<PAGE>
As filed with the Securities and Exchange Commission on November 14, 1997
Registration No 333-37457
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
---------------------
Amendment No. 2
to
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
---------------------
QUANTUM EPITAXIAL DESIGNS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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PENNSYLVANIA 3674 23-2566613
<S> <C> <C>
(State or Other Jurisdiction of (Primary Standard Industrial (I.R.S. Employer
Incorporation or Organization) Classification Code Number) Identification Number)
</TABLE>
119 Technology Drive, Bethlehem, Pennsylvania 18015
(Address, including zip code, of principal executive offices)
Thomas L. Hierl
President and Chief Executive Officer
Quantum Epitaxial Designs, Inc.
119 Technology Drive
Bethlehem, Pennsylvania 18015
(Name and address of agent for service)
(610) 861-6930
(Telephone number, including area code, of agent for service)
---------------------
With copies to:
Jeffrey P. Libson, Esq. Charles C. Zall, Esq.
Pepper, Hamilton & Scheetz LLP Saul, Ewing, Remick & Saul LLP
3000 Two Logan Square 3800 Centre Square West
Philadelphia, PA 19103-2799 Philadelphia, PA 19102
(215) 981-4000 (215) 972-7777
---------------------
Approximate Date of Commencement of Proposed Sale to the Public: As soon
as practicable after this Registration Statement becomes effective.
---------------------
If any of the securities being registered on this Form are to be offered
on a delayed or continuous basis pursuant to Rule 415 under the Securities Act
of 1933, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following
box and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
The Registrant hereby amends this Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant
shall file a further amendment which specifically states that this Registration
Statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933 or until this Registration Statement shall become
effective on such date as the Commission, acting pursuant to Section 8(a), may
determine.
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<PAGE>
Information contained herein is subject to completion or amendment. A
registration statement relating to these securities has been filed with the
Securities and Exchange Commission. These securities may not be sold nor may
offers to buy be accepted prior to the time the registration statement becomes
effective. This prospectus shall not constitute an offer to sell or the
solicitation of an offer to buy nor shall there be any sale of these securities
in any State in which such offer, solicitation or sale would be unlawful prior
to registration or qualification under the securities laws of any such State.
SUBJECT TO COMPLETION, DATED NOVEMBER 14, 1997
PROSPECTUS
2,500,000 Shares
[QED LOGO]
Quantum Epitaxial Designs, Inc.
Common Stock
----------------
Of the 2,500,000 shares of Common Stock offered hereby, 2,250,000 shares
are being sold by Quantum Epitaxial Designs, Inc. ("QED" or the "Company") and
250,000 shares are being sold by certain shareholders of the Company (the
"Selling Shareholders"). The Company will not receive any of the proceeds from
the sale of any shares by the Selling Shareholders. See "Principal and Selling
Shareholders." Prior to the Offering, there has been no public market for the
Common Stock of the Company. It is currently estimated that the initial public
offering price will be between $8.00 and $10.00 per share. See "Underwriting"
for a discussion of factors to be considered in determining the initial public
offering price. Application has been made for inclusion of the Common Stock on
the Nasdaq National Market under the symbol "QEDI."
----------------
These securities involve a high degree of risk. See "Risk Factors"
beginning on page 6 for a discussion of certain factors that should be
considered by prospective purchasers of the Common Stock offered hereby.
----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.
<PAGE>
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================================================================================
Underwriting Proceeds to
Price to Discounts and Proceeds to Selling
Public Commissions(1) Company(2) Shareholders
- --------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Per Share ...... $ $ $ $
- --------------------------------------------------------------------------------
Total(3) ...... $ $ $ $
================================================================================
</TABLE>
(1) In addition to paying the underwriting discounts and commissions, the
Company has agreed to issue to the Representatives five-year warrants to
purchase a total of 187,500 shares of Common Stock (the "Representatives'
Warrants") at an exercise price of $ per share. The Company and the
Selling Shareholders have agreed to indemnify the Underwriters against
certain liabilities, including liabilities under the Securities Act of
1933, as amended. See "Underwriting."
(2) Before deducting expenses payable by the Company, estimated at $500,000.
(3) The Company and the Selling Shareholders have granted the Underwriters a
30-day option to purchase up to an additional 125,000 and 250,000 shares,
respectively, of Common Stock solely to cover over-allotments, if any. If
the Underwriters exercise this option in full, the total Price to Public,
Underwriting Discounts and Commissions, Proceeds to Company and Proceeds to
Selling Shareholders will be $ , $ , $ , and $ , respectively.
See "Underwriting."
----------------
The shares of Common Stock offered by this Prospectus are offered by the
several Underwriters, subject to prior sale, when, as and if delivered to and
accepted by them, and subject to the right of the Underwriters to reject orders
in whole or in part. It is expected that delivery of the shares of Common Stock
will be made in New York, New York, on or about , 1997.
----------------
Needham & Company, Inc. Janney Montgomery Scott Inc.
The date of this Prospectus is , 1997.
<PAGE>
[GRAPHICS]
PERIODIC TABLE OF ELEMENTS
[Periodic Table of Elements Chart]
Caption: Compound semiconductors are composed of two or more elements that are
found in each of columns III and V of the periodic table. These elements
typically include Gallium (Ga), Arsenic (As), Aluminum (Al), Indium (In),
Antimony (Sb), Phosphorous (P) and Nitrogen (N). Many compound semiconductor
materials have unique physical properties that allow electrons to move many
times faster than through Silicon.
DIRECT BROADCAST SATELLITE
[Picture depicting satellite TV dish, satellite, and
television]
Caption: QED supplies GaAs based epitaxial wafers used for transistors in the
receivers of high frequency satellite TV dishes. This technology has made it
possible to reduce the diameter of these dishes from six feet to eighteen
inches.
[Picture depicting a wafer being manufactured through the Molecular Beam
Epitaxy (MBE) Production process.]
Caption: QED utilizes a process known as Molecular Beam Epitaxy (MBE) to produce
compound semiconductor wafers. MBE is a process by which thin layers of compound
semiconductor materials are grown on a crystal material called the substrate.
QED believes that the MBE production process allows for the precise control,
high uniformity and quality which is essential to produce the electronic results
required of semiconductors and integrated circuits used in high performance
applications.
GLOBAL TELECOMMUNICATIONS
[Picture depicting a woman and man on telephones and illustrating the signals
transmitted via satellite]
Caption: QED is a key supplier for the production of Transmit/Receive modules
for global satellite communications systems such as IRIDIUM and Globalstar.
These systems will utilize high performance devices derived from GaAs based
epitaxial wafers to achieve higher data transmission rates.
CELLULAR/PCS COMMUNICATIONS
[Picture depicting a woman and a man speaking on PCS telephones]
Caption: QED designs and manufactures GaAs based epitaxial wafers used for high
performance power and switch devices which provide benefits such as longer talk
times for portable cellular and PCS telephones and base stations.
[QED Logo surrounded by five circular photos of Company headquarters and phases
of production]
[V-100 Automated MBE System]
The Company has applied to register its trademarks for its corporate name,
the acronym "QED" and its logo. This Prospectus also includes trademarks of
companies other than the Company.
-------------------
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR
EFFECT TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON
STOCK AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN MARKET.
SUCH TRANSACTIONS MAY BE EFFECTED ON THE NASDAQ NATIONAL MARKET OR OTHERWISE.
SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.
IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS AND SELLING GROUP
MEMBERS MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON STOCK ON
THE NASDAQ NATIONAL MARKET IN ACCORDANCE WITH RULE 103 OF REGULATION M UNDER
THE SECURITIES EXCHANGE ACT OF 1934. SEE "UNDERWRITING."
2
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and financial data appearing elsewhere in this Prospectus. Except
as otherwise specified, all information in this Prospectus assumes no exercise
of the Underwriters' over-allotment option. See "Underwriting."
The Company
Quantum Epitaxial Designs, Inc. ("QED" or the "Company") designs, develops
and manufactures compound semiconductor materials using molecular beam epitaxy
("MBE") and is a leading producer of gallium arsenide ("GaAs") based epitaxial
wafers supplied to the semiconductor device manufacturing industry. Compound
semiconductors, which provide higher performance than silicon semiconductors,
are used in a broad range of applications in wireless communications, fiber
optic telecommunications, computers, and consumer and automotive electronics.
The Company utilizes compound semiconductor materials (such as GaAs, AlGaAs,
InGaAs, InAlAs, InSb and InP) that are a combination of elements found in each
of columns III and V of the periodic table to produce MBE wafers. MBE wafers
are generally used for the most advanced, high performance applications. Since
January 1996, the Company's significant customers have included Alpha
Industries Inc., Hughes Aircraft, Inc., M/A-COM, Inc., a subsidiary of AMP
Incorporated, Motorola, Inc., Raytheon Company, Texas Instruments Incorporated
and Watkins Johnson Company.
Recent developments in advanced information systems have created a growing
need for power efficient, high-performance electronic devices that operate at
very high frequencies, have increased storage capacity and computational and
display capabilities, and can be produced cost-effectively in commercial
volumes. Compound semiconductors produced from epitaxial wafers have emerged as
an enabling technology to meet the complex requirements of applications in
wireless communications, fiber optic telecommunications, computers, and
consumer and automotive electronics. The growth in these markets has increased
the demand for GaAs based epitaxial wafers. According to published industry
estimates, the market for GaAs based epitaxial wafers in the electronics market
segment is expected to grow from approximately $72.5 million in 1996 to $178.8
million in 2000.
Compound semiconductors are composed of two or more elements that are
found in each of columns III and V of the periodic table. These elements
typically include gallium, aluminum, indium, arsenic, phosphorous, antimony and
nitrogen. Many compound semiconductor materials have unique physical properties
that allow electrons to move many times faster than through silicon. This
higher electron mobility enables a compound semiconductor device to operate at
much higher speeds than silicon devices with lower power consumption and less
noise and distortion. In addition, unlike silicon-based devices, compound
semiconductor devices have opto-electronic capabilities that enable them to
emit and detect light.
The Company utilizes MBE technology to produce compound semiconductor
wafers. MBE is an epitaxial crystal growth process by which thin layers of
compound semiconductor materials are grown on top of a crystal material called
the substrate. The Company believes that the MBE production process allows for
the precise control, uniformity and high quality which is essential to produce
the electronic results required of semiconductors and integrated circuits used
in high performance applications.
The Company's goal is to become the leading supplier of MBE based compound
semiconductor materials. To attain this goal, the Company intends to increase
its capacity to serve growing, high volume commercial markets, maintain its
technological leadership, maintain its customer relationships, ensure quality
performance, and continue to penetrate the captive market.
The Company was incorporated in Pennsylvania in 1988. The Company's
executive offices, production facilities and development facilities are located
at 119 Technology Drive, Bethlehem, Pennsylvania 18015, and its telephone
number is (610) 861-6930.
3
<PAGE>
The Offering
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<S> <C>
Common Stock offered:
By the Company ....................................... 2,250,000 shares
By the Selling Shareholders ........................... 250,000 shares
---------
Total ............................................. 2,500,000 shares
Common Stock to be outstanding after the Offering ...... 5,673,415 shares(1)
Use of proceeds ....................................... To repay bank debt, purchase capital equip-
ment, and for general corporate purposes
including working capital and possible
acquisitions. See "Use of Proceeds."
Proposed Nasdaq National Market symbol .................. "QEDI"
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Summary Financial Data
(in thousands, except per share data)
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Nine Months Ended
Year Ended December 31, September 30,
--------------------------------------------------- --------------------
1992 1993 1994 1995 1996 1996 1997
-------- -------- -------- -------- ----------- -------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Statement of Operations Data:
Total revenues ..................... $2,249 $2,553 $3,633 $5,253 $ 6,902 $4,382 $ 6,474
Operating income (loss) ............ 658 754 867 1,153 115 (299) (317)
Income (loss) before income taxes ... 545 674 788 1,088 (98) (415) (722)
Pro forma net income (loss)(2) ...... $ 332 $ 411 $ 481 $ 664 $ (62) $(261) $ (446)
Pro forma net loss per share(2) ... $ (0.03) $ (0.19)
Shares used in computing pro forma net
loss per share(2) ............... 1,979 1,979
</TABLE>
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September 30, 1997
----------------------------------------------
Pro Forma
Actual Pro Forma(3) As Adjusted(3)(4)
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<S> <C> <C> <C>
Balance Sheet Data:
Working capital (deficit) .................. $(490) $ (408) $15,285
Total assets ................................. 9,803 9,780 23,577
Short-term debt .............................. 1,839 1,831 82
Long-term debt, less current portion ......... 2,794 2,794 154
Convertible subordinated notes payable ...... 2,092 -- --
Shareholders' equity ........................ 1,619 2,880 21,066
</TABLE>
- ----------------
(1) Excludes shares of Common Stock issuable upon the exercise of outstanding
options and shares of Common Stock issuable upon the exercise of the
Representatives' Warrants. As of the date of this Prospectus, there were
463,890 shares of Common Stock reserved for issuance upon the exercise of
outstanding options with a weighted average exercise price of $0.68 per
share, 25,000 shares of Common Stock reserved for issuance upon the
exercise of an outstanding option at an exercise price equal to the per
share initial public offering price and 142,000 shares of Common Stock
reserved for future issuance under the Company's stock option plans. See
"Management--Executive Compensation," "--Stock Option Plans,"
"Underwriting" and Note 10 of Notes to Financial Statements.
(2) The Company has operated as a corporation subject to taxation under
Subchapter S of the Internal Revenue Code of 1986, as amended (an "S
Corporation"), for income tax purposes since its inception
4
<PAGE>
in 1988 and will terminate such status in connection with the Offering.
Upon termination of the Company's S Corporation status, the Company will
record a net deferred tax liability and corresponding income tax expense.
This amount would have been approximately $750,000 if the termination
occurred on September 30, 1997. Such expense amount is excluded from the
above data. See "S Corporation Termination." See Note 3 of Notes to
Financial Statements for information concerning the computation of pro
forma net loss and pro forma net loss per share. Upon the closing of the
Offering, the Company will accelerate the vesting of certain stock options
which will result in a special compensation charge. This amount would have
been $859,000 if the vesting acceleration occurred on September 30, 1997.
Such expense amount is excluded from the above data. See "Management--Stock
Option Plans" and Note 10 of Notes to Financial Statements.
(3) Reflects the effects of the (i) termination of the Company's S Corporation
status, including the Deferred Tax Liability of $750,000 described in "S
Corporation Termination," (ii) conversion of convertible subordinated
notes payable in the principal aggregate amount of $100,000 into 143,245
shares of Class A Preferred Stock and subsequent conversion into 1,432,450
shares of Common Stock, and the conversion of a convertible subordinated
note payable to AMP Incorporated in the principal amount of $2,000,000
less deferred financing costs of $96,669 into 269,905 shares of Class B
Preferred Stock and subsequent conversion into 269,905 shares of Common
Stock (collectively, the "Convertible Subordinated Notes"), and (iii)
exercise of a warrant to purchase 135,710 shares of Common Stock (the
"NEPA Warrant") at a total exercise price of $7,886. See "S Corporation
Termination," "Certain Transactions" and Note 3 of Notes to Financial
Statements.
(4) Adjusted to give effect to the sale by the Company of 2,250,000 shares of
Common Stock offered hereby (at an assumed initial public offering price
of $9.00 per share) and the application of the net proceeds as set forth
in "Use of Proceeds."
Risk Factors
An investment in the Common Stock offered by this Prospectus involves a
high degree of risk. Risks involved in an investment in the Common Stock
include, without limitation management of growth, changes in business
conditions, changes in the compound semiconductor industry and the economy
generally, complexity of MBE production systems, adoption of MBE technology,
competition, continuing capital requirements, substantial reliance on key
customers, dependence on a limited number of equipment manufacturers,
dependence on key source materials, limited protection of proprietary
technology, and dependence on key personnel. No assurance can be given that the
future results will be achieved; actual events or results may differ materially
as a result of risks facing the Company. See "Risk Factors."
---------------------
This Prospectus contains certain statements of a forward-looking nature
relating to future events, such as developments of processes and commencement
of production, or the future financial performance of the Company. Such
statements can be identified by the use of forward-looking terminology such as
"believes," "expects," "may," "will," "should" or "anticipates" or the negative
thereof or other variations thereon or comparable terminology, or by
discussions of strategy that involve risks and uncertainties. In addition, from
time to time, the Company or its representatives have made or may make
forward-looking statements, orally or in writing. Such forward-looking
statements may be included in, but are not limited to, various filings made by
the Company with the Commission, or press releases or oral statements made by
or with the approval of an authorized executive officer of the Company.
Prospective investors are cautioned that such statements are only projections
and that actual events or results may differ materially. In evaluating such
statements, prospective investors should specifically consider the various
factors identified in this Prospectus, including the matters set forth under
the heading "Risk Factors" beginning on page 6 which could cause actual results
to differ materially from those indicated by such forward-looking statements.
5
<PAGE>
RISK FACTORS
An investment in the shares of Common Stock offered by this Prospectus
involves a high degree of risk. In addition to the other matters described in
this Prospectus, prospective investors should carefully consider the following
factors before making a decision to purchase the Common Stock offered hereby.
Management of Growth
The Company has experienced substantial growth and expanded operations
during the past five years. This growth has placed significant and increasing
demands on the Company's management, operational, technical and financial
resources. The MBE production process is a leading edge technology and, as
such, the Company's growth may continue to challenge the Company's senior
management, as well as its technical and manufacturing personnel. The Company's
future performance will depend in part on its ability to manage expanding
operations and the associated adaptation of its operational systems. In
addition, the Company's decisions to incur additional fixed costs with the
purchase of MBE systems is based, in large part, on the Company's forecast of
future growth of demand for its products and related revenues. The failure of
the Company to manage its growth effectively could have a material adverse
effect on the Company's business, financial condition and results of
operations. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
Factors Affecting Operating Results; Potential Fluctuations in Quarterly
Results
Fluctuations in the Company's quarterly operating results have and will
result from the timing, quantity and pricing of orders, scheduled and
unscheduled maintenance, variations in manufacturing yields, and other factors.
Many of these factors are beyond the Company's control. Typically, customers
require short lead times for the delivery of MBE wafers which has made, and may
continue to make it difficult for the Company to estimate accurately the demand
for any given period of time. In addition, some of the Company's customers
maintain a supply of wafers in inventory and may periodically reduce or
eliminate orders given their current supply and demand requirements. A
significant portion of the Company's expenses are fixed. Therefore, the factors
affecting revenues described above will have the effect of causing fluctuations
in the Company's quarterly results. In addition, the timing of increases in
fixed expenses is based, in large part, on the Company's forecast of future
revenues. If such revenues do not meet the Company's expectations, the Company
will be unable to quickly adjust expenses to appropriate levels for actual
revenues, which could have a material adverse effect on the Company's business,
financial condition and results of operation. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
Substantial Capital Expenditures; Continuing Capital Requirements
To meet the market demand for MBE wafers anticipated by the Company, the
Company plans to purchase additional multi-wafer MBE systems and related
equipment in late 1998 and 1999. This capital acquisition and the related
increase in staffing will increase fixed costs and may adversely affect the
Company's short term operating results prior to the realization of the
anticipated future benefits of such increased capacity. If the anticipated
market demand for the Company's MBE products does not occur, or if the revenues
do not increase sufficiently to cover the additional costs of expansion, the
Company's business, financial condition and results of operations will be
adversely affected. Investments in new technology or sales growth beyond
currently planned capacity will require further expenditures. As a result, the
Company anticipates that it may be required to raise additional capital in the
future in order to finance the expansion of its manufacturing capacity and its
research and development programs. There can be no assurance that additional
capital will be available on acceptable terms, if at all. If additional funds
are raised by issuing equity securities, dilution to the Company's then
existing shareholders may result. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and "Business--Facilities and
Equipment."
Substantial Reliance on Key Customers
The Company's customer base has been and continues to be highly
concentrated. Since January 1996, the Company's largest customers based on
revenues have included Alpha Industries Inc., Hughes Aircraft, Inc., M/A-COM,
Inc., Motorola, Inc., Raytheon Company, Texas Instruments Incorporated and
Watkins Johnson
6
<PAGE>
Company. For the years ended December 31, 1995 and 1996 and for the nine months
ended September 30, 1997, three customers accounted for approximately 52%, 63%
and 55%, respectively, of the Company's total revenues and the ten largest
customers accounted for approximately 85%, 88% and 81%, respectively, of the
Company's total revenues in each such period. Generally, the Company does not
have long-term or other non-cancelable commitments from such customers to
purchase its products. However, based upon historical results and the long-term
relationships with most customers, the Company believes that a substantial
portion of its revenues will continue to be derived from sales to the Company's
largest customers. There can be no assurance that the Company's current
customers will continue to place orders with the Company or that the Company
will be able to obtain orders from new customers. The loss of any one or more
significant customers could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Results of Operations" and "Business--Customers."
MBE Production System Complexity
The operation of MBE production systems is extremely complex and requires
highly trained technicians and a controlled operating environment. The redesign
or introduction of new MBE production systems by MBE equipment suppliers
historically has resulted in unanticipated problems associated with new and
unproven designs and the relative unfamiliarity of the Company's technical
staff with such designs. Due to the complexity of the manufacturing process,
minute impurities, deviations from operating parameters of temperature and
pressure, operator error and other factors, the Company has experienced, and
may in the future experience lower than expected production throughput and
yields. These experiences have substantially affected the Company's results of
operations. The inability to produce sufficient MBE wafers to meet customer
demand on a timely basis could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations,"
"Business--Technology and Manufacturing," "--Backlog" and "--Facilities and
Equipment."
Adoption of MBE Technology
MBE is one of several competing technologies used to produce compound
semiconductor materials. The Company believes that MBE technology offers
performance advantages over other process technologies, but in some cases at a
higher cost. There can be no assurance that other technologies will not develop
further and diminish or eliminate the performance advantages of MBE, that
end-product manufacturers will require the performance levels attainable only
by using MBE wafers, or that MBE-based products will achieve broader market
acceptance. See "Business--Industry Overview," "--MBE Technology," "--Products"
and "--Competition."
Competition
The market for the Company's products is highly competitive and has been
characterized by rapid and significant technological advances. In connection
with the production of MBE wafers for the semiconductor and integrated circuit
market, the Company competes with both merchant suppliers and the in-house
capabilities of device manufacturers, many of which have substantially greater
financial, technical and other resources than the Company. There can be no
assurance that the Company's competitors or others, will not succeed in
developing technologies and products that are equal to or more effective than
any which are being developed by the Company or which would render the
Company's technologies obsolete or noncompetitive. In addition, device
manufacturers may install new or increase existing internal capacity which
could result in fewer orders for the Company's products. The Company believes
that the primary competitive factors in the markets in which the Company's
products compete are quality, reliability of delivery, accessibility of
support, and price. Increased competitive pressure could lead to intensified
price-based competition, resulting in lower prices and margins, which would
materially adversely affect the Company's business, financial condition and
results of operations. See "Business--Industry Overview" and "--Competition."
Dependence on a Limited Number of Equipment Manufacturers
There are few manufacturers of MBE wafer manufacturing systems. The
increased demand for MBE systems could increase future costs of MBE systems and
cause delays in increasing capacity to meet customer
7
<PAGE>
demand. Based on the Company's experience, the time from the ordering of a new
MBE system until installation and testing are complete can be as long as one
year. There can be no assurance that this order lead time will not increase in
the future. Any or all of these factors could have a material adverse effect on
the Company's business, financial condition and results of operations.
Dependence on Key Materials
The Company manufactures its MBE wafers from GaAs substrates that are
supplied by only a limited number of vendors. In addition, a single entity has
significant control over commercial sources of gallium. Although the Company
has not experienced production delays due to unavailability, delay in
procurement or increased cost of raw materials to date, there can be no
assurance that a disruption of supply or price fluctuation will not occur and
any such disruption or fluctuation could have a material adverse effect on the
Company's business, financial condition and results of operations. In addition,
production of MBE wafers requires high purity supplies of source materials, and
as a result minor impurities could adversely affect an entire production run.
The Company seeks to purchase source materials with the requisite purity
levels, but there can be no assurance that the source materials received by the
Company will meet the specified purity levels because such levels of purity
exceed that which can be detected using current technology. See "Business--Raw
Materials and Suppliers."
Limited Protection of Proprietary Technology; Risks of Infringement
The Company seeks to protect its technology, proprietary rights and other
written materials principally under trade secret and copyright laws, which
afford only limited protection. The Company does not have any patents on its
proprietary technology. The Company routinely enters into non-disclosure and
confidentiality agreements with employees, contractors, consultants and
customers. Despite the Company's efforts to protect its proprietary rights,
unauthorized parties may attempt to utilize aspects of the Company's technology
or to obtain and use information that the Company regards as proprietary. There
can be no assurance that the Company's means of protecting its proprietary
rights will be adequate or that the Company's competitors will not
independently develop similar technologies. In addition, the laws of some
foreign countries do not protect the Company's proprietary rights to as great
an extent as the laws of the United States. The Company does not believe that
any of its products infringe on the proprietary rights of third parties. There
can be no assurance, however, that third parties will not claim infringement by
the Company with respect to current or future activities. Any such claim, with
or without merit, could be time-consuming, result in costly litigation, cause
delays or require the Company to enter into royalty or licensing agreements.
Such royalty or licensing agreements, if required, may not be available on
terms acceptable to the Company or at all, which could have a material adverse
effect on the business, results of operations and financial condition of the
Company. See "Business--Proprietary Information."
Dependence on Key Personnel
The Company is dependent on the efforts of a number of key management and
technical personnel, including its President and Chief Executive Officer,
Thomas L. Hierl. The loss of services of one or more of these key individuals,
particularly Mr. Hierl, could materially and adversely affect the business of
the Company and its future prospects. The Company's success may also depend on
its ability to attract and retain other qualified technical, marketing,
manufacturing and other key management personnel. The Company faces competition
for such personnel and there can be no assurance that the Company will be
successful in attracting and retaining such personnel. See
"Management--Executive Officers and Directors."
Centralization of Manufacturing Facilities
The Company manufactures all of its products at its facility in Bethlehem,
Pennsylvania. Due to this centralization of its manufacturing equipment, the
Company is susceptible to business interruptions resulting from power outages,
natural disasters, equipment failures and other localized conditions. Prolonged
business interruptions would have a material adverse effect on the Company's
business, financial condition and its results of operations. See
"Business--Facilities and Equipment."
8
<PAGE>
Environmental Regulations
Although the Company is largely unregulated at present, generally due to
the small volume of hazardous materials handled or hazardous wastes generated,
the Company may in the future become subject to federal, state and local
environmental regulations related to the storage, treatment, discharge or
disposal of chemicals used in its operations and exposure of its personnel to
occupational hazards. Such regulations could require the Company to acquire
significant equipment or to incur other substantial expenses to comply with
regulations. Any failure by the Company to control the use of, or to restrict
adequately the discharge of, regulated substances or properly control other
occupational hazards as required by applicable regulations could subject it to
substantial financial liabilities or result in a suspension of production or a
cessation of operations. See "Business--Environmental Regulation."
Absence of Public Market and Possible Volatility of Stock Price
There has been no public market for the Common Stock prior to the Offering
and, although application has been made for listing the Common Stock on the
Nasdaq National Market, there can be no assurance that an active trading market
in the Common Stock will develop or be sustained. The initial public offering
price of the Common Stock will be determined through negotiations between the
Company, the Selling Shareholders and the representatives of the Underwriters,
and will not necessarily be related to the Company's book value, net worth or
any other established criteria of value. See "Underwriting" for a discussion of
factors to be considered in determining the initial public offering price of
the Common Stock. The market price of the Common Stock is likely to be highly
volatile, and there can be no assurance that the price of the Common Stock will
not decline below the initial public offering price following the completion of
the Offering. The Company believes factors such as actual or anticipated
quarterly fluctuations in financial results, changes in earnings estimates by
securities analysts and announcements of material events by the Company, its
major customers or its competitors, as well as general industry or economic
conditions, may cause the market price of the Common Stock to fluctuate,
perhaps substantially. The stock market has experienced extreme price and
volume fluctuations which have affected the market prices of many technology
companies and small capitalization stocks in particular, and which have often
been unrelated to the operating performance of these companies. See
"Underwriting."
Effect of Shares Eligible for Future Sale on Market Price
Future sales of Common Stock by existing shareholders could adversely
affect the prevailing market price for the Common Stock after the Offering and
the Company's ability to raise additional capital. Upon consummation of the
Offering, the Company will have 5,673,415 shares of Common Stock outstanding
(assuming no exercise of options to purchase Common Stock). Of such shares, the
2,500,000 shares sold in the Offering generally will be freely tradeable
without restriction or further registration under the Securities Act of 1933,
as amended (the "Securities Act"). All of the remaining shares of Common Stock
are "restricted securities" within the meaning of Rule 144 and are eligible for
sale under Rule 144 subject to volume limitations and other conditions, if
applicable. The beneficial owners of approximately 3,171,745 shares of Common
Stock and 317,890 shares of Common Stock issuable upon exercise of options
which will be exercisable upon completion of the Offering have agreed not to
sell or otherwise dispose of their shares for a period ending 180 days after
the date of this Prospectus (the "lock-up period"), without the prior written
consent of Needham & Company, Inc. No prediction can be made as to the effect,
if any, that market sales of such shares or the availability of such shares for
future sale will have on the market price of shares of Common Stock prevailing
from time to time. See "Shares Eligible for Future Sale."
Following the Offering and after the expiration of the lock-up period, the
holders of 1,663,699 shares of Common Stock will be entitled to certain
registration rights with respect to such shares. If such holders, by exercising
their registration rights, cause a large number of shares to be registered and
sold in the public market, such sales may have an adverse effect on the market
price for the Common Stock. In addition, if the Company is required to include
in a Company-initiated registration shares held by such holders pursuant to the
exercise of their "piggyback" registration rights, such sales may have an
adverse effect on the Company's ability to raise capital. See "Risk
Factors--Anti-takeover Effect of Certain Provisions of the Company's Articles
of Incorporation and Pennsylvania Law," "Description of
Securities--Registration Rights" and "Underwriting."
9
<PAGE>
Anti-takeover Effect of Certain Provisions of the Company's Articles of
Incorporation and Pennsylvania Law
Certain provisions of the Company's Restated Articles of Incorporation
(the "Articles") and Amended and Restated Bylaws (the "Bylaws") could delay or
frustrate the removal of incumbent directors, discourage potential acquisition
proposals and proxy contests and delay, defer or prevent a change in control of
the Company, even if such events could be beneficial, in the short term, to the
interests of the shareholders. In addition, the Bylaws provide for the Board of
Directors to be divided into three classes of directors serving three-year
staggered terms and the elimination of shareholder action by written consent.
See "Management--Classified Board of Directors" and "Description of Capital
Stock."
The Articles authorize the issuance of up to 25,000,000 shares of Common
Stock and 5,420,000 shares of preferred stock, par value $0.01 per share (the
"Preferred Stock"). The Board of Directors has the power to determine the price
and terms under which any such Preferred Stock may be issued and to fix the
terms thereof. The ability of the Board of Directors to issue one or more
series of Preferred Stock without shareholder approval, as well as certain
applicable statutory provisions under the Pennsylvania Business Corporation
Law, could deter or delay unsolicited changes in control of the Company by
discouraging open market purchases of the Common Stock or non-negotiated tender
or exchange offers for such stock, which may be disadvantageous to the
Company's shareholders who may otherwise desire to participate in such
transaction and receive a premium for their shares.
The Pennsylvania Business Corporation Law of 1988, as amended (the "BCL"),
contains a number of statutory "anti-takeover" provisions applicable to the
Company. One such BCL provision prohibits, subject to certain exceptions, a
"business combination" with a shareholder or group of shareholders (and certain
affiliates and associates of such shareholders) beneficially owning more than
20% of the voting power of a public corporation (an "interested shareholder")
for a five-year period following the date on which the holder became an
interested shareholder. This provision may discourage open market purchases of
a corporation's stock or a non-negotiated tender or exchange offer for such
stock and, accordingly, may be considered disadvantageous by a shareholder who
would desire to participate in any such transaction. The BCL also provides that
directors may, in discharging their duties, consider the interests of a number
of different constituencies, including shareholders, employees, suppliers,
customers, creditors and the community in which it is located. Directors are
not required to consider the interests of shareholders to a greater degree than
other constituencies' interests. The BCL expressly provides that directors do
not violate their fiduciary duties solely by relying on poison pills or the
anti-takeover provisions of the BCL. See "Description of Capital Stock."
Concentration of Stock Ownership
The present directors, executive officers and 5% shareholders of the
Company and their respective affiliates will, in the aggregate, beneficially
own 53.4% (48.1% if the over-allotment option is exercised) of the Company's
outstanding Common Stock upon completion of the Offering. As a result, these
shareholders, if they act as a group, would be able to exercise significant
influence over all matters requiring shareholder approval, including the
election of directors and approval of significant corporate transactions. There
are no voting arrangements, agreements or understandings in place among any of
such shareholders. See "Principal and Selling Shareholders."
Dilution
Purchasers of shares of Common Stock in the Offering will experience
immediate and substantial dilution of the net tangible book value per share of
Common Stock in the amount of $5.29 per share. See "Dilution."
10
<PAGE>
USE OF PROCEEDS
The proceeds from the sale of the Common Stock offered by the Company
hereby will be approximately $18.3 million after deducting estimated
underwriting discounts and commissions and estimated offering expenses payable
by the Company. The Company will not receive any of the net proceeds from the
shares of Common Stock sold by the Selling Shareholders.
The Company will use approximately $3.3 million of the net proceeds from
the Offering to repay outstanding long-term bank debt bearing interest at a
weighted average rate of 8.5% per annum as of September 30, 1997. The Company
plans to use approximately $1.0 million of the net proceeds to repay amounts
outstanding under the Company's bank line of credit, approximately $4.0 million
of the net proceeds for capital equipment purchases in 1998 and approximately
$4.0 million for capital equipment purchases in 1999. The remainder of the net
proceeds will be used for general corporate purposes which may include working
capital, capital expenditures and potential acquisitions of businesses. At the
present time, the Company is not engaged in any negotiations with third parties
and has no specific agreements or plans with respect to any acquisitions, and
there can be no assurance the Company will consummate any acquisition. Pending
use as described above, the net proceeds of the Offering will be invested in
short-term, investment grade, interest-bearing securities. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
DIVIDEND POLICY
The Company has not declared or paid any cash dividends or distributions
on its capital stock, other than S Corporation distributions discussed below.
The Company's current intention is to retain any future earnings for use in its
business. Accordingly, the Company does not anticipate paying any cash
dividends on the Common Stock in the foreseeable future.
S CORPORATION TERMINATION
Prior to the Offering, Company has been a corporation subject to taxation
under Subchapter S of the Internal Revenue Code of 1986, as amended (an "S
Corporation"). As a result, the net income of the Company has been taxed, for
federal and state income tax purposes, directly to the Company's shareholders
rather than to the Company. Accordingly, the Company made distributions to its
shareholders to cover the estimated income tax liabilities attributable on
their proportionate share of the Company's taxable income.
The Company will terminate its S Corporation status on a date (the
"Termination Date") immediately prior to the consummation of the Offering. As a
result of the termination of its S Corporation status, the Company will record
a net deferred income tax liability and corresponding income tax expense (the
"Deferred Tax Liability"), effective upon the Termination Date. The amount of
the net Deferred Tax Liability would have been approximately $750,000 if the
Termination Date had been September 30, 1997, but the actual amount will be
adjusted to reflect the effect of the Company's actual operating results
through the Termination Date. The Company does not intend to make any
distributions to its shareholders in connection with the termination. See
"Certain Transactions--Tax Agreements."
11
<PAGE>
CAPITALIZATION
The following table sets forth, as of September 30, 1997, (i) the actual
capitalization of the Company, (ii) the pro forma capitalization of the
Company, and (iii) the pro forma as adjusted capitalization of the Company
after giving effect to the sale of 2,250,000 shares of Common Stock offered by
the Company hereby (at an assumed initial public offering price of $9.00 per
share) and the application of the estimated net proceeds therefrom. The
information set forth below should be read in conjunction with the Financial
Statements and Notes thereto and Management's Discussion and Analysis of
Financial Condition and Results of Operations appearing elsewhere in this
Prospectus.
<TABLE>
<CAPTION>
September 30, 1997
----------------------------------------------
Pro Forma
Actual Pro Forma(1) As Adjusted(1)(2)
-------- -------------- ------------------
(in thousands, except share data)
<S> <C> <C> <C>
Short-term debt(3) .............................. $1,839 $1,831 $ 82
====== ====== ========
Long-term debt, less current portion(3) ......... 2,794 2,794 154
------ ------ --------
Convertible subordinated notes payable(3) ...... 2,092 -- --
------ ------ --------
Shareholders' equity:
Preferred Stock, $0.01 par value, 5,420,000 shares
authorized; none issued and outstanding ...... -- -- --
Common Stock, $0.001 par value, 25,000,000
shares authorized; 1,585,350 shares issued and
outstanding, actual; 3,423,415 shares issued and
outstanding, pro forma; and 5,673,415 shares
issued and outstanding, as adjusted(4) ......... 2 3 6
Additional paid-in capital ..................... 1,045 3,736 21,060
Deferred compensation(5) ........................ (859) (859) --
Retained earnings .............................. 1,431 -- --
------ ------ --------
Total shareholders' equity ..................... 1,619 2,880 21,066
------ ------ --------
Total capitalization ........................ $6,505 $5,674 $21,220
====== ====== ========
</TABLE>
<PAGE>
- ------------
(1) Reflects the effects of the (i) termination of the Company's S Corporation
status, including the Deferred Tax Liability described in "S Corporation
Termination," and the reclassification of the retained earnings balance to
additional paid-in capital, (ii) conversion of the Convertible
Subordinated Notes into shares of Common Stock, and (iii) exercise of the
NEPA Warrant to purchase Common Stock. See "S Corporation Termination,"
"Certain Transactions" and Note 3 of Notes to Financial Statements.
(2) Adjusted to give effect to the sale by the Company of 2,250,000 shares of
Common Stock offered (at an assumed initial public offering price of $9.00
per share) and the application of the net proceeds as set forth in "Use of
Proceeds".
(3) See Notes 7, 8 and 9 of Notes to Financial Statements for information
concerning the Company's line of credit, long-term debt and convertible
subordinated notes payable.
(4) Excludes shares of Common Stock issuable upon the exercise of outstanding
options and shares of Common Stock issuable upon the exercise of the
Representatives' Warrants. As of the date of this Prospectus, there were
463,890 shares of Common Stock reserved for issuance upon the exercise of
outstanding options with a weighted average exercise price of $0.68 per
share, 25,000 shares of Common Stock reserved for issuance upon the
exercise of an outstanding option at an exercise price equal to the per
share initial public offering price and 142,000 shares of Common Stock
reserved for future issuance under the Company's stock plans. See
"Management--Executive Compensation," "--Stock Option Plans,"
"Underwriting" and Note 10 of Notes to Financial Statements.
(5) The Company recorded deferred compensation of $972,000 in connection with
the grant of certain stock options in July 1997. Of this amount, $113,000
was recognized as an expense in the third quarter of 1997. The balance of
$859,000 will be recognized as an expense upon completion of the Offering.
See "Management--Stock Option Plans--1996 Stock Option Plan" and Note 10
of Notes to Financial Statements.
12
<PAGE>
DILUTION
The net tangible book value of the Company as of September 30, 1997 was
approximately $1,619,000, or $1.02 per share of Common Stock. Net tangible book
value per share is equal to the total tangible assets of the Company less total
liabilities, divided by the number of shares of Common Stock outstanding. After
giving effect to the (i) termination of the Company's S Corporation status,
including the Deferred Tax Liability described in "S Corporation Termination,"
(ii) conversion of the Convertible Subordinated Notes into shares of Common
Stock, and (iii) exercise of the NEPA Warrant to purchase Common Stock the pro
forma net tangible book value of the Company as of September 30, 1997 would
have been approximately $2,880,000, or $0.84 per share. After giving effect to
the sale by the Company of 2,250,000 shares of Common Stock offered hereby (at
an assumed initial public offering price of $9.00 per share) and after
deduction of estimated underwriting discounts and commissions and estimated
offering expenses payable by the Company, the pro forma, as adjusted, net
tangible book value of the Company as of September 30, 1997 would have been
approximately $21,066,000, or $3.71 per share. This represents an immediate
increase in pro forma, as adjusted, net tangible book value of $2.87 per share
to existing shareholders and an immediate dilution in pro forma, as adjusted,
net tangible book value of $5.29 per share to new shareholders purchasing
Common Stock in the Offering. The following table illustrates this per-share
dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share ...... $ 9.00
Net tangible book value per share as of September
30, 1997 .......................................... $ 1.02
Decrease attributable to the termination of the
Company's S Corporation status, the conversion
of the Convertible Subordinated Notes and the
exercise of the NEPA Warrant ..................... (0.18)
-------
Pro forma net tangible book value per share before
the Offering ....................................... 0.84
Increase attributable to new shareholders ......... 2.87
-------
Pro forma, as adjusted, net tangible book value per
share after the Offering ........................... 3.71
--------
Dilution per share to new shareholders ............... $ 5.29
========
</TABLE>
As of September 30, 1997, options to purchase 463,890 shares of Common
Stock were outstanding with a weighted average exercise price of $0.68 per
share. If all such options were exercised, the dilution per share to new
investors would be $5.34. See "Capitalization," "Description of Capital Stock"
and Note 10 of Notes to Financial Statements.
The following table sets forth, as of September 30, 1997 on a pro forma
basis and after giving effect to the Offering, the number of shares of Common
Stock purchased from the Company, the total consideration paid to the Company,
the average price per share paid by existing shareholders, and the average
price per share to be paid by new investors purchasing shares of Common Stock
from the Company in the Offering:
<TABLE>
<CAPTION>
Shares Purchased Total Consideration
----------------------- ------------------------- Average Price
Number Percent Amount Percent Per Share
----------- --------- ------------- --------- --------------
<S> <C> <C> <C> <C> <C>
Existing shareholders(1)(2) ...... 3,423,415 60.3% $ 2,075,588 9.3% $ 0.61
New investors(2) .................. 2,250,000 39.7 20,250,000 90.7 9.00
--------- ------ ------------ ------
Total ........................... 5,673,415 100.0% $22,325,588 100.0%
========= ====== ============ ======
</TABLE>
<PAGE>
- ------------
(1) Assumes no exercise of options outstanding as of September 30, 1997 to
purchase 463,890 shares of Common Stock at exercise prices of $0.05 to
$1.75 and a weighted average exercise price of $0.68 per share. If any of
these options are exercised, there will be further dilution to new
investors. Does not reflect the sale of 250,000 shares by Selling
Shareholders in the Offering. Sales by Selling Shareholders in the
Offering will reduce the number of shares held by existing shareholders to
3,173,415, or 55.9% of the total shares of Common Stock outstanding after
the Offering (2,923,415 shares, or 50.4%, of the total shares if the
Underwriters' over-allotment option is exercised).
(2) Sales by Selling Shareholders in the Offering will increase the number of
shares held by new investors to 2,500,000, or 44.1%, of the total shares
of Common Stock outstanding after the Offering (2,875,000 shares, or
49.6%, of the total shares if the Underwriters' over-allotment option is
exercised).
13
<PAGE>
SELECTED FINANCIAL DATA
The selected financial data presented below as of December 31, 1995 and
1996 and September 30, 1997 and for each of the three years in the period ended
December 31, 1996 and for the nine months ended September 30, 1997 have been
derived from the audited Financial Statements of the Company included elsewhere
in this Prospectus. The selected financial data as of December 31, 1992, 1993
and 1994 and for each of the two years in the period ended December 31, 1993
are derived from audited financial statements not included herein. The selected
financial data for the nine months ended September 30, 1996 are derived from
the unaudited financial statements of the Company, which, in management's
opinion, include all adjustments (consisting of only normal recurring
adjustments) necessary for a fair presentation of the information set forth
therein. The results of operations for prior periods, including the nine months
ended September 30, 1996 and 1997, are not necessarily indicative of the
results that may be expected for 1997 or future years. The information set
forth below should be read in conjunction with the Company's Financial
Statements and the Notes thereto, and "Management's Discussion and Analysis of
Financial Condition and Results of Operations" included elsewhere in this
Prospectus.
<TABLE>
<CAPTION>
Year Ended December 31,
---------------------------------------------------
1992 1993 1994 1995 1996
-------- -------- -------- -------- -----------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Statement of Operations Data:
Revenues:
Product .......................................... $2,176 $2,515 $3,229 $4,644 $ 6,312
Contract research and development .................. 73 38 404 609 590
------- ------- ------- ------- -------
Total revenues ................................. 2,249 2,553 3,633 5,253 6,902
------- ------- ------- ------- -------
Operating expenses:
Cost of product, excluding depreciation ............ 607 837 1,331 2,221 3,799
Cost of product-depreciation ..................... 212 230 424 599 892
------- ------- ------- ------- -------
Total cost of product ........................... 819 1,067 1,755 2,820 4,691
Research and development ........................... 159 72 277 416 576
Selling, general and administrative ............... 613 660 734 864 1,520
Special compensation charge(1) ..................... -- -- -- -- --
------- ------- ------- ------- -------
Total operating expenses ........................ 1,591 1,799 2,766 4,100 6,787
------- ------- ------- ------- -------
Operating income (loss) .............................. 658 754 867 1,153 115
Interest expense .................................... 113 80 79 65 213
------- ------- ------- ------- -------
Net income (loss) before income taxes ............... 545 674 788 1,088 (98)
Pro forma provision (benefit) for income taxes(1) ... 213 263 307 424 (36)
------- ------- ------- ------- -------
Pro forma net income (loss)(1) ..................... $ 332 $ 411 $ 481 $ 664 $ (62)
======= ======= ======= ======= =======
Pro forma net loss per share(1) ..................... $ (0.03)
=======
Shares used in computing pro forma net loss per
share(1) .......................................... 1,979
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
--------------------
1996 1997
-------- ----------
<S> <C> <C>
Statement of Operations Data:
Revenues:
Product .......................................... $4,044 $ 5,871
Contract research and development .................. 338 603
------ -------
Total revenues ................................. 4,382 6,474
------ -------
Operating expenses:
Cost of product, excluding depreciation ............ 2,628 3,741
Cost of product-depreciation ..................... 608 893
------ -------
Total cost of product ........................... 3,236 4,634
Research and development ........................... 355 685
Selling, general and administrative ............... 1,090 1,359
Special compensation charge(1) ..................... -- 113
------ -------
Total operating expenses ........................ 4,681 6,791
------ -------
Operating income (loss) .............................. (299) (317)
Interest expense .................................... 116 405
------ -------
Net income (loss) before income taxes ............... (415) (722)
Pro forma provision (benefit) for income taxes(1) ... (154) (276)
------ -------
Pro forma net income (loss)(1) ..................... $(261) $ (446)
====== =======
Pro forma net loss per share(1) ..................... $ (0.19)
=======
Shares used in computing pro forma net loss per
share(1) .......................................... 1,979
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
December 31, September 30, 1997
------------------------------------------------------- -----------------------
1992 1993 1994 1995 1996 Actual Pro Forma(2)
-------- ---------- -------- --------- ------------ -------- -------------
(in thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Balance Sheet Data:
Working capital (deficit) .................. $ 385 $ (564) $ 333 $ (22) $ (1,967) $(490) $ (408)
Total assets ................................. 2,044 3,002 3,309 5,537 8,481 9,803 9,780
Short-term debt .............................. 287 327 334 483 3,039 1,839 1,831
Long-term debt, less current portion ......... 776 647 795 1,235 2,054 2,794 2,794
Convertible subordinated notes payable ...... 100 100 100 100 100 2,092 --
Shareholders' equity ........................ 725 1,150 1,665 2,355 2,228 1,619 2,880
</TABLE>
- ----------------
(1) The Company has operated as an S Corporation for income tax purposes since
its inception in 1988 and will terminate such status in connection with
the Offering. See Note 3 of Notes to Financial Statements for information
concerning the computation of the pro forma provision (benefit) for income
taxes, pro forma net income (loss) and pro forma net loss per share. Upon
termination of the Company's S Corporation status, the Company will record
a net deferred tax liability and corresponding income tax expense. This
amount would have been approximately $750,000 if the termination occurred
on September 30, 1997. Such expense amount is excluded from the above
data. See "S Corporation Termination" and Note 3 of Notes to Financial
Statements. Upon the closing of the Offering, the Company will accelerate
the vesting of certain stock options which will result in a special
compensation charge. This amount would have been $859,000 if the vesting
acceleration occurred on September 30, 1997. Such expense amount is
excluded from the above data. See "Management--Stock Option Plans" and
Note 10 of the Notes to Financial Statements.
(2) Reflects the effects of the (i) termination of the Company's S Corporation
status, including the Deferred Tax Liability described in "S Corporation
Termination," (ii) conversion of the Convertible Subordinated Notes into
1,702,355 shares of Common Stock and (iii) exercise of the NEPA Warrant to
purchase 135,710 shares of Common Stock. See "S Corporation Termination,"
"Certain Transactions" and Note 3 of Notes to Financial Statements.
14
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
The Company designs, develops and manufactures compound semiconductor
materials using MBE technology and is a leading producer of GaAs based
epitaxial wafers supplied to the semiconductor device manufacturing industry.
In addition, the Company conducts contract research and development principally
for agencies of the United States government. The products and services of the
Company range from preliminary design to volume production of compound
semiconductor wafers, primarily MBE wafers. The Company has experienced rapid
sales growth, and from 1993 to 1996, the Company's total revenues increased
from $2.6 million to $6.9 million, or a compound annual growth rate of
approximately 39%. Since January 1996, the Company's significant customers have
included Alpha Industries Inc., Hughes Aircraft, Inc., M/A-COM, Inc., Motorola,
Inc., Raytheon Company, Texas Instruments Incorporated and Watkins Johnson
Company.
The Company earns revenues from the sale of compound semiconductor wafers
and from government funded contract research and development. Product revenues,
which primarily result from the sale of wafers, are recognized upon the
shipment of wafers. Product revenues from wafers shipped in a quarterly
reporting period may vary substantially depending on several factors, including
customer order size and timing, production capacity and the price for each
wafer. Wafer prices and manufacturing costs will vary depending on wafer
diameter, substrate material, wafer growth complexity, order size, yields and
other factors. The Company also earns revenues from contracts with various
federal governmental agencies to conduct research on advanced electronic and
opto-electronic materials and devices. Generally, these contracts last between
six and 24 months and are funded through the Small Business Innovative Research
("SBIR") program of the federal government. The Company recognizes research and
development revenues as related expenses are incurred.
During the past few years, the Company has experienced a transition in
customer demand for compound semiconductor materials from lower developmental
quantities to larger commercial quantities that support high volume production.
Generally, such larger order quantities have enabled the Company to reduce the
average cost of manufacturing. Similarly, the average selling prices for wafers
have decreased as the Company has achieved economies of scale and reduced unit
costs due to MBE systems advancements, such as the introduction of multi-wafer
systems and other process improvements.
Since 1992, the Company has generally operated at or near practicable
manufacturing capacity. In 1995, based on an expected increase in demand for
compound semiconductor materials being driven largely by consumer demand in the
commercial wireless communications industry, the Company embarked on a major
expansion of its production capacity. Multi-wafer MBE systems were added in
1995, 1996 and 1997. Manufacturing and support facilities were doubled in 1996
to provide sufficient clean room manufacturing space to accommodate the
Company's current plans for adding two multi-wafer MBE systems by the end of
1999. To support the Company's expansion, in 1996 and 1997, the Company also
expanded its staff of technical personnel and invested in on-site training and
proprietary process improvements. These improvements have increased the level of
the Company's fixed costs and were a principal factor in the net losses incurred
by the Company in 1996 and the nine month period ended September 30, 1997. The
Company believes that such expenditures will enable it to increase manufacturing
throughput and yields and continue to reduce unit costs.
Due to the complexity of MBE systems, the Company has experienced certain
manufacturing problems resulting from bringing new MBE systems on-line. In
particular, an undocumented engineering change made by the MBE system
manufacturer which adversely affected wafer uniformity resulted in increased
wafer returns and contributed to the Company's net loss in 1996. The Company
believes that it has resolved these manufacturing problems and has developed
effective testing methods and operating procedures to minimize the impact of
such problems on future operations.
Generally, the Company's MBE systems require approximately two to three
weeks of scheduled maintenance to, among other things, replenish source
materials and to clean and repair parts. The Company's MBE systems typically
operate for a period of 12 to 14 weeks before requiring such scheduled
maintenance. Unscheduled maintenance due to equipment failure and human error
can reduce this period. Accordingly, wafer production capacity may be
constrained in periods in which the scheduled and unscheduled maintenance
cycles of several MBE systems coincide. Since mid-1996, the Company has
increased the length of production cycles and reduced the frequency of
unscheduled production interruptions. This has been accomplished by increasing
the
15
<PAGE>
capacity of consumable source materials in each MBE system and improving the
level of operator proficiency in addition to other factors. Further, with high
fixed costs, moderate fluctuations in wafer production, shipping and sales have
resulted, and may in the future result, in large fluctuations in the Company's
quarterly gross margins (product revenues less total cost of product) and
operating results. For example, during the first six months of 1996, the
Company's wafer production and revenues were lower than expected because the
Company experienced unusually long periods of MBE system downtime due to
unscheduled maintenance and unanticipated manufacturing problems with its
second multi-wafer MBE system. During the same period, the Company's
manufacturing costs increased as a result of additional staffing to support the
new MBE system and increased maintenance. This production volume sensitivity is
expected to continue in the future. See "Risk Factors--Factors Affecting
Operating Results; Potential Fluctuations in Quarterly Results."
Results of Operations
The following table sets forth selected financial data as a percentage of
total revenues for the periods indicated.
<TABLE>
<CAPTION>
Nine Months Ended
Year Ended December 31, September 30,
---------------------------- ---------------------
1994 1995 1996 1996 1997
------ ------ ---------- ---------- ---------
<S> <C> <C> <C> <C> <C>
Revenues:
Product ............................................. 89% 88% 91% 92% 91%
Contract research and development ..................... 11 12 9 8 9
---- ---- ---- ---- ----
Total revenues ....................................... 100 100 100 100 100
---- ---- ---- ---- ----
Operating Expenses:
Cost of product, excluding depreciation ............... 36 42 55 60 57
Cost of product-depreciation ........................ 12 12 13 14 14
---- ---- ---- ---- ----
Total cost of product .............................. 48 54 68 74 71
Research and development .............................. 8 8 8 8 11
Selling, general and administrative .................. 20 16 22 25 21
Special compensation charge ........................... -- -- -- -- 2
---- ---- ---- ---- ----
Total operating expenses ........................... 76 78 98 107 105
---- ---- ---- ---- ----
Operating income (loss) .............................. 24 22 2 (7) (5)
Interest expense ....................................... 2 1 3 2 6
---- ---- ---- ---- ----
Net income (loss) before income taxes .................. 22 21 (1) (9) (11)
Pro forma provision (benefit) for income taxes(1) ...... 9 8 -- (3) (4)
---- ---- ---- ---- ----
Pro forma net income (loss)(1) ........................ 13% 13% (1)% (6)% (7)%
==== ==== ==== ==== ====
</TABLE>
- ------------
(1) See Note 3 of Notes to Financial Statements for information concerning the
computation of the pro forma provision (benefit) for income taxes and pro
forma net income (loss).
<PAGE>
Nine Months Ended September 30, 1997 and 1996.
Product Revenues. Product revenues increased 45% to $5.9 million in the
nine month period ended September 30, 1997 from $4.0 million in the nine month
period ended September 30, 1996. The increase in product revenues results from
increased orders, increased manufacturing capacity and improved manufacturing
efficiencies offset by lower average selling prices.
Contract Research and Development Revenues. Contract research and
development revenues increased 78% to $603,000 in the nine month period ended
September 30, 1997 from $338,000 in the nine month period ended September 30,
1996. The increase is attributable to the timing of expenses incurred on SBIR
contracts rather than the addition of new contracts. Though the Company
continues to pursue new SBIR contracts, the failure to obtain such contracts
would not have a material adverse effect on the Company's results of operations.
Cost of Product. Cost of product increased 43% to $4.6 million in the nine
month period ended September 30, 1997 from $3.2 million in the nine month
period ended September 30, 1996. As a percentage of total revenues, cost of
product decreased to 71% in the nine month period ended September 30, 1997 from
74% in the nine month period ended September 30, 1996. This increase in the
absolute cost of product resulted from the significant increase in wafer
production and additional costs associated with the addition of the fourth
multi-wafer MBE system offset by improved manufacturing efficiencies. These
efficiencies were primarily due to fewer production interruptions for
unscheduled maintenance, longer average production cycles and higher wafer
throughput.
16
<PAGE>
Research and Development Expenses. Research and development expenses
increased by 93% to $685,000 in the nine month period ended September 30, 1997
from $355,000 in the nine month period ended September 30, 1996. As a
percentage of total revenues, research and development expenses increased to
11% in the nine month period ended September 30, 1997 from 8% in the nine month
period ended September 30, 1996. Research and development expenses increased
due to a higher level of internal and externally funded research and
development activity in the nine month period ended September 30, 1997.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased by 25% to $1.4 million in the nine month
period ended September 30, 1997 from $1.1 million in the nine month period
ended September 30, 1996. As a percentage of total revenues, selling, general
and administrative expenses decreased to 21% in the nine month period ended
September 30, 1997 from 25% in the nine month period ended September 30, 1996.
The absolute increase resulted principally from additional compensation
expenses for finance, sales and marketing, and administrative personnel.
Special Compensation Charge. A non-cash deferred compensation charge of
$113,000 was recorded in the nine month period ended September 30, 1997. The
charge reflects the amortization of the vested portion of 153,000 options
granted in July 1997 multiplied by the difference between 90% of an assumed
initial public offering price of $9.00 per share and the $1.75 per share
exercise price of the options. It is anticipated that the remaining portion of
this deferred compensation charge ($859,000) will be recognized as an expense
upon completion of the Offering when the options become fully vested.
Interest Expense. Interest expense increased by 250% to $405,000 in the
nine month period ended September 30, 1997 from $116,000 in the nine month
period ended September 30, 1996. The increase resulted primarily from
additional long-term borrowing (including the subordinated convertible note
payable to AMP) to finance the Company's two newest multi-wafer MBE systems and
expanded borrowing under the Company's line of credit to fund working capital
requirements.
Pro Forma Benefit for Income Taxes. For both the nine month period ended
September 30, 1997 and the nine month period ended September 30, 1996, pro
forma income tax benefit has been calculated to demonstrate the effect of
incurring income taxes as a C Corporation on the taxable loss in such period,
which in all prior periods has been taxed to shareholders because of the
Company's S Corporation status. For the nine month periods ended September 30,
1997 and 1996, the effective pro forma income tax rate was 38% and 37%,
respectively.
Years Ended December 31, 1996 and 1995.
Product Revenues. Product revenues increased 36% to $6.3 million in 1996
from $4.6 million in 1995. Product revenues increased primarily due to an
increase in the number of wafers that were manufactured and shipped to
customers. The additional wafers manufactured and sold resulted from additional
manufacturing capacity provided by bringing the second and third multi-wafer
MBE systems on-line and increased customer orders reflecting a higher
percentage of wafers ordered for commercial (as opposed to defense)
applications. Average selling prices remained relatively constant between 1995
and 1996.
Contract Research and Development Revenues. Contract research and
development revenues decreased by 3% to $590,000 in 1996 from $609,000 in 1995.
As a percentage of total revenues, contract research and development revenues
decreased to 9% in 1996 from 12% in 1995 due to the growth in product revenues.
Cost of Product. Cost of product increased by 66% to $4.7 million in 1996
from $2.8 million in 1995. As a percentage of total revenues, the cost of
product increased to 68% in 1996 from 54% in 1995. The increase in cost of
product reflects an increase in the number of wafers produced and sold to
customers, costs associated with additional multi-wafer MBE systems and related
facilities, the costs associated with resolving anticipated and unanticipated
problems related to bringing two multi-wafer MBE systems on-line, and the costs
associated with unscheduled maintenance. The anticipated and unanticipated
problems related to bringing the new multi-wafer systems on-line included an
undocumented engineering design change made by the MBE system manufacturer which
adversely affected the uniformity of the wafers, system operator errors which
lead to production interruptions and unscheduled maintenance, and a power outage
that interrupted production on all MBE systems. To address these problems, the
Company made significant changes to its new system testing and qualification
methods prior to full scale production, increased training and instituted a
formal program for system operators, assigned manufacturing engineers for
supervision of all production, began formal documentation of its quality
assurance programs, and installed a backup power supply equipment.
Research and Development Expenses. Research and development expenses
increased by 38% to $576,000 in 1996 from $416,000 in 1995. The increase was
primarily due to a higher level of internal and externally funded research and
development activity and the addition of personnel and other resources.
17
<PAGE>
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased by 76% to $1,520,000 in 1996 from $864,000 in
1995. As a percentage of total revenues, such expenses were 22% in 1996 and 16%
in 1995. The increase resulted from the continued expansion of the Company to
meet current and anticipated growth in demand for the Company's products,
including additional costs associated with an increase in personnel to support
the Company's sales and marketing activities and financial administration.
Interest Expense. Interest expense increased by 226% to $213,000 in 1996
from $66,000 in 1995. The primary reason for the increase is the additional
long-term borrowing incurred to finance the Company's second and third
multi-wafer MBE systems and increased borrowing on the line of credit that was
used to finance deposits on the fourth multi-wafer MBE system that was
installed in early 1997 and to fund working capital.
Pro Forma Provision (Benefit) for Income Taxes. For both 1996 and 1995,
pro forma income tax expense (benefit) has been calculated to demonstrate the
effect of incurring income taxes as a C Corporation on the taxable income
(loss) in such periods, which in all prior periods has been taxed to
shareholders because of the Company's S Corporation status. In 1996 and 1995,
the effective pro forma income tax rate was 37% and 39%, respectively.
Years Ended December 31, 1995 and 1994.
Product Revenues. Product revenues increased 44% to $4.6 million in 1995
from $3.2 million in 1994. Product revenues increased primarily due to an
increase in the number of wafers that were manufactured and shipped to
customers in 1995. The additional wafers manufactured and sold resulted from
increased customer orders and the installation and qualification of the
Company's first multi-wafer system in 1994 which became fully operational in
1995.
Contract Research and Development Revenues. Contract research and
development revenues increased by 51% to $609,000 in 1995 from $404,000 in
1994. The increase was primarily due to a higher level of research activities
associated with several new SBIR contracts in 1995 as compared to 1994.
Cost of Product. Cost of product increased by 61% to $2.8 million in 1995
from $1.8 million in 1994. As a percentage of total revenues, the cost of
product increased to 54% in 1995 from 48% in 1994. The increase was primarily
due to higher volume orders shipped for commercial applications that generated
lower gross margins than lower volume orders associated with Department of
Defense applications.
Research and Development Expenses. Research and development expenses
increased by 50% to $416,000 in 1995 from $277,000 in 1994. As a percentage of
total revenues, research and development expenses were 8% in 1994 and 1995. The
increase was primarily due to a higher level of research activity associated
with the increase in the number of SBIR contracts.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased by 18% to $864,000 in 1995 from $734,000 in
1994. As a percentage of total revenues, such expenses were 16% in 1995 and 20%
in 1994. The increase in selling, general and administrative expenses was
principally due to the addition of sales and marketing personnel and related
costs.
Interest Expense. Interest expense decreased by 18% to $66,000 in 1995
from $79,000 in 1994 as a result of scheduled payments on long-term debt.
Pro Forma Provision for Income Taxes. For both 1995 and 1994, pro forma
income tax expense has been calculated to demonstrate the effect of incurring
income taxes as a C Corporation on the taxable income in such periods, which in
all prior periods has been taxed to shareholders because of the Company's S
Corporation status. The effective pro forma income tax rate was 39% for both
1995 and 1994.
18
<PAGE>
Quarterly Results and Seasonality
The following tables represent the unaudited quarterly results in dollar
amounts (in thousands) and as a percentage of total revenues for the past 11
quarters from September 30, 1997, the latest quarter for which data is
available. The information has been prepared by the Company on a basis
consistent with the Company's annual audited financial statements and includes
all adjustments, consisting only of normal recurring adjustments, which
management considers necessary for a fair presentation of the information for
the periods presented.
<TABLE>
<CAPTION>
Quarter Ended
-----------------------------------------------------------
Mar. 31, June 30, Sept. 30, Dec. 31, Mar. 31,
1995 1995 1995 1995 1996
---------- ---------- ----------- ---------- ----------
(in thousands)
<S> <C> <C> <C> <C> <C>
Statement of Operations Data:
Revenues:
Product ........................ $1,432 $ 927 $1,234 $1,051 $1,215
Contract research and
development .................. 102 150 202 155 146
------- -------- ------- ------- ------
Total revenues ............... 1,534 1,077 1,436 1,206 1,361
------- -------- ------- ------- ------
Operating Expenses:
Cost of product, excluding
depreciation .................. 557 555 585 524 764
Cost of product-depreciation . 134 136 154 175 177
------- -------- ------- ------- ------
Total cost of product ...... 691 691 739 699 941
Research and development ......... 68 91 131 126 122
Selling, general and
administrative ............... 237 225 191 211 311
Special compensation charge . -- -- -- -- --
------- -------- ------- ------- ------
Total operating expenses 996 1,007 1,061 1,036 1,374
------- -------- ------- ------- ------
Operating income (loss) ......... 538 70 375 170 (13)
Interest expense .................. 17 16 14 18 32
------- -------- ------- ------- ------
Net income (loss) before income
taxes ........................... 521 54 361 152 (45)
Pro forma provision (benefit) for
income taxes(1) .................. 198 21 137 57 (17)
------- -------- ------- ------- ------
Pro forma net income (loss)(1) ... $ 323 $ 33 $ 224 $ 95 $ (28)
======= ======== ======= ======= ======
<PAGE>
<CAPTION>
June 30, Sept. 30, Dec. 31, Mar. 31, June 30, Sept.30,
1996 1996 1996 1997 1997 1997
---------- ----------- ---------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C> <C>
Statement of Operations Data:
Revenues:
Product ........................ $1,232 $1,597 $2,268 $2,219 $1,514 $2,138
Contract research and
development .................. 79 113 252 204 205 194
------ ------ ------- ------- ------ ------
Total revenues ............... 1,311 1,710 2,520 2,423 1,719 2,332
------ ------ ------- ------- ------ ------
Operating Expenses:
Cost of product, excluding
depreciation .................. 857 1,007 1,171 1,257 1,192 1,292
Cost of product-depreciation . 207 224 284 302 293 298
------ ------ ------- ------- ------ ------
Total cost of product ...... 1,064 1,231 1,455 1,559 1,485 1,590
Research and development ......... 120 113 221 210 230 245
Selling, general and
administrative ............... 419 360 430 498 439 422
Special compensation charge . -- -- -- -- -- 113
------ ------ ------- ------- ------ ------
Total operating expenses 1,603 1,704 2,106 2,267 2,154 2,370
------ ------ ------- ------- ------ ------
Operating income (loss) ......... (292) 6 414 156 (435) (38)
Interest expense .................. 34 50 97 108 140 157
------ ------ ------- ------- ------ ------
Net income (loss) before income
taxes ........................... (326) (44) 317 48 (575) (195)
Pro forma provision (benefit) for
income taxes(1) .................. (121) (16) 118 18 (220) (74)
------ ------ ------- ------- ------ ------
Pro forma net income (loss)(1) ... $ (205) $ (28) $ 199 $ 30 $ (355) $ (121)
====== ====== ======= ======= ====== ======
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
As a Percentage of Total Revenues
-----------------------------------------------------------
Mar. 31, June 30, Sept. 30, Dec. 31, Mar. 31,
1995 1995 1995 1995 1996
---------- ---------- ----------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Statement of Operations Data:
Revenues:
Product ........................ 93% 86% 86% 87% 89%
Contract research and
development .................. 7 14 14 13 11
---- ---- ---- ---- ----
Total revenues ............... 100 100 100 100 100
---- ---- ---- ---- ----
Operating Expenses:
Cost of product, excluding
depreciation .................. 36 51 41 43 56
Cost of product-depreciation . 9 13 11 15 13
---- ---- ---- ---- ----
Total cost of product ...... 45 64 52 58 69
Research and development ...... 4 8 9 11 9
Selling, general and
administrative ............... 16 21 13 17 23
Special compensation charge . -- -- -- -- --
---- ---- ---- ---- ----
Total operating expenses 65 93 74 86 101
---- ---- ---- ---- ----
Operating income (loss) ......... 35 7 26 14 (1)
Interest expense .................. 1 2 1 1 2
---- ---- ---- ---- ----
Net income (loss) before income
taxes ........................... 34 5 25 13 (3)
Pro forma provision (benefit) for
income taxes(1) .................. 13 2 9 5 (1)
---- ---- ---- ---- ----
Pro forma net income (loss)(1) ... 21% 3% 16% 8% (2)%
==== ==== ==== ==== ====
<CAPTION>
June 30, Sept. 30, Dec. 31, Mar. 31, June 30, Sept.30,
1996 1996 1996 1997 1997 1997
---------- ----------- ---------- ---------- ---------- ---------
<S> <C> <C> <C> <C> <C> <C>
Statement of Operations Data:
Revenues:
Product ........................ 94% 93% 90% 92% 88% 92%
Contract research and
development .................. 6 7 10 8 12 8
------ ---- ---- ---- ------- ----
Total revenues ............... 100 100 100 100 100 100
------ ---- ---- ---- ------- ----
Operating Expenses:
Cost of product, excluding
depreciation .................. 65 59 47 52 69 55
Cost of product-depreciation . 16 13 11 12 17 13
------ ---- ---- ---- ------- ----
Total cost of product ...... 81 72 58 64 86 68
Research and development ...... 9 7 9 9 13 11
Selling, general and
administrative ............... 32 21 17 21 26 18
Special compensation charge . -- -- -- -- -- 5
------ ---- ---- ---- ------- ----
Total operating expenses 122 100 84 94 125 102
------ ---- ---- ---- ------- ----
Operating income (loss) ......... (22) 0 16 6 (25) (2)
Interest expense .................. 3 3 4 4 8 6
------ ---- ---- ---- ------- ----
Net income (loss) before income
taxes ........................... (25) (3) 12 2 (33) (8)
Pro forma provision (benefit) for
income taxes(1) .................. (9) (1) 4 1 (12) (3)
------ ---- ---- ---- ------- ----
Pro forma net income (loss)(1) ... (16)% (2)% 8% 1% (21)% (5)%
====== ==== ==== ==== ======= ====
</TABLE>
- ------------
(1) See Note 3 of Notes to Financial Statements for information concerning the
computation of the pro forma provision (benefit) for income taxes and pro
forma net income (loss).
19
<PAGE>
The Company has experienced substantial revenue growth during the past
five years and has experienced, and expects to continue to experience,
fluctuations in its quarterly operating results. Such fluctuations are due to
the Company's fixed cost structure, the timing of orders, variations in
manufacturing yields, scheduled and unscheduled maintenance activities, and
other factors, many of which are beyond the Company's control. Substantially
all of the Company's costs are fixed, with variable costs limited primarily to
the compound semiconductor substrate, the source materials utilized in the
production process and electricity. Due to the Company's high fixed costs,
moderate fluctuations in wafer production, shipping and sales have resulted,
and may in the future result, in relatively large fluctuations in the Company's
quarterly gross margin and operating results. This production volume
sensitivity, especially for quarterly financial reporting periods, is expected
to continue in the future. There has not been any seasonality in the Company's
operations.
The Company experienced few significant problems with its MBE systems
until the last quarter of 1995, when it experienced a series of unrelated
problems with its multi-wafer MBE systems leading to unscheduled system
downtime, higher maintenance costs, and a substantial increase in the number of
wafers returned by customers in the first and second quarters of 1996 (relating
to bringing a new multi-waver MBE system on-line). These problems resulted in
significant changes in the Company's training and quality assurance programs
and a restructuring of the Company's operating procedures. With the
manufacturing problems largely resolved, the Company produced a record number
of wafers and record product revenues in both the third and fourth quarters of
1996.
In anticipation of increased customer demand for wafers, the Company
continued to expand its facilities, increased the number of senior technical
manufacturing personnel, and installed its fourth multi-wafer MBE system in the
second quarter of 1997, significantly increasing the Company's fixed costs.
This increase in fixed costs coincided with a reduction in the rate of
customer's orders, most notably the rescheduling of orders from the Company's
largest customer from the second quarter to the third and fourth quarters of
1997. As a consequence of these factors, the Company experienced lower revenues
and increased expenses in the second quarter of 1997.
The operating results for any quarter are not necessarily indicative of
results for any subsequent period or of the Company's overall performance. The
Company's quarterly operating results have varied in the past and are expected
to vary in the future for the reasons described above. See "Risk
Factors--Factors Affecting Operating Results; Potential Fluctuations in
Quarterly Results."
Liquidity and Capital Resources
The Company raised its initial capital through the issuance of common
stock, notes and related warrants at formation in 1988. Since then, the Company
has funded its operations and capital expenditures principally with cash flow
from operating activities and through the issuance of long-term debt
obligations. The following table presents a summary of the Company's cash flows
for each of the three years ended December 31, 1996 and the two nine month
periods ended September 30, 1996 and 1997. See "Statements of Cash Flow" in the
Company's Financial Statements.
<TABLE>
<CAPTION>
Nine Months Ended
Years Ended December 31, September 30,
----------------------------------- ------------------------
1994 1995 1996 1996 1997
--------- ----------- ----------- ----------- -----------
(in thousands)
<S> <C> <C> <C> <C> <C>
Net cash provided by (used in) operating activities . $ 265 $ 2,114 $ 303 $ 1,606 $ 288
Net cash (used in) investing activities ............... (248) (2,208) (3,488) (2,754) (1,447)
Net cash provided by (used in) financing activities . (78) 477 2,816 1,026 1,338
------ -------- -------- -------- --------
Net increase (decrease) in cash ........................ $ (61) $ 383 $ (369) $ (122) $ 179
====== ======== ======== ======== ========
</TABLE>
From 1994 through September 30, 1997, the Company generated approximately
$3.0 million in net cash from operating activities, $1.1 million of which was
generated from net income and $3.0 million of which was non-cash depreciation
expense offset by $1.1 million from other changes in elements of working
capital. These changes were related principally to an increase in accounts
receivable and inventories, offset by an increase in accounts payable and
accrued expenses that resulted primarily from the growth of the Company and
increased sales and manufacturing activities.
20
<PAGE>
Net cash used in investing activities resulted from the purchase of, or
deposits to manufacturers for, property and equipment, principally MBE systems,
to support the growth in the Company's production capacity. The Company's
capital expenditures totaled $248,000, $2.2 million, $3.5 million and $1.4
million in 1994, 1995, 1996 and the nine month period ended September 30, 1997,
respectively. These capital expenditures include the acquisition of three
multi-wafer MBE systems plus related test and measurement equipment and the
expansion of the Company's facilities. The Company anticipates continued
expansion of its MBE production capacity, and contemplates placing an order for
an additional multi-wafer MBE system before the end of 1997. Although the
Company has no current commitments to make such capital expenditures, the
Company anticipates using approximately $8.0 million of the net proceeds of the
Offering to finance the purchase of two additional multi-wafer MBE systems and
certain related equipment. The Company believes delivery and installation of
these additional systems could occur as early as the fourth quarter of 1998 and
1999, respectively. See "Use of Proceeds."
Financing activities primarily include borrowing under various long-term
debt arrangements and distributions to shareholders for the payment of S
Corporation income taxes. The Company borrowed $487,000, $1.0 million, $1.5
million and $1.6 million in 1994, 1995, 1996 and the nine month period ended
September 30, 1997, respectively, pursuant to several secured financings, and
in 1996, $2.4 million on a line of credit. The proceeds of these loans were
used primarily to finance the Company's capital expenditures during these
periods. In addition, during the nine month period ended September 30, 1997,
the Company issued a $2.0 million convertible subordinated note payable to the
parent company of a significant customer which will be converted to Common
Stock upon completion of the Offering. The proceeds of the subordinated note
were used to repay a portion of the line of credit. At September 30, 1997, the
Company had an outstanding balance of approximately $3.5 million of long-term
debt due to a commercial bank and $900,000 under a $1.0 million line of credit.
The Company anticipates using a portion of the net proceeds to repay the
long-term bank debt and the balance outstanding on the bank line of credit. See
"Use of Proceeds." Shareholder distributions totaled $222,000, $212,000,
$481,000 and $0 in 1994, 1995, 1996 and the nine month period ended September
30, 1997, respectively. See "Dividend Policy."
The Company also has received funding under a contract with the United
States Air Force to develop carbon doping for use with heterojunction bipolar
transistors (HBTs). The Company expects to receive the remaining $130,000 of the
original $750,000 commitment from the Air Force in early 1998.
The Company's executive offices, production facilities and research and
development facilities are situated in one leased building in Bethlehem,
Pennsylvania. In 1996, the Company expanded its facility from approximately
10,000 to 20,000 square feet. The Company's present facility provides
manufacturing space adequate for several additional multi-wafer MBE systems and
associated test and measurement equipment, and additional office space for
general corporate functions. The Company expects these facilities will be
sufficient to satisfy its requirements through 1999. In connection with the
expansion of its present facility in 1996, the Company incurred $560,000 for
leasehold improvements. In addition, in 1997, the Company leased approximately
6,500 square feet of undeveloped space adjacent to its present facility and
secured options on approximately 13,500 square feet of space that is currently
under lease to others, a portion of which will be available in 1998 if
additional space is required. The Company's plans regarding this space are not
sufficiently firm to reasonably estimate the cost to develop this space for its
use. See "Facilities and Equipment."
The Company believes that cash generated from operations and its current
cash balance and line of credit, when combined with the net proceeds to be
generated from the Offering, will be sufficient to satisfy the Company's
projected working capital and planned capital expenditure requirements for the
next 24 months. However, there can be no assurance that the Company's
operations will generate positive cash flow. Accordingly, the current cash
balances, line of credit, and proceeds of the Offering may not be adequate to
fund the Company's continued growth, including the increase in manufacturing
capacity and the consequent increased requirements for working capital. See
"Risk Factors--Factors Affecting Operating Results; Potential Fluctuations in
Quarterly Results."
The Company may, from time to time, seek additional funding through public
or private financing. Adequate funding may not be available when needed or on
terms acceptable to the Company. If additional funds are raised by issuing
equity securities, existing shareholders may suffer additional dilution.
Effects of Inflation and Foreign Exchange Rates
The Company has not been materially affected by inflation or changes in
foreign exchange rates.
21
<PAGE>
BUSINESS
The Company designs, develops and manufacturers compound semiconductor
materials using molecular beam epitaxy ("MBE") and is a leading producer of
gallium arsenide ("GaAs") based epitaxial wafers supplied to the semiconductor
device manufacturing industry. Compound semiconductors, which provide better
performance than silicon semiconductors, are used in a broad range of
applications in wireless communications, fiber optic telecommunications,
computers, and consumer and automotive electronics. The Company utilizes
compound semiconductor materials (such as GaAs, AlGaAs, InGaAs, InAlAs, InSb
and InP) that are a combination of elements found in each of columns III and V
of the periodic table to produce MBE wafers. MBE wafers are generally used for
the most advanced, high performance applications. Since January 1996, the
Company's significant customers have included Alpha Industries Inc., Hughes
Aircraft, Inc., M/A-COM, Inc., a subsidiary of AMP Incorporated, Motorola,
Inc., Raytheon Company, Texas Instruments Incorporated and Watkins Johnson
Company.
Industry Background
Recent advances in information technologies have created a growing need
for power efficient, high-performance electronic systems that operate at very
high frequencies, have increased storage capacity and computational and display
capabilities, and can be produced cost-effectively in commercial volumes. For
example, new high frequency and broadband communication systems require
transmitters and receivers that are capable of operating at ultra-high
frequencies, are very sensitive to receive weak signals with minimal
"background noise," have low distortion in order to amplify multiple signals
with clarity, and are power efficient in a battery operated system.
In the past, electronic systems manufacturers have relied on advances in
silicon semiconductor technology to meet many of the requirements of lower
frequency applications. However, the newest generation of high-performance
electronic and opto-electronic applications require certain functions which are
generally not achievable using silicon-based components. To address the
increasing market demand for these applications, electronic system
manufacturers are increasingly incorporating new electronic and opto-electronic
devices into their products in order to improve performance or enable new
applications.
Compound semiconductors have emerged as an enabling technology to meet the
complex requirements of today's advanced information systems. For example,
compound semiconductors can be used as integrated circuits, such as
transmitters, receivers and alpha-numeric displays, or as discrete devices,
such as high-brightness LEDs and lasers. Compound semiconductors are composed
of two or more elements found in each of columns III and V of the periodic
table. These elements typically include gallium, aluminum, indium, arsenic,
phosphorous, antimony and nitrogen. The resulting compounds include gallium
arsenide, indium phosphide, gallium nitride, indium antimonide and indium
aluminum phosphide. The performance characteristics of compound semiconductors
are uniquely dependent on the composition of these compounds.
Many compound semiconductor materials have unique physical properties that
allow electrons to move many times faster than through silicon. This higher
electron mobility enables a compound semiconductor device to operate at much
higher speeds with lower power consumption and less noise and distortion than
silicon devices. In addition, unlike silicon-based devices, compound
semiconductor devices have opto-electronic capabilities that enable them to
emit and detect light.
MBE compound semiconductors are generally used for the most advanced, high
performance applications, including wireless communications, computers, and
consumer and automotive electronics. For example, compound semiconductor
devices are used in: wireless communication products (including cellular
telephones, pagers, PCS handsets, DBS systems and global positioning systems)
that require high frequency transmitters, receivers and power amplifiers to
increase capacity and lower power consumption; satellite communications which
use ultra-high frequency satellite up-converters and down-converters to
cost-effectively deliver information to fixed and mobile users over wide
geographic areas; fiber optic networks of communications companies and Internet
service providers; computer applications requiring higher processing speeds,
transmission rates and storage capabilities; consumer electronic products
(including compact disc players and high density digital versatile discs);
automotive applications (including brushless motors, ignition control and
collision avoidance radar); and military applications (including smart weapons,
radar, advanced satellite communications and electronic
counter-countermeasures).
22
<PAGE>
The trend to higher frequency operation in commercial applications and the
use of compound semiconductors to meet the requirements of such applications is
illustrated in the chart below:
Radio Spectrum of Commercial Wireless Applications
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------
Compound
Silicon Semiconductors Frequency (GHz) Application
- -----------------------------------------------------------------------------------------------
<S> <C> <C> <C>
| | 0.500
| | ------------------------------------------------------
| | 0.869 - 0.894 Cellular
| | 0.929 - 0.930 Private Paging
| | 0.930 - 0.941 NarrowBand PCS / Two Way Paging
| | ------------------------------------------------------
| | 1,000
| | ------------------------------------------------------
| | 1.215 - 1.240 Global Positioning System (GPS)
| | 1.616 - 1.626 IRIDIUM and Globalstar Handset
| | 1.850 - 1.980 Broadband PCS
| | 2.150 - 2.180 Wireless Cable (MMDS)
| | 2.400 - 2.483 Wireless Local Area Networks
| | 2.483 - 2.500 Globalstar Satellite to User
| | 2.500 - 2.690 Wireless Cable (MMDS)
- ----- | 5.091 - 5.250 Globalstar Gateway to Satellite
| 6.875 - 7.055 Globalstar Satellite to Gateway
| ------------------------------------------------------
| 10.000
| ------------------------------------------------------
| 12.200 - 12.700 Direct Broadcast Satellite (DBS)
| 14.000 - 14.700 Very Small Aperature Transponder (VSAT)
| 17.300 - 17.700 Direct Broadcast Satellite (DBS)
| 19.400 - 19.600 IRIDIUM Satellite to Gateway
| 23.180 - 23.380 IRIDIUM Satellite Crosslinks
| 27.500 - 28.350 Wireless Cable (LMDS)
| 29.100 - 29.250 Wireless Cable (LMDS)
| 29.100 - 29.300 IRIDIUM Gateway to Satellite
| 37.500 - 40.000 Base Station Communication
| 45.500 - 46.900 Automotive Radar
| 77.000 - 80.000 Automotive Radar
| ------------------------------------------------------
| 100.000
------------------------------------------------------
Wavelength Spectrum of Opto-Electronic Applications
- -----------------------------------------------------------------------------------------------------------------------
Compound Semiconductors* Wavelength (nm) Application
- -----------------------------------------------------------------------------------------------------------------------
AlGaInP 650 Digital Versatile Disc (DVD) ROM
AlGaAs 750 - 950 Compact Disc Players
AlGaAs 750 - 950 High Speed Laser Printing
AlGaAs 780 Read / Write Optical Storage
AlGaAs 785 Pump for Solid State Laser for LIDAR Sensing
AlGaAs 808 Pump Solid State Laser for Industrial Uses
InGaAs 980 Fiber Optic Amplifiers
InGaAsP (on InP) 1300, 1550 Fiber Optic Communication
- -----------------------------------------------------------------------------------------------------------------------
</TABLE>
* Only compound semiconductors can be utilized in this wavelength spectrum.
23
<PAGE>
MBE Technology
MBE is an epitaxial crystal growth process by which thin layers of
semiconductor materials are grown on top of a crystal material called the
substrate. Thickness of these epitaxial layers is measured on the atomic level.
Although the substrate is generally GaAs, other compound semiconductors formed
from elements in each of columns III and V of the periodic table (such as
AlGaAs, InGaAs, InAlAs, InSb and InP) may be utilized as epitaxial layers. The
epitaxial growth may consist of multiple layers consisting of one or more of
these compounds. Since the substrate is typically non-conducting, the epitaxial
layers determine the electrical characteristics of the device. The thicknesses
and compositions of these layers are determined by the type of device to be
constructed from the epitaxial layers.
The MBE process takes place in an ultra-high vacuum where the various
column III and V elements are thermally evaporated onto the substrate. Because
the substrate is heated during the growth process, there is sufficient kinetic
energy for the atoms to arrange themselves in a single crystal structure
replicating that of the starting substrate material. As shown in the diagram
below, the source materials such as gallium, aluminum, indium and arsenic are
placed in high purity crucibles which are resistively heated causing them to
evaporate. These evaporating source materials create a molecular beam
depositing epitaxial layers on the substrate.
===============================================================================
Multi-Wafer MBE System
[GRAPHIC DEPICTING MULTI-WAFER MBE SYSTEM]
MBE Wafer Growth Process Growth Chamber Input/Output Chamber
(Ultra-high vacuum)
GaAs Substrate
Rotation Mechanism
Entry/Exit
Load Locks
Epitaxial
Layers Water Platen
Shutter
===============================================================================
The wafers are rotated during the growth procedure to ensure optimal
uniformity of epitaxial thickness. Precise control over the growth process is
achieved by placing mechanical, computer operated, shutters between the source
material and substrate. Closing the shutter stops the molecular beam from
reaching the substrate which results in abrupt transitions between layers of
different material compositions. This is an important advantage of MBE compared
to other epitaxial techniques because many of the current high performance
device designs require thin atomic layers with abrupt transitions.
The actual elemental composition and thickness of the various epitaxial
layers vary according to the device type and end-use application. The
sequencing of shutter positions and the temperatures of the crucibles are
controlled via computer with each customer wafer type having its own individual
specifications. Once a customer's specifications have been entered into the
computer, the process may be replicated for subsequent orders.
24
<PAGE>
The key advantages of the MBE process are:
Precise Control. The high level of process control provides the ability
to grow different compositions in atomic layers and maintain uniformity
across the wafer. The ability to produce abrupt transitions between layers
of different compound materials is essential to produce the electronic
results desired by manufacturers of state-of-the-art semiconductors and
integrated circuits used in high performance applications.
Uniformity of Layers. The MBE process is able to produce material
uniformities on a wafer which the Company believes offers superior
manufacturing efficiencies for compound semiconductor device manufacturers.
This has allowed customers to achieve higher yields of finished devices
from each wafer.
Monitoring Mechanisms. The ultra-high vacuum environment allows for a
number of electronic probes to be used in the production process. As a
result, both the chemical and structural properties of the epitaxial layers
can be monitored, both before and during the growth cycle. This provides a
highly accurate process and quality control mechanism that is monitored
throughout the growing cycle.
Manufacturing Flexibility. The super-cooled wafer growing environment
utilized in MBE speeds removal of chemical contamination upon completion of
a growing cycle, thereby decreasing the amount of time between growing
cycles. This allows the MBE process to rapidly shift between varied
customer orders with minimal set-up time.
Once the MBE layers have been grown, they are evaluated to ensure
compliance with customer specifications. The Company has actively developed a
series of non-destructive techniques to measure layer thickness and elemental
composition as a part of its quality assurance program. These techniques
include high resolution x-ray diffraction, photoluminescence and non-contacting
resistivity measurements. The Company believes that it is more effective to
perform these measurements prior to shipping thereby affording the customer
greater manufacturing efficiencies and yields.
Other methods of producing compound semiconductor wafers include ion
implantation and metal organic chemical vapor deposition ("MOCVD"). With ion
implantation, silicon (a dopant which promotes conductivity) is injected into
the GaAs substrate. Because no additional crystal growth is involved, ion
implantation is limited to GaAs (no additional elements) and wafers with
multiple layers of different compounds cannot be produced. An epitaxial process
affords greater flexibility regarding the distribution of the dopant. Ion
implantation GaAs wafers do not have the performance characteristics of MBE
wafers and are not being used for applications requiring higher frequency, a
high degree of linearity or power added efficiencies. In MOCVD, the source
materials are transported to the substrate in a viscous gas which flows over
the wafer as opposed to molecular beams. Since the MOCVD process is dependent
on adjustments of gas flow, it limits the ability to realize abrupt transitions
desirable for high performance electronic applications.
During the past four years, the demand for MBE compound semiconductors has
grown rapidly, while capacity, with the associated high capital costs, long
lead time to acquire and install MBE equipment and shortage of technically
experienced personnel, has been lagging. Some device manufacturers have no
in-house (captive) research and development or production capacity. Others
produce wafers for research and development purposes but do not have any
in-house production capacity. Finally, some captive suppliers have in-house
production capacity but either cannot produce a sufficient volume of MBE wafers
to meet their demands or desire a second source supplier. Merchant suppliers
such as the Company provide MBE wafers to meet the varying needs of each type
of compound semiconductor device manufacturer.
QED Solution
The Company, with its expertise in the design and development of compound
semiconductor materials, MBE production process experience, and high volume
wafer production capacity, provides semiconductor device manufacturers with
high performance compound semiconductor wafers that enable the technology of
some of today's fastest growing commercial applications. The Company believes
that its MBE production process allows for the precise control, uniformity and
high quality which is essential to produce the electronic results required
25
<PAGE>
of semiconductors and integrated circuits used in high performance radio
frequency, microwave and opto-electronic applications. In addition, the
Company's MBE process offers manufacturing flexibility allowing the Company to
produce wafers in production volumes and rapidly shift between customer orders
with minimal set-up time.
In the case of a device manufacturer that lacks an internal MBE
capability, the Company utilizes its technical expertise to provide support to
the manufacturer for joint development of the customized MBE wafers. As the
market for the manufacturer's device matures, initial development wafer
quantities progress to higher levels of production. The initial co-development
stages are critical due to the fact that the manufacturer's process is designed
around the characteristics of the material supplied by the Company. In the case
of a manufacturer that only produces wafers for its research and development
effort, the Company works closely with the manufacturer's research and
development team to transition its volume production to the Company. This
allows the manufacturer to focus on its core competency, product development.
In the case of a manufacturer that has in-house production capacity,
opportunities arise as the manufacturer looks to supplement wafer production
with wafers that duplicate the characteristics of those being supplied
internally.
The Company believes that its experience, technical expertise, high
quality compound semiconductor wafer products, customer relationships and high
volume production capacity, position it to be a sole or second source of
compound semiconductor wafers.
QED Strategy
The Company's goal is to become the leading supplier of compound
semiconductor materials to the semiconductor device manufacturing industry. The
key elements of the Company's strategy include:
Focus on High Volume Commercial Markets. The Company focuses on high
volume commercial markets such as wireless communications, fiber optic
communications, computers and consumer and automotive electronics. To meet the
compound semiconductor wafer requirements for these large rapidly growing
markets, the Company will continue to invest in MBE production equipment and
add technical support personnel. In addition, by increasing production capacity
and focusing its production on higher volume quantities, the Company believes
that it can reduce its cost per wafer and thereby accelerate the adoption of
MBE wafers in existing and new high volume markets.
Maintain Technological Leadership. Based upon the MBE wafer design and
production experience of the Company's founders and management, many of whom
have worked in the MBE field since its inception, and the technical proficiency
of its staff, the Company continually seeks to maintain its technological
leadership through the design and development of new technologies, products and
refinement of its processes, and is expanding its epitaxial growth capabilities
with the expectation of offering additional products. The Company also
selectively pursues contract research programs to help fund the development of
new technical capabilities and products. In addition, to further increase
production efficiencies and reduce unit costs, the Company is actively
consulting with MBE equipment suppliers to develop the next generation of MBE
equipment.
Maintain Customer Relationships and Ensure Quality Performance. The
Company seeks to develop multi-level working relationships during the early
stages of the product development cycle with industry leaders in each target
market. This strategy allows the Company to become an integral participant in
the customers' device manufacturing process and make the Company's expertise a
critical step of the design process. In an effort to maintain its customer
relationships, the Company is committed to quality to satisfy its customers'
evolving requirements and expectations. The Company's quality assurance program
includes wafer evaluation using non-destructive measurement techniques and the
incorporation of customers' quality assurance techniques and specifications to
ensure that the Company maintains the consistent delivery of high quality
products.
Continue to Penetrate Captive Market. The Company believes that it can
increase its market share and broaden its customer base by further penetrating
the captive MBE wafer market. The Company estimates that approximately
two-thirds of GaAs based epitaxial wafers are manufactured by captive
(in-house/vertically integrated) suppliers and the balance are manufactured by
merchant suppliers. Due to the significant costs of developing and maintaining
a captive MBE production capacity, the Company believes that manufacturers
utilizing MBE wafers will increasingly rely on outsourcing for technical
expertise to aid in development, to fulfill production requirements and to
provide consistent quality at a low cost, each of which can be provided by the
Company.
26
<PAGE>
Products
Current Products. The Company is a leading producer of GaAs based
epitaxial wafers to the semiconductor device manufacturing industry. GaAs based
epitaxial wafers are used to produce discrete devices and integrated circuits
that enable radio frequency and microwave frequency products to achieve the
performance characteristics that are either necessary or desirable for many of
today's commercial and military applications. The Company designs, develops and
manufactures GaAs based epitaxial wafers to its customers' specifications
utilizing MBE. GaAs based MBE devices offer significant performance advantages
compared to both conventional silicon based devices and GaAs based devices
fabricated from wafers produced by non-MBE processes, including: (i) greater
capacity to transmit and receive high frequencies, which permits handling of
broader bandwidths, (ii) reduced distortion, which reduces interference and
allows for more efficient use of the available bandwidth, (iii) enhanced
sensitivity, which provides greater amplification, and (iv) greater power
efficiencies, which allows for longer battery life, the use of smaller
batteries or lower voltages.
According to published industry estimates, the market for GaAs based
epitaxial wafers in the electronics market segment is expected to grow from
approximately $72.5 million in 1996 to $178.8 million in 2000. This is
occurring for several reasons: (i) technological applications utilizing GaAs
based epitaxial wafers are continuing to expand from the military to the
commercial arena; (ii) commercial demand for product performance is growing for
devices that can only be made from GaAs based epitaxial wafers; and (iii) the
development and installation of multi-wafer MBE production systems have
resulted in price reductions for epitaxial materials, enhancing the
price/performance ratios achieved by users of GaAs based epitaxial wafers.
GaAs based epitaxial wafers are currently used in many segments of the
wireless communications markets, including high performance power and switch
devices for cellular phone handsets, uplink/downlink, transmit/receive
functions in satellite based telecommunications systems and for power devices
for PCS systems. Although other wafer materials and production methods can
sometimes be utilized to produce devices for such applications, the Company
believes that GaAs epitaxial wafers provide superior performance
characteristics in such products.
QED Products and End-Use Applications
- -------------------------------------------------------------------------------
QED MBE Wafers Customer Products End-Use Applications
- -------------------------------------------------------------------------------
HBTs Cellular/PCS
HEMTs Direct Broadcast Satellite TV
MESFETs Global Satellite Communications
--------------------------------------------------
GaAs
AlGaAs Lasers Fiber Communications
Detectors Optical Storage
InGaAs Sensing
InSb --------------------------------------------------
Automotive Engine Controls
MR Sensors Anti-Lock Braking
Brushless Motors
- -------------------------------------------------------------------------------
As technology continues to develop, the Company and its customers are
exploring the use of other combinations and layers of column III and V elements
in their advanced devices. Although a significant portion of the Company's
product revenue is from GaAs based MBE wafers, the Company has applied its MBE
expertise to produce other column III and V based MBE wafers.
27
<PAGE>
Products in Development. The Company is currently developing MBE wafers
for opto-electronic devices such as diode lasers and believes that MBE offers
many advantages over MOCVD technology which currently is being used to produce
such products. The enhanced uniformity and greater growth control as well as
the ability to offer larger wafer diameters provides significant advantages to
the opto-electronic device manufacturers. The Company has supplied MBE wafers
which have been successfully processed into solid state diode lasers to be used
for fiber optic communications. Though such wafers are currently being produced
in developmental quantities, the Company expects to progress to higher levels
of production in the future.
The Company also has developed through internal research and development
the ability to manufacture epitaxial layers containing phosphorous, which is
advantageous for several electronic and opto-electronic device types. The
Company also is negotiating a Cooperative Research and Development Agreement
with Wright Patterson Air Force Base to jointly develop compound semiconductor
technologies using antimony which increases the performance of sensors and
allows lasers to operate at longer wavelengths.
Additionally, the Company is currently funded by the United States Air
Force to develop carbon doping for use with heterojunction bipolar transistors
(HBTs) and has developed in conjunction with Pennsylvania State University and
M/A-COM a gaseous source of carbon for MBE. The United States Air Force has
committed approximately $750,000 over a two-year period to support this
project. The Company has successfully produced prototypes which are currently
undergoing reliability testing. The Company believes this technology will
enable it to compete in the device market currently dominated by MOCVD.
Research and Development
The Company selectively pursues contract research programs funded by third
parties to help support the development of new technical capabilities and
products. These programs have been selected to complement and enhance the
Company's long-term development strategy under conditions that permit the
Company to retain the technology it develops. During the years ended 1994, 1995
and 1996, and for the nine month period ended September 30, 1997, third-party
contract revenue was $404,000, 609,000, $590,000 and $603,000, or approximately
11%, 12%, 9% and 9%, respectively, of the Company's total revenues. As an
outgrowth of this strategy, the Company is currently performing under three
Phase II and two Phase I SBIR contracts which provide government funding for
leading-edge technology development. The Company retains the right to all
technology developed under the SBIR contracts, subject to the federal
government's right to the royalty free use of such technology in non-commercial
applications and, after four years from the date of development, the federal
government's right to license such technology to third parties in connection
with a valid federal government program. In addition to third-party research
and development, the Company also supports internally funded projects. Such
internal research and development projects are aimed at process improvements
leading to greater throughput, higher quality products, better manufacturing
yield, increased production uptime and new product development.
Sales and Marketing
The Company markets its products worldwide through direct sales and sales
representatives. Its efforts are directed toward high volume suppliers of radio
frequency and microwave devices. Unlike non-epitaxial wafers which, in many
instances, are mass produced based on industry standards, GaAs based epitaxial
wafers are manufactured to customized design and composition specifications
based on a specific customer's device requirements. The Company supports its
customers with technically proficient sales personnel and representatives and
skilled engineers. The Company is an integral part of its customer's design and
development effort.
The sales cycles for a new customer or application require as long as six
to twelve months for initial development of the epitaxial wafer and device
designs to be finalized and longer for the wafer production volumes to become
significant. The initial contact is often with a device manufacturer's design
and development or production group. Initially, the Company engages in a
specification review during which the Company's engineers offer suggestions or
modifications regarding the wafer design. If this phase is successful, the
customer may place
28
<PAGE>
a "qualification order" of wafer samples for performance evaluation. The
Company continues to assist the customer to refine the technical specifications
of the wafers. After acceptance of the initial wafers, several iterative lots
of wafers are supplied to fully adjust the characteristics of the Company's
wafers to the customers' device fabrication process. During this phase, the
customer typically invests resources to create a manufacturing process which
will utilize the Company's wafers. Once the customer's process is determined to
be stable, a production order is issued. The Company also has the ability to
shorten this cycle to three to six months when it is engaged as a second source
for a customer's well established product. The Company believes that this sales
process and ongoing customer interaction assist in the development of long-term
customer relationships and facilitate preferred supplier status.
The Company has five employees dedicated to marketing and sales (not
including the engineering staff involved in the sales qualification cycle).
Additionally, the Company's Chief Executive Officer devotes a significant
amount of time developing and maintaining relations with customers.
The Company has had relationships with most of its manufacturer's
representative firms for sales and service since its inception. The Company has
sales representatives in France, Germany, Italy, Japan, South Korea, Sweden,
Taiwan and the United Kingdom.
To further promote the Company's expertise and manufacturing capabilities,
the Company's personnel actively participate in trade shows. Its employees also
speak at technical conferences, publish technical research and collaborate with
customers on published research and development projects.
Customers
The Company's customers represent many industries including semiconductor
manufacturers, microwave component suppliers, electronics systems integrators,
computer manufacturers, defense contractors, research and development
laboratories and consumer electronics manufacturers. The Company's customers
include:
Alpha Industries NASA's Jet Propulsion Laboratory
ANADIGICS NEC
General Motors Northrop Grumman
Hughes Aircraft Raytheon
Lockheed Martin Texas Instruments
M/A-COM TriQuint
Motorola Watkins Johnson
The United States government is also a significant customer, as it sponsors
research and development projects through the SBIR program.
For the years ended December 31, 1995 and 1996 and for the nine months
ended September 30, 1997, three customers accounted for approximately 52%, 63%
and 55%, respectively, and the ten largest customers accounted for
approximately 85%, 88% and 81%, respectively, of the Company's total revenues
in each such period. Generally, the Company does not have long-term or other
non-cancelable commitments from its customers and usually sells products
pursuant to customer purchase orders. The loss of certain of these customers
could have a material adverse effect on the Company. See "Risk
Factors--Substantial Reliance on Key Customers."
International sales in 1995, 1996, and for the nine months ended September
30, 1997, were 11%, 7% and 6%, respectively, of total revenues in those
periods.
Competition
The market for the Company's products is highly competitive. In connection
with the production of MBE wafers for the high performance discrete
semiconductor and integrated circuit market where performance requirements of
the end product generally dictate that the MBE process be utilized, the Company
competes with captive producers, which are generally well-established domestic
and foreign companies and other merchant suppliers. Many of the semiconductor
manufacturers have some internal capacity to produce MBE wafers. Some
29
<PAGE>
of these manufacturers have substantial in-house capacity and use the Company
as a second source for GaAs MBE wafers. Other semiconductor manufacturers only
have captive capacity on a research and development basis. The Company also
competes with other merchant suppliers, some of which possess greater
financial, marketing, personnel and other resources than the Company, and have
established reputations for success in the production and sale of MBE wafers.
Picogiga (France), MBE Technology (Singapore) and Sumitomo Electric Industries
(Japan) are the Company's primary MBE merchant competitors.
The Company's primary non-MBE competitors include merchant suppliers of
GaAs MOCVD wafers such as Kopin Corporation (U.S.), Advanced Technology
Materials (U.S.), Furukawa Electric (Japan), Hitachi Cable (Japan), and
Epitaxial Products International (U.K.). While the market for MOCVD wafers has
been segmented from that serviced by MBE, the Company expects more future
overlap as it expands its product offerings to cover HBTs, lasers and sensors.
Another level of competition comes from competing technologies not relying
on GaAs epitaxy which provide lower performance characteristics such as ion
implantation. While these technologies offer cost advantages as compared with
MBE, the Company believes that it will become more competitive in these lower
performance markets as technological developments reduce MBE manufacturing
costs. See "Risk Factors Adoption of MBE Technology" and "--Competition."
Quality Assurance
The Company is committed to quality to satisfy its customers' evolving
requirements and expectations. As the Company has grown, it has instituted a
formal quality assurance program, including wafer evaluation using
non-destructive measurement techniques and the incorporation of customers'
quality assurance techniques and specifications, to ensure that it maintains
the consistent delivery of high quality products. In preparation for its ISO
certification, the Company has documented and is auditing its procedures. The
Company expects to make formal application for ISO 9002 certification during
the first quarter of 1998.
As the MBE wafer industry matures, customers increasingly require
consistency in delivered product. In order to ensure that quality and
consistency are provided on an individual customer basis, the Company
coordinates with its customers' quality assurance programs to ensure that all
requirements and expectations are understood prior to order execution. In
general, in order to qualify as a preferred supplier to many of the Company's
customers, the Company's quality assurance procedures are subject to audit by
such customers. These quality assurance procedures include statistical process
control for both MBE wafers and the equipment that is used to monitor and
verify exact specifications of the MBE wafers. The combination of these
characterization tools, their implementation and the interpretation of the data
from such process controls is unique to the Company. The Company believes that
the ability to implement its quality assurance program on a consistent basis is
a significant competitive advantage.
As part of its quality assurance program, the Company has implemented a
Process Ready Epitaxial Wafer program. This program incorporates customers'
incoming quality assurance procedures and practices into the Company's standard
quality control process, so that the Company is able to ship wafers that meet
predetermined specifications and require no further analysis and testing by the
customer.
Raw Materials and Suppliers
The Company purchases the substrate upon which it grows epitaxial layers
from third party suppliers. These substrates are the Company's principal raw
material. There are a limited number of GaAs substrate suppliers in the world.
Although the Company has never experienced any unavailability of substrates,
the limited number of suppliers suggests a potential risk of shortage and/or
price increase. In addition, a single entity has gained significant control
over commercial sources of gallium and, as a result, substrate price increases
and supply shortages may occur. The Company's other raw materials, such as
aluminum, arsenic, silicon and indium are available from multiple sources. See
"Risk Factors--Dependence on Key Materials."
Backlog
The Company includes in product revenue backlog only those customer orders
which have been accepted by the Company and for which shipment is expected
within four months. Also included in backlog are orders
30
<PAGE>
by customers who have made a commitment to accept delivery of wafers shipped
(subject to certain limitations) before the end of the year. As of September
30, 1997, the Company's product revenue backlog was approximately $1.3 million.
This is compared with backlog of approximately $1.4 million at September 30,
1996. Recent history demonstrates that the Company's backlog seldom exceeds one
and one-half months production. Backlog can fluctuate greatly based upon, among
other matters, the timing of orders. Therefore, variations in backlog may not
represent a fair indication of future business trends.
Some purchase orders from the Company's customers provide for cancellation
without penalty, reduction in size, and/or rescheduling delivery dates, all at
the option of the customer. The Company has experienced, and may continue to
experience, cancellation, reduction and rescheduled delivery of orders in its
backlog.
Facilities and Equipment
The Company's executive offices, production facilities and research and
development facilities are situated in one leased building in Bethlehem,
Pennsylvania. In 1996, the Company expanded its facility from approximately
10,000 to 20,000 square feet to provide manufacturing space adequate for
several additional multi-wafer MBE systems and associated test and measurement
equipment, and additional office space for general corporate functions. The
Company expects these facilities will be sufficient to satisfy its requirements
through 1999. In addition, in 1997, the Company leased approximately 6,500
square feet of undeveloped space adjacent to the present facility, and secured
options on approximately 13,500 square feet of space that is currently under
lease to others, a portion of which will be available in 1998, if additional
space is required.
The Company owns and operates four V.G. Semicon V-100 MBE systems which
are capable of simultaneously producing 12 two-inch wafers, five three-inch
wafers, three four-inch wafers or one six-inch wafer. The next generation of
MBE equipment has been designed and will have the capability of producing nine
four-inch wafers or four six-inch wafers. The Company expects the first of this
new generation system to be available during the fourth quarter of 1998.
Approximately $8.0 million of the proceeds from the Offering will be utilized
for the acquisition of additional manufacturing capacity in 1998 and 1999. See
"Use of Proceeds."
In addition, the Company currently operates two Varian GEN II Modular MBE
systems which are capable of producing a single three-inch wafer. One of these
systems is dedicated to support the Company's research and development efforts,
and the other system produces small quantity orders required by customers in
connection with their device development efforts.
MBE Systems Timeline
- --------------------------------------------------------------------------------
MBE Systems 1989 1990 1991 1992 1993 1994 1995 1996 1997
- --------------------------------------------------------------------------------
Single-wafer #1 O--Q-----------------------------------------------------
Single-wafer #2 O------Q------------------------------------------
Multi-wafer #1 O----Q-------------------------
Multi-wafer #2 O-----Q------------
Multi-wafer #3 O------Q-----------
Multi-wafer #4 O---Q-------
- --------------------------------------------------------------------------------
O - Ordered
Q - Qualified for production
Proprietary Information
The Company believes that the success of its business depends primarily on
its proprietary technology, information, processes and know-how, rather than on
patents, trademarks and copyrights. Nevertheless, the Company will attempt to
protect its intellectual property rights with respect to its products and
manufacturing
31
<PAGE>
processes through copyrights and trademarks, when appropriate. The Company also
relies upon trade secret protection for its confidential and proprietary
information. The Company routinely enters into confidentiality and
non-competition agreements with its employees, consultants and others,
including certain customers, who may gain access to such confidential and
proprietary information.
The Company has trademark applications pending for its name, the acronym
"QED" and the logo of the Company.
Environmental Regulation
Federal, state and local regulations impose various environmental controls
on the types of chemicals used in the Company's manufacturing processes and
other development activities. However, the Company is largely unregulated at
present, generally due to the small volume of hazardous materials handled or
hazardous wastes generated. While the Company has not experienced any material
adverse effects on its operations from government regulations, there can be no
assurance that changes in such regulations or changes in the Company's
manufacturing processes and other development activities, including an
expansion thereof, will not impose the need for additional capital equipment or
other requirements. Any failure of the Company to adequately restrict the
discharge of regulated substances could subject it to future liabilities. See
"Risk Factors--Environmental Regulations."
Employees
As of September 30, 1997, the Company had 48 full-time employees.
Thirty-five employees are in production, four are in research and development,
five are in sales, marketing and customer support, and four are in
administration. Of the Company's employees, 12 hold advanced degrees including
five employees with PhDs. The Company's ability to attract and retain qualified
personnel is essential to its continued success. The Company requires that all
new employees execute confidentiality and non-compete agreements as a condition
of employment by the Company. None of the Company's employees is represented by
a collective bargaining agreement, and the Company has never experienced any
work stoppage or slowdown. The Company considers its relations with its
employees to be good.
Legal Proceedings
There are no material pending legal proceedings to which the Company is a
party or to which any of its property is subject.
32
<PAGE>
MANAGEMENT
Directors and Executive Officers
The names, ages and positions of the executive officers and directors of
the Company are as follows:
<TABLE>
<CAPTION>
Year of Expiration
Name Age Position of Term as Director
- ---- ----- -------- --------------------
<S> <C> <C> <C>
Thomas L. Hierl .................. 45 Chairman of the Board of Directors, 2000
President and Chief Executive Officer
William J. Burg .................. 56 Vice President Finance, Chief N/A
Financial Officer and Secretary
William H. Weisbecker ............ 34 Vice President Sales and Marketing N/A
Scott T. Massie .................. 36 Vice President Operations N/A
James C. M. Hwang, Ph.D.(1) ...... 49 Director 2000
Gregory H. Olsen, Ph.D.(1)(2) ...... 52 Director 1999
Michael G. Bolton(1)(2) ............ 54 Director 1999
Stephen N. Bretsen(2) ............... 36 Director 1998
</TABLE>
- ------------
(1) Member of Audit Committee
(2) Member of Compensation Committee
Thomas L. Hierl has served as Chairman of the Board of Directors,
President and Chief Executive Officer of the Company since its founding in
1988. From 1986 to 1988, Mr. Hierl was Manager of Semiconductor Materials for
GAIN Electronics, a manufacturer of GaAs integrated circuits, where he
established the first domestic source of MBE wafers for the merchant market.
Mr. Hierl has over 20 years of experience in the GaAs semiconductor industry
and was Senior Engineer at Varian Associates Corporation, a manufacturer of MBE
equipment. Mr. Hierl holds a B.S. and an M.S. in Electrical Engineering from
Cornell University.
William J. Burg has served as Vice President Finance and Chief Financial
Officer of the Company since 1996 and Secretary since 1997. From 1994 through
1995, Mr. Burg was employed as Chief Financial Officer by Mattei & Associates,
a private underwriter of property and casualty insurance. From 1988 until 1994,
Mr. Burg was employed as Chief Executive Officer and Chief Financial Officer of
Advanced Composites Inc., a private manufacturer and distributor of composite
materials for the anti-corrosion industry. Mr. Burg holds a B.A. in Economics
and an M.B.A. from the University of Washington.
William H. Weisbecker has served as Vice President Sales and Marketing of
the Company since its founding in 1988. During 1988, Mr. Weisbecker was
employed as the Manager of Material Sales for GAIN Electronics. From 1985 to
1987, Mr. Weisbecker was employed as a sales engineer for the Compound
Semiconductor Division of Sumitomo Electric Industries, a manufacturer of
compound semiconductor materials. Mr. Weisbecker has 12 years experience in
compound semiconductor materials sales and holds a B.S. in Physics from Wagner
College.
Scott T. Massie has served as Vice President Operations of the Company
since January 1996 and was Director of Contract Research from 1993 through
1995. Mr. Massie is currently responsible for manufacturing and contract
research and has been responsible for obtaining a number of government funded
development programs. Mr. Massie has over eight years of experience with the
growth and characterization of MBE materials. Mr. Massie holds a B.S. in
Mathematics and a B.S. and an M.S. in Physics from Virginia Polytechnic
Institute and State University. Mr. Massie has completed his doctoral studies
in Physics and is a candidate for Ph.D. at Virginia Polytechnic Institute and
State University.
James C.M. Hwang, Ph.D. has served as a director of the Company since its
founding. Dr. Hwang has been Professor of Electrical Engineering and Director
of the Compound Semiconductor Technology Laboratory at Lehigh University since
1988. Dr. Hwang was selected for the Fellow Award in 1994 by the Institute of
Electrical and Electronic Engineers for his contributions to the development of
MBE manufacturing and heterojunction semiconductor materials and devices. Dr.
Hwang holds a B.S. in Physics from the National Taiwan University and an M.S.
and Ph.D. in Materials Science from Cornell University.
33
<PAGE>
Gregory H. Olsen, Ph.D. has served as a director of the Company since
1992. Dr. Olsen is President and the founder of Sensors Unlimited, Inc., a high
technology manufacturer of infrared detector arrays, cameras and diode lasers.
Dr. Olsen also founded EPITAXX, Inc., a manufacturer of opto-electronic
components, in 1983 after 10 years with RCA Labs. Dr. Olsen also serves on the
Advisory Board of Electron Transfer Technology, a Princeton, New Jersey based
manufacturer of on-site arsine generators for the GaAs epitaxy industry. Dr.
Olsen holds a B.S. in Engineering and an M.S. in Physics from Fairleigh
Dickinson University, and a Ph.D. in Material Science from the University of
Virginia.
Michael G. Bolton has served as a director of the Company since 1989. Mr.
Bolton is a Managing Director of Safeguard Scientifics, Inc. and serves on the
boards of Technology Systems Corporation, Competitive Technologies, Inc. and
NEPA Venture Funds, Inc. Prior to joining Safeguard Scientifics, Mr. Bolton
served Lehigh University in various technology transfer, entrepreneurial
assistance, fund raising and public relations positions. Mr. Bolton holds a
B.S. in Economics and an M.B.A. from Lehigh University.
Stephen N. Bretsen has served as a director of the Company since 1997.
Since 1996, Mr. Bretsen has been Director of Corporate Development for AMP
Incorporated, a global manufacturer of electrical and electronic connection
devices headquartered in Harrisburg, Pennsylvania, and is responsible for all
merger, acquisition and equity investment activity for AMP Incorporated in the
Americas and the Asia/Pacific region. From 1989 to 1996, Mr. Bretsen was an
attorney in AMP Incorporated's Legal Department. Mr. Bretsen holds a B.A. in
Government from the College of William and Mary and a J.D. from the University
of Colorado.
Classified Board of Directors
The Board of Directors of the Company consists of five persons divided
into three classes of directors each containing, as nearly as possible, an
equal number of directors. Directors within each class are elected to serve
three-year terms and approximately one-third of the directors sit for election
at each annual meeting of the Company's shareholders. The classified Board of
Directors may have the effect of deterring or delaying any attempt by any group
to obtain control of the Company by a proxy contest since such third party
would be required to have its nominees elected at two separate annual meetings
of the Board of Directors in order to elect a majority of the members of the
Board of Directors. Directors who are elected to fill a vacancy (including
vacancies created by an increase in the number of directors) must be confirmed
by the shareholders at the next annual meeting of shareholders whether or not
such director's term expires at such annual meeting. See "Risk Factors--
Anti-takeover Effect of Certain Provisions of the Company's Articles of
Incorporation and Pennsylvania Law."
<PAGE>
Director Compensation
Upon completion of this Offering, each director who is not also an
employee of the Company will be eligible to receive a one-time grant of an
option to purchase 1,000 shares of Common Stock. Thereafter, on each date on
which the Company holds its annual meeting, all non-employee directors elected
at such meeting will be eligible to receive a grant of an option to purchase
1,000 shares of Common Stock pursuant to the Company's 1996 Stock Option Plan.
In addition, the travel expenses of such Directors related to meetings of the
Board of Directors may be reimbursed by the Company. See "--Stock Option
Plans."
Committees of the Board
The Company's Board of Directors has appointed an Audit Committee and a
Compensation Committee.
Audit Committee. The Audit Committee is composed of Dr. Hwang, Dr. Olsen
and Mr. Bolton, and is chaired by Dr. Hwang. It was formed in April 1996 and
its principal functions include making recommendations to the Board of
Directors regarding the annual selection of independent public accountants and
review of the recommendations of the independent public accountants as a result
of their audit of the Company's financial statements.
Compensation Committee. The Compensation Committee is composed of Dr.
Olsen and Messrs. Bolton and Bretsen and is chaired by Dr. Olsen. It was formed
in April 1996 and its principal function is to establish the compensation of
the officers of the Company and to administer the Company's stock option plans.
34
<PAGE>
Compensation Committee Interlocks and Insider Participation
The Compensation Committee of the Company's Board of Directors was formed
in April 1996. Dr. Olsen, Mr. Bolton and Mr. Bretsen, who were not at any time
during 1996 or at any other time officers or employees of the Company, are the
only members of the Compensation Committee. No executive officer of the Company
serves as a member of the Board of Directors or Compensation Committee of
another entity which has one or more executive officers serving as a member of
the Company's Board of Directors or Compensation Committee.
Executive Compensation
The following table sets forth certain compensation information with
respect to the Company's Chief Executive Officer and the other executive
officer of the Company whose salary and bonus exceeded $100,000 for the year
ended December 31, 1996 (the "Named Executive Officers"):
Summary Compensation Table
<TABLE>
<CAPTION>
Annual Compensation
----------------------------------------------
Other Annual All Other
Name and Principal Position Year Salary Bonus Compensation Compensation(1)
- ------------------------------ ------ ---------- ------- -------------- ----------------
<S> <C> <C> <C> <C> <C>
Thomas L. Hierl ............ 1996 $150,000 -- $ -- $84
President and Chief Executive
Officer
William H. Weisbecker ...... 1996 110,000 -- 9,143(2) 84
Vice President Sales and
Marketing
</TABLE>
- ------------
(1) Reflects life insurance premium of $84 paid in connection with the
Company's group life insurance plan.
(2) Reflects commissions paid in 1996.
Stock Option Plans
1996 Stock Option Plan. The Company adopted the Quantum Epitaxial Designs,
Inc. 1996 Stock Option Plan (as amended, the "1996 Stock Option Plan") which
provides for the grant of stock options to purchase up to an aggregate of
320,000 shares of the Company's Common Stock to employees, directors and
consultants of the Company. The Company believes that the 1996 Stock Option
Plan is an important incentive in attracting, maintaining and motivating
employees, directors and consultants of the Company. The 1996 Stock Option Plan
is administered by the Compensation Committee of the Board of Directors (the
"Committee"). The persons eligible to receive discretionary awards of stock
options under the 1996 Stock Option Plan are those employees, directors and
consultants of the Company selected by the Committee in its discretion from
time to time.
All terms and conditions of discretionary awards of options awarded under
the 1996 Stock Option Plan are determined by the Committee, including the
selection of participants to whom options will be granted, the number of shares
of Common Stock subject to each option, the exercise price of each option, the
expiration date of each option (subject to a maximum of ten years from the date
of the grant), the vesting schedule and any other material provisions.
In the event of any stock dividend, stock split, recapitalization, or
other similar change affecting the Common Stock, appropriate proportional
adjustments will be made in the number of shares reserved for issuance under
the 1996 Stock Option Plan, the number of shares subject to outstanding options
and the option prices thereof, subject to required action by the shareholders
of the Company, if any. The 1996 Stock Option Plan also provides for the
ability of the Committee to accelerate or terminate the exercisability of
options, and provides discretion to the Committee to take whatever other
actions it deems necessary or desirable with respect to all outstanding options
upon the occurrence of a "Change of Control," as such term is defined in the
1996 Stock
35
<PAGE>
Option Plan, and a provision for the cancellation of options and a cash payment
to the holders of such canceled options upon the occurrence of certain of the
events constituting a Change of Control. Options may not be exercised more than
ten years after the date of grant (five years after the date of grant with
respect to an incentive stock option ("ISO") granted to any person who owns
stock of the Company possessing 10% or more of the total voting power of all
the Company's stock), and options granted under the 1996 Stock Option Plan are
not transferable other than by will or the laws of descent and distribution.
The Committee has the discretion to award options to participants who are
employees as incentive stock options or as non-qualified stock options
("NQSOs"). Options awarded to participants who are not employees are
non-qualified stock options. The exercise price of an ISO must be not less than
the fair market value of the Company's Common Stock, on the date the option is
granted (110% of fair market value with respect to an ISO granted to any person
who owns stock of the Company possessing 10% or more of the total voting power
of all the Company's stock), and is payable upon the exercise of the option.
The exercise price of an NQSO may be less than fair market value. The number of
shares covered by ISOs granted to any optionee is limited such that the
aggregate fair market value of stock (determined as of the date of the grant)
with respect to which ISOs are exercisable for the first time by such optionee
in any calendar year shall not exceed a yearly limitation according to the
provisions of the Internal Revenue Code of 1986, as amended. Any options in
excess of such limits would be treated as NQSOs.
Subject to forfeiture provisions in the event of termination for cause, as
defined in the 1996 Stock Option Plan, if an optionee's employment with the
Company is terminated for any other reason other than death or disability, the
employee's options terminate three months after the optionee's employment is
terminated. If an optionee dies or becomes disabled while employed by the
Company, any unexercised option terminates one year after the date of his death
or disability. An option may be exercised by a disabled optionee or an optionee
whose employment is terminated, or by the executors or administrators of a
deceased optionee or any person who acquires the option directly from an
optionee by bequest or inheritance, to the extent the option could have been
exercised on the date of such disability, termination or death.
Upon completion of the Offering, non-employee directors will receive NQSOs
pursuant to formula grants under the 1996 Stock Option Plan. According to the
formula grants, each non-employee director who is a member of the Board of
Directors as of the effective date of the 1996 Stock Option Plan will be
eligible to receive a grant of a NQSO to purchase 1,000 shares of Common Stock
at a price equal to the initial public offering price in the Offering.
Thereafter, on each date on which the Company holds its annual meeting of
shareholders, each non-employee director elected at such annual meeting will be
eligible to receive a grant of a NQSO to purchase 1,000 shares of Common Stock
at an exercise price equal to the closing price per share on the Nasdaq
National Market on the date of grant. The term of each such option shall be ten
years and each such option shall be fully and immediately exercisable upon the
date of grant, subject to forfeiture upon a finding that the optionee has
engaged in activity that would be grounds for termination for cause if the
optionee were an employee.
As of the date hereof, options to purchase 153,000 shares of Common Stock
are outstanding under the 1996 Stock Option Plan with an exercise price of
$1.75 per share. These options, which were granted in July 1997, vest ratably
and annually over four years; however, the Company's Board of Directors has
approved an acceleration of the vesting upon closing of the Offering. The
Company recorded deferred compensation of $972,000 in connection with these
options and $113,000 was amortized to expense in the third quarter of 1997. The
remaining deferred compensation charge will be expensed as the options vest,
with the remaining charge expensed upon acceleration of the vesting of the
options upon completion of the Offering. In October 1997, the Company's Board
of Directors approved the grant of options to purchase 25,000 shares of Common
Stock at an exercise price equal to the per share initial public offering
price.
Employee Non-Qualified Stock Option Plan. In 1991, the Company adopted the
Quantum Epitaxial Designs, Inc. Employee Non-Qualified Stock Option Plan, which
has been amended and restated (the "Employee NQSO Plan"). The Employee NQSO Plan
permits the grant of NQSOs and is designed to serve as an incentive for
retaining qualified and competent key executive employees. All employees of the
Company are eligible participants under the Employee NQSO Plan. The Compensation
Committee of the Board of Directors administers the Employee NQSO Plan.
36
<PAGE>
As of the date hereof, options to purchase 260,890 shares of Common Stock
are outstanding under the Employee NQSO Plan at a weighted average exercise
price of $0.16 per share. An optionee may exercise an option as to twenty
percent of the shares on the first anniversary of its grant and an additional
1/48th of such shares monthly thereafter. The options granted under the
Employee NQSO Plan, which expire between 1999 and 2006, will continue in effect
until exercised, surrendered, canceled or expired. No additional grants will be
made under the Employee NQSO Plan. In October 1997, the Company's Board of
Directors approved the acceleration of vesting of all options granted under the
Employee NQSO Plan upon completion of the Offering.
Simplified Employee Pension/401(k) Plan
Until December 1996, the Company maintained an informal simplified
employee pension plan pursuant to which the Company contributed to individual
employee retirement accounts. In December 1996, the Company adopted and
executed a 401(k) Profit-Sharing Plan and Trust (the "401(k) Plan" or the
"Plan") for the benefit of its employees and their beneficiaries effective
January 1, 1997. The 401(k) Plan, which is intended to be qualified under the
Internal Revenue Code, is available to all employees of the Corporation
employed on or after the effective date of the Plan.
An employee may elect to defer, within the limits of deferable
compensation allowed by law, a certain percentage of his or her salary. For
employees who were actively employed on the last day of a Plan year, or who
were not actively employed but had a minimum of 500 hours of service, the
Company may match the employee contribution or a portion thereof. Additionally,
the Plan permits other discretionary contributions by the Company.
Generally, employees are 100% vested in the amounts contributed to the
Plan through salary reductions and Company contributions. Distributions from
the Plan are permitted at age 59 1/2 subject to provisions related to death,
disability and termination of employment.
Employment Arrangements
The Company has entered into Agreements with Thomas L. Hierl and William
J. Burg (the "Employee Agreements"). In the event Messrs. Hierl or Burg are
terminated for any reason other than such individual's voluntary termination,
death, disability or cause (as defined in the Employee Agreements), the Company
must pay to such individual, during the 12 month period following the date of
such termination, an amount equal to the individual's then annual base salary.
In addition, the Employee Agreements contain a confidentiality provision and a
restriction on competition while the individual is employed by the Company and
for two years thereafter.
Other than the Employee Agreements and the Company's standard form
non-competition and confidentiality agreement which has been executed by
substantially all of the Company's employees, the Company does not presently
have any employment contracts in effect with the executive officers or other
employees of the Company. The Company requires all new employees to execute the
non-competition and confidentiality agreement prior to employment.
37
<PAGE>
CERTAIN TRANSACTIONS
Convertible and Non-Convertible Notes and Warrants
In August 1989, the Company issued (i) Convertible Subordinated Promissory
Notes to NEPA Venture Fund, L.P. ("NEPA") and James C.M. Hwang, a director of
the Company, in the principal amounts of $81,820 and $18,180, respectively (the
"Convertible Notes") and (ii) Non-Convertible Subordinated Promissory Notes to
NEPA and Dr. Hwang in the principal amounts of $143,180 and $31,820,
respectively (the "Non-Convertible Notes"). The Non-Convertible Notes were paid
in full in August 1994 under the scheduled repayment terms. The Convertible
Notes bear interest at a rate of 8% per annum and is payable quarterly with
principal payments commencing in August 1998 and continuing through May 31,
2000 (the "Maturity Date"). The amount outstanding pursuant to these
Convertible Notes is convertible into shares of the Company's Class A Preferred
Stock at any time prior to the Maturity Date or the date paid in full at a rate
of $0.6981 per share. Each share of Class A Preferred Stock of the Corporation
outstanding at the time of the Offering automatically converts to ten shares of
Common Stock.
In connection with the issuance of the Convertible Notes, the Company
issued to NEPA and Dr. Hwang warrants exercisable to purchase 135,710 and
30,180 shares, respectively, of Common Stock at a price of $0.05811 per share
(the "Warrants"). The Warrants may be exercised at any time prior to the date
on which the Convertible Note in favor of the Warrant holder has been paid in
full. On August 30, 1994, Dr. Hwang exercised the full amount of his Warrant
and purchased 30,180 shares of Common Stock.
NEPA and Dr. Hwang have agreed to convert the outstanding principal under
the Convertible Notes immediately prior to the completion of the Offering into
shares of the Company's Class A Preferred Stock at the rate of $0.6981 per
share, each of which will be immediately converted into ten shares of Common
Stock. As of September 30, 1997, $81,820 and $18,180 were outstanding under the
Convertible Notes to NEPA and Dr. Hwang, respectively, which will be converted
into 1,172,030 and 260,420 shares of Common Stock, respectively. In addition,
NEPA has agreed to exercise the full amount of its outstanding NEPA Warrant
upon consummation of the Offering.
In the Offering, NEPA will sell a portion of the shares of Common Stock
received upon conversion of the Convertible Notes and exercise of the Warrants
and Dr. Hwang will sell a portion of the shares of Common Stock he currently
holds. Both NEPA and Dr. Hwang will have certain rights with respect to the
registration under the Securities Act for resale to the public of their
remaining shares. See "Description of Capital Stock" and "Principal and Selling
Shareholders."
In February 1997, the Company borrowed $2.0 million from AMP Incorporated
("AMP") pursuant to a Note Purchase Agreement (the "AMP Purchase Agreement")
and a Convertible Subordinated Note (the "AMP Note"). The AMP Note accrues
interest, which is payable quarterly, at a rate of prime plus 1% per annum
until the entire principal amount is paid. The AMP Note matures on February 29,
2000 (the "AMP Maturity Date"). The amount outstanding under the AMP Note is
convertible into shares of the Company's Class B Preferred Stock at any time
prior to the AMP Maturity Date at a rate of $7.41 per share. In connection with
the Offering, the AMP Note will automatically convert into shares of Class B
Preferred Stock, which will then automatically convert into a total of 269,905
shares of Common Stock. See "Description of Capital Stock."
Tax Agreements
Prior to the consummation of this Offering, the Company and its current
shareholders will enter into tax agreements relating to certain of their
respective income tax liabilities. Because the Company will be subject to
corporate income taxation after consummation of this Offering, if there were a
reallocation of income or deductions between the period during which the Company
was treated as an S Corporation ("S years") and the period during which the
Company will be subject to corporate income taxation ("C years"), such
reallocation may increase the taxable income of one party while decreasing that
of another party. Accordingly, the tax agreements require any party thereto
whose income is decreased to use reasonable efforts to obtain a refund and to
pay the refund to the other party (up to the amount of additional taxes owed by
the other party), but any shortfall in
38
<PAGE>
corporate or individual taxes (including tax on tax in the case of the current
shareholders) will be borne or reimbursed by the Company, as the case may be.
Subject to certain limitations, the tax agreements also provide that if the
Internal Revenue Service were to determine that the Company owed taxes because
it was not an S Corporation for any year prior to the Offering, the current
shareholders would use reasonable efforts to obtain a refund of the taxes they
paid for any such year, at the Company's expense, and pay such refund to the
Company; the Company will pay any amount of corporate taxes due to any taxing
authority. If any taxing authority were to determine that additional amounts of
tax were due for any S year, the Company will provide the funds to pay the tax
(net of any refund and increased on account of any tax on the tax payment) owed
by the current shareholders. The Company also will pay reasonable expenses
incurred by the current shareholders in connection with the matters described in
the tax agreements. Any payment made by the Company to the current shareholders
pursuant to the tax agreements will likely be considered by the applicable
taxing authority to be nondeductible by the Company for income tax purposes.
Advances to Shareholders
In early 1996, the Company made advances totaling approximately $140,000
to its shareholders to cover the estimated income tax liabilities attributable
on their proportionate share of the Company's taxable income. In 1996 and in
1997 (through the Termination Date), the Company incurred a loss and the
shareholders consequently had no tax liability. In connection with the
termination of the Company's S Corporation status, the advances to
shareholders, including $125,000 to Mr. Hierl and $15,000 to Dr. Hwang, are
expected to be repaid by the end of 1997.
Director Option Agreement
On May 22, 1992, the Company granted to Gregory H. Olsen, a director of
the Company, an option to purchase 50,000 shares for an exercise price of
$0.153 per share (the "Olsen Option"). Dr. Olsen's right to exercise the option
was 20% vested at the first anniversary of the date of grant, and vested as to
an additional 1/48th of the shares as of the last day of each month thereafter.
Dr. Olsen's option will expire on May 22, 2002, and will continue in effect
until exercised, surrendered, canceled or expired.
Director Indemnification Agreements
The Company will enter into indemnification agreements with each of the
Company's directors. These indemnification agreements require the Company to
indemnify each director unless the Company determines that such director did not
act in good faith and in a manner he or she reasonably believed to be in, or not
opposed to, the Company's best interest and, with respect to any criminal
proceeding, that such director had reasonable cause to believe his or her
conduct was unlawful. The Company is required to pay all expenses actually and
reasonably incurred by or on behalf of the director in defending any lawsuit or
other proceeding in advance of the final disposition of such lawsuit or other
proceeding. In any action brought to enforce any director's rights to
indemnification under his or her indemnification agreement, the Company bears
the burden of proof that such director did not meet the foregoing statement of
conduct.
Future Transactions
The Company considers that all transactions with affiliates have been made
on terms at least as favorable to the Company as could have been made for
similar transactions with unrelated third parties. In the future, the Company
will not enter into any transactions with its officers, directors or other
affiliates unless the terms are as favorable to the Company as those generally
available from unaffiliated third parties and the transactions are approved by
a majority of disinterested directors.
39
<PAGE>
PRINCIPAL AND SELLING SHAREHOLDERS
The following table sets forth certain information regarding the
beneficial ownership of the Company's Common Stock at October 1, 1997, assuming
the conversion of the Convertible Subordinated Notes and the exercise of the
NEPA Warrant, by (i) each person known to the Company to beneficially own more
than 5% of the Common Stock, (ii) each director and Named Executive Officer,
(iii) all directors and executive officers as a group, and (iv) the Selling
Shareholders, both before and after giving effect to the sale by the Company of
2,250,000 shares of Common Stock in the Offering.
<TABLE>
<CAPTION>
Shares Beneficially Shares Beneficially
Owned Prior to Owned After
Offering(1)(2) Number of Offering(2)
----------------------- Shares Being ----------------------
Names(2) Number Percent Offered Number Percent
- ----------------------------------------- ----------- --------- -------------- ----------- --------
<S> <C> <C> <C> <C> <C>
Thomas L. Hierl#+(3)(4) ................. 1,398,210 40.8% -- 1,398,210 24.6%
NEPA Venture Fund, L.P.(3)(5) ......... 1,307,740 38.2 204,546 1,103,194 19.4
James C. M. Hwang, Ph.D.#(3)(6)(7) ..... 445,890 13.0 45,454 401,436 7.1
AMP Incorporated(3)(8) .................. 269,905 7.9 -- 269,905 4.8
Gregory H. Olsen, Ph.D.#(7)(9) .......... 50,000 1.4 -- 51,000 *
Michael G. Bolton#(7) .................. -- -- -- 1,000 *
Stephen N. Bretsen# ..................... -- -- -- -- *
William H. Weisbecker+(10) .............. 165,890 4.6 -- 165,890 2.8
All executive officers and directors as
a group (8 persons)(11) ............... 2,079,364 56.8 45,454 2,067,536 34.8
</TABLE>
- -----------
* Represents less than 1% of the outstanding shares of Common Stock.
# Director of the Company.
+ Executive officer of the Company.
(1) As used in this table, "beneficial ownership" means the sole or shared
power to vote or direct the voting of a security, or the sole or shared
investment power with respect to a security (i.e., the power to dispose,
or direct the disposition, of a security). Unless otherwise noted, each
shareholder possesses sole voting and investment power. A person is deemed
as of any date to have "beneficial ownership" of any security that such
person has the right to acquire within 60 days after such date.
(2) Based on 3,423,415 shares outstanding prior to the Offering and 5,673,415
shares outstanding after the Offering, except that shares underlying
options exercisable within 60 days of October 1, 1997 are deemed to be
outstanding for purposes of calculating the number of shares beneficially
owned and percentages owned by the holder of such options.
(3) The address of Mr. Hierl and Dr. Hwang is: c/o Quantum Epitaxial Designs,
Inc., 119 Technology Drive, Bethlehem, Pennsylvania 18015. The address of
NEPA Venture Fund, L.P. is 125 Goodman Drive, Bethlehem, Pennsylvania
18015. The address of AMP Incorporated is M.S. 176-34, P.O. Box 3608,
Harrisburg, Pennsylvania 17105.
(4) Includes 500,000 shares of Common Stock held in a grantor's trust of which
Mr. Hierl is both the trustee and beneficiary. Includes 135,000 shares of
Common Stock held in several trusts for the benefit of Mr. Hierl's
children.
(5) Includes 1,172,030 shares of Common Stock issuable upon conversion of a
convertible subordinated note payable and 135,710 shares issuable upon
exercise of a warrant, both immediately prior to consummation of the
Offering. See "Certain Transactions" concerning the relationship between
NEPA Venture Fund, L.P. and the Company.
(6) Includes 260,420 shares of Common Stock issuable upon conversion of a
convertible subordinated note payable immediately prior to consummation of
the Offering. See "Certain Transactions" concerning the relationship between
Dr. Hwang and the Company.
<PAGE>
(7) Shares beneficially owned after Offering includes 1,000 shares of Common
Stock issuable upon exercise of stock options to be issued upon
consummation of the Offering and exercisable immediately.
(8) Includes 269,905 shares of Common Stock issuable upon conversion of a
convertible subordinated note payable immediately prior to consummation of
the Offering.
(9) Includes 50,000 shares of Common Stock issuable upon exercise of stock
options granted by the Company which are currently exercisable.
(10) Includes 165,890 shares of Common Stock issuable upon exercise of stock
options granted by the Company which are currently exercisable.
(11) Includes 235,264 shares of Common Stock prior to the Offering and 268,890
shares of Common Stock after the Offering issuable upon exercise of stock
options granted by the Company which are exercisable within 60 days of
October 1, 1997.
40
<PAGE>
DESCRIPTION OF CAPITAL STOCK
Capital Stock
The Company's authorized capital stock consists of 25,000,000 shares of
Common Stock, par value $0.001 per share, and 5,420,000 shares of Preferred
Stock, par value $0.01 per share.
Common Stock
Holders of Common Stock are entitled to one vote for each share held on
all matters submitted to a vote of shareholders and do not have cumulative
voting rights. Subject to applicable provisions of the Pennsylvania Business
Corporation Law of 1988, as amended (the "BCL"), shareholders holding a
majority of the issued and outstanding shares entitled to vote constitute a
quorum for the purposes of convening a shareholders' meeting. Accordingly, a
majority of the quorum may elect all the directors standing for election.
Holders of Common Stock are entitled to receive ratably such dividends, if any,
as may be declared on the Common Stock by the Board of Directors out of funds
legally available therefor. Upon the liquidation, dissolution or winding up of
the Company, holders of Common Stock are entitled to receive ratably the net
assets of the Company available for distribution after the payment of all debts
and other liabilities of the Company, subject to prior and superior rights of
holders of Preferred Stock. Holders of Common Stock have no preemptive,
subscription, redemption or conversion rights. The outstanding shares of Common
Stock are, and the shares offered hereby, when issued and paid for, will be,
fully paid and nonassessable. The rights, preferences and privileges of holders
of Common Stock will be subject to the rights of the holders of shares of any
series of Preferred Stock that the Company may issue in the future.
Preferred Stock
In connection with the conversion of the Convertible Notes and the AMP
Note, 143,245 shares of Class A Preferred Stock and 269,905 shares of Class B
Preferred Stock (together with the Class A Preferred Stock, the "Preferred
Stock") will be outstanding immediately prior to the completion of the
Offering. The Preferred Stock will be automatically converted into a total of
1,702,355 shares of Common Stock upon the completion of the Offering and such
shares of the Preferred Stock will no longer be outstanding.
After the completion of the Offering, the Company will have the authority
to issue up to 5,420,000 shares of Preferred Stock in one or more series and to
fix and determine the relative rights, preferences and limitations of each
class or series so authorized without any further vote or action by the
shareholders. The Board of Directors may issue Preferred Stock with voting and
conversion rights which could adversely affect the voting power of the holders
of Common Stock and have the effect of delaying or preventing a change in the
control of the Company. As of the date of this Prospectus, no shares of
Preferred Stock are outstanding. The Company has no current intention to issue
any shares of Preferred Stock.
Limitation of Liability of Directors and Indemnification of Directors and
Officers
As permitted by the BCL, the Company's Articles of Incorporation provide
that, subject to certain limited exceptions, directors of the Company shall not
be personally liable, as such, for monetary damages (other than under criminal
statutes and under Federal, state and local laws imposing liability on
directors for the payment of taxes) for any action taken unless the director
has breached or failed to perform the duties of his or her office under the BCL
and the breach or failure to perform constitutes self-dealing, willful
misconduct or recklessness. The effect of this provision is to limit the
ability of the Company and its shareholders (through shareholder derivative
suits on behalf of the Company) to recover monetary damages against a director
for the breach of certain fiduciary duties as a director (including breaches
resulting from grossly negligent conduct). In addition, the Company's Articles
of Incorporation and Bylaws provide that the Company shall, to the full extent
permitted by the BCL, indemnify all directors and officers of the Company and
that the Company may, to the extent permitted by the BCL, indemnify employees
and agents of the Company.
41
<PAGE>
The Company plans to procure a directors' and officers' insurance policy
to afford officers and directors coverage for losses arising from claims based
on breaches of duty, negligence, error and other wrongful acts. The Company also
will enter into indemnification agreements with each director of the Company.
See "Certain Transactions."
Pennsylvania Anti-Takeover Laws
Pennsylvania has adopted certain laws that may be deemed to be
"anti-takeover" in effect. One provision permits directors, in considering the
best interests of the Company, to consider the effects of any action upon its
employees, suppliers, customers, shareholders and creditors and the communities
in which the Company maintains facilities as well as other pertinent factors.
The effect of this provision is to put the considerations of these
constituencies on parity with one another, with the result that no one group,
including shareholders, is required to be the dominant or controlling concern
of directors in determining what is in the best interests of the Company.
In addition, the Company is also subject to certain additional
anti-takeover provisions under Pennsylvania law, including the following:
Control Transactions. This provision generally requires any person or
group that acquires at least 20% of the voting power over shares entitled to
cast votes in an election of directors to provide notice to any holder of
voting shares that they may demand the acquiring person purchase all
outstanding shares for cash at the statutory minimum fair value for their
stock.
Business Combinations. This provision generally prohibits any person or
group that acquires at least 20% of the voting power of a corporation from
effecting a business combination with the corporation, such as a merger, an
asset sale and certain recapitalizations, for a period of up to five years from
the date such control was acquired. A corporation may opt out of this provision
on a case-by-case basis by approving a particular business combination in
compliance with applicable Pennsylvania statutory provisions prior to the date
such person or group acquires 20% of the voting power.
Control-Share Acquisition. This provision generally prevents a person or
group that crosses certain stock ownership thresholds of 20%, 33 1/3% or 50%
for the first time from voting those shares the ownership of which puts that
person over the relevant threshold unless voting power is restored to such
shares by a vote of shareholders as a whole and a vote of disinterested
shareholders at a shareholders meeting. Even if voting rights are restored by
approval of a resolution of shareholders, those rights will lapse and be lost
if any proposed control-share acquisition which is the subject of the
shareholder approval is not consummated within 90 days after shareholder
approval is obtained. Also, any business combinations occurring after the
restoration of voting power may require the acquiring person to pay severance
compensation to Pennsylvania employees of the corporation whose employment is
terminated within 90 days before or 24 months after the restoration of voting
power.
Disgorgement. This provision generally requires any person or group that
acquires 20% or more of the voting power of a corporation to disgorge to the
corporation all profits realized from the sale of equity securities of the
corporation within 18 months after acquiring this control status if the person
or group purchased equity securities of the corporation within 24 months prior
to, or 18 months after, the acquisition of control status.
Each of these provisions will make it difficult and time-consuming for any
person or group to acquire the Company without the consent of the existing
shareholders. The Company may opt out of one or more of these provisions only
by an amendment to the Company's Articles of Incorporation approved by both the
Board of Directors and the shareholders. With respect to the control-share
acquisition and disgorgement provisions, such amendment would be required to be
adopted within 90 days after the date the shares offered hereby are registered
under the Securities and Exchange Act of 1934, as amended (the "Exchange Act").
The Company does not intend to opt out of any of these provisions.
Registration Rights
Dr. Hwang and NEPA (the "Holders") are entitled to specific rights with
respect to the registration under the Securities Act, for resale to the public,
of 290,600 shares and 1,307,740 shares, respectively, of Common Stock
(the "Registration Stock") pursuant to the terms of a Note and Warrant Purchase
Agreement dated August 30, 1989 (as modified by the AMP Purchase Agreement to
provide AMP with pari passu registration rights, the "Agreement"). In the
Offering, Dr. Hwang and NEPA will be selling 0 shares and 204,546 shares,
respectively, of Registration Stock. Both Dr. Hwang and NEPA have waived their
registration rights under the Agreement. After the Offering, Dr. Hwang and NEPA
will hold a total of 1,393,794 shares of Registration Stock. The Agreement
provides that,
42
<PAGE>
with certain exceptions, in the event the Company proposes to register any of
its securities under the Securities Act for its own account or otherwise, the
Holders are entitled to include the Registration Stock in such registration,
subject to certain conditions and limitations, which include the right of the
underwriters of any such offering to exclude for marketing reasons all or a
portion of the Registration Stock from such registration. NEPA may once require
the Company, whether or not the Company proposes to register its Common Stock
for sale, to register all or part of its Registration Stock for sale to the
public under the Securities Act, subject to certain conditions and limitations.
In addition, each of the Holders may require the Company to register
Registration Stock on a Form S-2 or S-3, once the Company has qualified for use
of such forms, provided, however, that the Company is only obligated to cause
two registration statements on Form S-2 or S-3 in which Registration Stock is
registered. To the extent permitted by applicable federal and state laws and
regulations, the Company is required to bear the expenses of all such
registrations (except underwriting discounts and commissions attributable to
shares sold). The Company is required to use its best efforts to effect any of
the foregoing registrations, subject to certain conditions and limitations.
After the Offering, AMP will be entitled to specific rights with respect
to the registration under the Securities Act, for resale to the public, of a
total of 269,905 shares of Common Stock (the "AMP Registration Shares")
pursuant to the terms of the AMP Purchase Agreement. The AMP Purchase Agreement
provides that, subsequent to the Offering and subject to certain exceptions, in
the event the Company proposes to register any of its securities under the
Securities Act for its own account or otherwise, AMP will be entitled to
include the AMP Registration Shares in such registration, subject to certain
conditions and limitations, which include the right of the underwriters of any
such offering to exclude for marketing reasons all or a portion of such AMP
Registration Stock from such registration. At any time subsequent to 180 days
after the Offering, AMP may once require the Company, whether or not the
Company proposes to register its Common Stock for sale, to register all or part
of the AMP Registration Shares for sale to the public under the Securities Act,
subject to certain conditions and limitations. At any time following the
Offering, AMP may twice require the Company to register the AMP Registration
Shares on a Form S-2 or S-3, once the Company has qualified for use of such
forms. To the extent permitted by applicable federal and state laws and
regulations, the Company is required to bear the expenses of all such
registrations (except underwriting discounts and commissions attributable to
shares sold). The Company is required to use its best efforts to effect such
registrations, subject to certain conditions and limitations.
See "Underwriting" for a description of the registration rights pertaining
to the warrants that the Company has agreed to sell to the Representatives of
the Underwriters in connection with the Offering.
Transfer Agent and Registrar
The Transfer Agent and Registrar for the Common Stock is ChaseMellon
Shareholder Services, L.L.C.
43
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of the Offering, the Company will have outstanding
5,673,415 shares of Common Stock. Of these shares, the 2,500,000 shares sold in
the Offering (plus up to 375,000 additional shares if the Underwriters exercise
their over-allotment option) will be freely tradeable without restriction or
further registration (except by affiliates of the Company or persons acting as
underwriters) under the Securities Act. All of the remaining shares of Common
Stock (the "Restricted Shares") will be "restricted securities" as that term is
defined under Rule 144 under the Securities Act and may not be sold unless they
are registered under the Securities Act or are sold pursuant to an exemption
from registration, such as the exemption provided by Rule 144.
In general, commencing 90 days after the completion of the Offering, Rule
144 allows a person who has beneficially owned Restricted Shares for at least
one year, including persons who may be deemed affiliates of the Company, to
sell, within any three-month period, up to the number of Restricted Shares that
does not exceed the greater of (i) one percent of the then outstanding shares
of Common Stock, and (ii) the average weekly trading volume during the four
calendar weeks preceding the date on which notice of the sale is filed with the
Securities and Exchange Commission. A person who is not deemed to have been an
affiliate of the Company at any time during the 90 days preceding a sale and
who has beneficially owned his Restricted Shares for at least two years would
be entitled to sell such Restricted Shares at anytime after completion of the
Offering without regard to the volume limitations described above and the other
conditions of Rule 144.
Notwithstanding the foregoing, the Company and its executive officers,
directors and shareholders owning more than 5% of the Common Stock, which, upon
completion of the Offering, will beneficially own 53.4% of the shares of Common
Stock (48.1%, assuming that the Underwriters' over-allotment option is
exercised), have agreed with the Underwriters not to sell, contract to sell or
otherwise dispose of any shares of Common Stock owned or controlled by them for
a period of 180 days after the date of this Prospectus without permission of
the Representatives of the Underwriters, except for certain issuances by the
Company or such shareholders (the "Lockup Period"). See "Underwriting." In
addition, the Company intends to file a registration statement on Form S-8 to
register 630,890 shares subject to the Company's 1996 Stock Option Plan, the
Employee NQSO Plan and the Olsen Option following the date of this Prospectus.
Market sales of a substantial number of shares of Common Stock, or the
availability of such shares for sale in the public market, could adversely
affect prevailing market prices of the Common Stock.
After the Offering, AMP will be entitled to certain rights with respect to
registration of 269,905 shares of Common Stock under the Securities Act. In
addition, after the Offering, NEPA and Dr. Hwang will be entitled to certain
rights with respect to registration under the Securities Act of the 1,393,794
shares of Common Stock that they will continue to beneficially own.
Registration of such Restricted Shares under the Securities Act would result in
such shares becoming freely tradeable without restriction under the Securities
Act immediately upon the effectiveness of such registration. See "Description
of Capital Stock--Registration Rights."
44
<PAGE>
UNDERWRITING
The Underwriters named below, acting through their Representatives,
Needham & Company, Inc. and Janney Montgomery Scott Inc., have severally
agreed, subject to the terms and conditions of the Underwriting Agreement, to
purchase a total of 2,250,000 shares of Common Stock from the Company and
250,000 shares of Common Stock from the Selling Shareholders. The number of
shares of Common Stock that each Underwriter has agreed to purchase is set
forth opposite its name below. The Underwriters are committed to purchase all
of such shares if any are purchased. Under certain circumstances the
commitments of non-defaulting Underwriters may be increased. The names of the
several Underwriters and the respective number of shares to be purchased by
each of them are as follows:
Number of
Underwriter Shares
----------- ----------
Needham & Company, Inc. ............
Janney Montgomery Scott Inc. ...... ----------
Total ........................... 2,500,000
=========
The Underwriters propose to offer the shares of Common Stock to the public
initially at the offering price per share set forth on the cover page of this
Prospectus and to certain dealers at such price less a concession not in excess
of $ per share, and the Underwriters may allow, and such dealers may reallow,
a concession not in excess of $ per share on sales to other dealers. After
the initial public offering of the Common Stock, the offering price and the
concessions may be changed.
The Company and the Selling Shareholders have granted an option to the
Underwriters, exercisable during the 30-day period after the date of this
Prospectus, to purchase up to an aggregate of 125,000 shares and 250,000
shares, respectively, of Common Stock at the same price per share as the
initial public offering price. The Underwriters may exercise such option only
to cover over-allotments in the sale of the shares of Common Stock that the
Underwriters have agreed to purchase. To the extent the Underwriters exercise
this option, each of the Underwriters has a firm commitment, subject to certain
conditions, to purchase on a pro rata basis from the Company and the Selling
Shareholders the same percentage of the option shares as the number of shares
to be purchased and offered by the Underwriter as shown in the above table
bears to the shares of Common Stock initially offered hereby.
The Company and the Selling Shareholders have agreed to indemnify the
several Underwriters against certain liabilities which may be incurred in
connection with the Offering, including liabilities under the Securities Act.
Upon the completion of the Offering, the Company has agreed to issue
warrants to the Representatives to purchase a total of 187,500 shares of Common
Stock at an exercise price of $ per share (the "Representatives' Warrants").
The Representatives' Warrants will be exercisable during the four-year period
commencing one year from the effective date of the Offering and may not be
transferred for one year, except to the Representatives' officers or partners
or any member of the selling group. The Representatives are entitled to certain
rights with respect to the registration of the Common Stock issuable upon the
exercise of the Representatives' Warrants (the "Warrant Shares") for offer and
sale to the public under the Securities Act. The Company has agreed to register
the Warrant Shares for resale at the request of the Representatives at any time
during the period when the Representatives' Warrants are exercisable. In
addition, if the Company proposes to register any of its Common Stock for its
own account or the account of others during the aforementioned period, the
Representatives are entitled to include the Warrant Shares therein. To the
extent that the Representatives realize any gain from the resale of the Warrant
Shares, such gain may be deemed additional underwriting compensation.
The price payable upon exercise of the Representatives' Warrants and the
number of Warrant Shares are subject to adjustment in certain events to prevent
dilution. For the life of the Representatives' Warrants, the holders are given,
at nominal cost, the opportunity to profit from a rise in the market price of
the Company's Common Stock, with a resulting dilution in the interest of other
securities holders.
The Company and its executive officers, directors, and shareholders who
beneficially own more than 1% of the Common Stock after the Offering have
agreed with the Representatives not to sell or dispose of any shares without
their consent for a period of 180 days after the date of this Prospectus. See
"Shares Eligible for Future Sale."
45
<PAGE>
The Underwriters do not intend to confirm sales of the Common Stock to any
accounts over which they exercise discretionary authority.
There is no public market for the Company's Common Stock. The initial
public offering price for the Common Stock will be determined by negotiation
among the Company, the Selling Shareholders and the Representatives. The
factors to be considered in determining the initial public offering price
include, among other things, the history of and the prospects for the industry
in which the Company competes, the capability of the Company's management, the
past and present operations of the Company, the historical results of
operations of the Company and the trend of its earnings, the prospects for
future earnings of the Company, the general condition of the securities markets
at the time of the offering and the prices of similar securities of generally
comparable companies.
Certain persons participating in the Offering may engage in passive market
making transactions in the Common Stock on the Nasdaq National Market in
accordance with Rule 103 of Regulation M under the Exchange Act. Rule 103
permits, upon satisfaction of certain conditions, underwriting and selling
group members participating in a distribution who are also registered Nasdaq
market makers in the security being distributed (or a related security) to
engage in limited passive market making transactions during the period when
Regulation M would otherwise prohibit such activity. Generally, a passive
market maker may not bid for or purchase a security at a price that exceeds the
highest independent bid for those securities by a person that is not
participating in the distribution, must identify its passive market making bids
on the Nasdaq electronic inter-dealer reporting system and the net daily
purchases made by a passive market maker may not exceed prescribed limits.
LEGAL MATTERS
The legality of the shares of Common Stock offered hereby is being passed
upon for the Company by Pepper, Hamilton & Scheetz LLP. Certain legal matters
will be passed upon for the Underwriters by Saul, Ewing, Remick & Saul LLP,
Philadelphia, Pennsylvania.
EXPERTS
The balance sheets of the Company as of December 31, 1995 and 1996 and
September 30, 1997 and the statements of operations, shareholders' equity and
cash flows for each of the three years in the period ended December 31, 1996
and the nine months ended September 30, 1997 included in this Prospectus and in
the Registration Statement have been audited by Arthur Andersen LLP,
independent public accountants, as indicated in their report with respect
thereto, and are included herein in reliance upon the authority of said firm as
experts in giving said report.
ADDITIONAL INFORMATION
The Company is not currently subject to the information requirements of
the Exchange Act. As a result of the Offering, the Company will be required to
file reports and other information with the Commission pursuant to the
informational requirements of the Exchange Act.
The Company has filed with the Commission a Registration Statement on Form
S-1 under the Securities Act, with respect to the Common Stock offered hereby.
As permitted by the rules and regulations of the Commission, this Prospectus,
which is part of the Registration Statement, omits certain information,
exhibits, schedules and undertakings set forth in the Registration Statement.
For further information pertaining to the Company and the Common Stock,
reference is made to such Registration Statement and the exhibits and schedules
thereto. Statements contained in this Prospectus as to the contents or
provisions of any documents referred to herein are not necessarily complete,
and in each instance, reference is made to the copy of the document filed as an
exhibit to the Registration Statement. The Registration Statement may be
inspected without charge at the office of the Commission at 450 Fifth Street,
N.W., Washington, D.C. 20549. Copies of the Registration Statement may be
obtained from the Commission at prescribed rates from the Public Reference
Section of the Commission at such address, and at the Commission's regional
offices located at 7 World Trade Center, 13th Floor, New York, New York 10048,
and at Northwestern Atrium Center, 500 West Madison Street, Suite 1400,
Chicago, Illinois 60661. In addition, registration statements and certain other
filings made with the Commission through its Electronic
46
<PAGE>
Data Gathering, Analysis and Retrieval ("EDGAR") system are publicly available
through the Commission's site on the Internet's World Wide Web, located at
http://www.sec.gov. The Registration Statement, including all exhibits thereto
and amendments thereof, has been filed with the Commission through EDGAR.
In addition, the Company intends to furnish its shareholders with annual
reports containing financial statements audited by an independent public
accounting firm and quarterly reports containing unaudited financial statements
for the first three quarters of each fiscal year.
47
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
INDEX TO FINANCIAL STATEMENTS
Page
-----
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ...... F-2
BALANCE SHEETS ................................. F-3
STATEMENTS OF OPERATIONS ..................... F-4
STATEMENTS OF SHAREHOLDERS' EQUITY ............ F-5
STATEMENTS OF CASH FLOWS ..................... F-6
NOTES TO FINANCIAL STATEMENTS .................. F-7
F-1
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Quantum Epitaxial Designs, Inc.:
We have audited the accompanying balance sheets of Quantum Epitaxial Designs,
Inc. (a Pennsylvania Corporation) as of December 31, 1995 and 1996 and
September 30, 1997, and the related statements of operations, shareholders'
equity and cash flows for each of the three years in the period ended December
31, 1996 and the nine months ended September 30, 1997. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Quantum Epitaxial Designs,
Inc. as of December 31, 1995 and 1996 and September 30, 1997, and the results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1996 and the nine months ended September 30, 1997, in
conformity with generally accepted accounting principles.
Arthur Andersen LLP
Philadelphia, Pa.,
October 17, 1997
F-2
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
December 31
--------------------------------
1995 1996
--------------- ---------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash ......................................................... $ 446,307 $ 77,609
Accounts receivable .......................................... 755,358 1,084,195
Advances to shareholders .................................... -- 140,597
Inventories ................................................... 602,805 829,952
Prepaid expenses and other .................................... 20,872 --
Deferred income taxes ....................................... -- --
------------- -------------
Total current assets ....................................... 1,825,342 2,132,353
PROPERTY AND EQUIPMENT: .......................................
Machinery and equipment ....................................... 5,348,726 7,670,609
Furniture and office equipment .............................. 116,954 304,280
Leasehold improvements ....................................... 84,439 582,915
------------- -------------
5,550,119 8,557,804
Less- Accumulated depreciation .............................. (1,838,071) (2,765,088)
------------- -------------
Net property and equipment ................................. 3,712,048 5,792,716
DEFERRED FINANCING COSTS ....................................... -- 76,295
DEPOSITS ON EQUIPMENT .......................................... -- 480,000
------------- -------------
$ 5,537,390 $ 8,481,364
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit ................................................ $ -- $ 2,375,000
Current portion of long-term debt ........................... 482,636 663,791
Current portion of convertible subordinated notes payable ... -- --
Accounts payable ............................................. 512,783 845,588
Accrued expenses ............................................. 370,834 215,207
Distribution payable to shareholders ........................ 312,115 --
Deferred revenues ............................................. 168,875 --
------------- -------------
Total current liabilities ................................. 1,847,243 4,099,586
LONG-TERM DEBT ................................................ 1,235,485 2,053,667
CONVERTIBLE SUBORDINATED NOTES PAYABLE ........................ 100,000 100,000
DEFERRED INCOME TAXES .......................................... -- --
COMMITMENTS AND CONTINGENCIES (see Note 13)
SHAREHOLDERS' EQUITY:
Preferred stock, $.01 par value, 1,500,000 (1995 and 1996)
and 5,420,000 (1997) shares authorized, no shares issued
or outstanding ............................................. -- --
Common stock, $.001 par value, 10,000,000 (1995 and
1996) and 25,000,000 (1997) shares authorized, 1,585,350
(1995, 1996 and 1997 actual) and 3,423,415 (1997 pro
forma) shares issued and outstanding ........................ 1,585 1,585
Additional paid-in capital .................................... 72,785 72,785
Deferred compensation .......................................... -- --
Retained earnings ............................................. 2,280,292 2,153,741
------------- -------------
Total shareholders' equity ................................. 2,354,662 2,228,111
------------- -------------
$ 5,537,390 $ 8,481,364
============= =============
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
September 30, 1997
-----------------------------------
Actual Pro Forma (Note 3)
--------------- -------------------
(unaudited)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash ......................................................... $ 256,496 $ 264,382
Accounts receivable .......................................... 1,543,495 1,543,495
Advances to shareholders .................................... 140,597 140,597
Inventories ................................................... 832,417 832,417
Prepaid expenses and other .................................... 35,809 35,809
Deferred income taxes ....................................... -- 66,000
------------- -------------
Total current assets ....................................... 2,808,814 2,882,700
PROPERTY AND EQUIPMENT: .......................................
Machinery and equipment ....................................... 9,457,829 9,457,829
Furniture and office equipment .............................. 380,814 380,814
Leasehold improvements ....................................... 646,346 646,346
------------- -------------
10,484,989 10,484,989
Less- Accumulated depreciation .............................. (3,734,172) (3,734,172)
------------- -------------
Net property and equipment ................................. 6,750,817 6,750,817
DEFERRED FINANCING COSTS ....................................... 243,585 146,916
DEPOSITS ON EQUIPMENT .......................................... -- --
------------- -------------
$ 9,803,216 $ 9,780,433
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit ................................................ $ 900,000 $ 900,000
Current portion of long-term debt ........................... 930,551 930,551
Current portion of convertible subordinated notes payable ... 8,252 --
Accounts payable ............................................. 1,114,442 1,114,442
Accrued expenses ............................................. 345,610 345,610
Distribution payable to shareholders ........................ -- --
Deferred revenues ............................................. -- --
------------- -------------
Total current liabilities ................................. 3,298,855 3,290,603
LONG-TERM DEBT ................................................ 2,793,883 2,793,883
CONVERTIBLE SUBORDINATED NOTES PAYABLE ........................ 2,091,748 --
DEFERRED INCOME TAXES .......................................... -- 816,000
COMMITMENTS AND CONTINGENCIES (see Note 13)
SHAREHOLDERS' EQUITY:
Preferred stock, $.01 par value, 1,500,000 (1995 and 1996)
and 5,420,000 (1997) shares authorized, no shares issued
or outstanding ............................................. -- --
Common stock, $.001 par value, 10,000,000 (1995 and
1996) and 25,000,000 (1997) shares authorized, 1,585,350
(1995, 1996 and 1997 actual) and 3,423,415 (1997 pro
forma) shares issued and outstanding ........................ 1,585 3,423
Additional paid-in capital .................................... 1,044,785 3,735,524
Deferred compensation .......................................... (859,000) (859,000)
Retained earnings ............................................. 1,431,360 --
------------- -------------
Total shareholders' equity ................................. 1,618,730 2,879,947
------------- -------------
$ 9,803,216 $ 9,780,433
============= =============
</TABLE>
The accompanying notes are an integral part of these statements.
F-3
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended Nine Months Ended
December 31 September 30
------------------------------------------- ------------------------------
1994 1995 1996 1996 1997
------------- ------------- ------------- ------------- ---------------
(unaudited)
<S> <C> <C> <C> <C> <C>
REVENUES: .......................................
Product ....................................... $ 3,228,753 $ 4,643,593 $ 6,312,035 $ 4,044,110 $ 5,870,748
Contract research and development ............ 404,417 609,549 590,393 337,877 603,661
------------ ------------ ----------- ----------- -----------
Total revenues .............................. 3,633,170 5,253,142 6,902,428 4,381,987 6,474,409
------------ ------------ ----------- ----------- -----------
OPERATING EXPENSES: ...........................
Cost of product, excluding depreciation ...... 1,330,264 2,221,513 3,799,266 2,628,044 3,741,438
Cost of product-depreciation .................. 424,228 598,698 891,676 608,343 893,036
------------ ------------ ----------- ----------- -----------
Total cost of product ..................... 1,754,492 2,820,211 4,690,942 3,236,387 4,634,474
Research and development ..................... 277,068 416,401 576,390 355,073 684,751
Selling, general and administrative ......... 734,361 863,137 1,519,785 1,089,679 1,358,593
Special compensation charge .................. -- -- -- -- 113,000
------------ ------------ ----------- ----------- -----------
Total operating expenses .................. 2,765,921 4,099,749 6,787,117 4,681,139 6,790,818
------------ ------------ ----------- ----------- -----------
Operating income (loss) .................. 867,249 1,153,393 115,311 (299,152) (316,409)
INTEREST EXPENSE ................................. 79,550 65,576 213,487 115,849 405,972
------------ ------------ ----------- ----------- -----------
NET INCOME (LOSS) .............................. $ 787,699 $ 1,087,817 $ (98,176) $ (415,001) $ (722,381)
============ ============ =========== =========== ===========
PRO FORMA DATA (UNAUDITED) (Note 3): ............
Historical net income (loss) .................. $ 787,699 $ 1,087,817 $ (98,176) $ (415,001) $ (722,381)
Pro forma provision (benefit) for income
taxes ....................................... 307,000 424,000 (36,500) (154,000) (276,000)
------------ ------------ ----------- ----------- -----------
Pro forma net income (loss) .................. $ 480,699 $ 663,817 $ (61,676) $ (261,001) $ (446,381)
============ ============ =========== =========== ===========
Pro forma net loss per share .................. $ (0.03) $ (0.19)
=========== ===========
Shares used in computing pro forma net loss
per share .................................... 1,978,505 1,978,505
=========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
Additional
Common Stock
---------------------- Paid-in
Shares Amount Capital
----------- --------- -------------
<S> <C> <C> <C>
BALANCE, DECEMBER 31, 1993 .................. 1,553,500 $ 1,553 $ 70,667
Exercise of warrants ..................... 30,180 30 1,724
Exercise of options ..................... 1,670 2 394
Net income .............................. -- -- --
Distributions ........................... -- -- --
---------- -------- ------------
BALANCE, DECEMBER 31, 1994 .................. 1,585,350 1,585 72,785
Net income .............................. -- -- --
Distributions ........................... -- -- --
---------- -------- ------------
BALANCE, DECEMBER 31, 1995 .................. 1,585,350 1,585 72,785
Net loss ................................. -- -- --
Distributions ........................... -- -- --
---------- -------- ------------
BALANCE, DECEMBER 31, 1996 .................. 1,585,350 1,585 72,785
Grant of Common Stock options ............ -- -- 972,000
Amortization of deferred compensation ...... -- -- --
Net loss ................................. -- -- --
---------- -------- ------------
BALANCE, SEPTEMBER 30, 1997
(UNAUDITED) .............................. 1,585,350 1,585 1,044,785
PRO FORMA DATA (UNAUDITED) (Note 3): ......
Exercise of warrants (unaudited) ......... 135,710 136 7,750
Conversion of subordinated notes payable
(unaudited) .............................. 1,702,355 1,702 2,001,629
Termination of S Corporation (unaudited) -- -- 681,360
---------- -------- ------------
PRO FORMA BALANCE, SEPTEMBER 30,
1997 (UNAUDITED) ........................... 3,423,415 $ 3,423 $ 3,735,524
========== ======== ============
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Deferred Retained
Compensation Earnings Total
-------------- --------------- ---------------
<S> <C> <C> <C>
BALANCE, DECEMBER 31, 1993 .................. $ -- $ 1,077,886 $ 1,150,106
Exercise of warrants ..................... -- -- 1,754
Exercise of options ..................... -- -- 396
Net income .............................. -- 787,699 787,699
Distributions ........................... -- (274,964) (274,964)
---------- ------------- -----------
BALANCE, DECEMBER 31, 1994 .................. -- 1,590,621 1,664,991
Net income .............................. -- 1,087,817 1,087,817
Distributions ........................... -- (398,146) (398,146)
---------- ------------- -----------
BALANCE, DECEMBER 31, 1995 .................. -- 2,280,292 2,354,662
Net loss ................................. -- (98,176) (98,176)
Distributions ........................... -- (28,375) (28,375)
---------- ------------- -----------
BALANCE, DECEMBER 31, 1996 .................. -- 2,153,741 2,228,111
Grant of Common Stock options ............ (972,000) -- --
Amortization of deferred compensation ...... 113,000 -- 113,000
Net loss ................................. -- (722,381) (722,381)
---------- ------------- -----------
BALANCE, SEPTEMBER 30, 1997
(UNAUDITED) .............................. (859,000) 1,431,360 1,618,730
PRO FORMA DATA (UNAUDITED) (Note 3): ......
Exercise of warrants (unaudited) ......... -- -- 7,886
Conversion of subordinated notes payable
(unaudited) .............................. -- -- 2,003,331
Termination of S Corporation (unaudited) -- (1,431,360) (750,000)
---------- ------------- -----------
PRO FORMA BALANCE, SEPTEMBER 30,
1997 (UNAUDITED) ........................... $ (859,000) $ -- $ 2,879,947
========== ============= ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year Ended December 31
-----------------------------------------------
1994 1995 1996
------------- --------------- ---------------
<S> <C> <C> <C>
OPERATING ACTIVITIES: .................................
Net income (loss) .................................... $ 787,699 $ 1,087,817 $ (98,176)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities: ..................
Depreciation ....................................... 462,706 622,248 927,017
Amortization ....................................... 14,400 14,400 4,633
Deferred compensation .............................. -- -- --
Change in assets and liabilities: ..................
(Increase) decrease:
Accounts receivable .............................. (561,165) 126,317 (298,837)
Inventories .................................... (13,312) (406,752) (227,147)
Prepaid expenses and other ..................... (10,167) 6,642 16,739
Increase (decrease): ..............................
Accounts payable ................................. (439,448) 272,269 332,805
Accrued expenses ................................. (6,026) 252,449 (185,627)
Deferred revenues .............................. 30,075 138,800 (168,875)
----------- ------------- -------------
Net cash provided by operating activities ...... 264,762 2,114,190 302,532
----------- ------------- -------------
INVESTING ACTIVITIES: .................................
Purchases of property and equipment .................. (247,709) (2,207,722) (3,007,685)
Deposits on equipment .............................. -- -- (480,000)
----------- ------------- -------------
Net cash used in investing activities ......... (247,709) (2,207,722) (3,487,685)
----------- ------------- -------------
FINANCING ACTIVITIES: .................................
Distributions paid to shareholders .................. (222,032) (211,644) (340,490)
Advances to shareholders ........................... -- -- (140,597)
Net proceeds (repayments) under line of credit ...... -- -- 2,375,000
Repayments of long-term debt ........................ (345,583) (311,008) (500,663)
Proceeds from long-term debt ........................ 486,995 1,000,000 1,500,000
Proceeds from issuance of convertible subordinated
notes payable ....................................... -- -- --
Deferred financing costs ........................... -- -- (76,795)
Proceeds from exercise of warrants .................. 1,754 -- --
Proceeds from exercise of options .................. 396 -- --
----------- ------------- -------------
Net cash (used in) provided by financing
activities .................................... (78,470) 477,348 2,816,455
----------- ------------- -------------
NET (DECREASE) INCREASE IN CASH ..................... (61,417) 383,816 (368,698)
CASH, BEGINNING OF PERIOD ........................... 123,908 62,491 446,307
----------- ------------- -------------
CASH, END OF PERIOD ................................. $ 62,491 $ 446,307 $ 77,609
=========== ============= =============
CASH PAID DURING THE PERIOD FOR INTEREST . $ 79,960 $ 58,722 $ 179,432
=========== ============= =============
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Nine Months Ended
September 30
--------------------------------
1996 1997
--------------- ---------------
(unaudited)
<S> <C> <C>
OPERATING ACTIVITIES: .................................
Net income (loss) .................................... $ (415,001) $ (722,381)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities: ..................
Depreciation ....................................... 621,118 969,084
Amortization ....................................... 4,134 26,915
Deferred compensation .............................. -- 113,000
Change in assets and liabilities: ..................
(Increase) decrease:
Accounts receivable .............................. (96,644) (459,300)
Inventories .................................... (10,352) (2,465)
Prepaid expenses and other ..................... 20,872 (35,809)
Increase (decrease): ..............................
Accounts payable ................................. 1,821,951 268,854
Accrued expenses ................................. (171,061) 130,403
Deferred revenues .............................. (168,875) --
------------- -------------
Net cash provided by operating activities ...... 1,606,142 288,301
------------- -------------
INVESTING ACTIVITIES: .................................
Purchases of property and equipment .................. (2,753,920) (1,447,185)
Deposits on equipment .............................. -- --
------------- -------------
Net cash used in investing activities ......... (2,753,920) (1,447,185)
------------- -------------
FINANCING ACTIVITIES: .................................
Distributions paid to shareholders .................. (340,490) --
Advances to shareholders ........................... (140,597) --
Net proceeds (repayments) under line of credit ...... 1,950,000 (1,475,000)
Repayments of long-term debt ........................ (369,951) (593,024)
Proceeds from long-term debt ........................ -- 1,600,000
Proceeds from issuance of convertible subordinated
notes payable ....................................... -- 2,000,000
Deferred financing costs ........................... (72,990) (194,205)
Proceeds from exercise of warrants .................. -- --
Proceeds from exercise of options .................. -- --
------------- -------------
Net cash (used in) provided by financing
activities .................................... 1,025,972 1,337,771
------------- -------------
NET (DECREASE) INCREASE IN CASH ..................... (121,806) 178,887
CASH, BEGINNING OF PERIOD ........................... 446,307 77,609
------------- -------------
CASH, END OF PERIOD ................................. $ 324,501 $ 256,496
============= =============
CASH PAID DURING THE PERIOD FOR INTEREST . $ 119,672 $ 335,814
============= =============
</TABLE>
The accompanying notes are an integral part of these statements.
F-6
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS
(Information for the nine months ended September 30, 1996 is unaudited)
1. BACKGROUND:
Quantum Epitaxial Designs, Inc. (the "Company") designs and develops
compound semiconductor materials using molecular beam epitaxy and is a leading
producer of gallium arsenide based wafers supplied to the semiconductor device
manufacturing industry (see Note 4). The Company was incorporated in December
1988 and began operating in August 1989.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Pervasiveness of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Interim Financial Statements
The financial statements for the nine months ended September 30, 1996 are
unaudited and, in the opinion of management of the Company, include all
adjustments (consisting only of normal recurring adjustments) necessary for a
fair presentation of the results for those interim periods. The results of
operations for the nine months ended September 30, 1997 are not necessarily
indicative of the results to be expected for the full year.
Fair Value of Financial Instruments
The Company's financial instruments consist primarily of cash, accounts
receivable, accounts payable, accrued expenses and debt instruments. The book
values of cash, accounts receivable, accounts payable and accrued expenses are
considered to be representative of their respective fair value. None of the
Company's debt instruments that are outstanding as of September 30, 1997 have
readily ascertainable market values; however, the carrying values are
considered to approximate their respective fair values. See Notes 7, 8 and 9
for the terms and carrying values of the Company's various debt instruments.
<PAGE>
Inventories
Inventories are stated at the lower of cost (first-in, first-out method)
or market (see Note 6).
Property and Equipment
Property and equipment are carried at cost. Depreciation is calculated
using the straight-line method over the following estimated useful lives:
Machinery and equipment 7 years
Furniture and office equipment 5 years
Leasehold improvements Remaining lease terms
ranging from 5 to 7 years
Significant improvements are capitalized and expenditures for maintenance
and repairs are charged to expense as incurred. Upon the sale or retirement of
these assets, the applicable cost and related accumulated depreciation are
removed from the accounts and any gain or loss is included in the results of
operations.
Depreciation expense was $462,706, $622,248, $927,017, $621,118 and
$969,084 for 1994, 1995, 1996 and for the nine months ended September 30, 1996
and 1997, respectively.
F-7
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: -- (Continued)
Long-Lived Assets
During 1996, the Company adopted Statement of Financial Accounting
Standards No. 121 (SFAS No. 121), "Accounting for the Impairment of Long-Lived
Assets and for the Long-Lived Assets to be Disposed of," which requires
impairment losses to be recorded on long-lived assets used in operations when
indicators of impairment are present and undiscounted cash flows estimated to
be generated by those assets are less than the assets carrying amount. The
Company continually evaluates whether events and circumstances have occurred
that indicate the remaining estimated useful life of long-lived assets may
warrant revision or the remaining balance may not be recoverable. As of
September 30, 1997, management believes that no revision to the remaining
useful lives or write-down of long-lived assets is required.
Deferred Financing Costs
As of December 31, 1996 and September 30, 1997, the Company has
capitalized legal and professional fees incurred in connection with a financing
transaction. These costs are amortized over the life of the related loan.
Accumulated amortization related to deferred financing costs was $0, $500,
and $27,414 as of December 31, 1995, 1996 and September 30, 1997, respectively.
Advances to Shareholders
In early 1996, the Company made advances of $140,547 to its shareholders.
This amount is expected to be repaid in the fourth quarter of 1997.
Revenue Recognition
The Company recognizes revenues earned on product sales upon shipment of
the product. Contract research and development revenues are recognized as
related expenses are incurred (see Note 11).
Research and Development Expenses
Research and development expenses consist of projects conducted by the
Company for customer-sponsored programs and for future product development. All
research and development costs are expensed as incurred.
Special Compensation Charge
Special compensation charge represents the amortization of deferred
compensation (see Note 10).
Income Taxes
The Company has elected to be treated as an S corporation. As such, the
taxable income or loss of the Company will pass through to the federal and
state income tax returns of its shareholders, and the Company is not subject to
income taxes. The Company makes distributions to its shareholders to cover
their estimated income tax payments due to the Company's taxable income.
The Company reports certain income and expense items for income tax
purposes on a basis different from that reflected in the accompanying financial
statements. The principal difference relates to the Company's use of
accelerated tax depreciation methods. Immediately preceding the Company's
proposed initial public offering (the Offering) the Company will terminate its
S Corporation status and will become subject to federal and state income taxes.
Upon terminating its S Corporation status, the Company will record a tax
provision for the recognition of a net deferred tax liability, estimated at
$750,000 as of September 30, 1997 (see Note 3).
F-8
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: -- (Continued)
New Accounting Pronouncements
In 1996, the Company adopted Statement of Financial Accounting Standards
No. 123 (SFAS No. 123), "Accounting for Stock-Based Compensation". SFAS No. 123
establishes financial accounting and reporting standards for stock-based
compensation plans. This statement also applies to transactions in which an
entity issues its equity instruments to acquire goods and services from
nonemployees. The Company adopted the disclosure requirements of SFAS No. 123
relative to its employee stock compensation plans (see Note 10).
In 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128 (SFAS No. 128), "Earnings Per Share".
This statement is effective for fiscal years ending after December 15, 1997
and, when adopted, will require restatement of prior years' earnings per share.
The adoption of SFAS No. 128 will not have a material effect on the pro forma
net income per share reported in the accompanying financial statements.
3. PRO FORMA INFORMATION (UNAUDITED):
Pro Forma Balance Sheet and Statement of Shareholders' Equity
The pro forma balance sheet and statement of shareholders' equity of the
Company as of September 30, 1997 reflects the net deferred income tax liability
calculated in accordance with Statement of Financial Accounting Standards No.
109 (SFAS No. 109), "Accounting for Income Taxes," which will be recorded by
the Company as a result of the termination of its S Corporation status shortly
before the effective date of the Company's Offering (estimated at $750,000 as
of September 30, 1997). The deferred income tax liability will represent the
tax effect of the cumulative differences between the financial reporting and
income tax bases of certain assets and liabilities as of the termination of S
Corporation status, and will be recorded as additional income tax expense in
the quarter in which the Offering is completed. The actual deferred income tax
liability recorded will be adjusted to reflect the effect of operations of the
Company for the period from October 1, 1997 through the termination of its S
Corporation status.
The significant items comprising the Company's pro forma net deferred
income tax liability (see Note 2) as of September 30, 1997 are as follows:
<TABLE>
<S> <C>
Current deferred income tax assets:
Accruals and reserves not currently deductible for tax ...... $ 51,000
Other ...................................................... 15,000
----------
66,000
----------
Non-current deferred income tax liabilities:
Depreciation methods ....................................... 816,000
----------
Net deferred income tax liabilities ..................... $ 750,000
----------
</TABLE>
The pro forma balance sheet and statement of shareholders' equity also
reflects (i) the conversion of $100,000 of convertible subordinated notes
payable (see Notes 9 and 10) into Class A Preferred Stock which will then be
converted into 1,432,450 shares of Common Stock, (ii) the conversion of
$2,000,000 of convertible subordinated notes payable less deferred financing
costs of $96,669 (see Notes 9 and 10) into Class B Preferred Stock which will
then be converted into 269,905 shares of Common Stock, (iii) the exercise of a
warrant (see Note 10) to purchase 135,710 shares of Common Stock at a total
exercise price of $7,886 and (iv) the reclassification of the retained earnings
balance to additional paid-in-capital in connection with the termination of its
S Corporation status. These transactions are expected to occur upon the closing
of the Offering.
F-9
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
3. PRO FORMA INFORMATION (UNAUDITED): -- (Continued)
Pro Forma Statements of Operations
Immediately prior to completion of the Offering, the Company will
terminate its status as an S Corporation and will be subject to federal and
state income taxes thereafter. Accordingly, for informational purposes, the
accompanying statements of operations include an unaudited pro forma adjustment
for the income taxes which would have been recorded in accordance with SFAS No.
109 if the Company had not been an S Corporation, based on the tax laws in
effect during the respective periods. The pro forma adjustment for income taxes
does not include a one-time income tax provision related to the recognition of
a net deferred income tax liability which will be recorded by the Company upon
terminating its S Corporation status (estimated at $750,000 as of September 30,
1997).
The differences between the federal statutory income tax rate and the pro
forma income tax rate are as follows:
<TABLE>
<CAPTION>
Nine Months Ended
Year Ended December 31 September 30
-------------------------------------- ---------------------------
1994 1995 1996 1996 1997
---------- ---------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Federal statutory tax rate ..................... 34.0% 34.0% (34.0)% (34.0)% (34.0)%
State income taxes, net of federal benefit ...... 4.4 4.4 (4.4) (4.4) (4.4)
Expenses not deductible for tax purposes ......... 0.6 0.6 1.2 1.3 0.2
------ ------ --------- --------- ---------
39.0% 39.0% (37.2)% (37.1)% (38.2)%
====== ====== ========= ========= =========
</TABLE>
Pro Forma Net Loss Per Share
Pro forma net loss per share was computed by dividing pro forma net loss
by the weighted average number of shares of common stock outstanding for the
respective periods, adjusted for the dilutive effect of common stock
equivalents, which consist of stock options and warrants, using the treasury
stock method. Pursuant to the requirements of the Securities and Exchange
Commission, common stock equivalents issued by the Company during the 12 months
immediately preceding the Offering (including 153,000 stock options granted in
July 1997 (see Note 10) and the convertible subordinated note payable in the
amount of $2,000,000 (see Note 9)) have been included in the calculation of the
shares used in computing pro forma net loss per share as if they were
outstanding for all periods presented (using the treasury stock method and an
estimated Offering price of $9.00 per share). The calculation of shares used in
computing pro forma net loss per share excludes the Common Stock to be issued
upon the conversion of the convertible subordinated notes payable in the
amounts of $18,180 and $81,820 (see Note 9) and the exercise of the warrant
(see Note 10) immediately preceding the Offering and the dilutive effect of
310,890 stock options since the inclusion of such is antidilutive. For the year
ended December 31, 1996 and the nine months ended September 30, 1997, the
calculation of the pro forma net loss per share excludes interest expense, net
of tax, of $0 and $71,000, respectively, on the convertible subordinated note
payable in the amount of $2,000,000 which will be converted into Common Stock
upon the closing of the Offering. For the year ended December 31, 1996 and the
nine months ended September 30, 1997, the calculation of the pro forma net loss
per share includes interest expense, net of tax, of $5,000 and $3,000,
respectively, on the convertible subordinated notes payable in the amounts of
$18,180 and $81,820 which will be converted into Common Stock upon the closing
of the Offering since the exclusion of such is antidilutive.
Supplemental Pro Forma Net Income (Loss) Per Share
Supplemental pro forma net income (loss) per share is based on the
weighted average number of shares of common stock and common stock equivalents
used in the calculation of pro forma net loss per share plus the number of
shares of Common Stock that would be required to be sold (using an estimated
Offering price of $9.00 per share) to repay the borrowings on the line of
credit and the notes payable to bank ($4,388,571 in the aggregate as of
September 30, 1997). These outstanding borrowings will be repaid upon
completion of the
F-10
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
3. PRO FORMA INFORMATION (UNAUDITED): -- (Continued)
Offering. The supplemental pro forma net income per share calculation for the
year ended December 31, 1996 includes the dilutive effect of common stock
equivalents for (i) the conversion of the convertible subordinated notes
payable in the amounts of $18,180 and $81,820 as if the conversion occured on
the original date of issuance (see Note 9); (ii) the exercise of the warrant to
purchase 135,710 shares, using the treasury stock method and (iii) the exercise
of 310,890 stock options, using the treasury stock method. The supplemental pro
forma net loss per share calculation for the nine months ended September 30,
1997 excludes the impact of the three items discussed in the preceeding
sentence since the inclusion of such is antidilutive.
For the year ended December 31, 1996 and the nine months ended September
30, 1997, the calculation of the supplemental pro forma net income (loss) per
share excludes interest expense, net of tax, of $0 and $71,000, respectively,
on the convertible subordinated notes payable in the amount of $2,000,000 which
will be converted into Common Stock upon the completion of the Offering. In
addition, for the year ended December 31, 1996 and the nine months ended
September 30, 1997, the calculation of the supplemental pro forma net income
(loss) per share excludes interest expense, net of tax, of $123,000 and
$145,000, respectively, on the line of credit and the notes payable to bank.
For the year ended December 31, 1996, the calculation of the supplemental pro
forma net income per share excludes interest expense, net of tax, of $5,000 on
the convertible subordinated notes payable in the amounts of $18,180 and
$81,820 which will be converted into Common Stock upon the completion of the
Offering. The supplemental pro forma net loss per share calculation for the
nine months ended September 30, 1997 includes the interest expense of $3,000,
net of tax, on the convertible subordinated notes payable in the amounts of
$18,180 and $81,820 since the exclusion of such is antidilutive.
The supplemental pro forma net income (loss) per share for the year ended
December 31, 1996 and the nine months ended September 30, 1997 was $0.02 and
$(0.09), respectively. The shares used in computing supplemental pro forma net
income (loss) per share for the year ended December 31, 1996 and the nine months
ended September 30, 1997 was 4,083,000 and 2,446,000, respectively.
4. RISKS AND UNCERTAINTIES:
The Company's future results of operations involve a number of risks and
uncertainties. Factors that could affect the Company's future operating results
and cause actual results to vary materially from expectations include, but are
not limited to, management of growth, fluctuations in quarterly results,
continuing capital requirements, substantial reliance on key customers,
production system complexity, adoption of the Company's technology by
manufacturers, competition, dependence on key raw material vendors, dependence
on a limited number of equipment manufacturers, limited protection of
proprietary technology, dependence on key personnel, centralization of
manufacturing facilities and environmental regulations.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to
concentration of credit risk are accounts receivable. The Company's customer
base (which consists primarily of large multinational companies) is principally
comprised of companies within the semiconductor industry, which historically
has been volatile. The Company does not generally require collateral from its
customers.
Major Customers
The following table summarizes significant customers with product revenues
in excess of 10% of total revenues for any of the periods presented:
Nine Months
Ended
Year Ended December 31 September 30
------------------------ --------------
Customer 1994 1995 1996 1996 1997
- ---------- ------ ------ ------ ------ -----
A ...... 17% 23% 41% 36% 19%
B ...... 7 18 14 19 15
C ...... 20 11 8 7 10
D ...... 2 -- -- -- 21
The loss of one or more of these major customers could have a material
adverse effect on the Company's business.
F-11
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
4. RISKS AND UNCERTAINTIES: -- (Continued)
Total revenues are summarized as a percentage by geographic area as
follows:
Nine Months
Ended
Year Ended December 31 September 30
------------------------ --------------
1994 1995 1996 1996 1997
------ ------ ------ ------ -----
Domestic .................. 93% 89% 93% 90% 94%
Foreign: ..................
Far East ............... 5% 8% 6% 9% 6%
Europe and Canada ...... 2% 3% 1% 1% 0%
5. ACCOUNTS RECEIVABLE:
<TABLE>
<CAPTION>
December 31
--------------------------- September 30,
1995 1996 1997
----------- ------------- --------------
<S> <C> <C> <C>
Trade receivables ....................................... $ 546,847 $ 824,257 $1,392,192
Allowance for doubtful accounts and returns ............ (30,000) (40,000) (55,000)
--------- ----------- ----------
516,847 784,257 1,337,192
Billed and unbilled research contract receivables ...... 238,511 299,938 206,303
--------- ----------- ----------
$ 755,358 $ 1,084,195 $1,543,495
========= =========== ==========
</TABLE>
The unbilled research contract receivables were $238,511, $299,938 and
$124,500 as of December 31, 1995, December 31, 1996, and September 30, 1997,
respectively. These amounts are billed based upon contractual terms (generally
monthly or quarterly) and are due within one year. There are no retainage
amounts.
6. INVENTORIES:
December 31
------------------------- September 30,
1995 1996 1997
----------- ----------- --------------
Raw materials ............... $ 486,725 $ 588,242 $ 579,870
Finished goods ............... 116,080 19,860 --
Manufacturing supplies ...... -- 221,850 252,547
---------- ---------- ----------
$ 602,805 $ 829,952 $ 832,417
========== ========== ==========
7. LINE OF CREDIT:
As of December 31, 1996, the Company had a $4,000,000 line of credit
facility with a bank. Subsequent to yearend, this facility was changed to
$1,000,000 in connection with the Company entering into long-term notes payable
in the amounts of $1,500,000 in December 1996 and $1,600,000 in January 1997.
The line of credit agreement expires on January 31, 1998, subject to renewal.
Outstanding borrowings are payable upon demand by the bank and bear interest at
the bank's National Commercial Rate. Borrowings under the line are secured by
primarily all of the Company's assets, and are guaranteed by the Company's
President up to $100,000. Borrowings under this line were $2,375,000 and
$900,000 as of December 31, 1996 and September 30, 1997, respectively. There
were no borrowings under this line during 1995. The line of credit agreement
contains cross default provisions with the other notes payable to the bank (see
Note 8).
F-12
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
8. LONG-TERM DEBT:
<TABLE>
<CAPTION>
December 31
----------------------------- September 30,
1995 1996 1997
------------- ------------- --------------
<S> <C> <C> <C>
Note payable to bank, due in monthly installments of
$9,917 through March 1997 including interest at 8.25%.
The note is secured by equipment, inventories and
accounts receivable and guaranteed by the Company's
President. ............................................. $ 135,137 $ 23,239 $ --
Note payable to bank, due in monthly installments of
$9,083 through July 1996 including interest at 7.85%.
The note is secured by equipment, inventories and
accounts receivable. ................................. 63,584 -- --
Note payable to bank, due in monthly installments of
$2,381 through January 2001 including interest at 1%
above the bank's National Commercial Rate. The note is
secured by equipment. ................................. 145,238 116,667 95,238
Note payable to bank, due in monthly installments of
$16,667 through December 2000 plus interest at 8.45%.
The note is secured by equipment (see Note 7). ......... 1,000,000 800,000 650,000
Note payable to bank, due in monthly installments of
$25,000 through December 2001 plus interest at the
bank's Prime Rate plus .25%. The note is secured by
equipment (see Note 7). .............................. -- 1,475,000 1,250,000
Note payable to bank, due in monthly installments of
$26,667 through May 2002 plus interest at the bank's
Prime Rate. The note is secured by equipment (see Note
7). ................................................... -- -- 1,493,333
Note payable to Northampton County New Jobs Corp., due
in monthly installments of $2,763 through May 1999
including interest at 4%. The note is secured by equip-
ment and guaranteed by the Company's President and
his wife. ............................................. 103,110 76,056 50,587
Note payable to the Commonwealth of Pennsylvania, due
in monthly installments of $4,468 through May 2001
including interest at 2%. The note is secured by equip-
ment and guaranteed by the Company's President and
his wife. ............................................. 271,052 226,496 185,276
----------- ----------- -----------
1,718,121 2,717,458 3,724,434
Less-Current portion .................................... (482,636) (663,791) (930,551)
----------- ----------- -----------
$ 1,235,485 $ 2,053,667 $ 2,793,883
=========== =========== ===========
</TABLE>
F-13
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
8. LONG-TERM DEBT: -- (Continued)
At September 30, 1997, long-term debt matures as follows:
Years Ending
September 30
------------
1998 ...... $ 930,551
1999 ...... 918,961
2000 ...... 901,002
2001 ...... 710,587
2002 ...... 263,333
------------
$ 3,724,434
============
The note payable agreements with Northampton County New Jobs Corp. and
Commonwealth of Pennsylvania require the Company to create a specified number
of new jobs over a three-year period in order to maintain the interest rates of
4% and 2%, respectively. If the Company fails to meet the employment
commitment, the interest rate will increase to a market rate up to 12.5%, as
defined.
9. CONVERTIBLE SUBORDINATED NOTES PAYABLE:
<TABLE>
<CAPTION>
December 31
------------------------- September 30,
1995 1996 1997
----------- ----------- --------------
<S> <C> <C> <C>
Convertible subordinated note payable to shareholder, due
in quarterly installments of $2,275 from August 1998 to
May 2000, interest at 8%. The note is convertible into
the Company's Class A Preferred Stock at a price of
$.6981 per share (see Note 10). ........................... $ 18,180 $ 18,180 $ 18,180
Convertible subordinated note payable to venture capital
partnership, due in quarterly installments of $10,227
from August 1998 to May 2000, interest at 8%. The note
is convertible into the Company's Class A Preferred
Stock at a price of $.6981 per share (see Note 10). ...... 81,820 81,820 81,820
Convertible subordinated note payable to parent company
of a significant customer, due in February 2000 with two
year optional renewal, interest payable quarterly at prime
plus 1%. The note is convertible into the Company's
Class B Preferred Stock at a price of $7.41 per share (see
Note 10). ................................................ -- -- 2,000,000
---------- ---------- ------------
$ 100,000 $ 100,000 $ 2,100,000
========== ========== ============
</TABLE>
As of September 30, 1997, convertible subordinated notes payable mature as
follows:
Years Ending
September 30
------------
1998 ...... $ 8,252
1999 ...... 50,008
2000 ...... 41,740
2001 ...... 2,000,000
-----------
$2,100,000
-----------
F-14
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
9. CONVERTIBLE SUBORDINATED NOTES PAYABLE: -- (Continued)
The Convertible Subordinated Note Payable in the amount of $2,000,000 has
certain rights to the payment of contingent interest, initially at 10% of the
outstanding principal balance for the first year, and thereafter, it accrues at
a simple interest rate of 10% per annum for its duration, upon the occurrence
of certain "Events of Sale" as defined. The holder of the Note is entitled to
one seat on the Company's Board of Directors. The Company expects all of the
convertible subordinated notes payable to be converted into Preferred Stock
which will then be converted into Common Stock upon the closing of the Offering
(see Notes 3 and 10). Upon conversion, the holder's right to one seat on the
Company's Board of Directors will be terminated.
As discussed above, the $2,000,000 Convertible Subordinated Note Payable
is with the parent Company of a significant customer. In addition, the Company
also purchases certain raw materials from this customer. The net sales to this
customer in 1994, 1995, 1996 and for the nine months ended September 30, 1996
and 1997 were $254,322, $971,177, $965,000, $833,577 and $947,196,
respectively. The purchases from this customer in 1994, 1995, 1996 and for the
nine months ended September 30, 1996 and 1997 were $0, $0, $132,266, $100,034
and $301,492, respectively. The accounts receivable due from this customer as
of December 31, 1995 and 1996 and September 30, 1997 were $231,712, $172,239
and $166,034, respectively. The accounts payable to this customer as of
December 31, 1995 and 1996 and September 30, 1997 were $0, $32,232 and
$145,902, respectively.
10. SHAREHOLDERS' EQUITY:
Common Stock
As of December 31, 1996, the Company's shareholders authorized 10,000,000
shares of Common Stock. In February 1997, the Company's shareholders increased
the authorized shares of Common Stock to 25,000,000.
Preferred Stock
As of December 31, 1996, the Company's shareholders authorized 1,500,000
shares of a Class A Preferred Stock. In February 1997, the Company's
shareholders increased the authorized shares of Preferred Stock to 5,420,000 of
which 150,000 are designated as "Class A" Preferred Stock and 270,000 are
designated "Class B" Preferred Stock
When issued, the Class A and Class B Preferred Stock will be entitled to
certain preferences as to dividends, liquidation and voting rights. The
convertible subordinated notes payable discussed in Note 9 are convertible into
143,245 shares of Class A Preferred Stock and 269,905 shares of Class B
Preferred Stock. The outstanding shares of Class A and Class B Preferred Stock
are convertible into 1,432,450 shares and 269,905 shares, respectively, of
Common Stock. The Company expects the holders of the convertible subordinated
notes payable to convert to Class A and Class B Preferred Stock and which
automatically convert into Common Stock upon the closing of the Offering (see
Notes 3 and 9).
Options
In 1996, the Company adopted a qualified stock option plan (the "1996
Plan"), whereby 320,000 common shares may be issued to employees, directors,
consultants and others at exercise prices determined by the Company's Board of
Directors. To date, options granted under the 1996 Plan have been issued only to
employees of the Company. The exercise price of such options was determined by
the Company's Board of Directors at a price not less than fair market value. The
options generally vest over a four-year period and expire ten years after the
date of grant. As of December 31, 1996, no options were granted under the 1996
Plan.
In July 1997, the Company issued 153,000 stock options under the 1996 Plan
to several employees at an exercise price of $1.75 per share. The Company has
recorded deferred compensation based upon the difference between the deemed
value for accounting purposes of the Company's stock (90% of the estimated
offering price of $.9.00 per share) and the exercise price on the date of
option grant. The deferred compensation balance will be amortized as
compensation expense ratably as the options vest. The options vest over a four
year period;
F-15
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
10. SHAREHOLDERS' EQUITY: -- (Continued)
however, the Company's Board of Directors has approved an acceleration of the
vesting of these options upon the closing of the Offering. This acceleration in
vesting terms will result in the recognition of the remaining unamortized
balance of deferred compensation (which is $859,000 as of September 30, 1997)
as an expense in the period that the closing of the Offering occurs.
In 1991, the Company adopted a stock option plan (the "1991 Plan"). Stock
options for 281,780 common shares have been issued to key management personnel
at exercise prices determined by the Company's Board of Directors, at prices not
less than fair market value. The options vest over a five-year period and expire
ten years after the date of grant. Options granted under the plan have certain
cashless exercise features. No further options will be granted under the 1991
Plan. The options granted under this plan will continue in effect until
exercised, surrendered, canceled or expired.
In 1992, the Company granted an option to purchase 50,000 shares of common
stock at an exercise price of $0.153 per share to a member of the Board of
Directors at prices not less than fair market value. The option vests over a
five-year period and expires ten years after the date of grant. The option has
certain cashless exercise features.
The following table summarizes stock option activity:
<TABLE>
<CAPTION>
Weighted
Average
Number of Exercise Price Exercise
Shares Per Share Price
----------- ------------------ ---------
<S> <C> <C> <C>
Options outstanding at December 31, 1993 ...... 275,890 $0.045 - $0.237 $ 0.082
Exercised ................................. (1,670) 0.237 0.237
Canceled .................................... (3,330) 0.237 0.237
--------
Options outstanding at December 31, 1994 ...... 270,890 0.045 - 0.183 0.079
Canceled .................................... (10,000) 0.183 0.183
Granted .................................... 35,000 0.507 0.507
--------
Options outstanding at December 31, 1995 ...... 295,890 0.045 - 0.507 0.127
Granted .................................... 15,000 0.721 0.721
--------
Options outstanding at December 31, 1996 ...... 310,890 0.045 - 0.721 0.155
Granted ....................................... 153,000 1.75 1.75
--------
Options outstanding at September 30, 1997 ...... 463,890 $0.045 - $1.75 $ 0.681
========
</TABLE>
As of September 30, 1997, there were 290,473 options vested and
exercisable and 167,000 options were available for grant (all under the 1996
Plan).
The Company applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," and the related interpretations in
accounting for its stock option plans. The disclosure requirements of SFAS No.
123 were adopted by the Company in 1996. Had compensation cost for the Plan
been determined based upon the fair value of the options at the date of grant,
as prescribed by SFAS No. 123, the Company's pro forma net loss and pro forma
net loss per share would have been increased to the following amounts:
<TABLE>
<CAPTION>
Year Nine Months
Ended Ended
December 31, September 30,
1996 1997
-------------- --------------
<S> <C> <C>
Pro forma net loss, as reported ............... $ (61,676) $ (446,381)
Pro forma net loss, as adjusted .................. (62,842) (465,191)
Pro forma net loss per share, as reported ....... (0.03) (0.19)
Pro forma net loss per share, as adjusted ...... (0.03) (0.20)
</TABLE>
The weighted average fair value of each stock option granted during the
years ended December 31, 1995 and 1996 and for the nine months ended September
30, 1997 was $0.178, $0.203 and $6.90, respectively. As of
F-16
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
10. SHAREHOLDERS' EQUITY: -- (Continued)
September 30, 1997, the weighted average remaining contractual life of all
stock options outstanding was 5.78 years. The weighted average remaining
contractual life of each stock option granted during the years ended December
31, 1995 and 1996 and the nine months ended September 30, 1997 was 7.42, 8.25
and 9.79 years, respectively. The fair value of each option grant is estimated
on the date of grant using the Black-Scholes option pricing model with the
following weighted average assumptions:
December 31
--------------------- September 30
1995 1996 1997
--------- --------- -------------
Risk-free interest rate ...... 7.2% 5.5% 6.3%
Expected dividend yield ...... -- -- --
Expected life ............... 7 years 7 years 7 years
In accordance with SFAS No. 123, no volatility factor was used in these
fair value calculations since the Company is a non-public entity.
Because additional option grants are expected to be made each year, the
above pro forma disclosures are not representative of pro forma effects of
reported net income (loss) for future years.
Warrants
On August 30, 1989, the Company issued warrants to the subordinated
noteholders to purchase 165,890 shares of the Company's common stock at
$0.05811 per share. During 1994, a warrant to purchase 30,180 shares of the
Company's common stock at $0.05811 per share was exercised. The outstanding
warrant to purchase 135,710 shares of the Company's common stock at $0.05811
per share expires when the convertible subordinated note to the venture capital
partnership (see Note 9) has been repaid in full. The Company expects the
warrant to purchase 135,710 shares of Common Stock to be exercised upon the
closing of the Offering (see Note 3).
11. RESEARCH CONTRACTS:
Contract research revenue consists of the following:
<TABLE>
<CAPTION>
Nine Months Ended
Year Ended December 31 September 30
--------------------------------------- ------------------------
1994 1995 1996 1996 1997
----------- ----------- ----------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Small Business Innovative
Research Grants:
Phase I ........................ $ 151,927 $ 133,767 $ 74,286 $ 61,766 $ 139,253
Phase II ........................ 137,000 321,474 435,675 195,679 464,408
Title III Research Contract ...... 115,490 154,308 80,432 80,432 --
---------- ---------- ---------- ---------- ----------
$ 404,417 $ 609,549 $ 590,393 $ 337,877 $ 603,661
========== ========== ========== ========== ==========
</TABLE>
Northeast Tier Ben Franklin Technology Center ("BFTC")
The Company and a university were awarded combined research grants from the
BFTC in a prior year. The research grants from the BFTC require the Company to
remit royalties up to $693,438 based on product revenues generated from research
performed. These royalties may be accelerated if the Company is in default of a
provision included in the grant agreements which requires that products
manufactured based upon research performed under the grants are manufactured in
the Commonwealth of Pennsylvania for a period of five years following
development. If the acceleration provision were to be invoked, royalties of
approximately $650,000 would become due. The Company paid $3,407, $2,821,
$1,333, $1,333 and $0 of these royalties in 1994, 1995 and 1996 and for the nine
months ended September 30, 1996 and 1997, respectively.
F-17
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
NOTES TO FINANCIAL STATEMENTS -- (Continued)
(Information for the nine months ended September 30, 1996 is unaudited)
12. EMPLOYEE BENEFIT PLANS:
Effective January 1, 1997, the Company adopted a 401(k) Profit Sharing
Plan (the "401(k) Plan") to replace the Simplified Employee Pension Plan (the
"SEP Plan") which expired on December 31, 1996. The 401(k) Plan provides for
voluntary employee contributions and discretionary Company matching
contributions, including profit sharing distributions that may be declared from
time to time by the Board of Directors. There were no Company contributions for
the nine months ended September 30, 1997.
The SEP Plan provided for the Company to contribute 5% of its income
before SEP Plan expense to the Plan each year. The contributions are credited
directly to each individual employee's retirement account. The contributions
for 1994, 1995, 1996 and for the nine months ended September 30, 1996 were
$38,881, $56,022, $0 and $0, respectively.
13. COMMITMENTS AND CONTINGENCIES:
Operating Leases
The Company leases office space under an operating lease. Rent expense in
1994, 1995 and 1996 and for the nine months ended September 30, 1996 and 1997
was $118,189, $122,136, $147,168, $99,754 and $153,582, respectively. Future
minimum rental commitments under this operating lease are as follows at
September 30, 1997:
Years Ending
September 30
------------
1998 ..................... $ 217,000
1999 ..................... 194,000
2000 ..................... 177,000
2001 ..................... 183,000
2002 ..................... 189,000
2003 and thereafter ...... 244,000
Executive Agreements
The Company has authorized agreements with two executives that provide for
payment of the individuals' annual base salary, as defined, for a period of 12
months after termination of employment without cause, as defined.
F-18
<PAGE>
================================================================================
No dealer, salesperson or other person has been authorized to give any
information or to make any representation other than those contained in this
Prospectus in connection with the offering made by this Prospectus. If given or
made, such information or representation must not be relied upon as having been
authorized by the Company or the Underwriters. This Prospectus does not
constitute an offer to sell or a solicitation of an offer to buy any securities
other than the shares of Common Stock to which this Prospectus relates, or an
offer in any jurisdiction in which such offer or solicitation is not
authorized, or in which the person making such offer or solicitation is not
qualified to do so, or to any person to whom it is unlawful to make such offer
or solicitation. Neither the delivery of this Prospectus nor any sale made
hereunder shall, under any circumstances, create any implication that there has
been no change in the affairs of the Company since the date hereof or that the
information contained herein is correct as of any time subsequent to the date
hereof.
-----------------------------------
TABLE OF CONTENTS
Page
---------
Prospectus Summary ..................... 3
Risk Factors ........................... 6
Use Of Proceeds ........................ 11
Dividend Policy ........................ 11
S Corporation Termination ............... 11
Capitalization ........................... 12
Dilution ................................. 13
Selected Financial Data .................. 14
Management's Discussion and Analysis
of Financial Condition and Results
of Operations ........................ 15
Business ................................. 22
Management .............................. 33
Certain Transactions ..................... 38
Principal and Selling Shareholders ...... 40
Description of Capital Stock ............ 41
Shares Eligible for Future Sale ......... 44
Underwriting ........................... 45
Legal Matters ........................... 46
Experts ................................. 46
Additional Information .................. 46
Index to Financial Statements ............ F-1
-----------------------------------
Until , 1997 (25 days after the date of this Prospectus), all dealers
effecting transactions in the Common Stock, whether or not participating in
this distribution, may be required to deliver a Prospectus. This delivery
requirement is in addition to the obligation of dealers to deliver a Prospectus
when acting as Underwriters and with respect to their unsold allotments or
subscriptions.
================================================================================
<PAGE>
================================================================================
2,500,000 Shares
[QED LOGO]
Quantum Epitaxial
Designs, Inc.
Common Stock
-----------------------------------
PROSPECTUS
-----------------------------------
Needham & Company, Inc.
Janney Montgomery Scott Inc.
----------------------------------------
, 1997
================================================================================
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. Other Expenses of Issuance and Distribution.
The following table sets forth an itemization of all estimated expenses,
all of which will be paid by the Company, in connection with the issuance and
distribution of the securities being registered:
<TABLE>
<S> <C>
SEC Registration Fee .............................. $ 7,841
National Association of Securities Dealers, Inc. Fee . 16,250
Nasdaq National Market Listing Fee .................. 31,750
Printing and engraving fees ........................ 75,000
Registrant's counsel fees and expenses ............ 150,000
Accounting fees and expenses ........................ 100,000
Blue Sky expenses and counsel fees .................. 3,000
Transfer agent and registrar fees .................. 10,000
Director & Officer Liability Insurance ............ *
Miscellaneous ....................................... *
---------
TOTAL ............................................. $500,000
=========
</TABLE>
- ------------
* To be supplied by amendment.
Item 14. Indemnification of Directors and Officers.
Sections 1741 through 1750 of Subchapter D, Chapter 17, of the
Pennsylvania Business Corporation Law of 1988, as amended (the "BCL"), contain
provisions for mandatory and discretionary indemnification of a corporation's
directors, officers and other personnel, and related matters.
Under Section 1741, subject to certain limitations, a corporation has the
power to indemnify directors and officers under certain prescribed
circumstances against expenses (including attorney's fees), judgments, fines
and amounts paid in settlement actually and reasonably incurred in connection
with an action or proceeding, whether civil, criminal, administrative or
investigative, to which any of them is a party by reason of his being a
director, officer, employee or agent of the corporation or serving at the
request of the corporation as a director, officer, employee or agent of another
corporation, partnership, joint venture, trust or other enterprise, if he acted
in good faith and in a manner he reasonably believed to be in, or not opposed
to, the best interests of the corporation and, with respect to any criminal
proceeding, has no reasonable cause to believe his conduct was unlawful. Under
Section 1743, indemnification is mandatory to the extent that the director,
officer, employee or agent has been successful on the merits or otherwise in
defense of any action or proceeding relating to third-party or derivative
actions if the appropriate standards of conduct are met.
Section 1742 provides for indemnification in derivative actions except in
respect of any claim, issue or matter as to which the person has been adjudged
to be liable to the corporation unless and only to the extent that the proper
court determines upon application that, despite the adjudication of liability
but in view of all the circumstances of the case, the person is fairly and
reasonably entitled to indemnity for the expenses that the court deems proper.
Section 1744 provides that, unless ordered by a court, any indemnification
under Sections 1741 or 1742 shall be made by the corporation as authorized in
the specific case upon a determination that the representative met the
applicable standard of conduct set forth in those sections and such
determination shall be made by the board of directors by majority vote of a
quorum of directors not parties to the action or proceeding; if a quorum is not
obtainable or if obtainable and a majority of disinterested directors so
directs, by independent legal counsel; or by the shareholders.
Section 1745 provides that expenses incurred by an officer, director,
employee or agent in defending a civil or criminal action or proceeding may be
paid by the corporation in advance of the final disposition of such action or
proceeding upon receipt of an undertaking by or on behalf of such person to
repay such amount if it shall ultimately be determined that he is not entitled
to be indemnified by the corporation.
II-1
<PAGE>
Section 1746 provides generally that except in any case where the act or
failure to act giving rise to the claim for indemnification is determined by
the court to have constituted willful misconduct or recklessness, the
indemnification and advancement of expenses provided by this Subchapter of the
BCL shall not be deemed exclusive of any other rights to which a person seeking
indemnification or advancement of expenses may be entitled under any by-law,
agreement, vote of shareholders or disinterested directors or otherwise, both
as to action in his official capacity and as to action in another capacity
while holding that office.
Section 1747 also grants a corporation the power to purchase and maintain
insurance on behalf of any director or officer against any liability incurred
by him in his capacity as officer or directors, whether or not the corporation
would have the power to indemnify him against the liability under this
Subchapter of the BCL.
Sections 1748 and 1749 extend the indemnification and advancement of
expenses provisions contained in Sections 1741-1750 of the BCL to successor
corporations in fundamental changes and to representatives serving as
fiduciaries of employee benefit plans.
Section 1750 provides that the indemnification and advancement of expenses
provided by, or granted pursuant to, Sections 1741-1750 of the BCL shall,
unless otherwise provided when authorized or ratified, continue as to a person
who has ceased to be a director, officer, employee or agent and shall inure to
the benefit of the heirs and personal representative of such person.
Each of Article IV of the Company's Articles of Incorporation and Article
XIV of the Company's Amended and Restated Bylaws provides that the Company
shall, in the case of directors and officers, and may, in the case employees
and agents, indemnify any such person who is or was a party (other than a party
acting on his or her own behalf) or who is threatened to be made such a party,
to any threatened, pending or completed action, suit or proceeding, whether
civil, criminal, administrative or investigative (including actions brought by
or in the right of the Company where certain standards of conduct have been
met), by reason of the fact that such person is or was a director or officer of
the Company, or is or was serving at the request of the Company on behalf of
another enterprise, or an employee or agent of the Company, against expenses
(including attorneys' fees), judgments, fines and amounts paid in settlement
actually and reasonably incurred by him or her in connection with such action
if he or she met certain requisite standards of conduct. In all such cases, the
Company shall indemnify any such person against all such expenses actually and
reasonably incurred by him or her in connection with any such action to the
extent that such person has been successful on the merits or in defense of any
such action. The indemnification provisions of the Bylaws are non-exclusive.
The Company intends to procure insurance, which would afford officers and
directors insurance coverage for losses arising from claims based on breaches
of duty, negligence, error and other wrongful acts, including liabilities under
the Securities Act.
The Company also will enter into indemnification agreements with each of
the Company's directors. These indemnification agreements require the Company to
indemnify each director unless the Company determines that such director did not
act in good faith and in a manner he or she reasonably believed to be in, or not
opposed to, the Company's best interest and, with respect to any criminal
proceeding, that such director had reasonable cause to believe his or her
conduct was unlawful. The Company is required to pay all expenses actually and
reasonably incurred by or on behalf of the director in defending any lawsuit or
other proceeding in advance of the final disposition of such lawsuit or other
proceeding. In any action brought to enforce any director's rights to
indemnification under his or her indemnification agreement, the Company bears
the burden of proof that such director did not meet the foregoing statement of
conduct.
Item 15. Recent Sales of Unregistered Securities.
On February 21, 1997, the Company entered into a Note Purchase Agreement
with AMP Incorporated ("AMP"). Pursuant to the agreement, AMP received from the
Company a Convertible Subordinated Note (the "Note") in the amount of $2.0
million. The Note provides that AMP may, at any time, convert any or all of the
unpaid principal into Class B Preferred Stock of the Company at the price of
$7.41 per share, subject to certain adjustments. Conversion of any portion of
the Note reduces the unpaid principal amount by the appropriate cash adjustment
associated with the conversion. If at least 75% of the Note is converted, the
Company has the option of requiring the holder to convert the remaining
principal into Class B Preferred Stock. The Company must reserve at all times
sufficient authorized Class B Preferred Stock so that upon conversion, the
shares may be promptly issued. Any Class B Preferred Stock held pursuant to the
Note automatically converts to Common Stock upon an initial public offering of
the Common Stock with gross proceeds of or exceeding $15.0 million at the per
share price of $7.41, subject to certain adjustments. In connection with the
Offering, the Note will automatically convert, and AMP will receive 269,905
shares of Common Stock upon such conversion.
The Company believes that the foregoing described issuance of securities
is exempt from registration under the Securities Act by virtue of the exemption
provided by Section 4(2) thereof for transactions not involving a public
offering.
II-2
<PAGE>
Item 16. Exhibits and Financial Statement Schedules.
(a) Exhibits:
<TABLE>
<CAPTION>
Exhibit No. Description
<S> <C>
1.1 Form of Underwriting Agreement*
3.1 Form of Amended and Restated Articles of Incorporation of the Company*
3.2 Form of Amended and Restated By-Laws of the Company*
4.1 Specimen Stock Certificate
5.1 Opinion of Pepper, Hamilton & Scheetz LLP**
10.1 Quantum Epitaxial Designs, Inc. 1996 Stock Option Plan*
10.2 Quantum Epitaxial Designs, Inc. Employee Non-Qualified Stock Option Plan (as amended and
restated)
10.3 Severance Agreement by and between the Company and Thomas L. Hierl*
10.4 Severance Agreement by and between the Company and William J. Burg*
10.5 Office Lease by and between Northampton County New Jobs Corp. and the Company (as
amended)*
10.6 Note and Warrant Purchase Agreement by and among the Company, NEPA Venture Fund, L.P.,
James C.M. Hwang, and Thomas L. Hierl (as amended)*
10.7 Note and Warrant Purchase Agreement by and among the Company and AMP Incorporated*
10.8 Form of Employee Confidentiality / Non-Compete Agreement*
10.9 Form of Tax Agreement with Shareholders (in form executed by Thomas L. Hierl and James C.M.
Hwang)**
10.10 Option Agreement by and between the Company and Gregory H. Olsen
11.1 Statement re Computation of Earnings Per Share
23.1 Consent of Arthur Andersen LLP (included on page II-5 of the Registration Statement)
23.2 Consent of Pepper, Hamilton & Scheetz LLP (included in Exhibit 5.1) **
24.1 Power of Attorney*
24.2 Power of Attorney (Michael G. Bolton)*
27.1 Financial Data Schedule*
</TABLE>
- ------------
* Previously filed.
** To be filed by Amendment.
(b) Financial Statement Schedules:
All schedules have been omitted because they are not applicable, not
required, or the required information is included in the Financial Statements
or the notes thereto.
Item 17. Undertakings.
Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been advised that in the opinion of the Commission such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other than the payment by the registrant of expenses incurred or
paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is
II-3
<PAGE>
asserted by such director, officer or controlling person in connection with the
securities being registered, the registrant will, unless in the opinion of its
counsel the matter has been settled by controlling precedent, submit to a court
of appropriate jurisdiction the question whether such indemnification by it is
against public policy as expressed in the Securities Act and will be governed
by the final adjudication of such issue.
The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act,
the information omitted from the form of prospectus filed as part of this
Registration Statement in reliance upon Rule 430A and contained in a form
of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or
497(h) under the Securities Act shall be deemed to be part of this
Registration Statement as of the time it was declared effective.
(2) For purposes of determining any liability under the Securities Act,
each post-effective amendment that contains a form of prospectus shall be
deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
The undersigned Registrant hereby undertakes to provide to the
underwriters at the closing specified in the underwriting agreement
certificates in such denominations and registered in such names as required by
the underwriter to permit prompt delivery to each purchaser.
II-4
<PAGE>
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the use of our
report and to all references to our firm included in or made a part of
Amendment No. 2 to this Registration Statement.
ARTHUR ANDERSEN LLP
Philadelphia, Pa.,
November 14, 1997
II-5
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing on Form S-1 and has duly caused Amendment No. 2 to this
Registration Statement to be signed on its behalf by the undersigned, thereunto
duly authorized, in the City of Bethlehem, Commonwealth of Pennsylvania, on the
14th day of November, 1997.
QUANTUM EPITAXIAL DESIGNS, INC.
By: /s/ THOMAS L. HIERL
-----------------------------------
Thomas L. Hierl
President and Chief Executive
Officer
Pursuant to the requirements of the Securities Act of 1933, Amendment No.
2 to this Registration Statement has been signed by the following persons in
the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
- --------------------------- ------------------------------------------- -----------------
<S> <C> <C>
/s/ THOMAS L. HIERL President and Chief Executive Officer; November 14, 1997
----------------------- Director (principal executive officer)
Thomas L. Hierl
/s/ WILLIAM J. BURG Vice President Finance, Chief Financial November 14, 1997
----------------------- Officer and Secretary (principal financial
William J. Burg officer and principal accounting officer)
James C.M. Hwang Directors November 14, 1997
Gregory H. Olsen
Michael G. Bolton
Stephen N. Bretsen
By: /s/ THOMAS L. HIERL
- -------------------------
Thomas L. Hierl
Attorney-in-fact
</TABLE>
II-6
<PAGE>
Exhibit Index
<TABLE>
<CAPTION>
Exhibit No. Description
- ------------- -----------
<S> <C>
1.1 Form of Underwriting Agreement*
3.1 Form of Amended and Restated Articles of Incorporation of the Company*
3.2 Form of Amended and Restated By-Laws of the Company*
4.1 Specimen Stock Certificate
5.1 Opinion of Pepper, Hamilton & Scheetz LLP**
10.1 Quantum Epitaxial Designs, Inc. 1996 Stock Option Plan*
10.2 Quantum Epitaxial Designs, Inc. Employee Non-Qualified Stock Option Plan (as amended and
restated)
10.3 Severance Agreement by and between the Company and Thomas L. Hierl*
10.4 Severance Agreement by and between the Company and William J. Burg*
10.5 Office Lease by and between Northampton County New Jobs Corp. and the Company (as
amended)*
10.6 Note and Warrant Purchase Agreement by and among the Company, NEPA Venture Fund, L.P.,
James C.M. Hwang, and Thomas L. Hierl (as amended)*
10.7 Note and Warrant Purchase Agreement by and among the Company and AMP Incorporated*
10.8 Form of Employee Confidentiality / Non-Compete Agreement*
10.9 Form of Tax Agreement with Shareholders (in form executed by Thomas L. Hierl and James
C.M. Hwang)**
10.10 Option Agreement by and between the Company and Gregory H. Olsen
11.1 Statement re Computation of Earnings Per Share
23.1 Consent of Arthur Andersen LLP (included on page II-5 of the Registration Statement)
23.2 Consent of Pepper, Hamilton & Scheetz LLP (included in Exhibit 5.1) **
24.1 Power of Attorney*
24.2 Power of Attorney (Michael G. Bolton)*
27.1 Financial Data Schedule*
</TABLE>
- ------------
* Previously filed.
** To be filed by Amendment.
<PAGE>
COMMON STOCK COMMON STOCK
NUMBER SHARES
QED LOGO
Quantum Epitaxial Designs, Inc.
INCORPORATED UNDER THE LAWS OF THE COMMONWEALTH OF PENNSYLVANIA
THIS CERTIFICATE IS TRANSFERABLE IN RIDGEFIELD PARK, NJ AND NEW YORK, NY
CUSIP 747951 10 1
SEE REVERSE FOR CERTAIN DEFINITIONS
THIS CERTIFIES THAT
IS THE OWNER OF
FULLY PAID AND NON-ASSESSABLE SHARES OF COMMON STOCK, $.001 PAR VALUE, OF
Quantum Epitaxial Designs, Inc.
(hereinafter, the "Corporation") transferable on the books of the Corporation by
the holder hereof in person or by duly authorized attorney upon surrender of
this certificate properly endorsed. This certificate and the shares represented
hereby are subject to the laws of the Commonwealth of Pennsylvania and to the
Articles of Incorporation and Bylaws of the Corporation, as now or hereafter
amended.
This certificate is not valid unless countersigned and registered by
the Transfer Agent and Registrar.
Witness the facsimile seal of the Corporation and the fascimile
signatures of its duly authorized officers.
DATED:
Quantum Epitaxial Designs, Inc.
---------------------
CORPORATE
SEAL
PENNSYLVANIA
1988
---------------------
/s/ THOMAS J. HIERL /s/ WILLIAM J. BURG
- ------------------------ -----------------------
CHAIRMAN AND VICE PRESIDENT AND
CHIEF EXECUTIVE OFFICER CHIEF FINANCIAL OFFICER
Countersigned and Registered:
CHASEMELLON SHAREHOLDER SERVICES, L.L.C.
Transfer Agent and Registrar
BY:
Authorized Signature
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
THE CORPORATION WILL FURNISH TO ANY SHAREHOLDER UPON REQUEST
AND WITHOUT CHARGE A FULL OR SUMMARY STATEMENT OF THE DESIGNATIONS, VOTING
RIGHTS, PREFERENCES, LIMITATIONS AND SPECIAL RIGHTS OF THE SHARES OF EACH CLASS
OR SERIES AUTHORIZED TO BE ISSUED SO FAR AS THEY HAVE BEEN FIXED AND DETERMINED
AND THE AUTHORITY OF THE BOARD OF DIRECTORS TO FIX AND DETERMINE THE
DESIGNATIONS, VOTING RIGHTS, PREFERENCES, LIMITATIONS AND SPECIAL RIGHTS OF THE
CLASSES AND SERIES OF SHARES OF THE CORPORATION.
The following abbreviations, when used in the inscription on the face
of this certificate, shall be construed as though they were written out in full
according to applicable laws or regulations:
TEN COM - as tenants in common UNIF TRAN MIN ACT- _____Custodian______
TEN ENT - as tenants by the entireties (Cust) (Minor)
JT TEN - as joint tenants
with right of survivorship under the Uniform Transfers to Minors
and not as tenants in common Act of_______________________________
(State)
Additional abbreviations may also be used though not in the above list.
FOR VALUE RECEIVED, _____________________ hereby sell, assign, and transfer unto
(Name of Assignor)
PLEASE INSERT SOCIAL SECURITY OR OTHER
IDENTIFYING NUMBER OF ASSIGNEE
_______________________________________
| |
| |
|_______________________________________|
_______________________________________________________________________________
(PLEASE PRINT OR TYPEWRITE NAME AND ADDRESS
INCLUDING ZIP CODE OF ASSIGNEE)
_______________________________________________________________________________
_______________________________________________________________________________
________________________________________________________________________shares
of the common stock represented by the within certificate and do hereby
irrevocably constitute and appoint____________________________________________
___________________________________________________________________Attorney to
transfer the said shares on the books of the within named Corporation with full
power of substitution in the premises.
Dated________________________________ X______________________________________
SIGNATURE(S) GUARANTEED: X_______________________________________
NOTICE: The signature(s) to this
assignment must correspond with the
name(s) as written upon the face of the
certificate in every particular, without
alteration or enlargement or any change
whatever.
__________________________________________
THE SIGNATURE(S) SHOULD BE GUARANTEED BY
AN ELIGIBLE GUARANTOR INSTITUTION (BANKS,
STOCKBROKERS, SAVINGS AND LOAN ASSOCIATIONS,
AND CREDIT UNIONS WITH MEMBERSHIP IN AN
APPROVED SIGNATURE GUARANTEE MEDALLION
PROGRAM) PURSUANT TO S.E.C. RULE 17Ad-15.
KEEP THIS CERTIFICATE IN A SAFE PLACE, IF IT IS LOST, STOLEN, MUTILATED OR
DESTROYED, THE CORPORATION WILL REQUIRE A BOND OF INDEMNITY AS A CONDITION TO
THE ISSUANCE OF A REPLACEMENT CERTIFICATE.
<PAGE>
QUANTUM EPITAXIAL DESIGNS, INC.
EMPLOYEE NON-QUALIFIED STOCK OPTION PLAN
(As Amended and Restated, Effective October 3, 1996)
Background. This Plan is an amendment and restatement of the
employee stock option plan adopted by Quantum Epitaxial Designs, Inc. (the
"Company") in 1991. All stock options awarded before the effective date of the
amendment and restatement of the Plan shall be subject to the rules of the Plan
as in effect before such effective date.
Section 1. Purposes.
The purposes of the Plan are (a) to recognize and compensate
selected Employees of the Company and its Subsidiaries who contribute to the
development and success of the Company and its Subsidiaries; (b) to maintain the
competitive position of the Company and its Subsidiaries by attracting and
retaining key Employees; and (c) to provide incentive compensation to such key
Employees based upon the Company's performance, as measured by the appreciation
in Common Stock. The Options issued pursuant to the Plan are intended to
constitute non-qualified stock options.
Section 2. Definitions.
(a) "Award" shall mean a grant of Options to an Employee
pursuant to the provisions of this Plan. Each separate grant of Options to an
Employee and each group of Options which matures on a separate date is treated
as a separate Award.
(b) "Board" shall mean the Board of Directors of the Company,
as constituted from time to time.
(c) "Change of Control" shall mean the happening of an event,
which shall be deemed to have occurred upon the earliest to occur of the
following events: (i) the date the stockholders of the Company (or the Board, if
stockholder action is not required) approve a plan or other arrangement pursuant
to which the Company will be dissolved or liquidated, or (ii) the date the
stockholders of the Company (or the Board, if stockholder action is not
required) approve a definitive agreement to sell or otherwise dispose of all or
substantially all of the assets of the Company, or (iii) the date the
stockholders of the Company (or the Board, if stockholder action is not
required) and the stockholders of the other constituent corporations (or their
respective boards of directors, if and to the extent that
<PAGE>
stockholder action is not required) have approved a definitive agreement to
merge or consolidate the Company with or into another corporation, other than,
in either case, a merger or consolidation of the Company in which holders of
shares of the Company's voting capital stock immediately prior to the merger or
consolidation will have at least 50% of the ownership of voting capital stock of
the surviving corporation immediately after the merger or consolidation (on a
fully diluted basis), which voting capital stock is to be held in the same
proportion (on a fully diluted basis) as such holders' ownership of voting
capital stock of the Company immediately before the merger or consolidation, or
(iv) the date any entity, person or group (within the meaning of Section
13(d)(3) or Section 14(d)(2) of the Exchange Act), other than (A) the Company,
or (B) any of its Subsidiaries, or (C) any of the holders of the capital stock
of the Company, as determined on the date that this Plan is adopted by the
Board, or (D) any employee benefit plan (or related trust) sponsored or
maintained by the Company or any of its Subsidiaries or (E) any Affiliate (as
such term is defined in Rule 405 promulgated under the Securities Act) of any of
the foregoing, shall have acquired beneficial ownership of, or shall have
acquired voting control over more than 50% of the outstanding shares of the
Company's voting capital stock (on a fully diluted basis), unless the
transaction pursuant to which such person, entity or group acquired such
beneficial ownership or control resulted from the original issuance by the
Company of shares of its voting capital stock and was approved by at least a
majority of directors who shall have been either members of the Board on the
date that this Plan is adopted by the Board or members of the Board for at least
twelve (12) months prior to the date of such approval, or (v) the first day
after the date of this Plan when directors are elected such that there shall
have been a change in the composition of the Board such that a majority of the
Board shall have been members of the Board for less than twelve (12) months,
unless the nomination for election of each new director who was not a director
at the beginning of such twelve (12) month period was approved by a vote of at
least sixty percent (60%) of the directors then still in office who were
directors at the beginning of such period, or (vi) the date upon which the Board
determines (in its sole discretion) that based on then current available
information, the events described in clause (iv) are reasonably likely to occur.
(d) "Code" shall mean the Internal Revenue Code of 1986, as
amended.
2
<PAGE>
(e) "Committee" shall mean the Committee appointed by the
Board in accordance with Section 4(a) of the Plan, if one is appointed, in which
event the Committee shall possess the power and authority of the Board.
(f) "Company" shall mean Quantum Epitaxial Designs, Inc., a
Pennsylvania corporation.
(g) "Common Stock" shall mean common stock of the Company,
$.01 per value per share.
(h) "Disinterested Person" shall have the meaning set forth in
Rule 16(b)-3(c)(2)(i), promulgated under Section 16 of the Exchange Act.
(i) "Disability" or "Disabled" shall mean the inability of an
Optionee to perform his or her normal employment duties for the Company, its
Parent, any of its Subsidiaries or its successors, as the case may be, resulting
from a mental or physical illness, impairment or any other similar occurrence
which can be expected to result in death or which has lasted or can be expected
to last for a period of twelve (12) consecutive months, as determined by the
Board.
(j) "Employee" shall mean any person, including officers and
directors, employed by the Company, its Parent, any of its Subsidiaries or its
successors. The payment of directors' fees by the Company, its Parent, any of
its Subsidiaries or its successors, as the case may be, shall not be sufficient
to constitute employment.
(k) "Exchange Act" shall mean the Securities Exchange Act of
1934, as amended.
(l) "Fair Market Value" shall mean the fair market value of a
share of Common Stock, as determined pursuant to Section 8 hereof.
(m) "Option" shall mean a non-qualified stock option to
purchase Shares that is Awarded pursuant to the Plan.
(n) "Option Agreement" shall mean a written agreement in such
form or forms as the Board (subject to the terms and conditions of this Plan)
may from time to time approve evidencing and reflecting the terms of an Option.
3
<PAGE>
(o) "Optionee" shall mean an Employee to whom an Option is
Awarded.
(p) "Parent" shall mean a "parent corporation" whether now or
hereafter existing, as defined in Sections 424(e) and (g) of the Code.
(q) "Plan" shall mean the Quantum Epitaxial Designs, Inc.
Employee Non-Qualified Stock Option Plan, as amended and restated, effective
October 3, 1996, 1996, or as amended thereafter from time to time.
(r) "Pool" shall mean the pool of shares of Common Stock
subject to the Plan, as described and set forth in Section 6 hereof.
(s) "Securities Act" shall mean the Securities Act of 1933, as
amended.
(t) "Shares" shall mean shares of Common Stock contained in
the Pool, as adjusted in accordance with Section 9 of the Plan.
(u) "Stock Purchase Agreement" shall mean an agreement in such
form as the Board (subject to the terms and conditions of this Plan) may from
time to time approve, which an Optionee may be required to execute as a
condition of purchasing Shares upon the exercise of an Option.
(v) "Subsidiary" shall mean a subsidiary corporation, whether
now or hereafter existing, as defined in Sections 424(f) and (g) of the Code.
Section 3. Participation.
(a) Employees. Participants in the Plan shall be selected by
the Board from the Employees (including Employees who also may be members of the
Board) of the Company, its Parent and its Subsidiaries or their successors. The
Board may make Awards at any time and from time to time to Employees on terms
and conditions described in Section 7. Any Award may include or exclude any
Employee, as the Board shall determine in its sole discretion.
4
<PAGE>
Section 4. Administration.
(a) Procedure. The Plan shall be administered by the Board.
Members of the Board who are eligible for Options or have been Awarded Options
may vote on any matters affecting the administration of the Plan or the Award of
any Options pursuant to the Plan, except that no such member shall act upon the
Award of an Option to himself, but any such member may be counted in determining
the existence of a quorum at any meeting of the Board or Committee during which
action is taken with respect to the Award of Options to him.
The Board may at any time appoint a Committee consisting
of not less than two persons to administer the Plan on behalf of the Board,
subject to such terms and conditions as the Board may prescribe. Members of the
Committee shall serve for such period of time as the Board may determine. From
time to time the Board may increase the size of the Committee and appoint
additional members thereto, remove members (with or without cause) and appoint
new members in substitution therefor, fill vacancies however caused, or remove
all members of the Committee and thereafter directly administer the Plan. In the
event the Company has a class of equity securities registered under Section 12
of the Exchange Act and unless the Board determines otherwise, from the
effective date of such registration until six months after the termination of
such registration, all Awards of Options shall be made solely by the Board, only
if each member is a Disinterested Person, or, otherwise, by a Committee of two
or more directors, each of whom is a Disinterested Person.
(b) Powers of the Board. Subject to the provisions of the
Plan, the Board or its Committee shall have the authority, in its discretion:
(i) to Award Options; (ii) to determine, upon review of relevant information and
in accordance with Section 8 of the Plan, the Fair Market Value per Share; (iii)
to determine the exercise price of the Options to be Awarded in accordance with
Sections 7 and 8 of the Plan; (iv) to determine the Employees to whom, and the
time or times at which, Options shall be Awarded, and the number of Shares to be
subject to each Option; (v) to prescribe, amend and rescind rules and
regulations relating to the Plan; (vi) to determine the terms and provisions of
each Option Awarded under the Plan, each Option Agreement and each Stock
Purchase Agreement (which need not be identical with the terms of other Options,
Option Agreements and Stock Purchase Agreements) and, with the consent of the
Optionee, to modify or amend an outstanding Option, Option Agreement or Stock
Purchase Agreement; (vii) to accelerate the vesting or exercise date of any
Option; (viii) to determine whether any Optionee will be required to execute a
stock repurchase agreement
5
<PAGE>
or other agreement as a condition to the exercise of an Option, and to determine
the terms and provisions of any such agreement (which need not be identical with
the terms of any other such agreement) and, with the consent of the Optionee, to
amend any such agreement; (ix) to interpret the Plan or any agreement entered
into with respect to the Award or exercise of Options; (x) to authorize any
person to execute on behalf of the Company any instrument required to effectuate
the Award of an Option previously Awarded by the Board or to take such other
actions as may be necessary or appropriate with respect to the Company's rights
pursuant to Options or agreements relating to the Award or exercise thereof; and
(xi) to make such other determinations and establish such other procedures as it
deems necessary or advisable for the administration of the Plan.
(c) Effect of the Board's or Committee's Decision. All
decisions, determinations and interpretations of the Board or the Committee
shall be final and binding with respect to all Options and Optionees.
(d) Limitation of Liability. Notwithstanding anything herein
to the contrary (with the exception of Section 31 hereof), no member of the
Board or of the Committee shall be liable for any good faith determination, act
or failure to act in connection with the Plan or any Option Awarded hereunder.
Section 5. Eligibility.
Except as otherwise provided in Section 3(b), Options may be
Awarded only to Employees. An Employee who has been Awarded an Option, if he or
she is otherwise eligible, may be Awarded additional Options.
Section 6. Stock Subject to the Plan.
Subject to the provisions of Section 9 of the Plan, the
maximum aggregate number of Shares which may be Awarded and sold under the Plan
is Three Hundred Twelve Thousand, Five Hundred Sixty (312,560) Shares
(collectively, the "Pool"), less the number of Shares Awarded under the Plan as
in effect immediately before the amendment and restatement of the Plan,
effective October 3, 1996. Options Awarded from the Pool shall be non-qualified
stock options. Once Awarded pursuant to an Option, no Shares shall return to the
Plan and become available for future Award under the Plan, regardless of whether
an Option should expire or become unexercisable for any reason without having
been exercised in full, or, if Shares are subsequently repurchased by the
Company.
6
<PAGE>
Section 7. Terms and Conditions of Options Awarded to
Employees.
Each Option Awarded pursuant to the Plan shall be authorized
by the Board and shall be evidenced by an Option Agreement in such form as the
Board may from time to time determine. Each Option Agreement shall incorporate
by reference all other terms and conditions of the Plan, including the following
terms and conditions:
(a) Number of Shares. The number of Shares subject to the
Option, which may not include fractional Shares.
(b) Option Price. The price per Share payable on the exercise
of an Option shall be at least $.01 per Share and shall be stated in the Option
Agreement.
(c) Consideration. The consideration to be paid for the Shares
to be issued upon the exercise of an Option, including the method of payment,
shall be determined by the Board and may consist entirely of cash, check or
shares of Common Stock having 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, or any combination of such methods of payment, or such other
consideration and method of payment permitted under any laws to which the
Company is subject and which is approved by the Board, provided that shares of
Common Stock may be surrendered in satisfaction of the exercise price only if
the Optionee has held such shares for more than six months (or such shorter time
as shall not, in the Board's sole discretion have an adverse effect on the
Company's financial statements). In making its determination as to the type of
consideration to accept, the Board shall consider if acceptance of such
consideration may be reasonably expected to benefit the Company. If the
consideration for the exercise of an Option is the surrender of previously
acquired and owned shares of Common Stock, the Optionee will be required to make
representations and warranties satisfactory to the Company regarding his title
to the shares of Common Stock used to effect the purchase, including without
limitation, representations and warranties that the Optionee has good and
marketable title to such shares of Common Stock free and clear of any and all
liens, encumbrances, charges, equities, claims, security interests, options or
restrictions, and has full power to deliver such shares of Common Stock without
obtaining the consent or approval of any person or governmental authority other
than those which have already given consent or approval in a manner satisfactory
to the Company. The value of the shares of Common Stock used to effect the
purchase shall be the Fair Market Value of such shares of Common Stock on the
date of exercise as determined by the Board in its sole discretion, exercised in
good faith.
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(d) Exercise of Options. Any Option Awarded hereunder shall be
exercisable at such times and under such conditions as may be determined by the
Board and as shall be permissible under the terms of the Plan, including
performance criteria with respect to the Company and/or the Optionee, and as
shall be permissible under the terms of the Plan.
An Option may be exercised in accordance with the
provisions of this Plan as to all or any portion of the Shares then exercisable
under an Option from time to time during the term of the Option. An Option may
not be exercised solely for a fraction of a Share.
An Option shall be deemed to be exercised when written
notice of such exercise has been given to the Company at its principal executive
office in accordance with the terms of the Option Agreement by the person
entitled to exercise the Option and full payment for the Shares with respect to
which the Option is exercised has been received by the Company, accompanied by
an executed Stock Purchase Agreement and any other agreements required by the
terms of the Plan and/or Option Agreement. Full payment may consist of such
consideration and method of payment allowable under Section 7 of the Plan. No
adjustment shall be made for a dividend or other right for which the record date
is prior to the date the Option is exercised, except as provided in Section 9 of
the Plan.
As soon as practicable after any proper exercise of an
Option in accordance with the provisions of the Plan, the Company shall, without
transfer or issue tax to the Optionee, deliver to the Optionee at the principal
executive office of the Company or such other place as shall be mutually agreed
upon between the Company and the Optionee, a certificate or certificates
representing the Shares for which the Option shall have been exercised. The time
of issuance and delivery of the certificate(s) representing the Shares for which
the Option shall have been exercised may be postponed by the Company for such
period as may be required by the Company, with reasonable diligence, to comply
with any applicable listing requirements of any national or regional securities
exchange or any law or regulation applicable to the issuance or delivery of such
Shares.
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Exercise of an Option in any manner shall result in a
decrease in the number of Shares which thereafter may be available, both for
Award under the Plan and for sale under the Option, by the number of Shares as
to which the Option is exercised.
(e) Term and Vesting of Options.
(i) Notwithstanding any other provision of this Plan, no
Option shall be (A) Awarded under this Plan after ten (10) years from the date
on which this Plan is adopted by the Board, or (B) exercisable more than ten
(10) years from the date of Award.
(ii) Options Awarded hereunder shall mature and become
exercisable in whole or in part, in accordance with such vesting schedule as the
Board shall determine, which schedule shall be stated in the Option Agreement.
Options may be exercised in any order elected by the Optionee whether or not the
Optionee holds any unexercised Options under this Plan or any other plan of the
Company.
(f) Termination of Options.
(i) Unless sooner terminated as provided in this Plan,
each Option shall be exercisable for the period of time as shall be determined
by the Board and set forth in the Option Agreement, and shall be void and
unexercisable thereafter.
(ii) Except as otherwise provided herein or in the Option
Agreement, upon the termination of the Optionee's employment or other
relationship with the Company for any reason, Options exercisable on the date of
termination of employment or such other relationship shall be exercisable by the
Optionee (or in the case of the Optionee's death subsequent to termination of
employment or such other relationship, by the Optionee's executor(s) or
administrator(s)) for a period of three (3) months from the date of the
Optionee's termination of employment or such other relationship.
(iii) Upon the Disability or death of an Optionee while in
the employ of or engagement by the Company, Options held by such Optionee which
are exercisable on the date of Disability or death shall be exercisable for a
period of twelve (12) months
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commencing on the date of the Optionee's Disability or death, by the Optionee or
his legal guardian or representative or, in the case of death, by his
executor(s) or administrator(s); provided, however, that if such disabled
Optionee shall commence any employment or engagement during such one (1) year
period with or by a competitor of the Company (including, but not limited to,
full or part-time employment or independent consulting work), as determined
solely in the judgment of the Board, all Options held by such Optionee which
have not yet been exercised shall terminate immediately upon the commencement
thereof.
(iv) Options may be terminated at any time by agreement
between the Company and the Optionee.
(g) Forfeiture. Notwithstanding any other provision of this
Plan, if the Optionee's employment or engagement is terminated for "cause" (as
such term is defined in the Optionee's employment agreement or invention and
non-disclosure agreement with the Company, but if the Optionee is not a party to
any such agreement, then, as such term is defined in the Stock Purchase
Agreement) or if the Board makes a determination that the Optionee (i) has
engaged in any type of disloyalty to the Company, including without limitation,
fraud, embezzlement, theft, or dishonesty in the course of his employment or
engagement, or (ii) has been convicted of a felony or (iii) has disclosed trade
secrets or confidential information of the Company or (iv) has breached any
agreement with or duty to the Company in respect of confidentiality,
non-disclosure, non-competition or otherwise, all unexercised Options shall
terminate upon the earlier of the date of termination of employment or
engagement for "cause" or the date of such a finding. In the event of such a
finding, in addition to immediate termination of all unexercised Options, the
Optionee shall forfeit all Shares for which the Company has not yet delivered
share certificates to the Optionee and the Company shall refund to the Optionee
the Option purchase price paid to it. Notwithstanding anything herein to the
contrary, the Company may withhold delivery of share certificates pending the
resolution of any inquiry that could lead to a finding resulting in forfeiture.
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Section 18. Determination of Fair Market Value of Common
Stock.
(a) Except to the extent otherwise provided in this Section 8,
the Fair Market Value of a share of Common Stock shall be determined by the
Board in its sole discretion.
(b) Notwithstanding the provisions of Section 8(a), in the
event that shares of Common Stock are traded in the over-the-counter market, the
Fair Market Value of a share of Common Stock shall be the mean of the bid and
asked prices for a share of Common Stock on the relevant valuation date as
reported in The Wall Street Journal (or, if not so reported, as otherwise
reported by the National Association of Securities Dealers Automated Quotations
("NASDAQ") System), as applicable or, if there is no trading on such date, on
the next trading date. In the event shares of Common Stock are listed on a
national or regional securities exchange or traded through NASDAQ/NMS, the Fair
Market Value of a share of Common Stock shall be the closing price for a share
of Common Stock on the exchange or on NASDAQ/NMS, as reported in The Wall Street
Journal on the relevant valuation date, or if there is no trading on that date,
on the next trading date.
Section 9. Adjustments.
(a) Subject to required action by the stockholders, if any,
the number of Shares as to which Options may be Awarded under this Plan and the
number of Shares subject to outstanding Options and the option prices thereof
shall be adjusted proportionately for any increase or decrease in the number of
outstanding shares of Common Stock of the Company resulting from stock splits,
reverse stock splits, stock dividends, reclassifications and recapitalizations.
(b) No fractional Shares shall be issuable on account of any
action aforesaid, and the aggregate number of Shares into which Shares then
covered by the Option, when changed as the result of such action, shall be
reduced to the number of whole Shares resulting from such action, and any right
to a fractional share shall be satisfied in cash, based on the Fair Market Value
thereof.
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Section 10. Rights as a Stockholder.
The Optionee shall have no rights as a stockholder of the
Company and shall not have the right to vote nor receive dividends with respect
to any Shares subject to an Option until such Option has been exercised and a
certificate with respect to the Shares purchased upon such exercise has been
issued to him.
Section 11. Time of Awarding Options.
The date of Award of an Option shall, for all purposes, be the
date on which the Board makes the determination Awarding such Option. Notice of
the determination shall be given to each Employee to whom an Option is so
Awarded within a reasonable time after the date of such Award.
Section 12. Modification, Extension and Renewal of Option.
Subject to the terms and conditions of the Plan, the Board may
modify, extend or renew an Option, or accept the surrender of an Option (to the
extent not theretofore exercised). Notwithstanding the foregoing, no
modification of an Option which adversely affects the Optionee shall be made
without the consent of the Optionee.
Section 13. Purchase for Investment and Other Restrictions.
The issuance of Shares on the exercise of an Option shall be
conditioned on obtaining such appropriate representations, warranties,
restrictions and agreements of the Optionee as set forth in the applicable Stock
Purchase Agreement. Among other representations, warranties, restrictions and
agreements, the Optionee shall represent and agree that the purchase of Shares
under the applicable Option Agreement shall be for investment, and not with a
view to the public resale or distribution thereof, unless the Shares subject to
the Option are registered under the Securities Act and the transfer or sale of
such Shares complies with all other laws, rules and regulations applicable
thereto. Unless the Shares are registered under the Securities Act, the Optionee
shall acknowledge that the Shares purchased on exercise of the Option are not
registered under the Securities Act and may not be sold or otherwise transferred
unless the Shares have been registered under the Securities Act in connection
with the sale or other transfer
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<PAGE>
thereof, or that counsel satisfactory to the Company has issued an opinion
satisfactory to the Company that the sale or other transfer of such Shares is
exempt from registration under the Securities Act, and unless said sale or
transfer is in compliance with all other applicable laws, rules and regulations,
including all applicable federal and state securities laws, rules and
regulations. Additionally, the Shares, when issued upon the exercise of an
Option, shall be subject to other transfer restrictions, rights of first refusal
and rights of repurchase as set forth in or incorporated by reference into the
applicable Stock Purchase Agreement. The certificates representing the Shares
shall contain the following legend:
THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN
REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED OR ANY
APPLICABLE STATE SECURITIES LAWS. THESE SHARES HAVE NOT BEEN
ACQUIRED WITH A VIEW TO DISTRIBUTION OR RESALE, AND MAY NOT BE
SOLD, ASSIGNED, EXCHANGED, MORTGAGED, PLEDGED, HYPOTHECATED OR
OTHERWISE TRANSFERRED OR DISPOSED OF, BY GIFT OR OTHERWISE, OR
IN ANY WAY ENCUMBERED WITHOUT AN EFFECTIVE REGISTRATION
STATEMENT FOR SUCH SHARES UNDER THE SECURITIES ACT OF 1933, AS
AMENDED, AND ANY APPLICABLE STATE SECURITIES LAWS, OR A
SATISFACTORY OPINION OF COUNSEL SATISFACTORY TO QUANTUM
EPITAXIAL DESIGNS, INC. THAT REGISTRATION IS NOT REQUIRED
UNDER SUCH ACT AND UNDER APPLICABLE STATE SECURITIES LAWS.
MOREOVER, THE SHARES REPRESENTED BY THIS CERTIFICATE ARE
SUBJECT TO AND RESTRICTED BY THE PROVISIONS OF A CERTAIN STOCK
PURCHASE AND RESTRICTION AGREEMENT BETWEEN QUANTUM EPITAXIAL
DESIGNS, INC. AND THE STOCKHOLDER, A COPY OF WHICH AGREEMENT
WILL BE FURNISHED BY QUANTUM EPITAXIAL DESIGNS, INC. UPON
WRITTEN REQUEST AND WITHOUT CHARGE, AND ALL OF THE PROVISIONS
OF SUCH AGREEMENT ARE INCORPORATED BY REFERENCE IN THIS
CERTIFICATE.
Section 14. Transferability.
No Option shall be assignable or transferable otherwise than
by will or by the laws of descent and distribution. During the lifetime of the
Optionee, his Options shall be exercisable only by him, or, in the event of his
legal incapacity or Disability by his legal guardian or representative.
Section 15. Other Provisions.
The Option Agreement and Stock Purchase Agreement may contain
such other provisions as the Board in its discretion deems advisable and which
are not inconsistent with the provisions of this Plan, including, without
limitation, restrictions upon or conditions precedent to the exercise of the
Option.
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Section 16. Power of Board in Case of Change of Control.
Notwithstanding anything to the contrary set forth in this
Plan (with the exception of Section 31 hereof), in the event of a Change of
Control, the Board shall have the right, in its sole discretion, to accelerate
the vesting and exercisability of all unmatured Options and/or to establish an
earlier date for the expiration of the exercise of an Option (notwithstanding a
later expiration of exercisability set forth in an Option Agreement). In
addition, in the event of a Change of Control of the Company, the Board shall
have the right, in its sole discretion, subject to and conditioned upon the
consummation of the transactions which result in the Change of Control, to (1)
arrange for the successor company (or other entity) to assume all of the rights
and obligations of the Company under this Plan; or (2) terminate this Plan and
(a) to pay to all Optionees cash with respect to those Options that are vested
as of the date of such consummation in an amount equal to the difference between
the exercise price and the Fair Market Value of a Share of Common Stock
(determined as of the date the Plan is terminated) multiplied by the number of
Options that are vested as of the date of the consummation of the transactions
which result in the Change of Control which are held by the Optionee as of such
date, or (b) to arrange for the exchange of all Options for options to purchase
common stock in the successor corporation, or (c) to distribute to each Optionee
other property in an amount equal to and in the same form as the Optionee would
have received from the successor corporation if the Optionee had owned the
Shares subject to Options that are vested as of the date of the consummation of
the transactions which result in the Change of Control rather than the Option at
the time of such consummation. The form of payment or distribution to the
Optionee pursuant to this Section shall be determined by the Board in its sole
discretion.
Section 17. Amendment of the Plan.
Insofar as permitted by law and the Plan, the Board may from
time to time suspend, terminate or discontinue the Plan or revise or amend it in
any respect whatsoever with respect to any Shares at the time not subject to an
Option; provided, however, that without approval of the stockholders, no such
revision or amendment may change the aggregate number of Shares for which
Options may be Awarded hereunder, change the designation of the class of
Employees eligible to receive Options or decrease the price at which Options may
be Awarded.
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Any other provision of this Section 17 notwithstanding (with
the exception of Section 31 hereof), the Board specifically is authorized to
adopt any amendment to this Plan deemed by the Board to be necessary or
advisable to assure that the non-qualified stock Options available under the
Plan continue to be treated as such, respectively, under all applicable laws.
Section 18. Application of Funds.
The proceeds received by the Company from the sale of Shares
pursuant to the exercise of Options shall be used for general corporate
purposes.
Section 19. No Obligation to Exercise Option.
The Awarding of an Option shall impose no obligation upon the
Optionee to exercise such Option.
Section 20. Conditions Upon Issuance of Shares.
(a) Options Awarded under the Plan are conditioned upon the
Company obtaining any required permit or order from appropriate governmental
agencies, authorizing the Company to issue such Options and Shares issuable upon
the exercise thereof.
(b) Shares shall not be issued pursuant to the exercise of an
Option unless the exercise of such Option and the issuance and delivery of such
Shares pursuant thereto shall comply with all relevant provisions of law,
including, without limitation, the Securities Act, the Exchange Act, the rules
and regulations promulgated thereunder, and the requirements of any stock
exchange upon which the Shares may then be listed, and shall be further subject
to the approval of counsel for the Company with respect to such compliance.
(c) As a condition to the exercise of an Option, the Board may
require the person exercising such Option to execute an agreement with, and/or
may require the person exercising such Option to make any representation and/or
warranty to, the Company as may be, in the judgment of counsel to the Company,
required under applicable law or regulation, including but not limited to a
representation and warranty 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 and
warranty is appropriate under any of the aforementioned relevant provisions of
law.
Section 21. Reservation of Shares.
The Company, during the term of this Plan, shall at all times
reserve and keep available such number of Shares as shall be sufficient to
satisfy the requirements of the Plan.
The Company, during the term of this Plan, shall use its best
efforts to seek to obtain from appropriate regulatory agencies any requisite
authorization in order to issue and sell such number of Shares as shall be
sufficient to satisfy the requirements of the Plan. The inability of the Company
to obtain from any such regulatory agency having jurisdiction the requisite
authorization(s) deemed by the Company's counsel to be necessary for the lawful
issuance and sale of any Shares hereunder, or the inability of the Company to
confirm to its satisfaction that any issuance and sale of any Shares hereunder
will meet applicable legal requirements, shall relieve the Company of any
liability in respect to the failure to issue or sell such Shares as to which
such requisite authority shall not have been obtained.
Section 22. Stock Option and Stock Purchase Agreements.
Options shall be evidenced by an Option Agreement in such form
or forms as the Board shall approve from time to time. Upon the exercise of an
Option, the Optionee shall sign and deliver to the Company a Stock Purchase
Agreement in such form or forms as the Board shall approve from time to time.
Section 23. Taxes, Fees, Expenses and Withholding of Taxes.
(a) The Company shall pay all original issue and transfer
taxes (but not income taxes, if any) with respect to the Award of Options and/or
the issue and transfer of Shares pursuant to the exercise thereof, and all other
fees and expenses necessarily incurred by the Company in connection therewith,
and will from time to time use its best efforts to comply with all laws and
regulations which, in the opinion of counsel for the Company, shall be
applicable thereto.
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(b) The Award of Options hereunder and the issuance of Shares
pursuant to the exercise thereof is conditioned upon the Company's reservation
of the right to withhold in accordance with any applicable law, from any
compensation or other amounts payable to the Optionee, any taxes required to be
withheld under federal, state or local law as a result of the Award or exercise
of such Option or the sale of the Shares issued upon exercise thereof. To the
extent that compensation or other amounts, if any, payable to the Optionee is
insufficient to pay any taxes required to be so withheld, the Company may, in
its sole discretion, require the Optionee (or such other person entitled herein
to exercise the Option), as a condition of the exercise of an Option, to pay in
cash to the Company an amount sufficient to cover such tax liability or
otherwise to make adequate provision for the Company's satisfaction of its
withholding obligations under federal, state and local law.
Section 24. Notices.
Any notice to be given to the Company pursuant to the
provisions of this Plan shall be addressed to the Company in care of its
Secretary (or such other person as the Company may designate from time to time)
at its principal executive office, and any notice to be given to an Optionee
shall be delivered personally or addressed to him or her at the address given
beneath his or her signature on his or her Option Agreement, or at such other
address as such Optionee or his or her permitted transferee (upon the transfer
of the Shares) may hereafter designate in writing to the Company. Any such
notice shall be deemed duly given when enclosed in a properly sealed envelope or
wrapper addressed as aforesaid, registered or certified, and deposited, postage
and registry or certification fee prepaid, in a post office or branch post
office regularly maintained by the United States Postal Service. It shall be the
obligation of each Optionee and each permitted transferee holding Shares
purchased upon exercise of an Option to provide the Secretary of the Company, by
letter mailed as provided herein, with written notice of his or her direct
mailing address.
Section 25. No Enlargement of Employee Rights.
This Plan is purely voluntary on the part of the Company, and
the continuance of the Plan shall not be deemed to constitute a contract between
the Company and any Employee, or to be consideration for or a condition of the
employment or service of any Employee. Nothing contained in this Plan shall be
deemed to give any Employee the right to be retained in the employ or service of
the Company, its Parent, any Subsidiary or a successor corporation, or to
interfere with the right of the Company or any such corporation to discharge or
retire any Employee thereof at any time. No Employee shall have any right to or
interest in Options authorized hereunder prior to the Award thereof to such
Employee, and upon such Award he shall have only such rights and interests as
are expressly provided herein, subject, however, to all applicable provisions of
the Company's Certificate of Incorporation, as the same may be amended from time
to time.
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Section 26. Information to Optionees.
The Company, upon request, shall provide without charge to
each Optionee copies of such annual and periodic reports as are provided by the
Company to its stockholders generally.
Section 27. Availability of Plan.
A copy of this Plan shall be delivered to the Secretary of the
Company and shall be shown by him to any eligible person making reasonable
inquiry concerning it.
Section 28. Invalid Provisions.
In the event that any provision of this Plan is found to be
invalid or otherwise unenforceable under any applicable law, such invalidity or
unenforceability shall not be construed as rendering any other provisions
contained herein as invalid or unenforceable, and all such other provisions
shall be given full force and effect to the same extent as though the invalid or
unenforceable provision was not contained herein.
Section 29. Applicable Law.
This Plan shall be governed by and construed in accordance
with the laws of the Commonwealth of Pennsylvania.
Section 30. Board Action.
Notwithstanding anything to the contrary set forth in this
Plan, any and all actions of the Board or Committee, as the case may be, taken
under or in connection with this Plan and any agreements, instruments,
documents, certificates or other writings entered into, executed, granted,
issued and/or delivered pursuant to the terms hereof, shall be subject to and
limited by any and all votes, consents, approvals, waivers or other actions of
all or certain stockholders of the Company or other persons required pursuant to
(i) the Company's Certificate of Incorporation (as the same may be amended
and/or restated from time to time), (ii) the Company's Bylaws (as the same may
be amended and/or restated from time to time), and (iii) any agreement,
instrument, document or writing now or hereafter existing, between or among the
Company and its stockholders or other persons (as the same may be amended from
time to time).
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ADOPTION AND APPROVAL OF PLAN
Date Plan Originally Adopted By Board: September 20, 1991
Date Plan Amendment and Restatement Adopted by Board: October 3, 1996
Original Effective Date of Plan: September 20, 1991
Effective Date of Plan Amendment and Restatement: October 3, 1996
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QUANTUM EPITAXIAL DESIGNS
AMENDED AND RESTATED EMPLOYEE NON-QUALIFIED
STOCK OPTION AGREEMENT
Quantum Epitaxial Designs, Inc., a Pennsylvania corporation
(the "Company"), and _______________________ ("Optionee") hereby amend and
restate in its entirety their prior agreement relating to the Company's grant to
Optionee of non-qualified stock options ("Options") to purchase _____________
(________) shares of the Company's common stock, par value $0.001 per share, as
adjusted to reflect stock splits and other required adjustments through the date
hereof (the "Common Stock") (the "Prior Agreement") as follows:
The Company awarded to Optionee Options to purchase a total of
___________ (___________) shares of Common Stock, at the price set forth below,
and in all respects subject to the terms, definitions and provisions of the
Company's Employee Non-Qualified Stock Option Plan as in effect immediately
before its amendment and restatement, effective October 3, 1996. Unless
otherwise defined in this Amended and Restated Employee Non-Qualified Stock
Option Agreement (this "Agreement"), terms that are defined in the Company's
Employee Non-Qualified Stock Option Plan (as Amended and Restated, Effective
October 3, 1996) (the "Plan") shall have the same meanings when used in this
Agreement.
1. Nature of the Award. This Award consists of non-qualified
stock options.
2. Option Price. The option price shall be $_______ for each
share of Common Stock (the "Option Price"), as adjusted proportionately for
fractional shares or for increases or decreases in the number of outstanding
shares of Common Stock resulting from stock splits or combinations that have
occurred since the original date of grant of this Award as set forth below (the
"Original Date of Grant") and as may occur subsequent to the date of this
Agreement.
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3. Exercise of Award. Subject to Section 6 hereof, this Award
shall be exercisable only by the Optionee during its term as follows:
(a) Right to Exercise.
(i) Options issued under this Award shall be
exercisable, in whole or in part, and for fractional shares, in accordance with
the provisions of this Agreement.
(ii) Optionee may immediately exercise
Options as to twenty percent (20%) of the shares of Common Stock that are the
subject of this Award commencing on the date that is twelve (12) months from the
Original Date of Grant. Except as otherwise provided in Section 7, Optionee may
exercise the Options as to an additional 1/48 of the shares of Common Stock that
are the subject of this Award as of the last day of each month commencing with
the thirteenth month after the Original Date of Grant.
(iii) In the event of the termination of
Optionee's employment with the Company by reason of the death of Optionee, this
Award shall be fully matured and shall be exercisable in whole or in part by the
Optionee's executor(s) or administrator(s) at any time during the period that
commences on the Optionee's date of death and ends twelve months after the date
of the Optionee's death.
(iv) In the event of the Disability of
Optionee, Options granted under this Award shall be fully matured and shall be
exercisable in whole or in part by the Optionee or by his legal representative
at any time during the period that commences on the date of the Optionee's
Disability and ends twelve months after the date of the Optionee's Disability.
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(v) Except to the extent otherwise provided
in this Agreement, upon the termination of the Optionee's employment with the
Company for any reason other than Death or Disability, Options granted under
this Award, if matured on the date of termination of employment, shall be
exercisable by the Optionee (or in the case of the Optionee's death or
Disability subsequent to termination of employment, by the Optionee's executor,
administrator, or legal representative, as the case may be) for a period of
three months from the date of the Optionee's termination of employment. To the
extent that this Award is not matured on the date of such termination of
employment, Options that are the subject of this Award shall be canceled, and
the Company shall be under no further obligation to the Optionee with respect to
such Options under the Plan or this Agreement.
(b) Method of Exercise. Options shall be
exercisable by written notice which shall state the number of shares of Common
Stock, including fractional shares, in respect of which this Award is being
exercised, and which shall contain or be accompanied by such representations and
agreements as to the Optionee's investment intent with respect to such shares of
Common Stock as may be required by the Company pursuant to the provisions of the
Plan, including but not limited to, the Stock Purchase and Restriction Agreement
referred to in Section 4 below. Such written notice of exercise shall be signed
by Optionee and shall be delivered in person or by certified mail to the
Secretary of the Company. The written notice shall be accompanied by payment of
the Option Price. An Option shall be treated as exercised on the date that
proper notice of exercise accompanied by the Option Price is received by the
Company.
No shares of Common Stock will be issued pursuant to the
exercise of an Option unless such issuance and such exercise shall comply with
all relevant provisions of law and the requirements of any stock exchange upon
which the shares may then be listed.
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<PAGE>
(c) Number of Options Exercisable. Each exercise of
an Option shall reduce, pro tanto, the total number of shares of Common Stock
that may thereafter be purchased under this Award.
4. Optionee Agreements. In the event the shares of Common
Stock which may be purchased pursuant to the exercise of Options under this
Award have not been registered under the Securities Act of 1933, as amended (the
"Securities Act"), at the time an Option is exercised, Optionee shall,
concurrently with the exercise of all or any portion of an Option, deliver to
the Company a Stock Purchase and Restriction Agreement in a form provided by the
Company; provided, however, that such document may be modified, amended, or any
provision thereof waived in whole or in part, as is necessary or desirable to
comply with then current law.
5. Method of Payment. Payment of the Option Price, shall be in
any of the following forms, or a combination thereof;
(a) cash, check or promissory note in form
satisfactory to the Company (at the discretion of the Company); or
(b) surrender to the Company of other shares of
Common Stock having a Fair Market Value on the date of surrender equal to the
aggregate exercise price of the Shares as to which the Option shall be
exercised; or
(c) any combination of such methods.
Notwithstanding the foregoing, shares of Common Stock may be
surrendered in satisfaction of the exercise price only if the Optionee has held
such shares for more than six months (or such shorter time as shall not, in the
Board's sole discretion have an adverse effect on
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<PAGE>
the Company's financial statements). If the consideration for the exercise of an
Option is the surrender of previously acquired and owned shares of Common Stock,
the Optionee will be required to make representations and warranties
satisfactory to the Company regarding Optionee's title to the shares of Common
Stock used to effect the purchase, including without limitation, representations
and warranties that the Optionee has good and marketable title to such shares of
Common Stock free and clear of any and all liens, encumbrances, charges,
equities, claims, security interests, options or restrictions, and has full
power to deliver such shares of Common Stock without obtaining the consent or
approval of any person or governmental authority other than those which have
already given consent or approval in a manner satisfactory to the Company. The
value of the shares of Common Stock used to effect the purchase shall be the
Fair Market Value of such shares of Common Stock on the date of exercise as
determined by the Board in its sole discretion, exercised in good faith.
6. Restrictions on Exercise. An Option may not be exercised if
the issuance of the shares of Common Stock upon such exercise or the method of
payment of consideration for such shares would constitute a violation of any
applicable federal or state securities or other law or regulation, including any
rule under Part 207 of Title 12 of the Code of Federal Regulations ("Regulation
G") as promulgated by the Federal Reserve Board. As a condition to the exercise
of an Option pursuant to this Award, the Company may require the Optionee to
make any representation and warranty to the Company as may be required by any
applicable law or regulation or by the Stock Restriction and Purchase Agreement
referred to in Section 4.
7. Change of Control. In the event of a Change of Control of
the Company, all Options granted hereunder shall immediately mature and become
exercisable, in whole or in part, in accordance with the terms of this
Agreement.
-5-
<PAGE>
8. Non-Transferability of Award. This Award and any Options
granted under this Agreement may not be sold, pledged, assigned, hypothecated,
transferred or disposed of in any manner. Options granted under this Agreement
may be exercised during the lifetime of the Optionee only by the Optionee,
except that such Options may be exercised by Optionee's legal representative in
the case of Optionee's Disability. The terms of this Award shall be binding upon
the executors, administrators, heirs and successors of the Optionee.
9. Term of Award. Options may not be exercised more than ten
(10) years from the Original Date of Grant, and may be exercised during such
term only in accordance with the terms of the Plan and this Award.
10. Cancellation of Stock Appreciation Rights. All tandem
Stock Appreciation Rights awarded as part of the Prior Agreement are hereby
canceled as of the date of this Agreement.
11. Forfeiture. Notwithstanding any other provision of this
Agreement, if the Board makes a finding, after full consideration of the facts
presented on behalf of both the Company and the Optionee, that the Optionee (i)
has engaged in any type of disloyalty to the Company, including without
limitation, fraud, embezzlement, theft, or proven dishonesty in the course of
his employment, or, if the Optionee is a director, has otherwise breached any
fiduciary duty owed to the Company, or (ii) has been convicted of a felony or
(iii) has disclosed trade secrets or confidential information of the Company or
has breached his Employee Nondisclosure Agreement with the Company, all
unexercised Options shall terminate on the date of such finding. In the event of
such a finding, in addition to immediate termination of all unexercised
-6-
<PAGE>
Options, the Optionee (or his legal representative, in the case of the death or
Disability of the Optionee) shall forfeit all Option shares for which the
Company has not yet delivered share certificates to the Optionee or his legal
representative, as the case may be, and the Company shall refund to the Optionee
or his legal representative the Option Price paid to it. Notwithstanding
anything herein to the contrary, the Company may withhold delivery of share
certificates pending the resolution of any inquiry that could lead to a finding
resulting in forfeiture.
12. Acknowledgment. The Optionee represents that he has read
the terms and provisions of the Plan, which is annexed to this Agreement as
Exhibit A, and accepts this Award subject to all of the terms and provisions
thereof and of this Agreement. The Optionee hereby agrees to accept as binding,
conclusive and final all decisions or interpretations of the Committee or the
Board, as the case may be, upon any questions arising under the Plan.
13. Entire Agreement. This Agreement, together with the
exhibits attached to this Agreement represents the entire agreement between the
parties, and supersede all prior agreements, understanding and representations
between the parties in their respective entireties including, without
limitation, the Prior Agreement, which Prior Agreement is hereby terminated.
14. Governing Law. This Agreement shall be construed in
accordance with the laws of the Commonwealth of Pennsylvania.
15. Withholding. Anything to the contrary herein
notwithstanding, all payments required to be made by the Company hereunder to an
Optionee, his legal representative, his heir or devisee shall be subject to the
withholding of such amounts as the Company may determine that it is required to
withhold pursuant to any applicable federal, state or local law or regulation.
-7-
<PAGE>
16. Amendment. Except as otherwise set forth herein, this
Agreement may only be amended by a writing signed by each of the parties hereto.
ORIGINAL DATE OF GRANT: _______________, 199___
QUANTUM EPITAXIAL DESIGNS, INC.
By: __________________________________
President
Agreed to this _____ day of November, 1997.
- --------------------------------------
Print Name: ____________________________
<PAGE>
QUANTUM EPITAXIAL DESIGNS
AMENDED AND RESTATED NON-QUALIFIED
STOCK OPTION AGREEMENT
Quantum Epitaxial Designs, Inc., a Pennsylvania corporation
(the "Company"), and Gregory H. Olsen, a Member of the Company's board of
directors ("Optionee") hereby amend and restate in its entirety their prior
agreement relating to the Company's grant to Optionee of non-qualified stock
options ("Options") to purchase Fifty Thousand (50,000) shares of the Company's
common stock, par value $0.001 per share, as adjusted to reflect stock splits
and other required adjustments through the date hereof (the "Common Stock") (the
"Prior Agreement") as follows:
The Company awarded to Optionee Options to purchase a total of
Fifty Thousand (50,000) shares of Common Stock at the price set forth below.
Although the Options were not and are not intended to be granted under the
Company's Employee Non-Qualified Stock Option Plan (as amended and restated,
effective October 3, 1996) (the "Plan"), unless otherwise defined in this
Amended and Restated Non-Qualified Stock Option Agreement (this "Agreement"),
terms that are defined in the Plan shall, for convenience, have the same
meanings when used in this Agreement.
1. Nature of the Award. This Award consists of non-qualified
stock options.
2. Option Price. The option price shall be $0.1530 for each
share of Common Stock (the "Option Price"), as adjusted proportionately for
fractional shares or for increases or decreases in the number of outstanding
shares of Common Stock resulting from stock splits or combinations that have
occurred since the original date of grant of this Award as set forth below (the
"Original Date of Grant") and as may occur subsequent to the date of this
<PAGE>
Agreement.
3. Exercise of Award. Subject to Section 6 hereof, this Award
shall be exercisable only by the Optionee during its term as follows
(a) Right to Exercise.
(i) Options issued under this Award shall be
immediately exercisable, in whole or in part, and for fractional shares, in
accordance with the provisions of this Agreement.
(ii) In the event of the termination of
Optionee's service with the Company as a member of the Company's Board by reason
of the death of Optionee, this Award shall be exercisable in whole or in part by
the Optionee's executor(s) or administrator(s) at any time during the period
that commences on the Optionee's date of death and ends twelve months after the
date of the Optionee's death.
(iii) In the event of the Disability of Optionee,
Options granted under this Award shall be exercisable in whole or in part by the
Optionee or by his legal representative at any time during the period that
commences on the date of the Optionee's Disability and ends twelve months after
the date of the Optionee's Disability.
(iv) Except to the extent otherwise provided in
this Agreement, upon the termination of the Optionee's service with the Company
as a member of the Company's Board for any reason other than Death or
Disability, Options granted under this Award shall be exercisable by the
Optionee (or in the case of the Optionee's death or Disability subsequent to
termination of such service, by the Optionee's executor, administrator, or legal
representative, as the case may be) for a period of three months from the date
of the Optionee's termination of such
-2-
<PAGE>
service.
(b) Method of Exercise. Options shall be exercisable
by written notice which shall state the number of shares of Common Stock,
including fractional shares, in respect of which this Award is being exercised,
and which shall contain or be accompanied by such representations and agreements
as to the Optionee's investment intent with respect to such shares of Common
Stock as may be required by the Company pursuant to the provisions of the Plan,
including but not limited to, the Stock Purchase and Restriction Agreement
referred to in Section 4 below. Such written notice of exercise shall be signed
by Optionee and shall be delivered in person or by certified mail to the
Secretary of the Company. The written notice shall be accompanied by payment of
the Option Price. An Option shall be treated as exercised on the date that
proper notice of exercise accompanied by the Option Price is received by the
Company.
No shares of Common Stock will be issued pursuant to the
exercise of an Option unless such issuance and such exercise shall comply with
all relevant provisions of law and the requirements of any stock exchange upon
which the shares may then be listed.
(c) Number of Options Exercisable. Each exercise of
an Option shall reduce, pro tanto, the total number of shares of Common Stock
that may thereafter be purchased under this Award.
4. Optionee Agreements. In the event the shares of Common
Stock which may be purchased pursuant to the exercise of Options under this
Award have not been registered under the Securities Act of 1933, as amended (the
"Securities Act"), at the time an Option is exercised, Optionee shall,
concurrently with the exercise of all or any portion of an Option, deliver to
the Company a Stock Purchase and Restriction Agreement in a form provided by the
-3-
<PAGE>
Company; provided, however, that such document may be modified, amended, or any
provision thereof waived in whole or in part, as is necessary or desirable to
comply with then current law.
5. Method of Payment. Payment of the Option Price, shall be in
any of the following forms, or a combination thereof;
(a) cash, check or promissory note in form satisfactory to
the Company (at the discretion of the Company); or
(b) surrender to the Company of other shares of Common
Stock having a Fair Market Value on the date of surrender equal to the aggregate
exercise price of the Shares as to which the Option shall be exercised; or
(c) any combination of such methods.
Notwithstanding the foregoing, shares of Common Stock may be
surrendered in satisfaction of the exercise price only if the Optionee has held
such shares for more than six months (or such shorter time as shall not, in the
Board's sole discretion have an adverse effect on the Company's financial
statements). If the consideration for the exercise of an Option is the surrender
of previously acquired and owned shares of Common Stock, the Optionee will be
required to make representations and warranties satisfactory to the Company
regarding Optionee's title to the shares of Common Stock used to effect the
purchase, including without limitation, representations and warranties that the
Optionee has good and marketable title to such shares of Common Stock free and
clear of any and all liens, encumbrances, charges, equities, claims, security
interests, options or restrictions, and has full power to deliver such shares of
Common Stock without obtaining the consent or approval of any person or
governmental authority other than those which have already given consent or
approval in a manner satisfactory
-4-
<PAGE>
to the Company. The value of the shares of Common Stock used to effect the
purchase shall be the Fair Market Value of such shares of Common Stock on the
date of exercise as determined by the Board in its sole discretion, exercised in
good faith.
6. Restrictions on Exercise. An Option may not be exercised if
the issuance of the shares of Common Stock upon such exercise or the method of
payment of consideration for such shares would constitute a violation of any
applicable federal or state securities or other law or regulation, including any
rule under Part 207 of Title 12 of the Code of Federal Regulations ("Regulation
G") as promulgated by the Federal Reserve Board. As a condition to the exercise
of an Option pursuant to this Award, the Company may require the Optionee to
make any representation and warranty to the Company as may be required by any
applicable law or regulation or by the Stock Restriction and Purchase Agreement
referred to in Section 4.
7. Non-Transferability of Award. This Award and any Options
granted under this Agreement may not be sold, pledged, assigned, hypothecated,
transferred or disposed of in any manner. Options granted under this Agreement
may be exercised during the lifetime of the Optionee only by the Optionee,
except that such Options may be exercised by Optionee's legal representative in
the case of Optionee's Disability. The terms of this Award shall be binding upon
the executors, administrators, heirs and successors of the Optionee.
8. Term of Award. Options may not be exercised more than ten
(10) years from the Original Date of Grant, and may be exercised during such
term only in accordance with the terms of the Plan and this Award.
9. Cancellation of Stock Appreciation Rights. All tandem Stock
Appreciation Rights awarded as part of the Prior Agreement are hereby canceled
as of the date of
-5-
<PAGE>
this Agreement.
10. Forfeiture. Notwithstanding any other provision of this
Agreement, if the Board makes a finding, after full consideration of the facts
presented on behalf of both the Company and the Optionee, that the Optionee
(i) has engaged in any type of disloyalty to the Company, including without
limitation, fraud, embezzlement, theft, or proven dishonesty in the course of
his service as a member of the Company's Board, or has otherwise breached any
fiduciary duty owed to the Company, or (ii) has been convicted of a felony or
(iii) has disclosed trade secrets or confidential information of the Company or
has breached his Employee Nondisclosure Agreement with the Company, all
unexercised Options shall terminate on the date of such finding. In the event of
such a finding, in addition to immediate termination of all unexercised Options,
the Optionee (or his legal representative, in the case of the death or
Disability of the Optionee) shall forfeit all Option shares for which the
Company has not yet delivered share certificates to the Optionee or his legal
representative, as the case may be, and the Company shall refund to the Optionee
or his legal representative the Option Price paid to it. Notwithstanding
anything herein to the contrary, the Company may withhold delivery of share
certificates pending the resolution of any inquiry that could lead to a finding
resulting in forfeiture.
11. Acknowledgment. The Optionee represents that he has read
the terms and provisions of the Plan, which is annexed to this Agreement as
Exhibit A, and accepts this Award subject to the definitions thereof and all of
the terms and provisions of this Agreement. The Optionee hereby agrees to accept
as binding, conclusive and final all decisions or interpretations of the
Committee or the Board, as the case may be, upon any questions arising under
this
-6-
<PAGE>
Agreement.
12. Entire Agreement. This Agreement, together with the
exhibits attached to this Agreement represents the entire agreement between the
parties, and supersede all prior agreements, understanding and representations
between the parties in their respective entireties including, without
limitation, the Prior Agreement, which Prior Agreement is hereby terminated.
13. Governing Law. This Agreement shall be construed in
accordance with the laws of the Commonwealth of Pennsylvania.
14. Withholding. Anything to the contrary herein
notwithstanding, all payments required to be made by the Company hereunder to an
Optionee, his legal representative, his heir or devisee shall be subject to the
withholding of such amounts as the Company may determine that it is required to
withhold pursuant to any applicable federal, state or local law or regulation.
15. Amendment. Except as otherwise set forth herein, this
Agreement may only be amended by a writing signed by each of the parties hereto.
ORIGINAL DATE OF GRANT: May 22, 1992
QUANTUM EPITAXIAL DESIGNS, INC.
By: __________________________________
President
Agreed to this _____ day
of November, 1997.
- --------------------------------------
Print Name: Gregory H. Olsen
-7-
<PAGE>
EXHIBIT 11.1
QUANTUM EPITAXIAL DESIGNS, INC.
PRO FORMA AND SUPPLEMENTAL PRO FORMA
NET INCOME (LOSS) PER SHARE CALCULATION
<TABLE>
<CAPTION>
Year Ended Nine Months Ended
December 31, 1996 September 30, 1997
----------------- -----------------
<S> <C> <C>
Pro forma net loss per share
Pro forma net loss per statement of operations ............................ $ (61,676) $ (446,381)
Reduction of interest expense, net of tax ................................. -- 71,000
----------- -----------
Pro forma net loss ........................................................ $ (61,676) $ (375,381)
----------- -----------
Weighted average shares outstanding ....................................... 1,585,350 1,585,350
Dilutive effect of outstanding stock options .............................. 123,250 123,250
Dilutive effect of convertible notes payable .............................. 269,905 269,905
----------- -----------
Shares used in computing pro forma net loss per share ..................... 1,978,505 1,978,505
----------- -----------
Pro forma net loss per share .............................................. $ (0.03) $ (0.19)
=========== ===========
Supplemental pro forma net income (loss) per share
Pro forma net income (loss) ............................................... $ (61,676) $ (446,381)
Reduction in interest expense, net of tax ................................. 128,000 216,000
----------- -----------
Supplemental pro forma net income (loss) .................................. $ 66,324 $ (230,381)
----------- -----------
Shares used in computing pro forma net income (loss) per share ............ 1,978,505 1,978,505
Assumed repayment of bank debt ............................................ 366,484 467,737
Dilutive effect of outstanding stock options .............................. 174,522 --
Dilutive effect of convertible notes payable .............................. 1,432,459 --
Dilutive effect of common stock warrants .................................. 131,204 --
----------- -----------
Shares used in computing supplemental pro forma net income (loss) per share 4,083,174 2,446,242
----------- -----------
Supplemental pro forma net income (loss) per share ........................ $ 0.02 $ (0.09)
=========== ===========
</TABLE>
