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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1999
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______________ TO ______________
COMMISSION FILE NUMBER: 000-21409
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CELLNET DATA SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
DELAWARE 94-2951096
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
</TABLE>
125 SHOREWAY ROAD
SAN CARLOS, CALIFORNIA 94070
(Address of principal executive offices, including zip code)
(650) 508-6000
(Registrant's Telephone Number, Including Area Code)
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Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
requirements for the past 90 days. YES /X/ NO / /
As of August 12, 1999, 43,125,755 shares of the Registrant's Common Stock,
$0.001 par value, were issued and outstanding.
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TABLE OF CONTENTS
INDEX
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PAGE
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<S> <C> <C> <C>
PART I. FINANCIAL INFORMATION.................................................................................... 3
Item 1. Consolidated Financial Statements (Unaudited).............................................. 3
Condensed Consolidated Balance Sheets--As of June 30, 1999 and December 31, 1998........... 3
Condensed Consolidated Statements of Operations--Three Months and Six Months Ended June 30, 4
1999 and 1998............................................................................
Condensed Consolidated Statements of Cash Flows -- Six Months Ended June 30, 1999 and 5
1998.....................................................................................
Notes to Condensed Consolidated Financial Statements....................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...... 8
Item 3. Quantitative and Qualitative Disclosures about Market Risk................................. 31
PART II. OTHER INFORMATION....................................................................................... 33
Item 1. Legal Proceedings.......................................................................... 33
Item 2. Changes in Securities...................................................................... 33
Item 3. Defaults upon Senior Securities............................................................ 33
Item 4. Submission of Matters to a Vote of Security Holders........................................ 33
Item 5. Other Information.......................................................................... 33
Item 6. Exhibits and Reports on Form 8-K........................................................... 33
SIGNATURE........................................................................................................ 34
EXHIBIT INDEX.................................................................................................... 35
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
CELLNET DATA SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1999 1998
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<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents............................................................. $ 39,052 $ 35,505
Short-term investments................................................................ 7,996 50,728
Accounts receivable--trade............................................................ 6,219 5,022
Accounts receivable--other............................................................ 3,970 2,442
Prepaid expenses and other............................................................ 1,356 1,358
--------- ------------
Total current assets................................................................ 58,593 95,055
Networks--net........................................................................... 215,048 176,090
Network components and inventory........................................................ 24,011 32,616
Restricted cash......................................................................... 14,580 17,984
Property--net........................................................................... 14,025 16,499
Debt issuance costs and other--net...................................................... 5,408 5,818
--------- ------------
Total assets............................................................................ $ 331,665 $ 344,062
--------- ------------
--------- ------------
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Accounts payable...................................................................... $ 11,676 $ 11,703
Accrued compensation and related benefits............................................. 4,763 4,970
Accrued liabilities................................................................... 5,440 4,168
Current portion of capital lease obligations.......................................... 585 691
--------- ------------
Total current liabilities........................................................... 22,464 21,532
Senior notes............................................................................ 343,858 316,709
Revolving credit agreements............................................................. 69,850 31,350
Deferred revenue........................................................................ 5,176 5,339
Capital lease obligations............................................................... 208 437
Commitments and contingencies (Note 3).................................................. -- --
Mandatorily redeemable preferred securities of subsidiary holding solely Company
preferred stock....................................................................... 106,355 106,191
Stockholders' deficit:
Preferred stock--$.001 par value; 15,000,000 shares authorized; no shares
outstanding......................................................................... -- --
Common stock--$.001 par value; 100,000,000 shares authorized; shares outstanding,
1999: 43,087,695; 1998: 42,494,406.................................................. 212,454 211,672
Notes receivable from sale of common stock............................................ (528) (640)
Warrants.............................................................................. 74,545 74,545
Accumulated deficit................................................................... (502,716) (423,085)
Net unrealized gain (loss) on short-term investments.................................. (1) 12
--------- ------------
Total stockholders' deficit......................................................... (216,246) (137,496)
--------- ------------
Total liabilities and stockholders' deficit............................................. $ 331,665 $ 344,062
--------- ------------
--------- ------------
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
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CELLNET DATA SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------- ----------------------
1999 1998 1999 1998
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenues:
Network service revenues........................................ $ 5,334 $ 2,479 $ 9,596 $ 4,450
Product revenues................................................ 295 242 520 408
License fees and other revenues................................. 157 139 606 271
---------- ---------- ---------- ----------
Total revenues.............................................. 5,786 2,860 10,722 5,129
---------- ---------- ---------- ----------
Costs and expenses:
Cost of network operations...................................... 8,398 6,291 15,236 11,436
Cost of product and other revenues.............................. 276 374 688 458
Research and development........................................ 6,706 8,474 13,489 15,498
Marketing and sales............................................. 3,182 2,847 5,872 5,898
General and administrative...................................... 5,737 4,514 9,478 8,138
Depreciation and amortization................................... 7,006 4,468 13,633 8,647
---------- ---------- ---------- ----------
Total costs and expenses.................................... 31,305 26,968 58,396 50,075
---------- ---------- ---------- ----------
Loss from operations............................................ (25,519) (24,108) (47,674) (44,946)
Equity in net loss of unconsolidated affiliate.................. (1,079) (630) (2,134) (981)
Other income (expense):
Interest income............................................... 697 2,005 1,824 3,939
Interest expense, net of capitalized interest................. (14,027) (10,892) (27,586) (21,674)
Other--net.................................................... (170) 3 (41) (176)
---------- ---------- ---------- ----------
Total other income (expense), net........................... (13,500) (8,884) (25,803) (17,911)
---------- ---------- ---------- ----------
Loss before provision for income taxes and dividends and
accretion on preferred securities............................. (40,098) (33,622) (75,611) (63,838)
Provision for income taxes...................................... 5 -- 6 --
---------- ---------- ---------- ----------
Loss before dividends and accretion on preferred securities..... (40,103) (33,622) (75,617) (63,838)
Dividends and accretion on preferred securities................. (2,008) (938) (4,014) (938)
---------- ---------- ---------- ----------
Net loss applicable to common stockholders...................... $ (42,111) $ (34,560) $ (79,631) $ (64,776)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Basic and diluted net loss per share............................ $ (0.98) $ (0.83) $ (1.87) $ (1.57)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Shares used in computing net loss per share..................... 42,857 41,469 42,646 41,305
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
See accompanying notes to condensed consolidated financial statements.
4
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CELLNET DATA SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
--------------------
1999 1998
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<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss applicable to common stockholders................................................. $ (79,631) $ (64,776)
Adjustments to reconcile net loss applicable to common stockholders to net cash used for
operating activities:
Depreciation and amortization............................................................ 13,633 8,647
Accretion on senior notes, net of capitalized interest................................... 25,639 21,418
Accretion on preferred securities........................................................ 164 39
Amortization of debt issuance costs...................................................... 277 202
Equity in net loss of unconsolidated affiliate........................................... 2,134 981
Other.................................................................................... (446) 276
Changes in:
Accounts receivable--trade............................................................. (1,197) (1,187)
Accounts receivable--other............................................................. (1,528) (297)
Prepaid expenses and other............................................................. 2 (192)
Accounts payable....................................................................... (27) 4,679
Accrued compensation and related benefits.............................................. (207) 275
Accrued liabilities and deferred revenues.............................................. 1,109 1,236
--------- ---------
Net cash used for operating activities............................................... (40,078) (28,699)
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Networks................................................................................... (46,861) (44,596)
Network components and inventory........................................................... 8,605 (2,718)
Purchase of property....................................................................... (1,700) (3,927)
Investment in unconsolidated affiliates.................................................... (2,134) (2,555)
Purchase of short-term investments......................................................... (8,846) (79,842)
Proceeds from sales and maturities of short-term investments............................... 51,565 37,518
Increase in restricted cash................................................................ -- (21,403)
Proceeds from maturity of restricted cash.................................................. 3,850 --
Other assets............................................................................... 133 (148)
--------- ---------
Net cash provided by (used for) investing activities................................. 4,612 (117,671)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from revolving credit agreements.................................................. 38,500 --
Proceeds from issuance of preferred securities............................................. -- 105,940
Repayment of capital lease obligations..................................................... (381) (339)
Proceeds from sale of common stock, net of repurchases..................................... 782 791
Collection of notes receivable from sale of common stock................................... 112 28
--------- ---------
Net cash provided by financing activities............................................ 39,013 106,420
--------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS......................................... 3,547 (39,950)
CASH AND CASH EQUIVALENTS, Beginning of period............................................... 35,505 111,112
--------- ---------
CASH AND CASH EQUIVALENTS, End of period..................................................... $ 39,052 $ 71,162
--------- ---------
--------- ---------
SUPPLEMENTAL NONCASH INVESTING AND FINANCING ACTIVITIES:
Acquisition of property under capital leases............................................... $ 46 $ 797
Capitalization of interest into networks................................................... $ 1,510 $ 1,613
Change in unrealized gain on short-term investments........................................ $ (13) $ (6)
Conversion of warrants into common stock................................................... $ -- $ 1
Repurchase of unvested common stock and cancellation of related notes receivable........... $ -- $ 8
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest..................................................................... $ 1,329 $ 47
Cash paid for income taxes................................................................. $ 6 $ --
</TABLE>
See accompanying notes to condensed consolidated financial statements.
5
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CELLNET DATA SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 1999
1. BASIS OF PRESENTATION
In the opinion of management, these unaudited condensed consolidated
financial statements include all adjustments, consisting only of normal
recurring adjustments and accruals CellNet Data Systems, Inc. considers
necessary for a fair presentation of its financial position as of June 30, 1999
and the results of operations and cash flows for the three and the six months
ended June 30, 1999 and 1998. This unaudited interim information should be read
in conjunction with the audited consolidated financial statements of CellNet
Data Systems, Inc. and the notes thereto for the year ended December 31, 1998.
Operating results for the three and the six months ended June 30, 1999 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 1999.
In 1998, the Company adopted Statement of Financial Accounting Standards
("SFAS") No. 130, REPORTING COMPREHENSIVE INCOME, which requires that an
enterprise report, by major components and as a single total, the change in net
assets during the period from nonowner sources. Adoption of SFAS No. 130 did not
impact the Company's consolidated financial position, results of operations or
cash flows. The comprehensive net loss was $42,119,000 and $34,564,000 for the
three months ended June 30, 1999 and 1998, respectively. The comprehensive net
loss was $79,644,000 and $64,782,000 for the six months ended June 30, 1999 and
1998, respectively. The comprehensive net loss differs from the net loss
applicable to common stockholders by the net unrealized loss on short-term
investments.
In 1998, the Company adopted SFAS No. 131, DISCLOSURES ABOUT SEGMENTS OF AN
ENTERPRISE AND RELATED INFORMATION, which establishes annual and interim
reporting standards for an enterprise's business segments and related
disclosures about its products, services, geographic areas and major customers.
The Company operates in one reportable segment: the design, development and
operation of its CellNet wireless data communication system to provide automated
network meter reading and other services to the utility industry. The Company
operates exclusively in the United States.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES, which defines
derivatives, requires that all derivatives be carried at fair value, and
provides for hedging accounting when certain conditions are met. SFAS No. 133 is
effective for quarters of fiscal years beginning after June 15, 2000. The
Company has not fully assessed the implications of this new standard.
2. NET LOSS PER SHARE
Basic EPS for the periods presented is computed by dividing net loss by the
weighted average number of common shares outstanding (excluding shares subject
to repurchase). Diluted EPS for all periods presented was computed the same as
basic EPS since all other potential dilutive securities (common stock subject to
repurchase, common stock options and warrants and mandatorily redeemable
preferred securities) are excluded as they are antidilutive.
3. COMMITMENTS AND CONTINGENCIES
In October 1996, Itron, one of CellNet's competitors, filed a complaint
against CellNet in the Federal District Court in Minnesota, alleging that
CellNet infringed an Itron patent which was issued in September 1996. Itron
sought a judgement for damages, attorneys' fees and injunctive relief. On
January 28, 1999, the Court ruled in favor of CellNet that, as a matter of law,
CellNet's system did not infringe the Itron patent. The Court also ruled in
favor of Itron that the Itron patent was valid against certain prior art. Itron
has
6
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CELLNET DATA SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 1999
3. COMMITMENTS AND CONTINGENCIES (CONTINUED)
filed a notice to appeal the Court's ruling. Consequently, CellNet filed a
notice of cross-appeal. CellNet believes that the ultimate outcome of the
lawsuit is not expected to have a material adverse effect on CellNet's operating
results, financial condition and cash flows.
In April 1997, CellNet filed a patent infringement suit against Itron in the
Federal District Court for the Northern District of California, claiming that
Itron's use of its electric meter reading Encoder Receiver Transmitter
(ERT-Registered Trademark-) device infringes CellNet's U.S. Patent No.
4,783,623. CellNet sought an injunction, damages and other relief. On November
2, 1998, the Court ruled that Itron's patent does not infringe upon CellNet's
Patent No. 4,783,623. CellNet recently filed its appeal in this action.
The consolidated complaint of JERE SETTLE AND KAREN ZULLY V. JOHN M. SEIDL,
ET AL., No. 398464, filed in the Superior Court of California for the County of
San Mateo was a purported class action on behalf of CellNet's stockholders
against CellNet, certain of its officers and directors and underwriters of
CellNet's initial public offering seeking unspecified damages and rescission for
alleged liability under various provisions of the federal securities law and
California state law. The plaintiffs alleged generally that the Prospectus and
Registration Statement dated September 26, 1996, pursuant to which CellNet
issued 5,000,000 shares of common stock to the public, contained materially
misleading statements and omissions in that CellNet was obligated to disclose,
but failed to disclose, that a patent conflict with Itron, Inc. was likely to
ensue. The complaint was dismissed on February 9, 1998, without leave to amend.
Plaintiffs filed an appeal in the California Court of Appeal. By subsequent
agreement among the parties, this action has been dismissed with prejudice and
without any payment by CellNet to plaintiffs or their counsel. This brings this
litigation to a close.
7
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THIS SECTION CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS
AND UNCERTAINTIES INCLUDING, BUT NOT LIMITED TO, INFORMATION ABOUT CELLNET'S
EXPECTED WIRELESS DATA NETWORK DEPLOYMENTS AND OPERATIONS, ITS STRATEGY FOR
MARKETING AND DEPLOYING SUCH NETWORKS AND RELATED FINANCING ACTIVITIES, ITS
EXPECTED REVENUES, EXPENSES AND CAPITAL EXPENDITURES AND ITS ASSESSMENT OF
POTENTIAL YEAR 2000 ISSUES. OUR ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THE
RESULTS ANTICIPATED IN THE FORWARD-LOOKING STATEMENTS AS A RESULT OF CERTAIN
FACTORS SET FORTH IN "RISK FACTORS" AND ELSEWHERE IN THIS REPORT.
OVERVIEW
CellNet intends to deploy and operate a series of wireless data
communications networks pursuant to services agreements with utilities and other
parties including new power market participants to earn recurring revenues by
providing network meter reading services and to use the networks to support a
variety of non-utility applications. CellNet employs two basic strategies in the
deployment of its networks-saturation deployments for providing network meter
reading services to existing utilities, and broad deployments for providing
network meter reading services to other parties including new power market
participants. Under CellNet's saturation deployment strategy, CellNet builds out
its wide area network and local area network concurrently in order to cover
virtually every meter in a utility's designated service area. The saturation
deployment strategy has proven effective because it allows coverage of all of
the energy consumers in those service areas. Under CellNet's broad deployment
strategy, CellNet first deploys its wide area network in service areas where the
largest consumers of energy are located and where energy consumers and other
power market participants are most likely to value CellNet's services and/or to
concentrate their marketing efforts. As contracts for the provision of network
meter reading services are obtained, CellNet builds out its local area network
on an incremental basis as necessary to service those customers or for advanced
coverage of certain areas. Both the local area network and wide area network can
be further expanded incrementally as additional business outside the existing
coverage areas is obtained. Broad deployment offers energy service providers who
lack the established utilities' designated geographical customer bases the
flexibility to build as they grow or to pursue particular market niches. It also
offers established utilities who are not yet prepared to commit their resources
to a long-term saturation deployment project the opportunity to cover a portion
of their customers initially and to increase coverage in their service areas
over time, potentially to all of their meters. By using networks deployed under
either strategy, CellNet is also able to offer (i) network meter reading
services directly to energy consumers, to the extent that the information is not
being made available to them by their own utility or energy service provider,
(ii) network meter reading services which monitor sub-meters for industrial and
commercial customers which desire to monitor the energy consumption of
particular heating, ventilation and air conditioning systems, individual
manufacturing processes or pieces of equipment and individual departments, and
(iii) a range of non-utility wireless data communication services for such
applications as home security, remote status monitoring of vending machines,
office equipment and parking meters, and remote control of traffic lights.
CellNet's business strategy has affected and will continue to affect its
financial condition and results of operations as follows:
COMPOSITION OF REVENUES
CellNet derives substantially all of its revenues from fees earned under
services agreements related to its wireless communications networks. Under
CellNet's existing services agreements with utilities, CellNet receives monthly
network meter reading services fees based on the number of endpoint devices that
are in revenue service during the applicable month.
8
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UNEVEN REVENUE GROWTH
The timing and amount of CellNet's future revenues will depend upon its
ability to obtain additional services agreements with utilities and other
parties including new power market participants and upon CellNet's ability to
deploy and operate successfully its wireless communications networks for utility
and non-utility applications. New services agreements are expected to be
obtained on an irregular basis, and there may be prolonged periods during which
CellNet does not enter into any additional services agreements or other
arrangements. As a result, CellNet expects that its revenues will not grow
smoothly over time, but will increase unevenly as CellNet enters into new
services agreements and other commercial relationships, and may decrease sharply
in the event that any of its existing services agreements are terminated or not
renewed. See "Risk Factors That May Affect Future Operating Performance--We Will
Not Earn Significant Revenues Unless Our Automated Meter Reading System Services
Achieve Broad Acceptance in the Utility Industry;--We Derive A Significant
Portion of Our Revenues from a Limited Number of Utilities; and--If We Fail To
Develop Non-Utility Services That Achieve Commercial Acceptance, Our Ability to
Achieve Future Growth Will Be Significantly Impaired;--Our Operating Results Are
Difficult To Predict Because They Fluctuate Significantly."
UNCERTAINTY OF MARKET ACCEPTANCE
CellNet's future revenues will depend on the number of new services
agreements with established utilities and other parties including new power
market participants and on the amount of network meter reading services to be
provided thereunder. CellNet's existing revenues principally arise from
established utilities. During the first six months of 1999, approximately 96% of
CellNet's revenues were derived from its contracts with Kansas City Power &
Light, AmerenUE, Northern States Power Company and Puget Sound Energy, Inc.
During 1998, 92% of CellNet's revenues were derived from its contracts with
Kansas City Power & Light, AmerenUE and Northern States Power Company. The
utility industry is historically characterized by long purchasing cycles and
cautious decision making, and purchases of CellNet's services are, to a
substantial extent, deferrable in the event that utilities seek to limit capital
expenditures or decide to defer such purchases for other reasons. Only a limited
number of utilities have made a commitment to purchase CellNet's services to
date. Although the uncertainty surrounding proposed regulatory changes in some
states may have caused, and may continue to cause, additional delays in
purchasing decisions by established utilities, CellNet believes that
implementation of utility deregulation will ultimately accelerate the utility
decision-making process. CellNet believes that it will enter into additional
services contracts with other utilities and other parties including new power
market participants, as well as expand its contracts with current network
customers; however, if CellNet's services do not gain widespread industry
acceptance, its revenues would not increase significantly after services
contracts for existing network systems have been fully installed.
With the advent of utility industry deregulation, CellNet is seeking
opportunities to provide its network meter reading services to other parties
including new power market participants. CellNet believes it is well positioned
to offer competitive advantages to established utilities and other parties
including new power market participants. CellNet has entered into several
contracts with new power market participants and others for the provision of
network meter reading services. However there can be no assurance that CellNet
will be able to enter into contracts covering a sufficient number of meters to
recover its costs of deployment, on terms favorable to CellNet, or at all.
CellNet also anticipates that, under contracts with new power market
participants, it would build out its networks, at least in part, before the
capacity is fully committed. For these reasons, CellNet's ability to obtain
financing for the capital expenditures associated with these contracts may be
limited, although CellNet also believes that it will be able to defer a
significant portion of the capital expenditures by building out its networks
incrementally as needed, and that the new power market participants would lease
or acquire the endpoints from CellNet, reducing CellNet's costs. CellNet also
anticipates that its contracts with new power market participants and other
parties will be shorter-term than those it has entered into with established
utilities, and may therefore not fully cover the
9
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costs of network build-out and associated operating costs. CellNet intends to
reduce this risk by marketing its services to a wide range of new power market
participants and other parties, but there can be no assurance that CellNet will
be successful in such marketing efforts, or that the new power market
participants or other parties will be successful in capturing any significant
share of the energy service market.
CellNet's long-term business plan contemplates the generation of a
significant percentage of future revenues from non-utility services. CellNet
believes its future ability to service its indebtedness and to achieve
profitability will be affected by its success in generating substantial revenues
from such additional services. CellNet currently has no services contracts which
provide for the implementation of such services, and CellNet has not yet
deployed such services on a commercial scale. In addition, unless CellNet is
successful in deploying its wireless networks in targeted service areas, CellNet
may not be able to offer any such services in such areas or may be able to offer
these services only on a limited basis.
REVENUES LAG NETWORK DEPLOYMENT
CellNet expects to realize network service revenue under a services
agreement with a utility or new power market participant only when a portion of
the network is installed and they have begun billing their customers based upon
the network meter reading data obtained. CellNet expects that its receipt of
network service revenue will lag the signing of the related services agreements
by a minimum of six months and that it will generally take two to four years to
complete installation of a network after each services agreement has been
signed. A network's service revenues are not expected to exceed CellNet's
capital investments and expenses incurred to deploy such network for several
years. As of June 30, 1999, CellNet had approximately 4,344,000 meters under
long-term contracts and a potential 500,000 meters under an agreement with C3
Communications, of which approximately 2,340,000 meters were in revenue service.
As additional segments of CellNet's networks are installed and used by its
customers for billing purposes, CellNet expects to realize a corresponding
increase in its network service revenues. However, if CellNet is able to deploy
successfully an increasing number of networks over the next few years, the
operating losses created by this lag in revenues, the negative cash flow
resulting from such operating losses, and the capital expenditures expected to
be required in connection with the installation of such networks, are expected
to widen for a period of time and will continue until the operating cash flow
from installed networks exceeds the costs of deploying and operating the
additional networks.
IMPACT OF RAPID EXPANSION
CellNet will be required to invest significant amounts of capital in its
networks and to incur substantial and increasing sales and marketing expenses
before receiving any return on such expenditures through network service
revenues. CellNet has incurred substantial operating losses since its inception
and, as of June 30, 1999, had an accumulated deficit of $502.7 million. CellNet
does not expect significant revenues relative to anticipated operating costs
during 1999 and expects to incur substantial and increasing operating losses and
negative net cash flow after capital expenditures for the foreseeable future as
it expands and installs additional networks. CellNet does not expect positive
cash flow after capital expenditures from its network meter reading services
operations for several years. CellNet will require substantial capital to fund
operating cash flow deficits and capital expenditures for the foreseeable future
and expects to finance these requirements through significant additional
external financing. See "Risk Factors That May Affect Future Operating
Performance--We Expect to Continue to Experience Significant Losses For At Least
the Next Several Years, Because We Will Incur Network Deployment Costs In
Advance of Receiving Revenues From Services Offered Through the Network" and
"--We Have a Significant Amount of Debt and Preferred Stock Which Will Require
Us to Generate Substantial Cash Flow in Order to Satisfy Our Obligations."
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INTEREST INCOME
CellNet has earned substantial amounts of interest income on short-term
investments of the proceeds of its financing activities. CellNet expects to
utilize substantially all of its cash, cash equivalents and short-term
investments in deploying its wireless communications networks, in continuing
research and development activities related thereto, in related selling and
marketing activities and for general and administrative purposes. As such funds
are expended, interest income is expected to decrease.
RESULTS OF OPERATIONS FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 1999 AND 1998
REVENUES
Revenues for the three months ended June 30, 1999 and 1998 were $5.8 million
and $2.9 million, respectively. During the three months ended June 30, 1999,
AmerenUE, Kansas City Power & Light, Northern States Power Company and Puget
Sound Energy, Inc. accounted for approximately 41%, 22%, 19% and 14% of
CellNet's revenues, respectively. During the three months ended June 30, 1998,
AmerenUE and Kansas City Power & Light accounted for approximately 53% and 31%
of CellNet's revenues, respectively. The increase in revenues from
period-to-period resulted primarily from a $2.8 million increase in network
service revenues, consistent with the increase in the number of installed,
revenue-generating meters.
Revenues for the six months ended June 30, 1999 and 1998 were $10.7 million
and $5.1 million, respectively. During the six months ended June 30, 1999,
AmerenUE, Kansas City Power & Light, Northern States Power Company and Puget
Sound Energy, Inc., accounted for approximately 42%, 22%, 19% and 13% of
CellNet's revenues, respectively. During the first six months of 1998, Kansas
City Power & Light and AmerenUE accounted for 52% and 33% of CellNet's revenues,
respectively. The increase in revenues from period-to-period resulted primarily
from a $5.1 increase in network service revenues, consistent with the increase
in the number of installed, revenue-generating meters.
CellNet generally realizes service revenues under its services agreements
only when its networks or portions thereof are successfully installed and
operating and its clients begin billing their own customers or begin using the
network meter reading services provided. Revenues are expected to increase as
CellNet continues to install its networks, the networks or portions thereof
become operational, and its clients begin billing their own customers or begin
using the network meter reading services provided. CellNet expects to have
product sales associated with certain network meter reading deployments. Such
sales could be material to CellNet's revenues, although no assurance can be
given in this regard. Due primarily to the nature, amount and timing of revenues
received to date, no meaningful period-to-period comparisons can be made.
Revenues received during the six months ended June 30, 1999 are not reliable
indicators of revenues that might be expected in the future.
COST OF REVENUES
For the three and six months ended June 30, 1999 and 1998, cost of revenues
primarily consisted of network operations costs. Cost of revenues was $8.7
million and $6.7 million for the three months ended June 30, 1999 and 1998,
respectively. Cost of revenues was $15.9 million and $11.9 million for the six
months ended June 30, 1999 and 1998, respectively. The increase in cost of
revenues from period-to-period was driven by increasing costs of providing
network services to support the roll-out of new and existing networks. Cost of
network operations consists of labor costs and associated costs necessary for
network monitoring operations, network deployment management and customer
training. Cost of network operations also includes the increased installation,
applications and radio frequency engineering staff to support anticipated
additional utility contracts. Network operations do not currently generate a
profit as CellNet has not yet achieved a scale of services sufficient to cover
network costs. CellNet will incur significant increasing costs primarily
attributable to network operation and depreciation. Once a network has been
fully installed, costs associated with generating network revenues will consist
primarily of maintaining a
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monitoring center for such network, network depreciation and miscellaneous
maintenance and operating expenses.
OPERATING EXPENSES
Operating expenses, consisting of research and development, marketing and
sales, general and administrative costs and depreciation and amortization
expenses, were $22.6 million and $20.3 million for the three months ended June
30, 1999 and 1998, respectively. Operating expenses were $42.5 million and $38.2
million for the six months ended June 30, 1999 and 1998, respectively. The
increase in operating expenses on a period-to-period basis is attributable to
CellNet's rapid growth and to increasing general and administrative and
depreciation and amortization expenditures, partially offset by decreased
research and development expenditures. CellNet expects to moderately reduce its
spending on research and development activities during 1999. Marketing and sales
costs are expected to increase slightly over current levels as CellNet continues
its efforts to sign new service agreements. General and administrative costs are
expected to increase over time in line with CellNet's expected growth and are
expected to increase moderately. Depreciation and amortization expense is
expected to grow as a result of increased additions to networks, property and
leasehold improvements.
RESEARCH AND DEVELOPMENT
Research and development expenses are attributable largely to personnel
costs, consulting fees and supplies associated with continuing system software,
firmware and equipment development costs and prototype testing. Research and
development costs are expensed as incurred. CellNet's networks include certain
software applications which are integral to their operation. The costs to
develop such software have not been capitalized as CellNet believes its software
development is essentially completed when technological feasibility of the
software is established and/or development of the related network hardware is
complete. Research and development expenses were $6.7 million and $8.5 million
for the three months ended June 30, 1999 and 1998, respectively. Research and
development expenses were $13.5 million and $15.5 million for the six months
ended June 30, 1999 and 1998, respectively. The decrease in research and
development spending in 1999 over 1998 primarily reflects moderate reductions in
CellNet's engineering staff. CellNet expects that research and development
expenses will continue to decrease moderately in the near term.
MARKETING AND SALES
Marketing and sales expenses consist principally of personnel costs,
including commissions paid to sales and marketing personnel, travel,
advertising, trade show and other promotional costs. Marketing and sales
expenses were $3.2 million and $2.8 million for three months ended June 30, 1999
and 1998, respectively. These expenses have increased moderately from
period-to-period due to additions in marketing and sales staff during the
period. Marketing and sales expenses were $5.9 million in both the six months
ended June 30, 1999 and 1998. These expenses have remained relatively the same
in 1999 from 1998 due to additions in marketing and sales staff, partially
offset by a reduction in expenditures for CellNet's advertising programs.
CellNet expects marketing and sales expenses to increase moderately in the
remainder of 1999, as CellNet continues its efforts to sign new service
agreements.
GENERAL AND ADMINISTRATIVE
General and administrative expenses include compensation paid to general
management, administrative personnel costs, travel and communications and other
general administrative expenses, including fees for professional services.
General and administrative expenses for the three months ended June 30, 1999 and
1998 were $5.7 million and $4.5 million, respectively. General and
administrative expenses were $9.5 million and $8.1 million for the six months
ended June 30, 1999 and 1998, respectively. The period-to-period increase in
these expenses in 1999 over 1998 resulted from an increase in expenditures for
certain
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employee compensation. CellNet expects general and administrative expenses to
increase over time in line with expected growth.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization expense was $7.0 million and $4.5 million for
the three months ended June 30, 1999 and 1998, respectively. For the six months
ended June 30, 1999 and 1998, depreciation and amortization expense was $13.6
million and $8.6 million, respectively. Depreciation and amortization expense is
attributable to CellNet's networks, including both equipment manufactured by
CellNet and systems partially installed in the field, property and leasehold
improvements. Depreciation and amortization expense has increased as a result of
increased additions to networks, property and leasehold improvements
period-over-period.
EQUITY IN LOSS OF UNCONSOLIDATED AFFILIATE
CellNet accounts for its investment in BCN, which began operations in 1997,
using the equity method. In the three months ended June 30, 1999 and 1998,
CellNet recognized $1.1 million and $630,000 as its share of BCN's losses,
respectively. In the six months ended June 30, 1999 and 1998, CellNet recognized
$2.1 million and $1.0 million as its share of BCN's losses, respectively.
CellNet has no ongoing fixed capital commitment and as such recognizes losses
only to the extent of CellNet's cash contributions and any committed capital
contributions. CellNet expects to recognize increased losses in the future from
its share of BCN's losses.
INTEREST INCOME AND EXPENSE
Prior to June 1995, CellNet funded its liquidity needs primarily from the
issuance of equity securities. In June and November 1995, CellNet issued and
sold a total of $325.0 million aggregate principal amount at maturity of
CellNet's 13% Senior Notes due 2005 (the "1995 Notes") and related warrants (the
"1995 Warrants") for proceeds, net of issuance costs, of $169.9 million.
On October 2, 1996, CellNet completed an initial public offering in which it
sold 5,000,000 shares at $20 per common share for aggregate net proceeds of
$92.2 million. In connection with the initial public offering, CellNet also
received $1.2 million in proceeds from the cash exercise of the 1995 Warrants
(the "Warrant Exercise") for 495,918 common shares. In addition, on October 2,
1996, CellNet completed certain direct placements (the "Direct Placements") in
which it sold 1,579,404 shares of its Common Stock for proceeds of approximately
$28.0 million.
In September 1997, CellNet issued and sold a total of approximately $654.1
million aggregate principal amount at maturity of 14% Senior Notes due 2007 (the
"1997 Notes") and warrants (the "1997 Warrants") for proceeds, net of issuance
costs, of $96.3 million. In connection with the issuance of the 1997 Notes,
$231.0 million of the issue price for the 1997 Notes and 1997 Warrants was
issued in exchange for all of CellNet's 1995 Notes.
In May 1998, a new subsidiary of CellNet, CellNet Funding, LLC ("Funding")
completed an offering of Exchangeable Preferred Securities Mandatorily
Redeemable 2010 for net proceeds of $106.0 million. The restricted cash at June
30, 1999 of approximately $14.6 million includes the proceeds of the offering
which are designated for the payment of cash dividends on the Preferred
Securities through June 1, 2001. Funding invested the restricted cash in U.S.
Treasury strips ("Treasury Strips") which was placed in escrow upon the closing
of the offering of the Preferred Securities.
In November 1998, two wholly-owned subsidiaries of CellNet each entered into
a revolving line of credit agreement ("the Revolving Credit Agreements") with a
group of banks, which provide for borrowings of $60.0 million and $15.0 million,
respectively, through December 31, 2007, at which time the Revolving Credit
Agreements expire. Borrowings are secured by the wholly-owned subsidiaries'
assets,
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contracts and leases. Borrowings bear interest at the wholly-owned subsidiaries'
option at various rates based on the lead bank's prime rate, or margins above
the Federal Funds rate or the London Interbank Offer Rate (LIBOR). The
wholly-owned subsidiaries pay a commitment fee on the unused portion of their
available borrowings under their respective Revolving Credit Agreements.
The Revolving Credit Agreements require the wholly-owned subsidiaries to
enter into Interest Hedge Agreements (as defined) to reduce the impact of
changes in the variable interest rates on borrowings. The Revolving Credit
Agreements require the Borrowers to hedge not less than 33% of the outstanding
principal amount of their total outstanding borrowings. At June 30, 1999, the
wholly-owned subsidiaries each had an interest rate swap agreement outstanding
with a commercial bank with total notional principal amounts of $6 million and
$24 million, respectively. The interest rate swap agreements effectively
exchange the wholly-owned subsidiaries' interest rate exposure on $6 million and
$24 million of outstanding borrowings to fixed rates of 8.255%, and 8.63%,
respectively. The interest rate swaps mature on March 11, 2002. CellNet is
exposed to credit loss in the event of nonperformance by the other party to the
interest rate swap agreements. However, CellNet does not anticipate
nonperformance by the counterparty.
One of CellNet's wholly-owned subsidiaries entered into a term loan
agreement (the "Term Loan") with one of its customers, which provides for
borrowings of up to $40.0 million. Borrowings bear interest at 6.5% per annum
and are secured by the subsidiary's assets, contracts and leases. The Term Loan
provides for monthly drawdowns. Interest on the drawdowns is payable quarterly.
The drawdowns are payable on June 30, 2004. At June 30, 1999, the wholly-owned
subsidiary had outstanding drawdowns of $20.5 million.
CellNet has earned interest income on the invested proceeds from these
financings. CellNet has also incurred significant interest expense from the
amortization of the original issue discount on the 1995 Notes and the 1997
Notes. Interest expense will increase significantly in future periods as a
result of the increased accretion of a larger original issue discount balance
from the issuance of the 1997 Notes, and from interest and commitment fees
incurred from the Revolving Credit Agreements, Interest Hedge Agreements and the
Term Loan.
Interest income has been and will continue to be received by CellNet from
the short-term investment of proceeds from the issuance of equity and debt
securities pending the use of such proceeds by CellNet for capital expenditures
and operating and other expenses. Interest income is expected to be variable
over time as proceeds from the issue and sale of additional equity and debt
securities are received and as funds are used by CellNet in its business.
Interest income was $697,000 and $2.0 million for the three months ended June
30, 1999 and 1998, respectively. Interest income was $1.8 million and $3.9
million for the six months ended June 30, 1999 and 1998, respectively.
No interest on the 1997 Notes is payable prior to April 1, 2003. Thereafter,
until maturity on October 1, 2007, interest will be payable semi-annually in
arrears on each April 1 and October 1. The carrying amount of the 1997 Notes
accretes from the date of issue and CellNet's interest expense includes such
accretion. Interest expense on the Revolving Credit Agreements is generally
payable quarterly or upon the maturity date of the advance if less than 90 days.
Commitment fees on the unused portion of the Revolving Credit Agreements and the
Term Loan are payable quarterly. Interest under the Interest Hedge Agreements is
received and paid quarterly. Interest expense, net of capitalized interest,
increased to $14.0 million from $10.9 million for the three months ended June
30, 1999 over the 1998 period. Interest expense, net of capitalized interest,
increased to $27.6 million from $21.7 million for the six months ended June 30,
1999 and 1998, respectively. The period-to-period increase in interest expense
primarily resulted from increases in the accretion on the senior notes and
interest incurred on the Revolving Credit Agreements.
PROVISION FOR INCOME TAXES
CellNet has not provided for or paid federal income taxes due to CellNet's
net losses. A nominal provision has been recorded for various state minimum
income and franchise taxes.
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At December 31, 1998, the Company had net operating loss carryforwards of
approximately $289.0 million and $149.0 million available to offset future
federal and state taxable income, respectively. Such federal carryforwards
expire in 2001 through 2013. Such state carryforwards expire in 1999 through
2013. The extent to which the loss carryforwards can be used to offset future
taxable income may be limited, depending on the extent of ownership changes
within any three-year period as provided in the Tax Reform Act of 1986 and the
California Conformity Act of 1987. Based upon CellNet's history of operating
losses and the expiration dates of the loss carryforwards, CellNet has recorded
a valuation allowance to the full extent of its net deferred tax assets.
DIVIDENDS AND ACCRETION ON PREFERRED SECURITIES OF SUBSIDIARY
The net proceeds from the placement of the Preferred Securities in May 1998,
after offering costs, was $106.0 million and will fully accrete to the face
value of $110.0 million on June 1, 2010. The dividend is paid quarterly in
arrears each March 1, June 1, September 1 and December 1, and commenced
September 1, 1998. Dividend expense for the three months ended June 30, 1999 and
1998 was $1.9 million and $899,000, respectively. Accretion of the Preferred
Securities for the three months ended June 30, 1999 and 1998, respectively, was
$82,000 and $39,000, respectively. Dividend expense for the six months ended
June 30, 1999 and 1998 was $3.9 million and $899,000, respectively. Accretion of
the Preferred Securities for the six months ended June 30, 1999 and 1998 was
$164,000 and $39,000, respectively.
IMPACT OF THE YEAR 2000
Many currently installed computer systems, software products and electronic
products are coded to accept only two-digit entries in the date code field.
These date code fields will need to accept four digit entries to distinguish
21st century dates from 20th century dates. As a result, during 1999 CellNet,
its suppliers and customers and its potential suppliers and customers, may need
to upgrade, repair or replace certain equipment computer systems or software to
ensure that its operations will not be adversely impacted by system failures
related to "Year 2000" noncompliance.
CellNet is in the process of conducting an internal and external review of
all of its systems and contacting all material software and other suppliers to
determine any major areas of exposure of its systems to Year 2000 issues. As a
result of the internal review to date, CellNet believes that its wireless data
networks, through which it provides network meter reading and other services to
its customers, are or will be Year 2000 compliant by January 1, 2000. As a
result of the external review to date, CellNet believes that its material
suppliers will be Year 2000 compliant by the year 2000.
To date, CellNet has spent an immaterial amount and does not expect to spend
a material amount to review and remedy Year 2000 compliance problems. Although
CellNet believes that its wireless data networks, through which it provides
network meter reading and other services to its customers, are or will be Year
2000 compliant, failure to provide Year 2000 compliant business solutions to its
customers or to receive such business solutions from its suppliers could result
in liability to CellNet or otherwise have a material adverse effect on CellNet's
business, operating results, financial condition, cash flows and its ability to
service its indebtedness. Furthermore, CellNet believes that the purchasing
patterns of customers and potential customers may be affected by Year 2000
issues as companies expend significant resources to correct or patch their
current software systems for Year 2000 compliance. These expenditures may result
in reduced funds available to purchase products and services such as those
offered by CellNet, which could result in a material adverse effect on CellNet's
business, operating results, financial condition, cash flows and its ability to
services its indebtedness. See "Risk Factors That May Affect Future Operating
Performance--Our Business Could Be Affected by Year 2000 Issues."
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LIQUIDITY AND CAPITAL RESOURCES
CellNet requires significant amounts of capital for research and development
in connection with the development of its proprietary wireless communications
network and related products and services, for investments in the installation
and testing of such networks and for related sales and marketing and general and
administrative expenses. Historically, CellNet has satisfied its liquidity
requirements primarily through external financings, including private placements
of equity and debt securities and interest income derived from the investment of
the proceeds of its financing activities.
In the six months ended June 30, 1999 and 1998, net cash used for CellNet's
operating activities totaled $40.0 million, and $28.7 million, respectively. Net
cash used for operating activities resulted primarily from cash used to fund net
operating losses.
In the six months ended June 30, 1999 and 1998, net cash provided by (used
for) CellNet's investing activities totaled $4.6 million, and $(117.7) million,
respectively. CellNet's investing activities consisted primarily of purchases of
network components and inventory, the construction and installation of networks,
purchases of property and equipment and purchases, sales and maturities of
short-term investments. In the first six months of 1999, net proceeds from the
sale and maturities of short-term investments were $42.7 million and were used
to fund operating activities. For the first six months of 1998, purchases of
short-term investments exceeded proceeds from the sale and maturities of
short-term investments by $42.3 million.
In the first six months of 1999 and 1998, net cash provided by CellNet's
financing activities totaled $39.0 million and $106.4 million, respectively.
Cash provided in 1999 resulted primarily from an additional $38.5 million in
borrowings under the Revolving Line of Credit Agreements and the Term Loan.
As of June 30, 1999, CellNet had cash, cash equivalents and short-term
investments totaling $47.0 million. As of December 31, 1998, CellNet had cash,
cash equivalents and short-term investments totaling $86.2 million. The decrease
of $39.2 million during the first six months of 1999 resulted from operating
costs and the development and construction of CellNet's wireless communications
networks, offset by proceeds from the Revolving Line of Credit Agreements and
the Term Loan of $38.5 million.
Deployments of CellNet's wireless communications networks will require
substantial additional capital. CellNet has made $46.9 million in capital
expenditures in the first six months of 1999 for saturation deployment network
installations and anticipates making an additional $52.4 million in such capital
expenditures during the remaining six months of 1999. In addition, CellNet
anticipates that it may make modest additional capital expenditures relating to
the installation of its broad deployment network in California. The exact amount
of such expenditures will depend, in part, upon the amount of network meter
reading and other services contracted for. CellNet may make additional capital
expenditures in connection with the installation of new networks, the expansion
of existing networks and/or an acceleration in anticipated network installation
schedules. In addition, funds will be required for a number of purposes
including, but not limited to, further enhancements to the system software,
firmware, hardware and other equipment to increase the speed, capacity and
functionality of the system, to enhance system productivity over time and to
expand the scope of utility and other network information services that may be
offered on the CellNet system. CellNet expects that cash used for the
construction and installation of networks and for the purchase of property and
equipment will increase substantially as and when CellNet obtains new services
agreements or enters into other arrangements for the installation of its
networks, and that CellNet will require significant amounts of additional
capital from external sources. Sources of additional capital for CellNet and its
subsidiaries may include project or conventional bank financing, including
financing provided by utilities to finance the construction of networks being
built out primarily for them, public and private offerings of debt and equity
securities and cash generated from operating activities. CellNet expects that a
substantial portion of its future financing will be at the subsidiary level on a
project basis. CellNet expects to obtain third party financing for the
construction of wireless networks, based on the projected cash flow expected to
be generated from such projects. CellNet expects that the recurring revenue
stream
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from long-term services contracts and other arrangements will support the
amortization of debt raised for the project involved, however no assurance can
be given that this will occur. CellNet expects that operating activities will
require the consumption of a substantial amount of cash resources for the next
several years.
CellNet believes that existing cash, cash equivalents, short-term
investments, anticipated interest income, other revenues and expected sources of
project financing of approximately $110.0 million will be sufficient to meet its
cash requirements through June 2000. CellNet intends to raise a substantial
amount of capital in 1999 and expects that it will continue to require
substantial amounts of additional capital in the future. The extent of
additional financing will depend on the success of CellNet's business. CellNet
expects to incur significant operating losses and to generate increasingly
negative net cash flow during the next several years while it develops and
installs its network communications systems. There can be no assurance that
additional financing will be available to CellNet or, if available, that it can
be obtained on terms acceptable to CellNet and within the limitations contained
in the Indenture or that may be contained in any additional financing
arrangements. The Indenture governing the 1997 Notes contained certain covenants
that limit CellNet's ability to incur additional indebtedness. Future financings
may be dilutive to existing stockholders. Failure to obtain such financing could
result in the delay or abandonment of some of all of CellNet's development and
expansion plans and expenditures, which could limit the ability of CellNet to
meet its debt service requirements and could have a material adverse effect on
its business and on the value of the Common Stock.
RISK FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS
WE WILL NOT EARN SIGNIFICANT REVENUES UNLESS OUR AUTOMATED METER READING SYSTEM
SERVICES ACHIEVE BROAD ACCEPTANCE IN THE UTILITY INDUSTRY.
Our ability to earn significant revenues depends upon the rate at which
utilities, new power market participants and their customers decide to use our
network meter reading and other services. The utility industry historically has
been slow and deliberate in making decisions to adopt new technology, such as
our services. Utilities can take up to several years to complete a major
decision to adopt new technology. The decision-making process of utilities can
involve multiple stages including:
- the formation of evaluation committees,
- a review of different technical options,
- technology trials,
- equipment testing and certification,
- performance and cost justifications,
- regulatory review,
- one or more requests for vendor quotes and proposals, and
- budgetary approvals and other steps.
As a result of this lengthy decision-making process, only a limited number
of utilities have purchased our services to date, and we cannot predict the
timing or extent to which participants in the utility industry will adopt our
services.
WE DERIVE A SIGNIFICANT PORTION OF OUR REVENUES FROM A LIMITED NUMBER OF
UTILITIES.
We currently derive almost all of our revenues from long-term services
contracts with a limited number of established utilities. During the six months
ended June 30, 1999, 96% of our revenues were derived from our contracts with
Kansas City Power & Light, AmerenUE, Northern States Power Company and Puget
Sound Energy, Inc. During 1998, 92% of our revenues were derived from our
contracts with Kansas City Power & Light, AmerenUE and Northern States Power
Company. Accordingly, if any of these
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or other utilities that account for a significant portion of our revenues
decides to significantly reduce the level of our services, our revenue levels
and our business would suffer.
IF WE FAIL TO DEVELOP NON-UTILITY SERVICES THAT ACHIEVE COMMERCIAL ACCEPTANCE,
OUR ABILITY TO ACHIEVE FUTURE GROWTH WILL BE SIGNIFICANTLY IMPAIRED.
We plan to generate a significant revenues in the future from non-utility
services as part of our long-term business plan. These potential non-utility
services may include home security, remote status monitoring of vending
machines, office equipment and parking meters and other equipment, as well as
remote control of traffic lights. We currently have no contracts to deploy these
non-utility services on a commercial scale. We cannot predict the extent to
which we will develop these services, in part because these services require us
to deploy our wireless networks. In addition, if developed, these services may
not achieve market acceptance. If we fail to develop these services or if these
services fail to achieve commercial acceptance, our prospects for future growth
will be significantly impaired.
WE WILL DEPEND ON THIRD PARTIES TO PENETRATE NEW MARKETS.
Our ability to penetrate new markets and gain access to new customers would
be impaired without forming relationships with leading companies. These
relationships will enable us to expand existing markets, enter new markets and
access to certain customers that we cannot otherwise reach economically by
ourselves. We are currently investing, and plan to continue to invest,
significant resources to develop these relationships. We believe that our
success in penetrating markets for utility and non-utility applications of our
network will depend in large part on our ability to develop and maintain these
relationships.
WE EXPECT TO CONTINUE TO EXPERIENCE SIGNIFICANT LOSSES FOR AT LEAST THE NEXT
SEVERAL YEARS, BECAUSE WE WILL INCUR NETWORK DEPLOYMENT COSTS IN ADVANCE OF
RECEIVING REVENUES FROM SERVICES OFFERED THROUGH THE NETWORK.
We expect to continue to incur significant operating losses for at least the
next several years, because we intend to incur significant network deployment
costs before we receive revenues from the services we offer using the network.
In the deployment of our networks, we expect to follow either:
- what we refer to as a "saturation deployment" strategy, which involves the
deployment of a network to cover all or a substantial portion of the
meters in a utility's designated service area, or
- what we refer to as a "broad deployment" strategy, in which the network
would be installed incrementally to cover service areas where the largest
consumers of energy or other utility services are located and where we
expect to be able to secure an adequate number of service contracts with
non-utility clients to justify network installation and operation.
In either case, we expect that these networks will be installed before a
sufficient number of service contracts are in hand to generate revenues adequate
enough to cover the costs of network construction and associated operating
costs. The installation of each saturation deployment network generally will
require two to four years after a services contract has been signed. Service
revenues from both types of such networks are not expected to exceed our capital
investments and expenses incurred to deploy and operate such networks for
several years.
DELAYS IN, AND INCREASED COSTS ASSOCIATED WITH, THE CONSTRUCTION OF OUR NETWORKS
MAY ADVERSELY AFFECT OUR ABILITY TO ACHIEVE PROFITABILITY OR POSITIVE CASH
FLOW.
We do not begin to receive initial recurring revenues under a services
contract until portions of the network become operational. As each portion of
the network becomes operational, we will receive revenues associated with only
the operational portion of the network. Accordingly, delays or difficulties in
the network installation process and in making a network operational will delay
our ability to earn revenue and increase deployment costs.
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In addition, we have in the past and may in the future incur costs in the
construction of our networks that exceeds our budgets. The cost of network
deployments varies based upon a wide variety of factors, including:
- radio frequency characteristics,
- the size of a service territory and density of endpoints within such
territory,
- cost of site leases,
- the nature and sophistication of services being provided,
- the spectrum acquisition costs,
- governmental approvals costs and fees, and
- local labor rates and other economic factors.
If one or more of these network construction costs exceed our budget, our
ability to achieve profitability or positive cash flow would be impaired.
OUR OPERATING RESULTS ARE DIFFICULT TO PREDICT BECAUSE THEY FLUCTUATE
SIGNIFICANTLY.
Our operating results will be difficult to predict because of significant
fluctuations due to a variety of factors, including the following factors:
- the rate at which established utilities, other utility industry
participants and utility customers enter into new services contracts;
- capital expenditures and other costs relating to the expansion of
operations;
- the introduction of new services by us or our competitors and the mix of
services sold;
- pricing changes and new service introductions by us and our competitors
and prices charged by suppliers.
- the effects of governmental regulations and regulatory changes;
- industry-specific conditions in the utility industry;
- the effect of certain pricing, service or marketing decisions; and
- the outcome of strategic relationships.
Any of these factors could have a substantial impact on our operating
results in any given quarter.
WE HAVE A SIGNIFICANT AMOUNT OF DEBT AND PREFERRED STOCK WHICH WILL REQUIRE US
TO GENERATE SUBSTANTIAL CASH FLOW IN ORDER TO SATISFY OUR OBLIGATIONS.
We have substantial outstanding indebtedness. We intend to incur substantial
additional indebtedness to finance operations and to install networks. As a
result, we will have a substantial debt balance and related debt service
obligations, including the following:
- We have $654.1 million in aggregate principal amount due at maturity of
14% Senior Discount Notes due 2007 which we issued in 1997. We will be
required to pay cash interest on the 1997 Notes commencing April 1, 2003
and repay the 1997 notes on October 1, 2007.
- In May 1998, CellNet Funding LLC, our wholly-owned finance subsidiary,
completed its offering of preferred securities, which will fully accrete
to a face value of $110.0 million on June 1, 2010. The preferred
securities bear a cumulative dividend at the rate of 7% per annum. Funding
is required to pay quarterly dividends in cash on the preferred securities
through June 1, 2001, and thereafter, in cash or shares of our common
stock, at the option of Funding. The preferred securities are subject to
mandatory redemption on June 1, 2010 at a redemption price of 100% of the
liquidation
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preference of the Preferred Securities, plus accrued and unpaid dividends,
if any. We have provided the holders of the preferred securities certain
guarantees of payment of dividends, distributions, and redemptions.
- In November 1998, two of our wholly-owned subsidiaries each entered into
the revolving credit agreements with a group of banks, which provide for
borrowings of $60.0 million and $15.0 million, respectively, through
December 31, 2007, at which time the revolving credit agreements expire.
Borrowings are secured by the wholly-owned subsidiaries' assets, contracts
and leases. Borrowings bear interest at the wholly-owned subsidiaries'
option at various rates based on the lead bank's prime rate, or margins
above the federal funds rate or LIBOR. At June 30, 1999, the wholly-owned
subsidiaries had outstanding advances totaling $49.4 million.
- One of our wholly-owned subsidiaries entered into a term loan agreement
with one of its customers, which provides for borrowings of up to $40.0
million. Borrowings bear interest at 6.5% per annum and are secured by the
subsidiary's assets, contracts and leases. The Term Loan provides for
monthly drawdowns. Interest on the drawdowns is payable quarterly. The
drawdowns are payable on June 30, 2004. At June 30, 1999, the wholly-owned
subsidiary had outstanding drawdowns of $20.5 million.
Our ability to meet our debt service requirements will depend upon achieving
significant and sustained growth in our cash flow. Our ability to generate such
cash flow is subject to a number of risks and contingencies, including:
- we may not obtain a sufficient number of new services contracts on terms
favorable to us;
- network installations may not be completed on a timely basis;
- revenues may not be generated quickly enough to meet our operating costs
and debt service obligations;
- the operating and/or capital costs associated with the installation and
maintenance of our networks could be higher than projected;
- our wireless systems could experience performance problems;
- the adoption of our services could be less widespread than anticipated;
- a negative financial and business climate; and
- factors beyond our control.
As a result, our operations may not generate cash flow sufficient to meet
our debt service obligations. If that happens, we will have to take actions
which could adversely affect our business, such as to reduce or delay planned
capital expenditures, sell assets, restructure or refinance our indebtedness or
seek additional equity capital, which we may be unable to do. In particular,
there is a risk that we would be unable, if needed, to refinance the 1997 notes
prior to the date cash interest payments become due and payable on the 1997
notes or at their maturity date. Such inability to refinance the 1997 notes
could result in cross-defaults under other indebtedness, our preferred stock and
Funding's preferred securities. If this happens, the holders of such
indebtedness would have certain enforcement rights, including the right to
accelerate such debt and the right to commence an involuntary bankruptcy
proceeding against us.
WE WILL REQUIRE A SUBSTANTIAL AMOUNT OF CAPITAL IN THE FUTURE TO FINANCE OUR
NETWORKS AND OUR OPERATIONS.
We will require substantial additional funds for the development, commercial
deployment and expansion of our networks, and for funding operating losses. As
of June 30, 1999, we had $47.0 million in cash, cash equivalents and short-term
investments. We intend to raise a substantial amount of additional capital in
1999 and expect that we will continue to require substantial amounts of
additional capital in the future. Depending upon the number and timing of any
new services agreements and upon the associated
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network deployment costs and schedules, we may require additional equity or debt
financing earlier than estimated in order to fund our working capital and other
requirements. Additional financing may not be available when required or, if
available, it may not be on terms satisfactory to us. If we issue equity
securities, the ownership percentage of our stockholders would be reduced, and
the new equity securities may have rights, preferences or privileges senior to
those of existing holders of our common stock.
If we are unable to obtain funds necessary to meet required payments on our
indebtedness, we could be in default under the terms of the agreements governing
our indebtedness. If this happens, the holders of such indebtedness would have
certain enforcement rights, including the right to accelerate such debt and the
right to commence an involuntary bankruptcy proceeding against us.
WE EXPECT THAT SUBSTANTIAL AND INCREASING COMPETITION WILL MAKE IT MORE
DIFFICULT TO SIGN NETWORK SERVICES CONTRACTS FOR UTILITY AND NON-UTILITY
APPLICATIONS.
Electronics, communications and utility product companies are beginning to
develop various wireless network meter reading systems as a result of the
deregulation of the electric utility industry and the potential market for other
applications once a common infrastructure is in place. A number of these systems
currently compete, and others may in the future compete, with our system.
Deregulation will likely cause competition to increase. We believe that at this
time our most significant direct competitor in the marketplace is Itron, an
established manufacturer and seller of hand-held and drive-by automated meter
reading equipment for utilities. Itron is currently providing to customers its
Genesis-TM- system, a wireless radio network marketed as similar to ours for
meter reading purposes.
There are other potential alternative solutions to our network meter reading
services including traditional wireless solutions. For example:
- Mtel has announced that it intends to adapt its technology to carry data
from local area networks operated by third parties who would offer
residential services similar to network meter reading some time in 1999,
with the development of endpoint radios and network management
capabilities being left to other independent companies.
- Whisper Communications has been offering its True 2 Way?-TM- fixed-based
radio frequency architecture communications technology for automated meter
reading and other services and has several trials and one deployment
underway.
- Metricom, a provider primarily of subscriber-based, wireless data
communications for users of portable and desktop computers, has been
involved in the automated meter reading market through trials with Whisper
Communications.
- Schlumberger is working with a number of companies including us, to
conduct pilot trials of utility network automation systems.
- Other wireless communications providers who have entered the market for
utility and commercial data services include cellular control channel
companies such as Cellemetry and Aeris Communications. These companies
offer low bandwidth services that compete with some of our metering
applications.
- Several companies are offering telephone-based network automated meter
reading services or equipment. Among these are Teldata, Inc. and American
Innovations. Bell South Wireless (formerly, Ram Mobile Data) offers data
services that may compete with a variety of our data services. Established
suppliers of equipment, services and technology to the utility industry,
such as Asea Brown Boveri and General Electric, could expand their current
product and service offerings so as to compete directly with us although
they have not yet done so. Communications or technology companies may also
seek to adapt new or existing technology to serve this market.
Many of our present and potential future competitors have substantially
greater financial, marketing, technical and manufacturing resources, name
recognition and experience than us. As a result, our
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competitors may be able to respond more quickly to new or emerging technologies
and changes in customer requirements or to devote greater resources to the
development, promotion and sale of their products and services than us. In
addition, current and potential competitors may make strategic acquisitions or
establish cooperative relationships among themselves or with third parties that
increase their ability to address the needs of our prospective customers.
Accordingly, it is possible that new competitors or alliances among current and
new competitors may emerge and rapidly gain significant market share. We may be
unable to compete successfully against current and future competitors, and any
failure to do so would harm our business.
NEW TECHNOLOGIES MAY RENDER OUR SERVICES OBSOLETE IF WE FAIL TO CONTINUE TO
ENHANCE OUR TECHNOLOGIES.
Market acceptance of our services will depend, in part, on our ability to
develop new technology and enhance our existing hardware, software and wireless
communications technology. Significant technological advances occur rapidly and
frequently in the telecommunications industry. For example, the advent of
computer-linked electronic networks, fiber optic transmission, advanced data
digitization technology, cellular and satellite communications capabilities,
specialized mobile radio services and PCS and other commercial mobile radio
services have radically expanded communications capabilities and market
opportunities. Future advances may render our technology obsolete or less cost
effective than competitive systems or erode our market position. If this
happens, our ability to gain new customers and achieve revenue growth would be
adversely affected.
THE DELIVERY OF OUR SERVICES DEPENDS ON OUR ACCESS TO RADIO FREQUENCY SPECTRUM,
WHICH IS COSTLY AND SUBJECT TO REGULATION BY THE FCC.
Our network equipment uses radio spectrum for the transmission of data over
a radio frequency. As such, it is subject to regulation by the FCC. We currently
utilize the 928/952 MHz frequencies allocated for use for Multiple Address
Systems ("MAS"), and the 902-928 MHz allocated for use on an "unlicensed"
frequencies. Both bands are used for our internal transmission and processing of
data from meters to our centralized computer systems. We provide meter reading
and other information services to our customers utilizing the data collected
over these wireless networks.
MAS frequencies are licensed by the FCC on an exclusive basis, and we have
acquired licenses to operate on these frequencies in several of the largest
metropolitan statistical areas of the country. However, MAS spectrum may not
have been acquired or may not be available in every area in which we have
prospective customers.
In addition, on July 1, 1999, the Federal Communications Commission imposed
an indefinite "freeze" on the licensing of any new MAS frequencies, which, until
lifted or waived, prevents us from acquiring any new spectrum at this time. This
freeze could impact our ability to expand existing systems or to implement
systems for prospective customers. While we are seeking relief from this freeze
as appropriate to avoid these consequences, we cannot be sure that such relief
will be granted. Furthermore, the Commission has re-initiated a proceeding which
may significantly alter the procedures for obtaining new licenses for MAS
spectrum, and there is a possibility that we may no longer be eligible for all
of the available MAS frequencies, or that we may have to obtain future MAS
spectrum in FCC-implemented auctions. We may also be required to incur
substantial expense either to obtain licenses in the MAS frequencies we
currently use or to develop technologies capable of operating in alternative
frequencies.
We do not require any license to operate equipment in the unlicensed
spectrum, although with limited exceptions, the equipment must be certified by
the Commission prior to marketing and operation. While we believe that we have
obtained all required certifications, the FCC could modify its requirements for
such equipment.
Moreover, the FCC's rules governing the use of the 902-928 MHz band
accommodate both licensed services and unlicensed services, with varying levels
of interference protection. The Commission recently completed a nationwide
auction of licenses to use the 902-928 MHz band for the Location and Monitoring
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Service ("LMS"). While the rules are intended to protect us from LMS operations
so long as we operate our equipment within certain technical parameters (which
we currently satisfy), the authorization of additional LMS licenses could
adversely impact our operations in any given location.
CHANGES IN FCC REGULATION COULD LIMIT THE FUTURE AVAILABILITY OF RADIO FREQUENCY
SPECTRUM AND REQUIRE US TO OBTAIN LICENSES, WHICH COULD BE COSTLY.
In March 1999, the Commission published for public comment a NOTICE OF
PROPOSED RULE MAKING in WT Docket No. 99-87, proposing revised rules for the
licensing of private services generally, including MAS, as a result of the
changed auction authority. In July 1999, the FCC also published for public
comment a FURTHER NOTICE OF PROPOSED RULE MAKING in WT Docket No. 97-81
regarding the future licensing of MAS spectrum. This FURTHER NOTICE follows an
earlier NOTICE OF PROPOSED RULE MAKING, released in February 1997. Both of these
proceedings were initiated in response to recent Congressional changes expanding
the Commission's authority to issue licenses by auction. Under this new
authority, all mutually exclusive applications for spectrum, including spectrum
used for common carrier and private services, are subject to assignment by
auction, except for spectrum used for "public safety radio services." Congress
broadly defined "public safety radio services" to include private internal radio
services that are used to protect the safety of life, health, or property, and
that are not made commercially available to the public.
Both the NOTICE in Docket 99-87 and the FURTHER NOTICE in Docket 97-81 seek
comment on a number of issues, including (of significance to the Company)
whether the 928/952 MHz MAS band should be allocated by auction; whether this
band should be designated all or in part for "public safety radio services" and
thus exempt from auction; how the Commission should determine who qualifies
under the "public safety radio services" exemption; and whether a system of
geographic area based licensing should replace the current site-by-site process
for future licensing of the MAS spectrum. We intend to address the issues raised
in these proceedings by submitting comments to the FCC. Depending on what
spectrum the FCC chooses to allocate to the public safety services and whether
we can qualify under the Commission's definition of a "public safety radio
services" exemption, it is possible that we may no longer be eligible for
licensing in all or part of the 928/952 MHz band, or that we may have to obtain
such spectrum by participating with other entities in an FCC-implemented
auction.
We cannot at this time predict the outcome of either proceeding, or how the
final resolution of the proposals in either proceeding will impact the future
availability or cost of licenses we need. Given this uncertainty, it is possible
that our use of MAS channels would be restricted, thereby requiring us to obtain
any future channels in the 928/952 MHz band or in any other MAS band only
through auction. Although we believe that additional MAS frequencies will be
generally available to us as required, the cost associated with acquiring such
spectrum as well as our operating costs could increase, perhaps substantially.
Further, we could experience substantial delays in adapting our networks if new
rules were adopted.
WE ARE DEVELOPING BUSINESS OUTSIDE OF THE UNITED STATES WHICH EXPOSES US TO
INHERENT RISKS OF INTERNATIONAL BUSINESS.
We have incurred, and will likely continue to incur, significant and
increasing expenses in establishing international operations. If revenues
generated by international activities or proceeds from financings are not
adequate to offset the expense of establishing and maintaining these
international activities, our business will suffer.
We offer our network meter reading services in international markets through
BCN, our international joint venture with Bechtel Enterprises, Inc. We do not
expect to generate material revenues from BCN's operations during 1999.
International demand for CellNet's or BCN's services and systems may not
materialize, and where present, is likely to vary by country, based on many
factors including:
- the degree of regulation in a given country;
- competitive factors;
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- demand for services;
- labor costs;
- the availability of spectrum and the costs of spectrum acquisition; and
- political and economic conditions.
We may also need additional partners in particular countries to continue our
strategy of pursuing international markets through BCN. BCN anticipates having a
majority interest and control over the Board of Directors of entities through
which business is carried out in foreign countries. In the event that this does
not occur, BCN may not have control over the operations and assets of such
entities. In any business venture in which CellNet or BCN decides to
participate, there is a risk that the other venture partner may at any time have
economic, business or legal interests or goals that are inconsistent with those
of CellNet or BCN. It is also possible that a partner will not impose the same
or similar accounting and financial controls as CellNet or BCN. In addition, an
international partner may be unable to meet its economic or other obligations
and CellNet or BCN may be required to fulfill those obligations. Furthermore,
the entity's structure or the laws of a foreign country may limit or
substantially tax the amount of funds that can be transferred to CellNet or BCN.
In addition, differing standards among utilities on a country-by-country
basis, among other factors, may hinder our ability to develop and implement
localized versions of our network meter reading system without significant
effort and cost. We have extremely limited experience in developing a localized
version of its wireless data communications system for foreign markets to date.
We believe BCN's ability to establish business alliances in each international
market will be critical to its success. If BCN is unsuccessful in developing,
marketing and implementing its system in international markets or in
establishing successful business alliances for these markets, BCN's future
international operations will suffer and, consequently, so too will our
business.
In addition, there are certain risks inherent in doing business
internationally, any of which could harm BCN's potential international
operations, including:
- changes in regulatory requirements, import/export restrictions, tariffs
and non-tariff trade barriers;
- the ability to obtain financing to construct and operate networks;
- difficulties in staffing and managing foreign operations;
- longer payment cycles and problems in collecting accounts receivable;
- fluctuations in currency exchange rates;
- potentially adverse tax consequences.
THE RAPID EXPANSION OF OUR BUSINESS HAS PLACED A STRAIN ON OUR MANAGEMENT,
PERSONNEL AND OTHER RESOURCES.
We cannot successfully implement our business model if we fail to mange our
growth. We have rapidly and significantly expanded our operations domestically
and internationally and expect further expansion to take advantage of market
opportunities. Our recent growth has placed, and is expected to continue to
place, a significant strain on our managerial, operational and financial
resources. We must implement and improve our operational and financial systems
and expand or manage our employee base to manage growth effectively. In
addition, our systems, procedures or controls may be inadequate to support our
operations, in which case management may be unable to exploit opportunities for
our services.
WE DEPEND ON KEY PERSONNEL WHO MAY LEAVE US AT ANY TIME.
Our success substantially depends on the continued employment of our
executive officers and key employees. The loss of the services of any of our
executive officers or key employees could disrupt our day-
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to-day operations, result in delays in network construction, or losses of
customers, and otherwise harm our business. Substantially all of our employees
and officers are employed on an at-will basis. Presently, we do not maintain a
"key man" life insurance policy on any of our executives or employees.
OUR FAILURE TO ATTRACT, TRAIN OR RETAIN HIGHLY QUALIFIED PERSONNEL COULD HARM
OUR BUSINESS.
Our future success also depends on our continuing ability to identify, hire,
train and retain other highly qualified technical and managerial personnel, the
failure of which could harm our business. Competition for such personnel is
intense, particularly in high-technology centers such as northern California. In
making employment decisions, particularly in high-technology industries,
existing employees and job candidates often consider the value of stock options
they may receive in connection with their employment. As a result of recent
volatility in our stock price, we may be disadvantaged in competing with
companies that have not experienced similar volatility or that have yet to sell
their stock publicly. If we are unable to attract and retain the necessary
technical and managerial personnel, our business will suffer.
DESPITE OUR EFFORTS TO PROTECT OUR INTELLECTUAL PROPERTY, THIRD PARTIES MAY GAIN
ACCESS TO OUR PROPRIETARY TECHNOLOGY OR DEVELOP SUPERIOR TECHNOLOGY AND USE IT
TO COMPETE EFFECTIVELY AGAINST US.
Our inability to protect our proprietary rights, and the costs of doing so,
could harm our business. We rely on a combination of trade secret protection,
copyright, patent, trademark and confidentiality agreements and licensing
arrangements to establish and protect our proprietary rights. While we have
obtained and applied for patents, and intends to file other applications for
patents covering our products and processes, additional patents may not be
issued or, if issued, may not provide adequate protection of our proprietary
rights. Our success will depend in part on our ability to maintain copyright and
patent protection for our products, to preserve our trade secrets and to operate
without infringing the proprietary rights of third parties. In addition, any
patents issued to us or licensed by us may be challenged, invalidated or
circumvented, and the patent rights may not adequately protect our intellectual
property rights.
Since United States patent applications are maintained in secrecy until
patents are issued, and since publication of inventions in the technical or
patent literature tend to lag behind such inventions by several months, we
cannot be certain that we were the first creator of inventions covered by our
issued patents or pending patent applications. We also cannot be certain that we
were the first to file these patent applications or that no patent conflict will
exist with other products or processes which could compete with our products or
approach. Despite our efforts, we may not be able to safeguard and maintain
these proprietary rights. Our competitors may independently develop and patent
technologies that are substantially equivalent or superior to ours. Participants
in the wireless industry, including our competitors, typically seek to obtain
patents which will provide as broad a protection as possible for their products
and processes. There is a substantial backlog of patents pending at the United
States Patent and Trademark Office. The issuance of third-party patents could
require us to alter our products or processes, obtain licenses or cease certain
activities. An adverse outcome with regard to a third-party patent infringement
claim could subject us to significant liabilities, require disputed rights to be
licensed or restrict our ability to use such technology. We also rely to a
substantial degree upon unpatented trade secrets. Our competitors may
independently develop or otherwise acquire substantially equivalent trade
secrets.
THIRD-PARTY CLAIMS REGARDING INTELLECTUAL PROPERTY COULD LIMIT OUR ABILITY TO
PROVIDE NETWORK SERVICES OR REQUIRE US TO OBTAIN LICENSES WHICH COULD BE
COSTLY.
Whether or not we obtain additional patents, others may receive patents that
contain claims applicable to products or processes developed by us. If any such
claims were to be upheld, we would require licenses. These licenses may not be
available on acceptable terms, if at all. In addition, we could incur
substantial costs in defending against suits brought against us by others for
infringement of intellectual property rights or in prosecuting suits that we
might bring against other parties to protect our intellectual property rights.
From time to time we receive inquiries with respect to the coverage of our
intellectual property rights, and inquiries could develop into litigation.
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In October 1996, Itron, one of our competitors, filed a complaint against us
in the Federal District Court in Minnesota, alleging that we infringed an Itron
patent which was issued in September 1996. Itron sought a judgment for damages,
attorneys' fees and injunctive relief. On January 28, 1999, the Court ruled in
favor of us that, as a matter of law, our system did not infringe the Itron
patent. The Court also ruled in favor of Itron that the Itron patent was valid
against certain prior art. Itron has filed a notice to appeal the Court's
ruling. Consequently, we filed a notice of cross-appeal. We believe that the
ultimate outcome of the lawsuit is not expected to have a material adverse
effect on our operating results, financial condition and cash flows.
In April 1997, we filed a patent infringement suit against Itron in the
Federal District Court for the Northern District of California, claiming that
Itron's use of its electric meter reading Encoder Receiver Transmitter
(ERT-Registered Trademark-) device infringes our U.S. Patent No. 4,783,623. We
sought an injunction, damages and other relief. On November 2, 1998, the Court
ruled that Itron's patent does not infringe upon CellNet's Patent No. 4,783,623.
We recently filed our appeal in this action.
WE ARE DEPENDENT ON THIRD-PARTY MANUFACTURERS WHO MAY BE UNABLE TO MEET OUR
NEEDS ON A TIMELY OR A COST-EFFECTIVE BASIS.
We rely and will continue to rely on outside parties to manufacture most of
our network equipment such as radio devices and printed circuit boards, who may
not be able to meet our manufacturing needs in a satisfactory and timely manner.
As we sign additional services contracts, third party manufacturers must
significantly ramp-up the amount of manufacturing to be undertaken for us in
order to enable us to meet our contractual commitments. In addition, we may be
unable to obtain additional manufacturers when and if needed. If we are unable
to develop alternative suppliers quickly or cost-effectively, our ability to
manufacture and install systems could be impaired, which would harm our
business.
Our reliance on third-party manufacturers involves a number of additional
risks, including the absence of guaranteed capacity and reduced control over
delivery schedules, quality assurance, production yields and costs. The quality,
amount and timing of resources to be devoted to these activities are not within
our control, and manufacturing problems may occur in the future. A significant
price increase, a quality control problem, an interruption in supply from one or
more of such manufacturers or the inability to obtain additional manufacturers
when and if needed could harm our business.
WE ARE EXPOSED TO THE RISK OF USING THIRD PARTY COMPONENTS AND PRODUCTS THAT MAY
HINDER OUR ABILITY TO MEET CUSTOMER DEMAND.
We purchase certain subassemblies, components and network equipment from
single sources or from a limited number of sources. We may be affected by
general shortages of certain components, such as surface mounted integrated
circuits and memory chips. There have been shortages of such materials generally
in the marketplace from time to time in the past. Our reliance on such
components and on a limited number of vendors and subcontractors involves
certain risks, including the possibility of shortages and reduced control over
delivery schedules, manufacturing capability, quality and cost. Some components
relied upon may have an excessive failure rate or inferior capabilities. A
significant price increase or interruption in supply from one or more of such
suppliers could harm our business. Although we believe alternative suppliers of
subassemblies, components and network equipment are available, our inability to
develop alternative sources quickly or cost-effectively could materially impair
our ability to manufacture, install and maintain systems. Lead times can be as
long as a year for certain components, which may require us to use working
capital to purchase inventory significantly in advance of receiving any
revenues.
We also need a significant number of new electric meter products to initiate
meter retrofit and replacement in connection with each network deployment and to
replace existing meters in the field that are found to be obsolete, worn out or
otherwise unsuitable for retrofit and redeployment. Any sudden or material
increase in the number of deployments would result in an increase in the number
of new electric meters ordered by electric utilities and other utility industry
participants. To the extent that electric meter
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manufacturers are unable or unwilling to increase production in line with such
increase in demand, temporarily or over a longer term, deployments may be
delayed or postponed, resulting in delayed or postponed revenues from such
deployments. Similar situations could also arise in connection with network
deployments for gas and water meters.
SYSTEM FAILURES, DELAYS AND INADEQUACIES COULD SIGNIFICANTLY HARM OUR BUSINESS.
The performance, reliability and availability of our wireless data networks
are critical to our reputation and ability to attract and retain customers and
earn revenues from network meter reading services as well as non-utility
applications. These wireless data networks are vulnerable to damage or
interruption from fire, flood, earthquakes, storms and other similar events. Any
system failure that causes interruption in the availability of network services,
whether caused by an act of God or not, could result in a loss of revenue and,
if sustained or repeated, could reduce the attractiveness of our services for
future utilities or other customers. The occurrence of any of the foregoing
could harm our business.
WE COULD LOSE A SUBSTANTIAL PORTION OF OUR FUTURE REVENUES BECAUSE OUR SERVICES
CONTRACTS CAN BE TERMINATED
We expect that a substantial portion of our future revenues will come from
services contracts of various kinds. These contracts can generally be cancelled
or terminated in certain circumstances or in the event we materially fail to
meet the agreed network meter reading and other performance standards on a
consistent basis. Our existing utility services contracts can be terminated by
the respective utility without cause in less than ten years. In many instances,
these contracts also provide that we will be required to compensate the
utilities for the use of its system for non-utility applications. Future
services contracts with utilities may contain similar provisions. Contracts with
new power market participants generally can be terminated without cause on
thirty days prior written notice except to the extent they have already ordered
services under the contract. In the event that a services contract is
terminated, we may incur substantial losses. In addition, our contracts with
other utility market participants will generally have shorter terms than our
existing utility contracts.
Our current contracts with new power market participants generally have
terms of one to five years, compared to terms of ten to twenty years generally
with utilities. Since a network's service revenues are not expected to exceed
our capital investments to deploy such network for several years, the
termination or cancellation of one or more significant services contracts would
harm our business.
OUR BUSINESS COULD BE AFFECTED BY YEAR 2000 ISSUES.
Many currently installed computer systems, software products and electronic
products are coded to accept only two-digit entries in the date code field.
These date code fields will need to accept four digit entries to distinguish
21st century dates from 20th century dates. As a result, during 1999 CellNet,
our suppliers and customers and our potential suppliers and customers, may need
to upgrade, repair or replace certain equipment computer systems or software to
ensure that our operations will not be adversely impacted by system failures
related to "Year 2000" noncompliance.
We are in the process of conducting an internal and external review of all
of our systems and contacting all material software and other suppliers to
determine any major areas of exposure of our systems to Year 2000 issues. As a
result of the internal review to date, we believe that our wireless data
networks, through which we provide network meter reading and other services to
our customers, are Year 2000 compliant. We believe that our material suppliers
will be Year 2000 compliant by the year 2000 given our external review to date.
To date, we have spent an immaterial amount and do not expect to spend a
material amount to review and remedy Year 2000 compliance problems. Although we
believe that our wireless data networks, through which we provide network meter
reading and other services to our customers, are Year 2000 compliant, failure to
provide Year 2000 compliant business solutions to our customers or to receive
such business
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solutions from our suppliers could result in liability to us or otherwise harm
our business. Furthermore, we believe that the purchasing patterns of customers
and potential customers may be affected by Year 2000 issues as companies expend
significant resources to correct or patch their current software systems for
Year 2000 compliance. These expenditures may result in reduced funds available
to purchase products and services such as those offered by us, which could harm
our business.
WE ARE BOUND BY OUR SHAREHOLDERS' AGREEMENT WHICH PROVIDES CERTAIN STOCKHOLDERS
GREATER INFLUENCE OVER MANAGEMENT.
Under the terms of a shareholders' agreement among us and certain
stockholders, so long as certain parties to the agreement continue to hold at
least 700,000 shares of common stock (as adjusted for stock splits,
consolidations or other similar events), we are obligated to nominate for
election representatives of certain stockholders as directors any time a vote
for directors is taken. The shareholders' agreement gives certain stockholders
greater influence over our management and to provide certain stockholders with,
among other things, certain registration, first refusal, co-sale and other
rights. Other investors in us do not have these rights and would therefore be
disadvantaged as a result of this agreement.
WE COULD BE SUBJECT TO SECURITIES ACTIONS AND OTHER LITIGATION, WHICH IF IT
OCCURS, WILL DISTRACT MANAGEMENT, RESULT IN SUBSTANTIAL COSTS AND HARM OUR
BUSINESS.
In the past, securities class action litigation has often been filed against
companies for various reasons, including after periods of volatility in the
market price of their securities. We have been and may be the target of similar
litigation in the future. Securities litigation could result in substantial
costs and divert management's attention and resources, which could cause serious
harm to our business.
The consolidated complaint of JERE SETTLE AND KAREN ZULLY V. JOHN M. SEIDL,
ET AL., No. 398464, filed in the Superior Court of California for the County of
San Mateo was a purported class action on behalf of CellNet's stockholders
against CellNet, certain of its officers and directors and underwriters of
CellNet's initial public offering seeking unspecified damages and rescission for
alleged liability under various provisions of the federal securities law and
California state law. The plaintiffs alleged generally that the Prospectus and
Registration Statement dated September 26, 1996, pursuant to which CellNet
issued 5,000,000 shares of common stock to the public, contained materially
misleading statements and omissions in that CellNet was obligated to disclose,
but failed to disclose, that a patent conflict with Itron, Inc. was likely to
ensue. The complaint was dismissed on February 9, 1998, without leave to amend.
Plaintiffs filed an appeal in the California Court of Appeal. By subsequent
agreement among the parties, this action has been dismissed with prejudice and
without any payment by CellNet to plaintiffs or their counsel. This brings this
litigation to a close.
OUR STOCK PRICE HAS BEEN AND MAY CONTINUE TO BE VOLATILE WHICH COULD RESULT IN
SUBSTANTIAL LOSSES FOR INDIVIDUAL INVESTORS.
The trading price of our common stock has been highly volatile since our
initial public offering and an active market for our stock may not be sustained.
Our stock price is likely to continue to be subject to wide fluctuations in
response to a variety of factors, including:
- quarterly variations in operating results;
- signing new services contracts or securing new customers;
- consolidations in the industry;
- technological innovations or the introduction of new products by us or our
competitors;
- developments in patents or other intellectual property rights;
- industry-specific conditions in the network meter reading services
industry and other industries in which our services are provided; and
28
<PAGE>
- comments or recommendations issued by analysts who follow us and our
competitors.
In addition, in some future period our operating results could be below the
expectations of public market analysts and investors. In such event, the price
of our common stock could fall substantially. Additionally, the stock market in
general, and the market for technology stocks in particular, have recently
experienced extreme price and volume fluctuations that are not related to the
operating performance of particular companies. These broad market fluctuations
could have a significant impact on the market price of our securities.
FUTURE SALES OF OUR STOCK MAY DEPRESS OUR STOCK PRICE.
A substantial portion of our common stock is presently eligible for
immediate sale in the public market subject, in the case of certain shares, to
the limitations of Rules 144, 144(k) or 701 under the Securities Act. In
addition, the holders of a significant number of such shares of common stock are
entitled to certain registration rights with respect to such shares and the
number of shares sold in the public market could increase substantially upon
exercise of such registration rights. If our stockholders sell substantial
amounts of our common stock in the public market, the market price of our common
stock could substantially decline.
THE PREFERRED SECURITIES OF OUR SUBSIDIARY EXPOSES US TO PAYMENT OBLIGATIONS.
In May 1998, Funding completed an offering of Preferred Securities which
will fully accrete to a face value of $110.0 million on June 1, 2010. We have
guaranteed Funding's payment obligations on those preferred securities including
dividends, distributions and redemption. In the event CellNet Funding is unable
pay them, we will be subject to significant obligations that could harm our
business.
The Preferred Securities bear a cumulative dividend at the rate of 7% per
annum. Funding has purchased Treasury Strips sufficient in amount to pay cash
dividends on the Preferred Securities through June 1, 2001 and has deposited the
Treasury Strips in escrow with the escrow agent for the benefit of the holders
of the Preferred Securities. Funding is required to pay quarterly dividends in
cash on the Preferred Securities through June 1, 2001, and thereafter, in cash
or shares of our common stock, at the option of Funding. The first four dividend
payments were made on September 1, 1998 in the amount of $2.2 million, and on
each of December 1, 1998, March 1, 1999 and June 1, 1999 in the amount of $1.9
million. The Preferred Securities are subject to mandatory redemption on June 1,
2010 at a redemption price of 100% of the liquidation preference of the
Preferred Securities, plus accrued and unpaid dividends, if any. The Preferred
Securities involve a high degree of risk, and accordingly, reference must be
made to the Risk Factors and other cautionary statements set forth in the
Registration Statement on Form S-3 in respect of the Preferred Securities and in
Funding's Reports on Form 10-K, Form 10-Q and other filings by Funding with the
Securities and Exchange Commission.
OUR ANTI-TAKEOVER DEFENSES COULD DISCOURAGE AN ACQUISITION THAT A STOCKHOLDER
MAY CONSIDER FAVORABLE.
We have adopted certain anti-takeover measures that may discourage, delay or
prevent a merger or acquisition that a stockholder may consider favorable. On
November 24, 1998, our board of directors adopted a stockholder rights plan and
declared a dividend of one preferred share purchase right for each outstanding
share of common stock. The rights plan was adopted to protect our stockholders
in the event of an unsolicited attempt to acquire us on terms that the board
deems are not in the stockholders' best interests. The rights plan does not
prevent an acquisition, impact our ability to negotiate a transaction on
mutually agreeable terms, or limit our flexibility in responding to offers.
Nevertheless, the rights plan could be utilized, under certain circumstances, as
a method of discouraging, delaying or preventing a change of control even if the
change of control were at a premium price or favored by a majority of the
stockholders.
We are also authorized to issue additional shares of undesignated preferred
stock. The board of directors has the authority, without further action by the
stockholders, to issue such stock in one or more series, to fix the rights,
preferences, privileges and restrictions thereof. The issuance of such stock may
also
29
<PAGE>
have the effect of delaying, deferring or preventing a change in control of us,
may discourage bids for our common stock at a premium over its market price and
may harm the market price of and the voting and other rights of the holders of
common stock.
In addition, we are, and will continue to be, subject to the anti-takeover
provisions of the Delaware General Corporation Law, which could have the effect
of delaying or preventing a change of control of us. Furthermore, upon a change
of control, the holders of our outstanding senior discount notes due 2007 are
entitled, at their option, to be repaid in cash. These provisions may delay or
prevent changes in control or management of us. All of these factors could harm
the price of our common stock and the Funding's preferred securities.
WE HAVE MADE FORWARD-LOOKING STATEMENTS THAT ARE ESTIMATES OR PREDICTIONS THAT
CANNOT BE RELIED UPON.
This prospectus contains forward-looking statements that are based on
current expectations that cannot be relied upon and are subject to substantial
risks and uncertainties. You can identify these forward-looking statements by
words such as "anticipates," "expects," "intends," "plans," "believes," "seeks,"
"estimates" and similar words. Examples of such forward-looking statements
include:
- the rate at which participants in the utility industry adopt our services;
- our plan to generate revenues from non-utility services;
- our plan to invest resources to develop third party relationships to
penetrate new markets;
- predictions as to our network deployment strategies;
- our ability to generate sufficient cash flow to make our debt service
obligations; and
- our ability to obtain debt or equity financing as needed.
Our actual results could differ significantly from those anticipated in the
forward-looking statements as a result of a number of factors, including that
are outside of our control. The risk factors listed in this section provide
examples of risks, and specific uncertainties and events that may cause our
actual results to differ materially from the forward looking statements.
30
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
SHORT-TERM INVESTMENTS AND RESTRICTED CASH
CellNet maintains a short-term investment portfolio primarily consisting of
corporate debt securities with maturities less than one year and auction rate
preferred stock with maturities greater than ten years. These available-for-sale
securities are subject to interest rate risk and will rise and fall in value if
the market interest rate changes.
CellNet's restricted cash balances are invested in fixed income Treasury
Securities having staggered maturities matching dividend payment dates of the
Redeemable Preferred Securities. Accordingly, changes in market interest rates
have no effect on CellNet's operating results, financial condition and cash
flows.
As of June 30, 1999, the following table provides information about
CellNet's investment portfolio and restricted cash, and presents principal cash
flows and related weighted average interest rates by expected maturity dates (in
thousands).
<TABLE>
<CAPTION>
YEAR OF MATURITY TOTAL DUE
--------------------------------------------------------- AT FAIR
1999 2000 2001 2002 2003 THEREAFTER MATURITY VALUE
--------- --------- --------- ----- ----- ----------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Cash and Cash Equivalents..... $ 39,123 -- -- -- -- -- $39,123 $39,052
Average Interest Rate....... 5.1% -- -- -- -- --
Corporate Debt Securities..... $ 2,046 -- -- -- -- -- $2,046 $2,046
Average Interest Rate....... 5.8% -- -- -- -- --
Auction-rate Preferred
Stock....................... -- -- -- -- -- $5,950 $5,950 $5,950
Average Interest Rate....... -- -- -- -- -- 4.9 %
Restricted Cash--Fixed Rate... $ 3,858 $ 7,700 $ 3,850 -- -- -- $15,408 $14,623
Interest Rate............... 5.6% 5.6% 5.6% -- -- --
</TABLE>
SENIOR NOTES, REVOLVING CREDIT AGREEMENTS AND MANDATORILY REDEEMABLE PREFERRED
SECURITIES
CellNet uses senior notes, revolving credit agreements and mandatorily
redeemable preferred securities to finance its operations. These financial
instruments, to the extent they provide for variable rates of interest expose
CellNet to interest rate risk, with the primary interest rate risk exposure
resulting from changes in LIBOR or the prime rate which are used to determine
the interest rates that are applicable to borrowings under revolving credit
agreements with two wholly-owned subsidiaries of CellNet. The revolving credit
agreements require the subsidiaries to partially hedge the interest rate
exposure using off-balance sheet derivative financial instruments. CellNet uses
off-balance sheet derivative financial instruments, including interest rate
swaps, to partially hedge interest rate exposure associated with on-balance
sheet financial instruments. All of CellNet's derivative financial instrument
transactions are entered into for non-trading purposes. The terms and
characteristics of the derivative financial instruments are matched with the
existing on-balance sheet instruments and do not constitute speculative or
leveraged positions independent of these exposures.
The information below summarizes CellNet's financial instruments exposed to
market risks associated with fluctuations in interest rates as of June 30, 1999.
To the extent CellNet's financial instruments expose CellNet to interest rate
risk, they are presented within each market risk category in the table below.
The table presents principal cash flows and related interest rates by year of
maturity for CellNet's senior notes, revolving credit agreements, mandatorily
redeemable preferred securities and interest rate swaps in effect
31
<PAGE>
at June 30, 1999 and, in the case of the senior notes and mandatorily redeemable
preferred securities, exclude the potential exercise of the relevant redemption
features (in thousands).
<TABLE>
<CAPTION>
YEAR OF MATURITY TOTAL DUE
----------------------------------------------------- AT
1999 2000 2001 2002 2003 THEREAFTER MATURITY FAIR VALUE
--------- --------- --------- --------- --------- ---------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Senior Notes-- Fixed
Rate............... -- -- -- -- -- $654,133 $654,133 $274,736
Interest Rate...... -- -- -- -- -- 14.0%
Mandatorily
Redeemable
Preferred
Securities-- Fixed
Rate............... -- -- -- -- -- $110,000 $110,000 $85,800
Interest Rate...... -- -- -- -- -- 7.0%
Revolving Credit
Agreements--
Variable Rate.... -- -- -- -- $ 1,163 $68,687 $69,850 $69,850
Average Interest
Rate............. -- -- -- -- 7.7% 7.6%
Interest Rate -- -- -- $30,000 -- -- $30,000 $(274)
Swaps--Variable to
Fixed Rate.........
Average Pay Rate... -- -- -- 5.6% -- --
Average Receive
Rate............. -- -- -- 5.1% -- --
</TABLE>
32
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See above, "Management's Discussion and Analysis--Risk Factors that May
Affect Future Operating Results--We Could Be Subject to Securities Actions and
Other Litigation, Which If It Occurs, Will Distract Management, Result in
Substantial Costs and Harm Our Business."
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
CELLNET DATA SYSTEMS, INC.
1999 ANNUAL STOCKHOLDERS MEETING VOTING RESULTS
The final voting results were:
PROPOSAL 1
Election of Directors.**
<TABLE>
<CAPTION>
FOR OTHER
----------------------- --------------------
DIRECTOR
- ----------------------------------------------------------
<S> <C> <C> <C> <C>
Paul M. Cook.............................................. 24,047,542* 56.18%* 249,425* 00.58%*
Neal M. Douglas........................................... 24,071,017* 56.23%* 225,950* 00.53%*
E. Linn Draper, Jr........................................ 24,071,157* 56.23%* 225,810* 00.53%*
William C. Edwards........................................ 24,060,317* 56.21%* 236,650* 00.55%*
William Hart.............................................. 24,072,317* 56.24%* 224,650* 00.52%*
John M. Seidl............................................. 24,071,554* 56.23%* 225,413* 00.53%*
</TABLE>
- ------------------------
* Out of the 42,806,159 shares of Common Stock eligible to vote.
** On a combined basis, 24,002,057 shares (56.07%) were cast "for" the election
of directors, 223,650 shares (00.52%) were cast "withheld / against" the
election of one or more directors, and 71,260 shares (00.17%) were cast
"exception / abstain" from the election of directors, out of a total number
of shares voted of 24,296,967 (56.76%).
PROPOSAL 2
Approval of an Amendment to the Certificate of Incorporation increasing the
number of shares of Common Stock available for issue from 100,000,000 to
300,000,000.**
<TABLE>
<CAPTION>
<S> <C> <C>
FOR................................................................................... 23,342,893* 54.53%*
WITHHELD/AGAINST...................................................................... 893,224* 02.09%*
EXCEPTIONS/ABSTAIN.................................................................... 60,850* 00.14%*
</TABLE>
- ------------------------
* Out of the 42,806,159 shares of Common Stock eligible to vote.
33
<PAGE>
** Approval of the Proposal is based upon the number of "votes cast." Shares
voted "for," "withheld / against," and "exceptions / abstain" are counted as
"votes cast." Broker non-votes are not counted as "votes cast" for this
purpose. Thus, 24,296,967 shares are counted as "votes cast" on the
Proposal. On that basis, 96.07% of the "votes cast" were voted in favor of
the Proposal.
PROPOSAL 3
Ratification of the Approval of Independent Auditors.**
<TABLE>
<CAPTION>
<S> <C> <C>
FOR................................................................................... 24,170,993* 56.47%*
WITHHELD/AGAINST...................................................................... 66,855* 00.16%*
EXCEPTIONS/ABSTAIN.................................................................... 59,119* 00.14%*
</TABLE>
- ------------------------
* Out of the 42,806,159 shares of Common Stock eligible to vote.
** Approval of the Proposal is based upon the number of "votes cast." Shares
voted "for," "withheld / against," and "exceptions / abstain" are counted as
"votes cast." Broker non-votes are not counted as "votes cast" for this
purpose. Thus, 24,296,967 shares are counted as "votes cast" on the
Proposal. On that basis, 99.48% of the "votes cast" were voted in favor of
the Proposal.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS.
Exhibit 27.1 Financial Data Schedule
(B) REPORTS ON FORM 8-K.
There were no reports on Form 8-K filed during the quarter ended June 30,
1999.
34
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
<TABLE>
<S> <C> <C>
CELLNET DATA SYSTEMS, INC.
By: /s/ PAUL G. MANCA
-----------------------------------------
Paul G. Manca
VICE PRESIDENT AND CHIEF EXECUTIVE OFFICER
(PRINCIPAL FINANCIAL AND ACCOUNTING
Date: August 16, 1999 OFFICER)
</TABLE>
34
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NO. EXHIBIT TITLE
- ----------- ---------------------------------------------------------------------------------------------------------
<S> <C>
10.1 LaMacchia Employment Agreement
10.2 1999 Non-Qualified Stock Option Plan
27.1 Financial Data Schedule
</TABLE>
35
<PAGE>
Exhibit 10.1
Exhibit A
CONFIDENTIAL
April 16, 1999
Mr. John T. LaMacchia
7800 Deer Crossing
Cincinnati, OH 45243
Dear John:
POSITION
This will confirm the offer of regular full-time employment we have
extended to you for the position of President and Chief Executive Officer of
CellNet Data Systems, Inc. (the "Company"), and each of its majority-owned
subsidiaries, and your acceptance of that offer on April 16, 1999.
You will be nominated for election to the Board of Directors of the Company
(the "Board") at the next regularly scheduled meeting of the Board on May 6,
1999. Your election as a Director will be effective as of your "Start Date"
(set forth below). You will be elected President and Chief Executive Officer
and to the board of directors of each of the Company's majority-owned
subsidiaries on or promptly following your Start Date. You will be appointed as
one of the Company's three representatives on the Management Committee of BCN
Data Systems, L.L.C. on or promptly following your Start Date. As President and
Chief Executive Officer of the Company, you will report to the Board. The
following additional provisions will apply.
CONDITIONS TO EMPLOYMENT
Your employment is conditional upon your employment eligibility under the
Immigration Reform and Control Act of 1986. Your employment is conditional upon
your assumption of your duties as President and Chief Executive Officer of the
Company on a regular, full-time basis on or about [May 10, 1999] (your "Start
Date").
BASE SALARY; BENEFITS
You will be paid a base salary of a minimum of three hundred fifty thousand
dollars ($350,000) per year (your "Base Salary"). Your Base Salary will be paid
in equal installments on the Company's normal pay dates. Your Base Salary will
be reviewed annually by the Compensation Committee of the Board (the
"Compensation Committee").
<PAGE>
Mr. John T. LaMacchia -- April 16, 1999
- ---------------------------------------
You will be entitled to participate in all of the employee welfare and
benefit plans and programs of the Company as in effect from time to time
applicable to the Company's regular, full-time employees and senior executives,
in accordance with the terms and conditions of such plans and programs
including, without limitation, all coverage and eligibility provisions. The
Company's current benefits program is summarized in the enclosed employee
benefits booklet titled "CellNet Data Systems -- Summary of Employee
Benefits," and dated March 1999. By accepting this offer of employment, you
confirm that you have read this information.
You will be entitled to four (4) weeks (twenty (20) days) of paid vacation
per year in lieu of the amount of paid vacation to which you would otherwise be
entitled as a new employee under the Company's regular Vacation Policy.
INCENTIVE BONUS
You will be eligible for an annual discretionary incentive bonus (your
"Incentive Bonus") commencing upon the first anniversary of your Start Date and
ranging in amount from zero percent (0%) to one hundred percent (100%) of your
Base Salary at its then current rate based upon an overall assessment of your
performance and the Company's performance during the year. The amount of your
Incentive Bonus will be determined by the Compensation Committee and will be
paid in cash. With the prior approval of the Board, some portion of your
Incentive Bonus may be paid in the form of the Common Stock of the Company, in
the form of options to purchase additional Common Stock of the Company, or may
be deferred by prior written agreement between you and the Company.
INITIAL STOCK OPTION GRANT
Subject to applicable laws and regulations, you are being granted
non-qualified options to purchase nine hundred thousand (900,000) shares of
the Company's Common Stock at an exercise price of $5.1875 per share (the
"Initial Stock Options"). All of the Initial Stock Options shall be subject
to the terms and conditions of the CellNet Data Systems 1999 Non-Qualified
Stock Option Plan (the "1999 Plan") and related notices of stock option grant
and stock option agreements thereunder. The Initial Stock Options will
commence vesting on your Start Date such that ten percent (10%) of the shares
subject to the Initial Stock Option grant shall be vested after six (6)
months have expired from your Start Date and the remainder shall be vested at
the rate of five percent (5%) of the shares subject to the Initial Stock
Option grant every three (3) months thereafter, such that all shares shall be
vested five (5) years from your Start Date, based upon and subject to your
remaining a "Service Provider" to the Company (as defined in the 1999 Plan)
during that period. The Initial Stock Options will have a life of ten (10)
years, based upon and subject to your remaining a Service Provider to the
Company during that period.
2
<PAGE>
Mr. John T. LaMacchia -- April 16, 1999
- ---------------------------------------
ADDITIONAL STOCK OPTION GRANTS
Subject to applicable laws and regulations, you are being granted the
following additional non-qualified options (the "Additional $20 Stock Options")
to purchase shares of the Company's Common Stock subject to the following
conditions:
An additional four hundred fifty thousand (450,000) shares of the Company's
Common Stock on the date (the "Additional $20 Stock Option Trigger Date")
that the closing price for the Common Stock on the NASDAQ National Market
(i.e. its "Fair Market Value") first exceeds twenty dollars ($20) per share
within a period of five (5) years from your Start Date, but in no other
event. The exercise price for the Additional $20 Stock Options shall be
such closing price on such date.
In the event that the Common Stock is no longer traded on the NASDAQ
National Market, Fair Market Value for this purpose shall be determined as
provided in the 1999 Plan. All of the Additional $20 Stock Options shall be
subject to the terms and conditions of the 1999 Plan and related notices of
stock option grant and stock option agreements thereunder. If the Additional
$20 Stock Option Trigger Date occurs, the Additional $20 Stock Options will
commence vesting on your Start Date such that ten percent (10%) of the shares
subject to the Additional $20 Stock Option grant shall be vested after six (6)
months have expired from your Start Date and the remainder shall be vested at
the rate of five percent (5%) of the shares subject to the Additional $20 Stock
Option grant every three (3) months thereafter, such that all shares subject to
such grant shall be vested five (5) years from your Start Date, based upon and
subject to your remaining a Service Provider to the Company during that period.
If the Additional $20 Stock Option Trigger Date occurs, the Additional $20 Stock
Options will have a life of ten (10) years, based upon and subject to your
remaining a Service Provider to the Company during that period.
TERMINATION; SEVERANCE PAY; VESTING CONTINUATION
It is our wish that our association be long-lasting and mutually rewarding.
You should understand, however, that you are being employed "at will," which
means that both you and the Company have the right to terminate the employment
relationship at any time for any reason, with or without "Cause" (as defined
below).
In the event of your "Involuntary Termination" (as defined below), at any
time during your first three (3) years of employment (commencing as of your
Start Date), you will be paid severance or termination compensation in the form
of salary continuation ("Severance Pay") equal to one year's Base Salary at its
then current rate. You shall not be entitled to receive Severance Pay in any
other circumstance. In the event you are entitled to Severance Pay, it will be
paid in equal installments on the Company's normal pay dates beginning on the
first such pay date following your Involuntary Termination date.
3
<PAGE>
Mr. John T. LaMacchia -- April 16, 1999
- ---------------------------------------
In the event of your Involuntary Termination, at any time during your first
year of employment (commencing as of your Start Date), you will be granted
vesting continuation or vesting acceleration under the Initial Stock Option
grant, and under the Additional $20 Stock Option grant (if the Additional $20
Stock Option Trigger Date has by then occurred), such that twenty percent (20%)
of the shares subject to the Initial Stock Option grant and, if applicable,
twenty percent (20%) of the shares subject to the Additional $20 Stock Option
grant, as the case may be, shall be vested as of your Involuntary Termination
date.
These severance or termination benefits will not be due, made available or
paid in the event of your voluntary termination or in the event of your
termination for Cause. These severance or termination benefits are in lieu of
any other termination or severance benefits furnished by the Company (except for
those benefits that the Company is required by law to furnish to terminated
employees in similar circumstances).
Termination, for any reason, will not affect your right to exercise, within
the exercise period provided under the 1999 Plan and related notices of stock
option grant and stock option agreements thereunder, any or all of your stock
options that are vested as of the date of termination of employment.
CHANGE OF CONTROL
In the event of a "Change of Control" (as defined below), all of your
rights to purchase stock under the Initial Stock Options and under the
Additional $20 Stock Options (if the Additional $20 Stock Option Trigger Date
has by then occurred) shall be vested on an accelerated basis in accordance with
the "Accelerated Vesting Schedule" (as defined below) and be fully exercisable
to the extent so vested under the Accelerated Vesting Schedule as of the first
to occur of any of the following dates (an "Accelerated Vesting Date"), namely:
(a) as of the date immediately preceding such Change of Control in
the event any Initial Stock Option or any Additional $20 Stock Option is or
will be terminated or canceled (except by mutual consent) or any successor
to the Company fails to assume and agree to perform all related notices of
stock option grant and related stock option agreements at or prior to such
time as any such person becomes a successor to the Company, or
(b) as of the date immediately preceding such Change of Control in
the event that you do not or will not receive upon exercise of your stock
purchase rights under any Initial Stock Option or Additional $20 Stock
Option the same identical securities and/or other consideration as is
received by all other shareholders in any merger, consolidation, sale,
exchange or similar transaction occurring upon or after such Change of
Control, or
4
<PAGE>
Mr. John T. LaMacchia -- April 16, 1999
- ---------------------------------------
(c) as of the date immediately preceding any Involuntary Termination
occurring upon or after any such Change of Control.
If your continuous status as a Service Provider to the Company terminates
by reason of your voluntary resignation or if your continuous status as a
Service Provider to the Company is terminated for Cause, in either case prior to
an Accelerated Vesting Date, you shall not be entitled to receive accelerated
vesting hereunder.
RELOCATION
The Company will pay to you, or to your designee(s) upon your request, a
fixed amount of seventy-five thousand dollars ($75,000) to cover all of your
relocation expenses. You shall be responsible for all state and federal income
taxes payable by you on this amount.
TEMPORARY LIVING ACCOMMODATIONS AND TRANSPORTATION COSTS
The Company will reimburse you for the reasonable costs of temporary living
accommodations for you and your immediate family in the Bay Area for up to six
(6) months from your Start Date and for your reasonable transportation costs
during this period.
BOARDS OF DIRECTORS; OTHER ACTIVITIES
You will be able to continue after December 31, 1999 in up to three (3) of
your existing board of directors' positions provided that these activities do
not materially diminish your ability to conduct your duties as the Company's
President and Chief Executive Officer. Any renewal of these board positions,
any new board positions or any other professional activities unrelated to the
Company will require the prior approval of the Board.
CERTAIN DEFINITIONS
Capitalized terms shall have the meanings assigned to such terms in this
Letter Agreement, including, among others, the following:
"ACCELERATED VESTING SCHEDULE" shall mean a vesting schedule commencing on
your Start Date such that twenty percent (20%) of the shares subject to the
Initial Stock Option grant and twenty percent (20%) of the shares subject to the
Additional $20 Stock Option grant (if the Additional $20 Stock Option Trigger
Date has by then occurred) shall be vested after six (6) months have expired
from your Start Date and the remainder shall be vested at the rate of ten
percent (10%) of the shares subject to the Initial Stock Option grant and ten
percent (10%) of the shares subject to the Additional $20 Stock Option grant (if
the Additional $20 Stock Option Trigger Date has by then occurred), as the case
may be, every three (3) months thereafter, such that all shares subject to the
Initial Stock
5
<PAGE>
Mr. John T. LaMacchia -- April 16, 1999
- ---------------------------------------
Option grant and all shares subject to the Additional $20 Stock Option grant
(if the Additional $20 Stock Option Trigger Date has by then occurred) shall
be vested thirty (30) months from your Start Date, based upon and subject to
your remaining a Service Provider to the Company during that period.
Notwithstanding the above, in the event that an Accelerated Vesting Date
occurs prior to the expiration of six (6) months from your Start Date, you
shall nevertheless vest as to ten percent (10%) of the shares subject to the
Initial Stock Option grant and as to ten percent (10%) of the shares subject
to the Additional $20 Stock Option grant (if the Additional $20 Stock Option
Trigger Date has by then occurred), subject to your remaining a Service
Provider to the Company during that period.
"CAUSE" shall mean (a) any willful act of personal dishonesty, fraud or
misrepresentation taken by you in connection with your responsibilities as an
employee which was intended to result in substantial gain or personal enrichment
of you at the expense of the Company and was materially and demonstrably
injurious to the Company, (b) your conviction of a felony on account of any act
which was materially and demonstrably injurious to the Company, or (c) your
willful and continued failure to substantially perform your principal duties and
obligations of employment (other than any such failure resulting from incapacity
due to physical or mental illness), which failure is not remedied in a
reasonable period of time after receipt of written notice from the Company. No
act or failure to act shall be considered "willful" unless done or omitted to be
done in bad faith and without reasonable belief that the act or omission was in
or not opposed to the best interests of the Company. Any act or failure to act
based upon authority given pursuant to a resolution duly adopted by the Board or
based upon the advice of counsel for the Company shall be conclusively presumed
to be done or omitted to be done in good faith and in the best interests of the
Company. Notwithstanding anything herein to the contrary, you shall not be
deemed to have been terminated for Cause unless and until there shall have been
delivered to you a copy of a resolution duly adopted by the affirmative vote of
not less than three-quarters of the entire membership of the Board at a meeting
of the Board called and held for the purpose (after reasonable notice to you and
an opportunity for you or your counsel to be heard before the Board) finding
that in the good faith opinion of the Board you were properly terminated for
Cause. In any event, you will not lose any right to contest such finding.
"CHANGE OF CONTROL" shall mean the occurrence of any of the following
events:
(a) any "person" (as such term is used in Sections 13(d) and 14(d) of the
Securities Exchange Act of 1934, as amended) is or becomes the "beneficial
owner" (as defined in Rule 13d-3 under said Act), directly or indirectly, of
securities of the Company representing 50% or more of the total voting power
represented by the Company's then outstanding voting securities, or
(b) a change in the composition of the Board as a result of which fewer
than a majority of the directors are "Incumbent Directors." "Incumbent
Directors" shall mean directors who either (i) are directors of the Company as
of the date hereof, or (ii) are
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Mr. John T. LaMacchia -- April 16, 1999
- ---------------------------------------
elected, or nominated for election, to the Board with the affirmative votes
(either by a specific vote or by approval of the proxy statement of the
Company in which such person is named as a nominee for election as a director
without objection to such nomination) of at least three-quarters of the
Incumbent Directors at the time of such election or nomination (but shall not
include an individual whose election or nomination is in connection with an
actual or threatened proxy contest relating to the election of directors of
the Company), or
(c) the shareholders of the Company approve a merger or consolidation of
the Company with any other corporation, other than a merger or consolidation
which would result in the voting securities of the Company outstanding
immediately prior thereto continuing to represent (either by remaining
outstanding or by being converted into voting securities of the surviving
entity) at least fifty percent (50%) of the total voting power represented by
the voting securities of the Company or such surviving entity outstanding
immediately after such merger or consolidation, or the shareholders of the
Company approve a plan of complete liquidation of the Company or an agreement
for the sale or disposition by the Company of all or substantially all of the
Company's assets.
"INVOLUNTARY TERMINATION" shall mean (a) a termination by the Company of
your employment with the Company other than for Cause, (b) a material reduction
of or variation in your duties, authority or responsibilities, relative to your
duties, authority or responsibilities as in effect immediately prior to such
reduction or variation, (c) a reduction by the Company in your Base Salary as in
effect immediately prior to such reduction, (d) a material reduction by the
Company in the kind or level of employee benefits, including bonuses, to which
you were entitled immediately prior to such reduction, with the result that your
overall benefits package is materially reduced, or (e) your relocation to a
facility or a location more than seventy-five (75) miles from your then present
work facility or location, in each of the cases (b) through (e), without your
consent.
OTHER PROVISIONS
Any successor to the Company (whether direct or indirect and whether by
purchase, merger or consolidation) shall assume the obligations under this
Letter Agreement and agree expressly to perform the obligations under this
Letter Agreement in the same manner and to the same extent as the Company would
be required to perform such obligations in the absence of a succession.
The terms of this Letter Agreement and all of your rights hereunder shall
inure to the benefit of, and be enforceable by, your personal or legal
representatives, executors, administrators, successors and assigns.
No provision of this Letter Agreement shall be modified or waived unless
the modification or waiver is agreed to in writing and signed by you and by an
authorized officer of the Company other than yourself.
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Mr. John T. LaMacchia -- April 16, 1999
- ---------------------------------------
This Letter Agreement, together with all notices of stock option grant and
stock option agreements to be entered into between you and the Company as
contemplated hereby, represent the entire agreement of the parties hereto with
respect to your employment by the Company, the "Terms Sheet" dated April 16,
1999 being expressly superseded hereby. In the event of any conflict between
the terms of this Letter Agreement and the terms of any such notice of stock
option grant and stock option agreement, the terms of this Letter Agreement
shall prevail.
The validity, interpretation, construction and performance of this Letter
Agreement shall be governed by the laws of the State of California. Any dispute
or controversy arising under or in connection with this Letter Agreement shall
be settled exclusively by arbitration in San Francisco, California by three (3)
arbitrators in accordance with the rules of the American Arbitration Association
then in effect. Judgment may be entered on the arbitrators' award in any court
having jurisdiction. The Company shall bear all costs and expenses arising out
of or in connection with any such arbitration.
Please confirm your acceptance of these arrangements by signing both
original copies of this Letter Agreement and returning one signed copy to us.
The other copy is yours to retain.
The Company has a promising future that requires talented, dedicated and
motivated people like you to make it successful. We look forward to your
joining our organization.
Sincerely,
/s/ John M. Seidl
John M. Seidl,
Chairman of the Board,
President & Chief Executive Officer
I have read this letter and I accept the Company's offer of employment on
the terms outlined above.
Signature: /s/ John T. LaMacchia Date: April 16, 1999
---------------------
John T. LaMacchia
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Exhibit 10.2
CELLNET DATA SYSTEMS
1999 NON-QUALIFIED STOCK OPTION PLAN
1. PURPOSES OF THE PLAN. The purposes of this Non-Qualified Stock Option Plan
are (a) to attract and retain the best available personnel for positions as
Officers of the Company, (b) to provide additional incentive to Officers of the
Company, and (c) to promote the success of the Company's business. The
Administrator may grant Non-Qualified Stock Options or Stock Purchase Rights
under the Plan.
2. DEFINITIONS. As used herein, the following definitions shall apply:
2.1. "ADMINISTRATOR" means the Board or any of its Committees as shall
be administering the Plan in accordance with Section 4.
2.2. "APPLICABLE LAWS" means the requirements relating to the
administration of stock option plans under federal and state corporate and
securities laws, the Code, any stock exchange or quotation system on which the
Common Stock is listed or quoted and the applicable laws of any foreign country
or jurisdiction where Options or Stock Purchase Rights are, or will be, granted
under the Plan.
2.3. "BOARD" means the Board of Directors of the Company.
2.4. "CODE" means the Internal Revenue Code of 1986, as amended.
2.5. "COMMITTEE" means a committee of Directors appointed by the Board
in accordance with Section 4.
2.6. "COMMON STOCK" means the Common Stock of the Company.
2.7. "COMPANY" means CellNet Data Systems, Inc., a Delaware corporation.
2.8 "DIRECTOR" means a member of the Board.
2.9. "DISABILITY" means total and permanent disability as defined in
Section 22(e)(3) of the Code.
2.10. "EXCHANGE ACT" means the Securities Exchange Act of 1934, as
amended.
2.11. "FAIR MARKET VALUE" means, as of any date, the value of Common
Stock determined as follows:
(a) If the Common Stock is listed on any established stock exchange or a
national market system, including without limitation the NASDAQ National
<PAGE>
Market or The NASDAQ SmallCap Market of The NASDAQ Stock Market, its Fair
Market Value shall be the closing sales price for such stock (or the
closing bid, if no sales were reported) as quoted on such exchange or
system for the last market trading day prior to the time of determination,
as reported in THE WALL STREET JOURNAL or such other source as the
Administrator deems reliable;
(b) If the Common Stock is regularly quoted by a recognized securities
dealer but selling prices are not reported, the Fair Market Value of a
Share of Common Stock shall be the mean between the high bid and low asked
prices for the Common Stock on the last market trading day prior to the day
of determination, as reported in THE WALL STREET JOURNAL or such other
source as the Administrator deems reliable;
(c) In the absence of an established market for the Common Stock, the Fair
Market Value shall be determined in good faith by the Administrator.
2.12. "NON-QUALIFIED STOCK OPTION" means an Option not intended to
qualify as an incentive stock option within the meaning of Section 422 of the
Code and the regulations promulgated thereunder.
2.13. "NOTICE OF GRANT" means a written or electronic notice of grant of
an Option or Stock Purchase Right. The Notice of Grant is a part of the Option
Agreement.
2.14. "OFFICER" means a person who is an officer of the Company within
the meaning of Section 16 of the Exchange Act and the rules and regulations
promulgated thereunder.
2.15. "OPTION" means a stock option granted pursuant to the Plan.
2.16. "OPTION AGREEMENT" means an agreement between the Company and an
Optionee evidencing the terms and conditions of an individual Option grant. The
Option Agreement is subject to the terms and conditions of the Plan.
2.17. "OPTION EXCHANGE PROGRAM" means a program whereby outstanding
options are surrendered in exchange for options with a lower exercise price.
2.18. "OPTIONED STOCK" means the Common Stock subject to an Option or
Stock Purchase Right.
2.19. "OPTIONEE" means the holder of an outstanding Option or Stock
Purchase Right granted under the Plan.
2.20. "PARENT" means a "parent corporation," whether now or hereafter
existing, as defined in Section 424(e) of the Code.
2.21. "PLAN" means this CellNet Data Systems 1999 Non-Qualified Stock
Option
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Plan.
2.22. "RESTRICTED STOCK" means shares of Common Stock acquired pursuant
to a grant of Stock Purchase Rights under Section 11.
2.23. "RESTRICTED STOCK PURCHASE AGREEMENT" means a written agreement
between the Company and the Optionee evidencing the terms and restrictions
applying to stock purchased under a Stock Purchase Right. The Restricted Stock
Purchase Agreement is subject to the terms and conditions of the Plan and the
Notice of Grant.
2.24. "RULE 16b-3" means Rule 16b-3 of the Exchange Act or any successor
to Rule 16b-3, as in effect when discretion is being exercised with respect to
the Plan.
2.25. "SECTION 16(b)" means Section 16(b) of the Securities Exchange Act
of 1934, as amended.
2.26. "SERVICE PROVIDER" means an Officer, Director or Consultant.
2.27. "SHARE" means a share of the Common Stock, as adjusted in
accordance with Section 13.
2.28. "STOCK PURCHASE RIGHT" means the right to purchase Common Stock
pursuant to Section 11, as evidenced by a Notice of Grant.
2.29. "SUBSIDIARY" means a "subsidiary corporation", whether now or
hereafter existing, as defined in Section 424(f) of the Code.
3. STOCK SUBJECT TO THE PLAN. Subject to the provisions of Section 13, the
maximum aggregate number of Shares which may be optioned and sold under the Plan
is one million three hundred and fifty thousand (1,350,000) Shares. The Shares
may be authorized, but unissued, or reacquired Common Stock. If an Option or
Stock Purchase Right expires or becomes unexercisable without having been
exercised in full, or is surrendered pursuant to an Option Exchange Program, the
unpurchased Shares which were subject thereto shall become available for future
grant or sale under the Plan (unless the Plan has terminated). Shares that have
actually been issued under the Plan, whether upon exercise of an Option or Stock
Purchase Right, shall not be returned to the Plan and shall not become available
for future distribution under the Plan except for Shares of Restricted Stock
that are repurchased by the Company at their original purchase price.
4. ADMINISTRATION OF THE PLAN.
4.1. PROCEDURE.
4.1.1. MULTIPLE ADMINISTRATIVE BODIES. The Plan may be
administered by
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the Board or by different Committees with respect to different Officers.
4.1.2. RULE 16b-3. To the extent desirable to qualify
transactions hereunder as exempt under Rule 16b-3, the Plan shall be
administered by the Board or a Committee of two or more "non-employee directors"
within the meaning of Rule 16b-3.
4.1.3. OTHER ADMINISTRATION. Other than as provided above, the
Plan shall be administered by (a) the Board or (b) a Committee, which committee
shall be constituted to satisfy Applicable Laws.
4.2. POWERS OF THE ADMINISTRATOR. Subject to the provisions of the
Plan, and in the case of a Committee, subject to the specific duties delegated
by the Board to such Committee, the Administrator shall have the authority, in
its discretion:
(a) to determine the Fair Market Value of the Common Stock;
(b) to select the Service Providers to whom Options and Stock Purchase
Rights may be granted hereunder;
(c) to determine the number of shares of Common Stock to be covered by
each Option and Stock Purchase Right granted hereunder;
(d) to approve forms of agreement for use under the Plan;
(e) to determine the terms and conditions of any Option or Stock
Purchase Right granted hereunder, not inconsistent with the terms of the Plan.
Such terms and conditions include, but are not limited to, the exercise price,
the time or times when Options or Stock Purchase Rights may be exercised (which
may be based on performance criteria), any vesting acceleration or waiver of
forfeiture restrictions, and any restriction or limitation regarding any Option
or Stock Purchase Right or the shares of Common Stock relating thereto, based in
each case on such factors as the Administrator, in its sole discretion, shall
determine;
(f) to reduce the exercise price of any Option or Stock Purchase Right
to the then current Fair Market Value if the Fair Market Value of the Common
Stock covered by such Option or Stock Purchase Right shall have declined since
the date the Option or Stock Purchase Right was granted;
(g) to institute an Option Exchange Program;
(h) to construe and interpret the terms of the Plan and awards granted
pursuant to the Plan;
(i) to prescribe, amend and rescind rules and regulations relating to
the Plan, including rules and regulations relating to sub-plans established for
the purpose of qualifying for preferred tax treatment under foreign tax laws;
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<PAGE>
(j) to modify or amend each Option or Stock Purchase Right (subject
to Section 15(c)), including the discretionary authority to extend the
post-termination exercise period of Options longer than is otherwise provided
for in the Plan;
(k) to allow Optionees to satisfy withholding tax obligations by
electing to have the Company withhold from the Shares to be issued upon exercise
of an Option or Stock Purchase Right that number of Shares having a Fair Market
Value equal to the amount required to be withheld. The Fair Market Value of the
Shares to be withheld shall be determined on the date that the amount of tax to
be withheld is to be determined. All elections by an Optionee to have Shares
withheld for this purpose shall be made in such form and under such conditions
as the Administrator may deem necessary or advisable;
(l) to authorize any person to execute on behalf of the Company any
instrument required to effect the grant of an Option or Stock Purchase Right
previously granted by the Administrator; and
(m) to make all other determinations deemed necessary or advisable for
administering the Plan.
4.3. EFFECT OF ADMINISTRATOR'S DECISION. The Administrator's decisions,
determinations and interpretations shall be final and binding on all Optionees
and any other holders of Options or Stock Purchase Rights.
5. ELIGIBILITY. Non-Qualified Stock Options and Stock Purchase Rights may be
granted only to Service Providers who are not Officers or Directors; provided,
however, that Officers not previously employed by the Company may be granted
Non-Qualified Stock Options or Stock Purchase Rights where such Non-Qualified
Stock Options or Stock Purchase Rights are an essential inducement to such
Officer in entering into an employment agreement with the Company.
6. LIMITATIONS. Neither the Plan nor any Option or Stock Purchase Right shall
confer upon an Optionee any right with respect to continuing the Optionee's
relationship as a Service Provider to the Company, nor shall they interfere in
any way with the Optionee's right or the Company's right to terminate such
relationship at any time, with or without cause.
7. TERM OF PLAN. The Plan shall become effective upon its adoption by the
Board. It shall continue in effect for a term of ten (10) years unless
terminated earlier under Section 15.
5
<PAGE>
8. TERM OF OPTION. The term of each Option shall be ten (10) years from the
date of grant or such shorter term as may be provided in the Option Agreement.
9. OPTION EXERCISE PRICE AND CONSIDERATION.
9.1. EXERCISE PRICE. The per share exercise price for the Shares to be
issued pursuant to the exercise of an Option shall be determined by the
Administrator but shall be no less than 100% of the Fair Market Value per Share
on the date of grant. Notwithstanding the foregoing, Options may be granted
with a per Share exercise price of less than 100% of the Fair Market Value per
Share on the date of grant pursuant to a merger or other corporate transaction.
9.2. WAITING PERIOD AND EXERCISE DATES. At the time an Option is
granted, the Administrator shall fix the period within which the Option may be
exercised and shall determine any conditions which must be satisfied before the
Option may be exercised.
9.3. FORM OF CONSIDERATION. The Administrator shall determine the
acceptable form of consideration for exercising an Option, including the method
of payment. Such consideration may consist entirely of: (a) cash; (b) check;
(c) promissory note; (d) other Shares which (i) in the case of Shares acquired
upon exercise of an option, have been owned by the Optionee for more than six
months on the date of surrender, and (ii) have a Fair Market Value on the date
of surrender equal to the aggregate exercise price of the Shares as to which
said Option shall be exercised; (e) consideration received by the Company under
a cashless or net exercise program implemented by the Company in connection with
the Plan; or (f) any combination of the foregoing methods of payment.
10. EXERCISE OF OPTION.
10.1. PROCEDURE FOR EXERCISE; RIGHTS AS A SHAREHOLDER. Any Option granted
hereunder shall be exercisable according to the terms of the Plan and at such
times and under such conditions as determined by the Administrator and set forth
in the Option Agreement. Unless the Administrator provides otherwise, vesting
of Options granted hereunder shall be tolled during any unpaid leave of absence.
An Option may not be exercised for a fraction of a Share. An Option shall be
deemed exercised when the Company receives: (a) written or electronic notice of
exercise (in accordance with the Option Agreement) from the person entitled to
exercise the Option, and (b) full payment for the Shares with respect to which
the Option is exercised. Full payment may consist of any consideration and
method of payment authorized by the Administrator and permitted by the Option
Agreement and the Plan. Shares issued upon exercise of an Option shall be
issued in the name of the Optionee or, if requested by the Optionee, in the name
of the Optionee and his or her spouse or trust. Until the Shares are issued (as
evidenced by the appropriate entry on the books of the Company or of a duly
authorized transfer agent of the Company), no right to vote or receive dividends
or any other rights as a shareholder
6
<PAGE>
shall exist with respect to the Optioned Stock, notwithstanding the exercise
of the Option. The Company shall issue (or cause to be issued) such Shares
promptly after the Option is exercised. No adjustment will be made for a
dividend or other right for which the record date is prior to the date the
Shares are issued, except as provided in Section 13. Exercising an Option in
any manner shall decrease the number of Shares thereafter available, both for
purposes of the Plan and for sale under the Option, by the number of Shares
as to which the Option is exercised.
10.2. TERMINATION OF RELATIONSHIP AS A OFFICER. If an Optionee ceases to
be a Service Provider, other than upon the Optionee's death or Disability, the
Optionee may exercise his or her Option within such period of time as is
determined by the Administrator (with such determination not exceeding three (3)
months after the date of such termination), to the extent that he or she is
entitled to exercise it on the date of termination (but in no event later than
the expiration of the term of such Option as set forth in the Option Agreement).
In the absence of a specified time in the Option Agreement, the Option shall
remain exercisable for three (3) months following the Optionee's termination.
If, on the date of termination, the Optionee is not entitled to exercise his or
her entire Option, the Shares covered by the unexercisable portion of the Option
shall revert to the Plan. If, after termination, the Optionee does not exercise
his or her Option within the time specified by the Administrator, the Option
shall terminate, and the Shares covered by such Option shall revert to the Plan.
10.3. DISABILITY OF OPTIONEE. If an Optionee ceases to be a Service
Provider as a result of the Optionee's Disability, the Optionee may exercise his
or her Option at any time within twelve (12) months from the date of
termination, but only to the extent that the Optionee is entitled to exercise it
on the date of termination (and in no event later than the expiration of the
term of the Option as set forth in the Option Agreement). If, on the date of
termination, the Optionee is not entitled to exercise his or her entire Option,
the Shares covered by the unexercisable portion of the Option shall revert to
the Plan. If, after termination, the Optionee does not exercise his or her
Option within the time specified herein, the Option shall terminate, and the
Shares covered by such Option shall revert to the Plan.
10.4. DEATH OF OPTIONEE. If an Optionee dies while a Service Provider,
the Option may be exercised at any time within twelve (12) months following the
date of death (but in no event later than the expiration of the term of such
Option as set forth in the Notice of Grant), by the Optionee's estate or by a
person who acquires the right to exercise the Option by bequest or inheritance,
but only to the extent that the Optionee would have been entitled to exercise
the Option on the date of death. If, at the time of death, the Optionee is not
entitled to exercise his or her entire Option, the Shares covered by the
unexercisable portion of the Option shall immediately revert to the Plan. The
Option may be exercised by the executor or administrator of the Optionee's
estate or, if none, by the person(s) entitled to exercise the Option under the
Optionee's will or the laws of descent or distribution. If the Option is not so
exercised within the time specified herein, the Option shall terminate, and the
Shares covered by such Option shall revert to the Plan.
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<PAGE>
10.5. BUYOUT PROVISIONS. The Administrator may at any time offer to buy
out for a payment in cash or Shares, an Option previously granted based on such
terms and conditions as the Administrator shall establish and communicate to the
Optionee at the time that such offer is made.
11. STOCK PURCHASE RIGHTS.
11.1. RIGHTS TO PURCHASE. Stock Purchase Rights may be issued either
alone, in addition to, or in tandem with other awards granted under the Plan.
After the Administrator determines that it will offer Stock Purchase Rights
under the Plan, it shall advise the offeree in writing or electronically, by
means of a Notice of Grant, of the terms, conditions and restrictions related to
the offer, including the number of Shares that the offeree shall be entitled to
purchase, the price to be paid, and the time within which the offeree must
accept such offer. The offer shall be accepted by execution of a Restricted
Stock Purchase Agreement in the form determined by the Administrator.
11.2. REPURCHASE OPTION. Unless the Administrator determines otherwise,
the Restricted Stock Purchase Agreement shall grant the Company a repurchase
option exercisable upon the voluntary or involuntary termination of the
purchaser's service with the Company for any reason (including death or
Disability). The purchase price for Shares repurchased pursuant to the
Restricted Stock purchase agreement shall be the original price paid by the
purchaser and may be paid by cancellation of any indebtedness of the purchaser
to the Company. The repurchase option shall lapse at a rate determined by the
Administrator.
11.3. OTHER PROVISIONS. The Restricted Stock Purchase Agreement shall
contain such other terms, provisions and conditions not inconsistent with the
Plan as may be determined by the Administrator in its sole discretion.
11.4. RIGHTS AS A SHAREHOLDER. Once the Stock Purchase Right is
exercised, the purchaser shall have the rights equivalent to those of a
shareholder, and shall be a shareholder when his or her purchase is entered upon
the records of the duly authorized transfer agent of the Company. No adjustment
will be made for a dividend or other right for which the record date is prior to
the date the Stock Purchase Right is exercised, except as provided in Section
13.
12. NON-TRANSFERABILITY OF OPTIONS AND STOCK PURCHASE RIGHTS. Unless
determined otherwise by the Administrator, an Option or Stock Purchase Right may
not be sold, pledged, assigned, hypothecated, transferred, or disposed of in any
manner other than by will or by the laws of descent or distribution and may be
exercised, during the lifetime of the Optionee, only by the Optionee. If the
Administrator makes an Option or Stock Purchase Right transferable, such Option
or Stock Purchase Right shall contain such additional terms and conditions as
the Administrator deems appropriate.
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13. ADJUSTMENTS UPON CHANGES IN CAPITALIZATION, DISSOLUTION, MERGER OR ASSET
SALE.
13.1. CHANGES IN CAPITALIZATION. Subject to any required action by the
stockholders of the Company, the number of shares of Common Stock covered by
each outstanding Option and Stock Purchase Right, and the number of shares of
Common Stock which have been authorized for issuance under the Plan but as to
which no Options or Stock Purchase Rights have yet been granted or which have
been returned to the Plan upon cancellation or expiration of an Option or Stock
Purchase Right, as well as the price per share of Common Stock covered by each
such outstanding Option or Stock Purchase Right, shall be proportionately
adjusted for any increase or decrease in the number of issued shares of Common
Stock resulting from a stock-split, reverse stock-split, stock dividend,
combination or reclassification of the Common Stock, or any other increase or
decrease in the number of issued shares of Common Stock effected without receipt
of consideration by the Company; provided, however, that conversion of any
convertible securities of the Company shall not be deemed to have been "effected
without receipt of consideration." Such adjustment shall be made by the Board,
whose determination in that respect shall be final, binding and conclusive.
Except as expressly provided herein, no issuance by the Company of shares of
stock of any class, or securities convertible into shares of stock of any class,
shall affect, and no adjustment by reason thereof shall be made with respect to,
the number or price of shares of Common Stock subject to an Option or Stock
Purchase Right.
13.2. DISSOLUTION OR LIQUIDATION. In the event of the proposed
dissolution or liquidation of the Company, the Administrator shall notify each
Optionee as soon as practicable prior to the effective date of such proposed
transaction. The Administrator in its discretion may provide for an Optionee to
have the right to exercise his or her Option until ten (10) days prior to such
transaction as to all of the Optioned Stock covered thereby, including Shares as
to which the Option would not otherwise be exercisable. In addition, the
Administrator may provide that any Company repurchase option applicable to any
Shares purchased upon exercise of an Option or Stock Purchase Right shall lapse
as to all such Shares, provided the proposed dissolution or liquidation takes
place at the time and in the manner contemplated. To the extent it has not been
previously exercised, an Option or Stock Purchase Right will terminate
immediately prior to the consummation of such proposed action.
13.3 MERGER OR ASSET SALE. In the event of a merger of the Company with
or into another corporation, or the sale of substantially all of the assets of
the Company, each outstanding Option and Stock Purchase Right shall be assumed
or an equivalent option or right substituted by the successor corporation or a
Parent or Subsidiary of the successor corporation. In the event that the
successor corporation refuses to assume or substitute for the Option or Stock
Purchase Right, the Optionee shall fully vest in and have the right to exercise
the Option or Stock Purchase Right as to all of the Optioned Stock, including
Shares as to which it would not otherwise be vested or exercisable. If an
Option or Stock Purchase Right becomes fully vested and exercisable in lieu of
assumption or substitution
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in the event of a merger or sale of assets, the Administrator shall notify
the Optionee in writing or electronically that the Option or Stock Purchase
Right shall be fully vested and exercisable for a period of fifteen (15) days
from the date of such notice, and the Option or Stock Purchase Right shall
terminate upon the expiration of such period. For the purposes of this
paragraph, the Option or Stock Purchase Right shall be considered assumed if,
following the merger or sale of assets, the option or right confers the right
to purchase or receive, for each Share of Optioned Stock subject to the
Option or Stock Purchase Right immediately prior to the merger or sale of
assets, the consideration (whether stock, cash, or other securities or
property) received in the merger or sale of assets by holders of Common Stock
for each Share held on the effective date of the transaction (and if holders
were offered a choice of consideration, the type of consideration chosen by
the holders of a majority of the outstanding Shares); provided, however, that
if such consideration received in the merger or sale of assets is not solely
common stock of the successor corporation or its Parent, the Administrator
may, with the consent of the successor cororation, provide for the
consideration to be received upon the exercise of the Option or Stock
Purchase Right, for each Share of Optioned Stock subject to the Option or
Stock Purchase Right, to be solely common stock of the successor corporation
or its Parent equal in fair market value to the per share consideration
received by holders of Common Stock in the merger or sale of assets.
14. DATE OF GRANT. The date of grant of an Option or Stock Purchase Right
shall be, for all purposes, the date on which the Administrator makes the
determination granting such Option or Stock Purchase Right, or such other later
date as is determined by the Administrator. Notice of the determination shall
be provided to each Optionee within a reasonable time after the date of such
grant.
15. AMENDMENT AND TERMINATION OF THE PLAN.
15.1. AMENDMENT AND TERMINATION. The Board may at any time amend, alter,
suspend or terminate the Plan.
15.2. EFFECT OF AMENDMENT OR TERMINATION. No amendment, alteration,
suspension or termination of the Plan shall impair the rights of any Optionee,
unless mutually agreed otherwise between the Optionee and the Administrator,
which agreement must be in writing and signed by the Optionee and the Company.
16. CONDITIONS UPON ISSUANCE OF SHARES.
16.1. LEGAL COMPLIANCE. Shares shall not be issued pursuant to the
exercise of an Option or Stock Purchase Right unless the exercise of such Option
or Stock Purchase Right and the issuance and delivery of such Shares shall
comply with Applicable Laws and shall be further subject to the approval of
counsel for the Company with respect to such compliance.
10
<PAGE>
16.2. INVESTMENT REPRESENTATIONS. As a condition to the exercise of an
Option or Stock Purchase Right, the Company may require the person exercising
such Option or Stock Purchase Right to represent and warrant at the time of any
such exercise that the Shares are being purchased only for investment and
without any present intention to sell or distribute such Shares if, in the
opinion of counsel for the Company, such a representation is required.
16.3. INABILITY TO OBTAIN AUTHORITY. The inability of the Company to
obtain authority from any regulatory body having jurisdiction, which authority
is deemed by the Company's counsel to be necessary to the lawful issuance and
sale of any Shares hereunder, shall relieve the Company of any liability in
respect of the failure to issue or sell such Shares as to which such requisite
authority shall not have been obtained.
17. RESERVATION OF SHARES. The Company, during the term of this Plan, will at
all times reserve and keep available such number of Shares as shall be
sufficient to satisfy the requirements of the Plan.
###
11
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<PAGE>
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<S> <C>
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<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
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(106,355)
0
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