries (the "Company"). The
Company acquired certain net assets of AT&T Paradyne Corporation relating to the
manufacturing, marketing and research activities for data communications and
networking products for commercial end users and network service providers and
also entered into a product distribution agreement with Lucent.
The accompanying financial statements include the accounts of Paradyne
Predecessor Business (a carve-out business of AT&T Paradyne Corporation), which
were acquired by the Company, on a carved-out basis as if it had been an
independent reporting entity for the period presented. See discussion of related
party transactions in Note 4.
The Company designs, manufactures and markets data communications and
networking products for commercial end users and network service providers. The
Company's products enable commercial end users to efficiently access wide area
network services and allow network service providers to provide customers with
high-speed services for data, voice, video and multimedia applications.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The significant accounting principles and practices used in the preparation
of the accompanying financial statements are summarized below:
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the net assets
and the results of operations acquired from AT&T Paradyne Corporation and its
wholly-owned subsidiaries: Paradyne Canada Ltd.; Paradyne Japan Corporation;
Paradyne International Ltd.; Paradyne Worldwide Corp. (formerly Paradyne Far
East Corporation); Ark Electronic Products Inc.; and Paradyne GmbH. Intercompany
accounts and transactions have been eliminated in consolidation.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting periods presented. Actual results could differ from those estimates.
The markets for Paradyne Predecessor Business' products are characterized by
intense competition, rapid technological development and frequent new product
introductions, all of which could impact the future value of Paradyne
Predecessor Business' inventory and certain other assets.
REVENUE RECOGNITION
Revenue from equipment sales is generally recognized at the date of
shipment and revenue from services is recognized when the services are performed
and all substantial contractual obligations have been satisfied. See discussion
of product warranty below.
F-26
<PAGE> 116
PARADYNE PREDECESSOR BUSINESS
(A CARVE-OUT BUSINESS OF AT&T PARADYNE CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS)
CASH AND CASH EQUIVALENTS
Paradyne Predecessor Business considers all highly liquid instruments
purchased with an original maturity of three months or less to be cash
equivalents.
PROPERTY, PLANT AND EQUIPMENT
Expenditures for renewals and improvements that significantly add to
productive capacity or extend the useful life of an asset are capitalized.
Expenditures for maintenance and repairs are charged to operations when
incurred. When assets are sold or retired, the cost of the asset and the related
accumulated depreciation are eliminated from the accounts and any gain or loss
is recognized at such time.
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred.
PRODUCT WARRANTY
Paradyne Predecessor Business generally provided a return to factory
warranty for a period of two years from the date of sale. A current charge to
income is recorded at the time of sale to reflect the amount it estimates will
be needed to cover future warranty obligations for products sold during the
year.
INCOME TAXES
Paradyne Predecessor Business joined with AT&T Paradyne Corporation in
filing state income tax returns (and with Lucent in cases where consolidated
state income tax returns were filed), and with Lucent, AT&T Paradyne
Corporation's parent, in filing consolidated Federal income tax returns.
The tax provision of $184 reflected in the accompanying statement of
operations relates to the foreign tax obligations of AT&T Paradyne's foreign
subsidiaries.
CONCENTRATION OF CREDIT RISK
Paradyne Predecessor Business sells products to value added distributors
and other customers and extends credit based on an evaluation of the customer's
financial condition, generally without requiring collateral. Exposure to losses
on receivables is principally dependent on each customer's financial condition.
Paradyne Predecessor Business monitors its exposure for credit losses and
maintains allowances for anticipated losses. Accounts receivable from one
customer was approximately $3,842 (15%) of total accounts receivable at July 31,
1996. Sales to two customers were approximately $35,290 (25%) and $16,580 (12%)
of total revenues for the seven months ended July 31, 1996.
Purchases from two vendors were approximately $15,009 (25%) and $7,836
(13%) of total inventory purchases for the seven months ended July 31, 1996.
FOREIGN CURRENCY
The local currency is the functional currency of each of the foreign
subsidiaries. Assets and liabilities of Paradyne Predecessor Business' foreign
subsidiaries are translated using fiscal year-end exchange rates, and revenue
and expenses are translated using average exchange rate prevailing during the
year. Included in other income are realized foreign currency exchange losses of
$656 for the seven months ended July 31, 1996.
F-27
<PAGE> 117
PARADYNE PREDECESSOR BUSINESS
(A CARVE-OUT BUSINESS OF AT&T PARADYNE CORPORATION)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(IN THOUSANDS)
3. COMMITMENTS AND CONTINGENCIES:
Paradyne Predecessor Business is obligated under non-cancelable operating
leases for office and warehouse equipment and facilities. The leases expire at
various dates through 2002. Rent expense for the seven months ended July 31,
1996 approximated $1,519. Minimum required future lease payments under non-
cancelable operating leases are as follows:
<TABLE>
<S> <C>
1997........................................................ $908
1998........................................................ 763
1999........................................................ 768
2000........................................................ 760
2001 and thereafter......................................... 987
</TABLE>
4. RELATED PARTY TRANSACTIONS:
Sales to Lucent Technologies and AT&T Paradyne Corporation were $16,580 and
$35,290, respectively. Inventory purchases from Lucent Technologies totaled
$5,547.
Paradyne Predecessor Business made payments to Lucent to participate in
Lucent's pension, 401(k), and other post employment benefit (mainly health) and
retirement plans in the amounts of $2,933, $1,146, and $910, respectively.
Contract services for various administrative and sales support functions
were provided by Lucent to Paradyne Predecessor Business. The total contract
expenses charged to AT&T Paradyne for the period were $2,696, which was included
in operating expenses. Management believes that such amounts are reasonable and
include all significant costs incurred to support this company.
During the seven months ended July 31, 1996, AT&T Paradyne recorded
approximately $146 in interest expense related to outstanding intercompany
advances from Lucent Technologies.
F-28
<PAGE> 118
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SEPTEMBER 28, 1999
(PARADYNE LOGO)
5,000,000 SHARES OF COMMON STOCK
---------------------------
PROSPECTUS
---------------------------
DONALDSON, LUFKIN & JENRETTE
BANCBOSTON ROBERTSON STEPHENS
DAIN RAUSCHER WESSELS
A DIVISION OF DAIN RAUSCHER INCORPORATED
RAYMOND JAMES & ASSOCIATES, INC.
- --------------------------------------------------------------------------------
We have not authorized any dealer, salesperson or other person to give you
written information other than this prospectus or to make representations as to
matters not stated in this prospectus. You must not rely on unauthorized
information. This prospectus is not an offer to sell these securities or our
solicitation of your offer to buy the securities in any jurisdiction where that
would not be permitted or legal. Neither the delivery of this prospectus nor any
sales made pursuant to this prospectus after the date of this prospectus shall
create an implication that the information contained in this prospectus or the
affairs of Paradyne have not changed since the date of this prospectus.
- --------------------------------------------------------------------------------
