<PAGE>
As filed with the Securities and Exchange Commission on November 20, 1997
Registration No 333-37457
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
---------------------
Amendment No. 4
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 20, 1997
PROSPECTUS
2,500,000 Shares
[QED LOGO]
Quantum Epitaxial Designs, Inc.
Common Stock
----------------
All of the shares of Common Stock offered hereby are being sold by Quantum
Epitaxial Designs, Inc. ("QED" or the "Company"). See "Principal 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 $6.50 and $8.50 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
Price to Discounts and Proceeds to
Public Commissions(1) Company(2)
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Per Share ...... $ $ $
- ------------------------------------------------------------------------------
Total(3) ...... $ $ $
==============================================================================
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(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 has 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 has granted the Underwriters a 30-day option to purchase up to
an additional 375,000 shares 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 and
Proceeds to Company 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
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The Offering
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Common Stock offered by the Company .................... 2,500,000 shares
Common Stock to be outstanding after the Offering ...... 5,923,415 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)
<TABLE>
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Nine Months Ended
Year Ended December 31, September 30,
--------------------------------------------------- --------------------
1992 1993 1994 1995 1996 1996 1997
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<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) ............... 1,973 1,973
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September 30, 1997
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Pro Forma
Actual Pro Forma(3) As Adjusted(3)(4)
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Balance Sheet Data:
Working capital (deficit) .................. $(490) $ (408) $13,890
Total assets ................................. 9,803 9,780 22,182
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 19,671
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- ----------------
(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 2,500,000 shares of
Common Stock offered hereby (at an assumed initial public offering price
of $7.50 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
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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 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 5,923,415 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 380,890 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 1,868,245 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 Amended and 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 55.2% (52.1% 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 $4.18 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 $16.9 million after deducting estimated
underwriting discounts and commissions and estimated offering expenses payable
by the Company.
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 2,500,000 shares of Common Stock offered by
the Company hereby (at an assumed initial public offering price of $7.50 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 5,923,415 shares
issued and outstanding, as adjusted(4) ......... 2 3 6
Additional paid-in capital ..................... 1,045 3,736 19,665
Deferred compensation(5) ........................ (859) (859) --
Retained earnings .............................. 1,431 -- --
------ ------ --------
Total shareholders' equity ..................... 1,619 2,880 19,671
------ ------ --------
Total capitalization ........................ $6,505 $5,674 $19,825
====== ====== ========
</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 2,500,000 shares of
Common Stock offered (at an assumed initial public offering price of $7.50
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 2,500,000 shares of Common Stock offered hereby (at
an assumed initial public offering price of $7.50 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 $19,671,000, or $3.32 per share. This represents an immediate
increase in pro forma, as adjusted, net tangible book value of $2.48 per share
to existing shareholders and an immediate dilution in pro forma, as adjusted,
net tangible book value of $4.18 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 ...... $ 7.50
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 ........................... 3.32
--------
Dilution per share to new shareholders ............... $ 4.18
========
</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 $4.23. 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) ... ...... 3,423,415 57.8% $ 2,075,588 10.0% $ 0.61
New investors .................. 2,500,000 42.2 18,750,000 90.0 7.50
--------- ------ ------------ ------
Total ........................... 5,923,415 100.0% $20,825,588 100.0%
========= ====== ============ ======
</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.
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) .......................................... 1,973
</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) .......................................... 1,973
</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 the deemed value (for
accounting purposes) of the Company's Common Stock and the exercise price on the
date of option grant. 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
led 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 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. NEPA and Dr. Hwang have certain 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. See
"Description of Capital Stock."
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,
AMP has agreed to convert the AMP Note 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 generally will 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 will be 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. These indemnification agreements will provide that,
in any action brought to enforce any director's rights to indemnification under
his or her indemnification agreement, the Company will bear the burden of proof
that such director is not entitled to indemnification under such director's
indemnification agreement.
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 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, and
(iii) all directors and executive officers as a group, both before and after
giving effect to the sale by the Company of 2,500,000 shares of Common Stock in
the Offering.
<TABLE>
<CAPTION>
Shares Beneficially Shares Beneficially
Owned Prior to Owned After
Offering(1)(2) Offering(2)
----------------------- ----------------------
Names(2) Number Percent Number Percent
- ----------------------------------------- ----------- --------- ----------- --------
<S> <C> <C> <C> <C>
Thomas L. Hierl#+(3)(4) ................. 1,398,210 40.8% 1,398,210 23.6%
NEPA Venture Fund, L.P.(3)(5) ......... 1,307,740 38.2 1,307,740 22.1
James C. M. Hwang, Ph.D.#(3)(6)(7) ..... 445,890 13.0 446,890 7.5
AMP Incorporated(3)(8) .................. 269,905 7.9 269,905 4.6
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 2.7
All executive officers and directors as
a group (8 persons)(11) ............... 2,079,364 56.8 2,112,990 34.1
</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 5,923,415
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.
(6) Includes 260,420 shares of Common Stock issuable upon conversion of a
convertible subordinated note payable immediately prior to consummation of
the Offering.
<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"). 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
5,923,415 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 55.2% of the shares of Common
Stock (52.1%, 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 1,598,340
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 2,500,000 shares of Common Stock from the Company. 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 has 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 375,000 shares 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 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 has 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
between the Company 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 .................................... 1,972,555 1,972,555
=========== ===========
</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 $7.50 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 $7.50 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 were 4,150,511 and 2,533,839, 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 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 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 . 3,375
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 ............ 90,000
Miscellaneous ....................................... 29,034
---------
TOTAL ............................................. $500,000
=========
</TABLE>
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 will also enter into indemnification agreements with each o
the Company's directors. These indemnification agreements generally will 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 will be 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. These indemnification agreements will provide that,
in any action brought to enforce any director's rights to indemnification under
his or her indemnification agreement, the Company will bear the burden of proof
that such director is not entitled to indemnification under such director's
indemnification agreement.
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, AMP has agreed to convert the Note into shares of Class B Preferred
Stock, which will then automatically convert into 269,905 shares of Common
Stock.
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
3.1a Amended and Restated Articles of Incorporation of the Company**
3.1b Form of Amended and Restated Articles of Incorporation of the Company***
3.2a Amended and Restated Bylaws of the Company**
3.2b Form of Amended and Restated Bylaws 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.
** Previously filed with Registration Statement on October 8, 1997.
*** Previously filed with Amendment No. 1 to Registration Statement on October
29, 1997.
(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. 4 to this Registration Statement.
ARTHUR ANDERSEN LLP
Philadelphia, Pa.,
November 20, 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. 4 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
20th 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.
4 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 20, 1997
----------------------- Director (principal executive officer)
Thomas L. Hierl
/s/ WILLIAM J. BURG Vice President Finance, Chief Financial November 20, 1997
----------------------- Officer and Secretary (principal financial
William J. Burg officer and principal accounting officer)
James C.M. Hwang Directors November 20, 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
3.1a Amended and Restated Articles of Incorporation of the Company**
3.1b Form of Amended and Restated Articles of Incorporation of the Company***
3.2a Amended and Restated Bylaws of the Company**
3.2b Form of Amended and Restated Bylaws 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.
** Previously filed with Registration Statement on October 8, 1997.
*** Previously filed with Amendment No. 1 to Registration Statement on October
29, 1997.
<PAGE>
2,500,000 Shares*
QUANTUM EPITAXIAL DESIGNS, INC.
Common Stock
UNDERWRITING AGREEMENT
November _____, 1997
NEEDHAM & COMPANY, INC.
JANNEY MONTGOMERY SCOTT INC.
As Representatives of the several Underwriters
c/o Needham & Company, Inc.
445 Park Avenue
New York, New York 10022
Ladies and Gentlemen:
Quantum Epitaxial Designs, Inc., a Pennsylvania corporation (the
"Company"), proposes to issue and sell 2,500,000 shares (the "Firm Shares") of
the Company's Common Stock, $0.001 par value per share (the "Common Stock"), to
you and to the several other Underwriters named in Schedule I hereto
(collectively, the "Underwriters"), for whom you are acting as representatives
(the "Representatives"). The Company also agreed to grant to you and the other
Underwriters an option (the "Option") to purchase up to an additional 375,000
shares (the "Option Shares") of Common Stock on the terms and for the purposes
set forth in Section 1(b). The Firm Shares and the Option Shares are
collectively referred to herein as the "Shares."
The Company, intending to be legally bound, hereby confirms its
agreement with the Representatives and the several other Underwriters as
follows:
1. Agreement to Sell and Purchase.
(a) On the basis of the representations, warranties and
agreements of the Company herein contained and subject to all the terms and
conditions of this Agreement, (i) the Company agrees to issue and sell the Firm
Shares to the several Underwriters, and (ii) each of the Underwriters, severally
and not jointly, agrees to purchase from the Company the number of Firm Shares
set forth opposite that Underwriter's name in Schedule I hereto, at the purchase
price of $______ for each Firm Share. The number of Firm Shares to be purchased
by each Underwriter from the Company shall be as nearly as practicable in the
- ----------
* Plus an option to purchase up to an additional 375,000 shares to cover
over-allotments.
<PAGE>
same proportion to the total number of Firm Shares being sold by the Company as
the number of Firm Shares being purchased by each Underwriter bears to the total
number of Firm Shares to be sold hereunder.
(b) Subject to all the terms and conditions of this Agreement,
the Company grants the Option to the several Underwriters to purchase, severally
and not jointly, up to the maximum number of Option Shares at the same price per
share as the Underwriters shall pay for the Firm Shares. The Option may be
exercised only to cover over-allotments in the sale of the Firm Shares by the
Underwriters and may be exercised in whole or in part at any time on or before
the 30th day after the date of this Agreement upon written or telegraphic notice
(the "Option Shares Notice") by the Representatives to the Company no later than
12:00 noon, New York City time, at least two and no more than five business days
before the date specified for closing in the Option Shares Notice (the "Option
Closing Date"), setting forth the aggregate number of Option Shares to be
purchased and the time and date for such purchase. On the Option Closing Date,
the Company will sell to the Underwriters the number of Option Shares set forth
in the Option Shares Notice, and each Underwriter will purchase such percentage
of the Option Shares as is equal to the percentage of Firm Shares that such
Underwriter is purchasing, as adjusted by the Representatives in such manner as
they deem advisable to avoid fractional shares.
(c) Subject to the terms and conditions of this Agreement, on
the Closing Date (as hereinafter defined) the Company shall issue to the
Representatives warrants in the form attached hereto as Exhibit A (the
"Representatives' Warrants") to purchase an aggregate of 187,500 shares of
Common Stock at an exercise price equal to ____% of the Price to Public set
forth on the cover page of the Prospectus (as hereinafter defined). The number
of shares of Common Stock subject to each Representatives' Warrant shall be
specified by the Representatives no less than one business day prior to the
Closing Date.
2. Delivery and Payment. Delivery of the Firm Shares shall be made to
the Representatives for the accounts of the Underwriters against payment of the
purchase price by wire transfer payable in same-day funds to the order of the
Company for the Firm Shares to be sold by it (with all costs and expenses
incurred by the Underwriters in connection with such settlement in same-day
funds, including but not limited to, interest or cost of funds and expenses, to
be borne by the Company) at the office of Needham & Company, Inc., 445 Park
Avenue, New York, New York 10022, at 10:00 a.m., New York City time, on the
third (or, if the purchase price set forth in Section 1(b) hereof is determined
after 4:30 p.m., Washington D.C. time, the fourth) business day following the
commencement of the offering contemplated by this Agreement, or at such time on
such other date, not later than seven business days after the date of this
Agreement, as may be agreed upon by the Company and the Representatives (such
date is hereinafter referred to as the "Closing Date").
To the extent the Option is exercised, delivery of the Option Shares
against payment by the Underwriters (in the manner specified above) will take
place at the offices specified above for the Closing Date at the time and date
(which may be the Closing Date) specified in the Option Shares Notice.
2
<PAGE>
Certificates evidencing the Shares shall be in definitive form and shall
be registered in such names and in such denominations as the Representatives
shall request at least two business days prior to the Closing Date or the Option
Closing Date, as the case may be, by written notice to the Company. For the
purpose of expediting the checking and packaging of certificates for the Shares,
the Company agrees to make such certificates available for inspection at least
24 hours prior to the Closing Date or the Option Closing Date, as the case may
be.
The cost of original issue tax stamps, if any, in connection with the
issuance and delivery of the Firm Shares and Option Shares by the Company to the
respective Underwriters shall be borne by the Company. The Company will pay and
save each Underwriter and any subsequent holder of the Shares harmless from any
and all liabilities with respect to or resulting from any failure or delay in
paying Federal and state stamp and other transfer taxes, if any, which may be
payable or determined to be payable in connection with the original issuance or
sale to such Underwriter of the Shares.
3. Representations and Warranties of the Company. The Company
represents, warrants and covenants to each Underwriter that:
(a) A registration statement (Registration No. 333-37457) on
Form S-1 relating to the Shares, including a preliminary prospectus and such
amendments to such registration statement as may have been required to the date
of this Agreement, has been prepared by the Company under the provisions of the
Securities Act of 1933, as amended (the "Act"), and the rules and regulations
(collectively referred to as the "Rules and Regulations") of the Securities and
Exchange Commission (the "Commission") thereunder, and has been filed with the
Commission. The term "preliminary prospectus" as used herein means a preliminary
prospectus as contemplated by Rule 430 or Rule 430A of the Rules and Regulations
included at any time as part of the registration statement. Copies of such
registration statement and amendments and of each related preliminary prospectus
have been delivered to the Representatives. If such registration statement has
not become effective, a further amendment to such registration statement,
including a form of final prospectus, necessary to permit such registration
statement to become effective will be filed promptly by the Company with the
Commission. If such registration statement has become effective, a final
prospectus containing information permitted to be omitted at the time of
effectiveness by Rule 430A of the Rules and Regulations will be filed promptly
by the Company with the Commission in accordance with Rule 424(b) of the Rules
and Regulations. The term "Registration Statement" means the registration
statement as amended at the time it becomes or became effective (the "Effective
Date"), including financial statements and all exhibits and any information
deemed to be included by Rule 430A and includes any registration statement
relating to the offering contemplated by this Agreement and filed pursuant to
Rule 462(b) of the Rules and Regulations. The term "Prospectus" means the
prospectus as first filed with the Commission pursuant to Rule 424(b) of the
Rules and Regulations or, if no such filing is required, the form of final
prospectus included in the Registration Statement at the Effective Date. Any
reference herein to the terms "amend," "amendment" or "supplement" with respect
to the Registration Statement, any preliminary prospectus or the Prospectus
shall be deemed to refer to and include the filing of any document under the
Securities Exchange Act of 1934, as amended (the "Exchange Act") after the
Effective Date, the date of any preliminary prospectus or the date of the
Prospectus, as the case may be, and deemed to be incorporated therein by
reference.
3
<PAGE>
(b) No order preventing or suspending the use of any
preliminary prospectus has been issued by the Commission. On the Effective Date,
the date the Prospectus is first filed with the Commission pursuant to Rule
424(b) (if required), at all times subsequent to and including the Closing Date
and, if later, the Option Closing Date and when any post-effective amendment to
the Registration Statement becomes effective or any amendment or supplement to
the Prospectus is filed with the Commission, the Registration Statement and the
Prospectus (as amended or as supplemented if the Company shall have filed with
the Commission any amendment or supplement thereto), including the financial
statements included in the Prospectus, did and will comply with all applicable
provisions of the Act and the Rules and Regulations and will contain all
statements required to be stated therein in accordance with the Act and the
Rules and Regulations. On the Effective Date and when any post-effective
amendment to the Registration Statement becomes effective, no part of the
Registration Statement, the Prospectus or any such amendment or supplement did
or will contain an untrue statement of a material fact or omit to state a
material fact required to be stated therein or necessary in order to make the
statements therein not misleading. At the Effective Date, the date the
Prospectus or any amendment or supplement to the Prospectus is filed with the
Commission and at the Closing Date and, if later, the Option Closing Date, the
Prospectus did not and will not contain any untrue statement of a material fact
or omit to state a material fact necessary to make the statements therein, in
the light of the circumstances under which they were made, not misleading. The
foregoing representations and warranties in this Section 3(b) do not apply to
any statements or omissions made in reliance on and in conformity with
information relating to any Underwriter furnished in writing to the Company by
the Representatives specifically for inclusion in the Registration Statement or
Prospectus or any amendment or supplement thereto. The Company acknowledges that
the statements set forth under the heading "Underwriting" in the Prospectus
constitute the only information relating to any Underwriter furnished in writing
to the Company by the Representatives specifically for inclusion in the
Registration Statement.
(c) The Company does not own, and at the Closing Date and, if
later, the Option Closing Date, will not own, directly or indirectly, any shares
of stock or any other equity or long-term debt securities of any corporation or
have any equity interest in any corporation, firm, partnership, joint venture,
association or other entity. The Company is, and at the Closing Date and, if
later, the Option Closing Date, will be, a corporation duly organized, validly
existing and in good standing under the laws of its jurisdiction of
incorporation. The Company has, and at the Closing Date and, if later, the
Option Closing Date, will have, full corporate power and authority to conduct
all the activities conducted by it, to own or lease all the assets owned or
leased by it and to conduct its business as described in the Registration
Statement and the Prospectus. The Company is, and at the Closing Date and, if
later, the Option Closing Date, will be, duly licensed or qualified to do
business and in good standing as a foreign corporation in all jurisdictions in
which the nature of the activities conducted by it or the character of the
assets owned or leased by it makes such license or qualification necessary,
except to the extent that the failure to be so qualified or be in good standing
would not materially and adversely affect the Company or its business,
4
<PAGE>
properties, business prospects, condition (financial or otherwise) or results of
operations. The Company is not, and at the Closing Date and, if later, the
Option Closing Date, will not be, engaged in any discussions or a party to any
agreement or understanding, written or oral, regarding the acquisition of an
interest in any corporation, firm, partnership, joint venture, association or
other entity where such discussions, agreements or understandings would require
amendment to the Registration Statement pursuant to applicable securities laws.
Complete and correct copies of the certificate of incorporation and of the
by-laws of the Company and all amendments thereto have been delivered to the
Representatives, and no changes therein will be made subsequent to the date
hereof and prior to the Closing Date or, if later, the Option Closing Date.
(d) All of the outstanding shares of capital stock of the
Company have been duly authorized, validly issued and are fully paid and
nonassessable and were issued in compliance with all applicable state and
federal securities laws; the Shares have been duly authorized and when issued
and paid for as contemplated herein will be validly issued, fully paid and
nonassessable; the shares of Common Stock issuable upon exercise of the
Representatives' Warrants will be duly authorized and, when issued pursuant to
the terms of the Representatives' Warrants will be validly issued, fully paid
and nonassessable; no preemptive or similar rights, which have not been waived
or satisfied, exist with respect to any of the Shares or the issue and sale
thereof or with respect to the issuance of the Representatives' Warrants or the
issue and sale of the shares issuable upon the exercise thereof. The description
of the capital stock of the Company in the Registration Statement and the
Prospectus is, and at the Closing Date and, if later, the Option Closing Date,
will be, complete and accurate in all respects. Except as set forth in the
Prospectus, the Company does not have outstanding, and at the Closing Date and,
if later, the Option Closing Date, will not have outstanding, any options to
purchase, or any rights or warrants to subscribe for, or any securities or
obligations convertible into, or any contracts or commitments to issue or sell,
any shares of capital stock, or any such warrants, convertible securities or
obligations. No further approval or authority of shareholders or the Board of
Directors of the Company will be required for the issuance and sale of the
Shares as contemplated herein.
(e) The financial statements (including the notes thereto)
included in the Registration Statement or the Prospectus present fairly the
financial condition of the Company as of the respective dates thereof and the
results of operations and cash flows of the Company for the respective periods
covered thereby, all in conformity with generally accepted accounting principles
applied on a consistent basis throughout the entire period involved, except as
otherwise disclosed in the Prospectus. No other financial statements or
schedules of the Company are required by the Act, the Exchange Act, the Exchange
Act Rules and Regulations or the Rules and Regulations to be included in the
Registration Statement or the Prospectus. Arthur Andersen LLP (the
"Accountants"), who have reported on such financial statements and schedules,
are independent accountants with respect to the Company as required by the Act
and the Rules and Regulations. The summary consolidated financial and
statistical data included in the Registration Statement present fairly the
information shown therein and have been compiled on a basis consistent with the
financial statements presented therein.
5
<PAGE>
(f) Subsequent to the respective dates as of which information
is given in the Registration Statement and the Prospectus and prior to the
Closing Date and, if later, the Option Closing Date, except as set forth in or
contemplated by the Registration Statement and the Prospectus, (i) there has not
been and will not have been any change in the capitalization of the Company
(other than in connection with the exercise of options to purchase the Company's
Common Stock granted pursuant to the Company's stock option plans from the
shares reserved therefor as described in the Registration Statement), or any
material adverse change in the business, properties, business prospects,
condition (financial or otherwise) or results of operations of the Company,
arising for any reason whatsoever, (ii) the Company has not incurred nor will it
incur, except in the ordinary course of business as described in the Prospectus,
any material liabilities or obligations, direct or contingent, nor has the
Company entered into nor will it enter into, except in the ordinary course of
business as described in the Prospectus, any material transactions other than
pursuant to this Agreement and the transactions referred to herein and (iii) the
Company has not and will not have paid or declared any dividends or other
distributions of any kind on any class of its capital stock.
(g) The Company is not, will not become as a result of the
transactions contemplated hereby, and does not intend to conduct its business in
a manner that would cause it to become, an "investment company" or an
"affiliated person" of, or "promoter" or "principal underwriter" for, an
"investment company," as such terms are defined in the Investment Company Act of
1940, as amended.
(h) There are no actions, suits or proceedings pending or, to
the knowledge of the Company, threatened against or affecting the Company or any
of its officers in their capacity as such, nor any basis therefor, before or by
any Federal or state court, commission, regulatory body, administrative agency
or other governmental body, domestic or foreign, wherein an unfavorable ruling,
decision or finding might materially and adversely affect the Company or the
business, properties, business prospects, condition (financial or otherwise) or
results of operations of the Company.
(i) The Company has, and at the Closing Date and, if later,
the Option Closing Date, will have, performed all the obligations required to be
performed by it, and is not, and at the Closing Date, and, if later, the Option
Closing Date, will not be, in default, under any contract or other instrument to
which it is a party or by which its property is bound or affected, which default
might reasonably be expected to materially and adversely affect the Company or
the business, properties, business prospects, condition (financial or otherwise)
or results of operations of the Company. To the best knowledge of the Company,
no other party under any contract or other instrument to which it is a party is
in default in any respect thereunder, which default might reasonably be expected
to materially and adversely affect the Company or the business, properties,
business prospects, condition (financial or otherwise) or results of operations
of the Company. The Company is, and at the Closing Date and, if later, the
Option Closing Date, will not be, in violation of any provision of its
certificate or articles of organization or by-laws or other organizational
documents.
6
<PAGE>
(j) No consent, approval, authorization or order of, or any
filing or declaration with, any court or governmental agency or body is required
for the consummation by the Company of the transactions on its part contemplated
herein, except such as have been obtained under the Act or the Rules and
Regulations and such as may be required under state securities or Blue Sky laws
or the by-laws and rules of the National Association of Securities Dealers, Inc.
(the "NASD") in connection with the purchase and distribution by the
Underwriters of the Shares.
(k) The Company has full corporate power and authority to
enter into this Agreement. This Agreement has been duly authorized, executed and
delivered by the Company and constitutes a valid and binding agreement of the
Company, enforceable against the Company in accordance with the terms hereof.
The performance of this Agreement and the consummation of the transactions
contemplated hereby will not result in the creation or imposition of any lien,
charge or encumbrance upon any of the assets of the Company pursuant to the
terms or provisions of, or result in a breach or violation of any of the terms
or provisions of, or constitute a default under, or give any party a right to
terminate any of its obligations under, or result in the acceleration of any
obligation under, the certificate or articles of incorporation or by-laws of the
Company, any indenture, mortgage, deed of trust, voting trust agreement, loan
agreement, bond, debenture, note agreement or other evidence of indebtedness,
lease, contract or other agreement or instrument to which the is a party or by
which the Company, or any of its properties is bound or affected, or violate or
conflict with any judgment, ruling, decree, order, statute, rule or regulation
of any court or other governmental agency or body applicable to the business or
properties of the Company.
(l) The Company has good and marketable title to all
properties and assets described in the Prospectus as owned by it, free and clear
of all liens, charges, encumbrances or restrictions, except such as are
described in the Prospectus or are not material to the business of the Company.
The Company has valid, subsisting and enforceable leases for the properties
described in the Prospectus as leased by it/them. The Company owns or leases all
such properties as are necessary to its operations as now conducted or as
proposed to be conducted, except where the failure to so own or lease would not
materially and adversely affect the Company or the business, properties,
business prospects, condition (financial or otherwise) or results of operations
of the Company.
(m) There is no document or contract of a character required
to be described in the Registration Statement or the Prospectus or to be filed
as an exhibit to the Registration Statement which is not described or filed as
required. All such contracts to which the Company is a party have been duly
authorized, executed and delivered by the Company, constitute valid and binding
agreements of the Company and are enforceable against and by the Company in
accordance with the terms thereof.
(n) No statement, representation, warranty or covenant made by
the Company in this Agreement or made in any certificate or document required by
Section 5 of this Agreement to be delivered to the Representatives was or will
be, when made, inaccurate, untrue or incorrect.
7
<PAGE>
(o) Neither the Company nor any of its directors, officers or
controlling persons has taken, directly or indirectly, any action designed, or
which might reasonably be expected, to cause or result, under the Act or
otherwise, in, or which has constituted, stabilization or manipulation of the
price of any security of the Company to facilitate the sale or resale of the
Shares.
(p) No holder of securities of the Company has rights to the
registration of any securities of the Company because of the filing of the
Registration Statement, which rights have not been waived by the holder thereof
as of the date hereof.
(q) The Company has filed a registration statement pursuant to
Section 11(g) of the Exchange Act to register the Common Stock, has filed an
application to list the Shares to be sold hereunder on the Nasdaq National
Market ("NNM"), and has received notification that the listing has been
approved, subject to notice of issuance of such Shares.
(r) Except as disclosed in the Prospectus (i) the Company has
sufficient trademarks, trade names, patent rights, mask works, copyrights,
licenses, approvals and governmental authorizations to conduct its business as
now conducted, (ii) the Company has no knowledge of any infringement by it of
trademarks, trade name rights, patent rights, mask work rights, copyrights,
licenses, trade secrets or other similar rights of others, where such
infringement could have a material and adverse effect on the Company or the
business, properties, business prospects, condition (financial or otherwise) or
results of operations of the Company, and (iii) there is no claim being made
against the Company, or to the best of the Company's knowledge, any employee of
the Company regarding trademark, trade name, patent, mask work, copyright,
license, trade secret or other infringement which could have a material and
adverse effect on the Company or the business, properties, business prospects,
condition (financial or otherwise) or results of operations of the Company.
(s) The Company has filed all federal, state, local and
foreign income tax returns which have been required to be filed and has paid all
taxes and assessments received by it to the extent that such taxes or
assessments have become due. The Company has no tax deficiency which has been
or, to the knowledge of the Company, might be asserted or threatened against it
which could have a material and adverse effect on the Company or the business,
properties, business prospects, condition (financial or otherwise) or results of
operations of the Company.
(t) The Company owns or possesses all authorizations,
approvals, orders, licenses, registrations, other certificates and permits of
and from all governmental regulatory officials and bodies, necessary to conduct
its business as contemplated in the Prospectus, except where the failure to own
or possess all such authorizations, approvals, orders, licenses, registrations,
other certificates and permits would not materially and adversely affect the
Company or the business, properties, business prospects, condition (financial or
otherwise) or results of operations of the Company. There is no proceeding
pending or threatened (or any basis therefor known to the Company) which may
cause any such authorization, approval, order, license, registration,
certificate or permit to be revoked, withdrawn, cancelled, suspended or not
renewed; and the Company is conducting its business in compliance with all laws,
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rules and regulations applicable thereto (including, without limitation, all
applicable federal, state and local environmental laws and regulations) except
where such noncompliance would not materially and adversely affect the Company
or the business, properties, business prospects, condition (financial or
otherwise) or results of operations of the Company.
(u) The Company maintains insurance of the types and in the
amounts generally deemed adequate for its business, including, but not limited
to, insurance covering real and personal property owned or leased by the Company
against theft, damage, destruction, acts of vandalism and all other risks
customarily insured against, all of which insurance is in full force and effect.
(v) The Company has not, nor, to the knowledge of the Company,
has any of its respective employees or agents at any time during the last five
years (i) made any unlawful contribution to any candidate for foreign office, or
failed to disclose fully any contribution in violation of law, or (ii) made any
payment to any federal or state governmental officer or official, or other
person charged with similar public or quasi-public duties, other than payments
required or permitted by the laws of the United States or any jurisdiction
thereof.
(w) The executive offices and the manufacturing and storage
facilities of the Company (the "Premises"), and all operations presently or
formerly conducted thereon by the Company or any predecessor thereof, are now
and, since the Company began to use such Premises, always have been and, to the
knowledge of the Company, prior to when the Company began to use such Premises,
always had been, in compliance with all federal, state and local statutes,
ordinances, regulations, rules, standards and requirements of common law
concerning or relating to industrial hygiene and the protection of health and
the environment (collectively, the "Environmental Laws"), except to the extent
that any failure to be in such compliance would not materially adversely affect
the general affairs, properties, condition (financial or otherwise), results of
operations, shareholders' equity, business or prospects of the Company. There
are no conditions on, about, beneath or arising from the Premises or at any
other location that might give rise to liability, the imposition of a statutory
lien or require a "Response," "Removal" or "Remedial Action," as defined herein,
under any of the Environmental Laws, and that would materially adversely affect
the general affairs, properties, condition (financial or otherwise), results of
operations, shareholders' equity, business or prospects of the Company. Except
as expressly disclosed in the Prospectus, which disclosed items will not
materially adversely affect the general affairs, properties, condition
(financial or otherwise), results of operations, shareholders' equity, business
or prospects of the Company, (i) the Company has received no notice and has no
knowledge of any claim, demand, investigation, regulatory action, suit or other
action instituted or threatened against the Company or any portion of the
Premises relating to any of the Environmental Laws, and (ii) the Company has
received no notice of material violation, citation, complaint, order, directive,
request for information or response thereto, notice letter, demand letter or
compliance schedule to or from any governmental or regulatory agency arising out
of or in connection with "hazardous substances" (as defined by applicable
Environmental Laws) on, about, beneath, arising from or generated at the
Premises or at any other location. As used in this subsection, the terms
"Response," "Removal" and "Remedial Action" shall have the respective meanings
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assigned to such terms under Sections 101(23) -101(25) of the Comprehensive
Environmental Response, Compensation and Liability Act, as amended by the
Superfund Amendments and Reauthorization Act, 42 U.S.C. 9601(23)-9601(25);
(x) The Company maintains a system of internal accounting
controls sufficient to provide reasonable assurances that: (i) transactions are
executed in accordance with management's general or specific authorization; (ii)
transactions are recorded as necessary in order to permit preparation of
financial statements in accordance with generally accepted accounting principles
and to maintain accountability for assets; (iii) access to assets is permitted
only in accordance with management's general or specific authorization; and (iv)
the recorded accountability for assets is compared with existing assets at
reasonable intervals and appropriate action is taken with respect to any
differences.
(y) No unregistered securities of the Company have been sold
by the Company or on behalf of the Company by any person or persons controlling,
controlled by, or under common control with the Company within the three years
prior to the date hereof, except as expressly disclosed in the Registration
Statement.
(z) Except for the Company's disability, health, life
insurance and other welfare benefit plans, and those plans that are disclosed in
the Prospectus, the Company has not had and does not now have any employee
benefit plan, profit sharing plan, employee pension benefit plan or employee
welfare benefit plan or deferred compensation arrangements ("Plans") that are
subject to the provisions of the Employee Retirement Income Security Act of
1974, as amended, or the rules and regulations thereunder ("ERISA"). All Plans
that are subject to ERISA are in compliance with ERISA, in all material
respects, and, to the extent required by the Internal Revenue Code of 1986, as
amended (the "Code"), in compliance with the Code in all material respects. The
Company has no employee pension benefit plan that is subject to Part 3 of
Subtitle B of Title I of ERISA or any defined benefit plan or multi-employer
plan. The Company has not maintained retired life and retired health insurance
plans that are employee welfare benefit plans providing for continuing benefit
or coverage for any employee or any beneficiary of any employee after such
employee's termination of employment, except as required by Section 4980B of the
Code. No fiduciary or other party in interest with respect to any of the Plans
has caused any of such Plans to engage in a prohibited transaction as defined in
Section 406 of ERISA. As used in this subsection, the terms "defined benefit
plan," "employee benefit plan," "employee pension benefit plan," "employee
welfare benefit plan," "fiduciary" and "multi-employer plan" shall have the
respective meanings assigned to such terms in Section 3 of ERISA.
(aa) No labor dispute exists with the Company's employees, and
to the knowledge of the Company no such labor dispute is threatened. The Company
has no knowledge of any existing or threatened labor disturbance by the
employees of any of its principal suppliers, contractors or customers that would
reasonably be expected to result in a material adverse effect to the general
affairs, properties, condition (financial or otherwise), results of operations,
shareholders' equity, business or prospects of the Company.
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(bb) The Company has not incurred any liability for any
finder's fees or similar payments in connection with the transactions
contemplated herein.
Any certificate signed by any officer of the Company in such capacity
and delivered to the Representatives or to counsel for the Underwriters pursuant
to this Agreement shall be deemed a representation and warranty by the Company
to the several Underwriters as to the matters covered thereby.
4. Agreements of the Company. The Company covenants and agrees with the
several Underwriters as follows:
(a) The Company will not, either prior to the Effective Date
or thereafter during such period as the Prospectus is required by law to be
delivered in connection with sales of the Shares by an Underwriter or dealer,
file any amendment or supplement to the Registration Statement or the
Prospectus, unless a copy thereof shall first have been submitted to the
Representatives within a reasonable period of time prior to the filing thereof
and the Representatives shall not have objected thereto in good faith.
(b) The Company will use its best efforts to cause the
Registration Statement to become effective, and will notify the Representatives
promptly, and will confirm such advice in writing, (i) when the Registration
Statement has become effective and when any post-effective amendment thereto
becomes effective, (ii) of any request by the Commission for amendments or
supplements to the Registration Statement or the Prospectus or for additional
information, (iii) of the issuance by the Commission of any stop order
suspending the effectiveness of the Registration Statement or the initiation of
any proceedings for that purpose or the threat thereof, (iv) of the happening of
any event during the period mentioned in the second sentence of Section 4(e)
that in the judgment of the Company makes any statement made in the Registration
Statement or the Prospectus untrue or that requires the making of any changes in
the Registration Statement or the Prospectus in order to make the statements
therein, in the light of the circumstances in which they are made, not
misleading and (v) of receipt by the Company or any representative or attorney
of the Company of any other communication from the Commission relating to the
Company, the Registration Statement, any preliminary prospectus or the
Prospectus. If at any time the Commission shall issue any order suspending the
effectiveness of the Registration Statement, the Company will make every
reasonable effort to obtain the withdrawal of such order at the earliest
possible moment. If the Company has omitted any information from the
Registration Statement pursuant to Rule 430A of the Rules and Regulations, the
Company will comply with the provisions of and make all requisite filings with
the Commission pursuant to said Rule 430A and notify the Representatives
promptly of all such filings.
(c) The Company will furnish to each Representative, without
charge, one signed copy of each of the Registration Statement and of any
post-effective amendment thereto, including financial statements and schedules,
and all exhibits thereto and will furnish to the Representatives, without
charge, for transmittal to each of the other Underwriters, a copy of the
Registration Statement and any post-effective amendment thereto, including
financial statements and schedules but without exhibits.
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(d) The Company will comply with all the provisions of any
undertakings contained in the Registration Statement.
(e) On the Effective Date, and thereafter from time to time
during such period as a prospectus is required by law to be delivered in
connection with offers and sales of Shares by an underwriter or dealer, the
Company will deliver to each of the Underwriters, without charge, as many copies
of the Prospectus or any amendment or supplement thereto as the Representatives
may reasonably request. The Company consents to the use of the Prospectus or any
amendment or supplement thereto by the several Underwriters and by all dealers
to whom the Shares may be sold, both in connection with the offering or sale of
the Shares and for any period of time thereafter during which the Prospectus is
required by law to be delivered in connection therewith. If during such period
of time any event shall occur which in the reasonable judgment of counsel to the
Company or counsel to the Underwriters should be set forth in the Prospectus in
order to make any statement therein, in the light of the circumstances under
which it was made, not misleading, or if it is necessary to supplement or amend
the Prospectus to comply with law, the Company will forthwith prepare and duly
file with the Commission an appropriate supplement or amendment thereto, and
will deliver to each of the Underwriters, without charge, such number of copies
of such supplement or amendment to the Prospectus as the Representatives may
reasonably request.
(f) Prior to any public offering of the Shares, the Company
will cooperate with the Representatives and counsel to the Underwriters in
connection with the registration or qualification of the Shares for offer and
sale under the securities or Blue Sky laws of such jurisdictions as the
Representatives may request; provided, that in no event shall the Company be
obligated to qualify to do business in any jurisdiction where it is not now so
qualified or to take any action which would subject it to general service of
process in any jurisdiction where it is not now so subject.
(g) The Company will, so long as required under the Rules and
Regulations, furnish to its shareholders within the time period set forth in
such Rules and Regulations an annual report (including a balance sheet and
statements of income, shareholders' equity and cash flow of the Company, if any,
certified by independent public accountants) and, as soon as practicable after
the end of each of the first three quarters of each fiscal year (beginning with
the fiscal quarter ending after the effective date of the Registration
Statement), consolidated summary financial information of the Company, if any,
for such quarter in reasonable detail.
(h) During the period of five years commencing on the
Effective Date, the Company will furnish to the Representatives and each other
Underwriter who may so request in writing copies of such financial statements
and other periodic and special reports as the Company may from time to time
distribute generally to the holders of any class of its capital stock, and will
furnish to the Representatives and each other Underwriter who may so request a
copy of each annual or other report it shall be required to file with the
Commission.
(i) The Company will make generally available to holders of
its securities as soon as may be practicable but in no event later than the last
day of the fifteenth full calendar month following the calendar quarter in which
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the Effective Date falls, an earnings statement (which need not be audited but
shall be in reasonable detail) for a period of 12 months ended commencing after
the Effective Date, and satisfying the provisions of Section 10(a) of the Act
(including Rule 158 of the Rules and Regulations).
(j) Whether or not the transactions contemplated by this
Agreement are consummated or this Agreement is terminated, the Company will pay
or reimburse if paid by the Representatives, all costs and expenses incident to
the performance of the obligations of the Company under this Agreement and in
connection with the transactions contemplated hereby, including but not limited
to costs and expenses of or relating to (i) the preparation, printing and filing
of the Registration Statement and exhibits to it, each preliminary prospectus,
Prospectus and any amendment or supplement to the Registration Statement or
Prospectus, (ii) the preparation and delivery of certificates representing the
Shares, (iii) the printing of this Agreement, the Agreement Among Underwriters,
any Selected Dealer Agreements, any Underwriters' Questionnaires, the
Shareholders' Agreements, any Underwriters' Powers of Attorney, and any
invitation letters to prospective Underwriters, (iv) furnishing (including costs
of shipping and mailing) such copies of the Registration Statement, the
Prospectus and any preliminary prospectus, and all amendments and supplements
thereto, as may be requested for use in connection with the offering and sale of
the Shares by the Underwriters or by dealers to whom Shares may be sold, (v) the
listing of the Shares on the NNM, (vi) any filings required to be made by the
Underwriters with the NASD, and the fees, disbursements and other charges of
counsel for the Underwriters in connection therewith, (vii) the registration or
qualification of the Shares for offer and sale under the securities or Blue Sky
laws of such jurisdictions designated pursuant to Section 4(f), including the
fees, disbursements and other charges of counsel to the Underwriters in
connection therewith, and the preparation and printing of preliminary,
supplemental and final Blue Sky memoranda, (viii) fees, disbursements and other
charges of counsel to the Company (but not those of counsel for the
Underwriters, except as otherwise provided in this Section 4(j)) and (ix) the
transfer agent for the Shares.
(k) The Company will not at any time, directly or indirectly,
take any action designed or which might reasonably be expected to cause or
result in, or which will constitute, stabilization of the price of the shares of
Common Stock to facilitate the sale or resale of any of the Shares.
(l) The Company will apply the net proceeds from the offering
and sale of the Shares to be sold by the Company in the manner set forth in the
Prospectus under "Use of Proceeds."
(m) During the period beginning from the date hereof and
continuing to and including the date 180 days after the date of the Prospectus,
without the prior written consent of Needham & Company, Inc., the Company will
not offer, sell, contract to sell, grant options to purchase or otherwise
dispose of any of the Company's equity securities of the Company or any other
securities convertible into or exchangeable with its Common Stock or other
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<PAGE>
equity security (other than pursuant to employee stock option plans or the
conversion of convertible securities or the exercise of warrants outstanding on
the date of this Agreement).
(n) During the period of 180 days after the date of the
Prospectus, the Company will not, without the prior written consent of Needham &
Company, Inc., grant options to purchase shares of Common Stock at a price less
than the initial public offering price. During the period of 180 days after the
date of the Prospectus, the Company will not file with the Commission or cause
to become effective any registration statement (other than on Form S-8) relating
to any securities of the Company without the prior written consent of Needham &
Company, Inc.
(o) The Company will cause each of its officers, directors and
certain shareholders designated by the Representatives to enter into lock-up
agreements with the Representatives to the effect that they will not, without
the prior written consent of Needham & Company, Inc., sell, contract to sell or
otherwise dispose of any shares of Common Stock or rights to acquire such shares
according to the terms set forth in Schedule II hereto.
5. Conditions of the Obligations of the Underwriters. The obligations
of each Underwriter hereunder are subject to the following conditions:
(a) Notification that the Registration Statement has become
effective shall be received by the Representatives not later than 5:00 p.m., New
York City time, on the date of this Agreement or at such later date and time as
shall be consented to in writing by the Representatives and all filings required
by Rule 424 and Rule 430A of the Rules and Regulations shall have been made.
(b) (i) No stop order suspending the effectiveness of the
Registration Statement shall have been issued and no proceedings for that
purpose shall be pending or threatened by the Commission, (ii) no order
suspending the effectiveness of the Registration Statement or the qualification
or registration of the Shares under the securities or Blue Sky laws of any
jurisdiction shall be in effect and no proceeding for such purpose shall be
pending before or threatened or contemplated by the Commission or the
authorities of any such jurisdiction, (iii) any request for additional
information on the part of the staff of the Commission or any such authorities
shall have been complied with to the satisfaction of the staff of the Commission
or such authorities and (iv) after the date hereof no amendment or supplement to
the Registration Statement or the Prospectus shall have been filed unless a copy
thereof was first submitted to the Representatives and the Representatives do
not object thereto in good faith, and the Representatives shall have received
certificates, dated the Closing Date and, if later, the Option Closing Date and
signed by the Chief Executive Officer and the Chief Financial Officer of the
Company (who may, as to proceedings threatened, rely upon the best of their
information and belief), to the effect of clauses (i), (ii) and (iii) of this
paragraph.
(c) Since the respective dates as of which information is
given in the Registration Statement and the Prospectus, (i) there shall not have
been a material adverse change in the general affairs, business, business
prospects, properties, management, condition (financial or otherwise) or results
of operations of the Company, whether or not arising from transactions in the
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ordinary course of business, in each case other than as described in or
contemplated by the Registration Statement and the Prospectus, and (ii) the
Company shall not have sustained any material loss or interference with its
business or properties from fire, explosion, flood or other casualty, whether or
not covered by insurance, or from any labor dispute or any court or legislative
or other governmental action, order or decree, which is not described in the
Registration Statement and the Prospectus, if in the judgment of the
Representatives any such development makes it impracticable or inadvisable to
consummate the sale and delivery of the Shares by the Underwriters at the
initial public offering price.
(d) Since the respective dates as of which information is
given in the Registration Statement and the Prospectus, there shall have been no
litigation or other proceeding instituted against the Company or any of its
officers or directors in their capacities as such, before or by any Federal,
state or local court, commission, regulatory body, administrative agency or
other governmental body, domestic or foreign, in which litigation or proceeding
an unfavorable ruling, decision or finding would, in the judgment of the
Representatives, materially and adversely affect the business, properties,
business prospects, condition (financial or otherwise) or results of operations
of the Company.
(e) Each of the representations and warranties of the Company
contained herein shall be true and correct in all material respects at the
Closing Date and, with respect to the Option Shares, at the Option Closing Date,
and all covenants and agreements contained herein to be performed on the part of
the Company and all conditions contained herein to be fulfilled or complied with
by the Company at or prior to the Closing Date and, with respect to the Option
Shares, at or prior to the Option Closing Date, shall have been duly performed,
fulfilled or complied with.
(f) The Representatives shall have received an opinion, dated
the Closing Date and, with respect to the Option Shares, the Option Closing
Date, satisfactory in form and substance to the Representatives and counsel for
the Underwriters from Pepper, Hamilton & Scheetz LLP, counsel to the Company,
with respect to the following matters:
(i) The Company is a corporation duly organized,
validly existing and in good standing under the laws of its jurisdiction of
incorporation; has full corporate power and authority to conduct all the
activities conducted by it, to own or lease all the assets owed or leased by it
and to conduct its business as described in the Registration Statement and
Prospectus; and is duly licensed or qualified to do business and is in good
standing as a foreign corporation in all jurisdictions in which the nature of
the activities conducted by it or the character of the assets owned or leased by
it makes such license or qualification necessary and where the failure to be
licensed or qualified would have a material and adverse effect on the business
or financial condition of the Company.
(ii) All of the outstanding shares of capital stock
of the Company have been duly authorized, validly issued and are fully paid and
nonassessable, to such counsel's knowledge, were issued pursuant to exemptions
from the registration and qualification requirements of federal securities laws,
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<PAGE>
and were not issued in violation of or subject to any statutory preemptive or
similar rights, or, to such counsel's knowledge, in violation of or subject to
any contractual preemptive or similar rights.
(iii) The specimen certificate evidencing the Common
Stock filed as an exhibit to the Registration Statement is in due and proper
form under Pennsylvania law, the Shares to be sold by the Company hereunder have
been duly authorized and, when issued and paid for as contemplated by this
Agreement, will be validly issued, fully paid and nonassessable; and no
statutory preemptive or similar rights, or, to such counsel's knowledge, no
contractual preemptive or similar rights, exist with respect to any of the
Shares or the issue and sale thereof.
(iv) To such counsel's knowledge, the Company does
not own or control, directly or indirectly, any shares of stock or any other
equity or long-term debt securities of any corporation or have any equity
interest in any corporation, firm, partnership, joint venture, association or
other entity.
(v) The authorized and outstanding capital stock of
the Company is as set forth in the Registration Statement and the Prospectus in
the column entitled "Actual" under the caption "Capitalization" (except for
subsequent issuances, if any, pursuant to this Agreement or pursuant to
reservations, agreements, employee benefit plans or the exercise of convertible
securities, options or warrants referred to in the Prospectus). To such
counsel's knowledge, except as disclosed in or specifically contemplated by the
Prospectus, there are no outstanding options, warrants of other rights calling
for the issuance of, and no commitments, plans or arrangements to issue, any
shares of capital stock of the Company or any security convertible into or
exchangeable or exercisable for capital stock of the Company. The description of
the capital stock of the Company in the Registration Statement and the
Prospectus conforms in all material respects to the terms thereof.
(vi) The Representatives' Warrants have been duly
authorized, executed and delivered by the Company and the Company has all
requisite corporate power and authority to execute the Representatives'
Warrants; the Representatives' Warrants are enforceable against the Company in
accordance with their terms; and the shares of Common Stock issuable upon the
exercise of the Representatives' Warrants have been duly authorized and reserved
for such issuance and, when issued in accordance with the terms of the
Representatives' Warrants, will be validly issued, fully paid and nonassessable
and free of any statutory preemptive or similar rights or, to such counsel's
knowledge, free of any contractual preemptive or similar rights.
(vii) To such counsel's knowledge, there are no legal
or governmental proceedings pending or threatened to which the Company is a
party or to which any of its respective properties is subject that are required
to be described in the Registration Statement or the Prospectus but are not so
described.
(viii) No consent, approval, authorization or order
of, or any filing or declaration with, any court or governmental agency or body
is required for the consummation by the Company of the transactions on its part
contemplated under this Agreement or the Representatives' Warrants, except such
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as have been obtained or made under the Act or the Rules and Regulations and
such as may be required under state securities or Blue Sky laws or the by-laws
and rules of the NASD in connection with the purchase and distribution by the
Underwriters of the Shares.
(ix) The Company has full corporate power and
authority to enter into this Agreement. This Agreement has been duly authorized,
executed and delivered by the Company.
(x) The execution and delivery of this Agreement and
the Representatives' Warrants, the compliance by the Company with all of the
terms hereof and thereof and the consummation of the transactions contemplated
hereby and thereby does not contravene any provision of applicable law or the
Certificate of Incorporation or By-Laws of the Company, and to the knowledge of
such counsel will not result in the creation or imposition of any lien, charge
or encumbrance upon any of the assets of the Company pursuant to the terms and
provisions of, result in a breach or violation of any of the terms or provisions
of, or constitute a default under, or give any party a right to terminate any of
its obligations under, or result in the acceleration of any obligation under,
any indenture, mortgage, deed of trust, voting trust agreement, loan agreement,
bond, debenture, note agreement or other evidence of indebtedness, lease,
contract or other agreement or instrument known to such counsel to which the
Company is a party or by which the Company or any of its properties is bound or
affected, or violate or conflict with (i) any judgment, ruling, decree or order
known to such counsel or (ii) any statute, rule or regulation of any court or
other governmental agency or body, applicable to the business or properties of
the Company.
(xi) To such counsel's knowledge, there is no
document or contract of a character required to be described in the Registration
Statement or the Prospectus or to be filed as an exhibit to the Registration
Statement which is not described or filed or incorporated by reference as
required, and each description of such contracts and documents that is contained
in the Registration Statement and Prospectus fairly presents in all material
respects the information required under the Act and the Rules and Regulations.
(xii) The statements under the captions "Risk Factors
- - Effect of Certain Provisions of the Company's Articles of Incorporation and
Pennsylvania Law," "Risk Factors - Effect of Shares Eligible for Future Sale on
Market Price," "Management - Stock Option Plans," "Management - Classified Board
of Directors", "Management - Simplified Employee Pension/401 Plan," "Management
- - Employment Arrangements," "Certain Transactions," "Description of Capital
Stock," and "Shares Eligible for Future Sale" in the Prospectus, insofar as the
statements constitute a summary of documents referred to therein or matters of
law, are accurate summaries in all material respects and fairly and correctly
present, in all material respects, the information called for with respect to
such documents and matters (provided, however, that such counsel may rely on
representations of the Company with respect to the factual matters contained in
such statements, and provided further that such counsel shall state that nothing
has come to the attention of such counsel which leads them to believe that such
representations are not true and correct in all material respects).
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(xiii) Assuming application of the proceeds as set
forth under the caption "Use of Proceeds" in the Prospectus, the Company is not
an "investment company" or an "affiliated person" of, or "promoter" or
"principal underwriter" for, an "investment company," as such terms are defined
in the Investment Company Act of 1940, as amended.
(xiv) To such counsel's knowledge, no holder of
securities of the Company has rights, which have not been waived or satisfied,
to require the Company to register with the Commission shares of Common Stock or
other securities, as part of the offering contemplated hereby.
(xv) Such counsel has been advised by the Division of
Corporate Finance of the Commission that the Registration Statement has become
effective under the Act, and to the knowledge of such counsel, no stop order
suspending the effectiveness of the Registration Statement has been issued and
no proceeding for that purpose has been instituted or is pending, threatened or
contemplated.
(xvi) The Registration Statement and the Prospectus
comply as to form in all material respects with the requirement of the Act and
the Rules and Regulations (other than the financial statements (including the
notes thereto), schedules and other financial or statistical data contained in
the Registration Statement or the Prospectus, as to which such counsel need
express no opinion).
Such counsel shall also confirm that such counsel has participated in
the preparation of the Registration Statement and Prospectus and has no reason
to believe that, as of the Effective Date the Registration Statement, or any
amendment or supplement thereto, (other than the financial statements, schedules
and other financial or statistical data contained or incorporated by reference
therein, as to which such counsel need express no opinion) contained any untrue
statement of a material fact or omitted to state a material fact required to be
stated therein or necessary to make the statements therein not misleading or
that the Prospectus, or any amendment or supplement thereto, as of its date and
the Closing Date and, if later, the Option Closing Date, contained or contains
any untrue statement of a material fact or omitted or omits to state a material
fact necessary to make the statements therein, in the light of the circumstances
under which they were made, not misleading (other than the financial statements,
schedules and other financial data contained or incorporated by reference
therein, as to which such counsel need express no opinion).
In rendering such opinion, such counsel may rely upon as to matters of
local law on opinions of counsel satisfactory in form and substance to the
Representatives and counsel for the Underwriters, provided that the opinion of
counsel to the Company shall state that they are doing so, that they have no
reason to believe that they and the Underwriters are not entitled to rely on
such opinions and that copies of such opinions are to be attached to the
opinion.
(g) The representatives shall have received an opinion, dated
the Closing Date and the Option Closing Date, from Saul, Ewing, Remick & Saul
LLP counsel to the Underwriters, with respect to the Registration Statement, the
Prospectus, or the Representatives' Warrants and this Agreement, which opinion
shall be reasonably satisfactory in all material respects to the
Representatives.
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<PAGE>
(h) Concurrently with the execution and delivery of this
Agreement, the Accountants shall have furnished to the Representatives a letter,
dated the date of its delivery, addressed to the Representatives and in form and
substance satisfactory to the Representatives, confirming that they are
independent accountants with respect to the Company as required by the Act and
the Rules and Regulations and with respect to certain financial and other
statistical and numerical information contained or incorporated by reference in
the Registration Statement. At the Closing Date and, as to the Option Shares,
the Option Closing Date, the Accountants shall have furnished to the
Representatives a letter, dated the date of its delivery, which shall confirm,
on the basis of a review in accordance with the procedures set forth in the
letter from the Accountants, that nothing has come to their attention during the
period from the date of the letter referred to in the prior sentence to a date
(specified in the letter) not more than five days prior to the Closing Date and
the Option Closing Date, as the case may be, which would require any change in
their letter dated the date hereof if it were required to be dated and delivered
at the Closing Date and the Option Closing Date.
(i) Concurrently with the execution and delivery of this
Agreement and at the Closing Date and, as to the Option Shares, the Option
Closing Date, there shall be furnished to the Representatives a certificate,
dated the date of its delivery, signed by each of the Chief Executive Officer
and the Chief Financial Officer of the Company, in form and substance
satisfactory to the Representatives, to the effect that:
(i) Each signer of such certificate, in his capacity
as the Chief Executive Officer or Chief Financial Officer of the Company, has
carefully examined the Registration Statement and the Prospectus and (A) as of
the date of such certificate, such documents are true and correct in all
material respects and do not omit to state a material fact required to be stated
therein or necessary in order to make the statements therein not untrue or
misleading and (B) in the case of the certificate delivered at the Closing Date
and the Option Closing Date, since the Effective Date no event has occurred as a
result of which it is necessary to amend or supplement the Prospectus in order
to make the statements therein not untrue or misleading.
(ii) Each of the representations and warranties of
the Company contained in this Agreement were, when originally made, and are, at
the time such certificate is delivered, true and correct.
(iii) Each of the covenants required to be performed
by the Company herein on or prior to the date of such certificate has been duly,
timely and fully performed and each condition herein required to be satisfied or
fulfilled on or prior to the date of such certificate has been duly, timely and
fully satisfied or fulfilled.
(j) The Company shall have furnished to the Representatives
such certificates, in addition to those specifically mentioned herein, as the
Representatives may have reasonably requested as to the accuracy and
completeness at the Closing Date and the Option Closing Date of any statement in
the Registration Statement or the Prospectus, as to the accuracy at the Closing
19
<PAGE>
Date and the Option Closing Date of the representations and warranties of the
Company herein, as to the performance by the Company of its and their respective
obligations hereunder, or as to the fulfillment of the conditions concurrent and
precedent to the obligations hereunder of the Representatives.
(k) The Representatives shall have received from the Company
the duly executed Representatives' Warrants.
(l) On or prior to the Closing Date, the Representatives shall
have received the executed agreements referred to in Section 4(o).
(m) The Shares shall be qualified for sale in such
jurisdictions as the Representatives may reasonably request and each such
qualification shall be in effect and not subject to any stop order or other
proceeding on the Closing Date or the Option Closing Date.
(n) Prior to the Closing Date, the Shares and the shares of
Common Stock issuable upon exercise of the Representatives' Warrants shall have
been duly authorized for listing on the NNM upon official notice of issuance.
6. Indemnification.
(a) The Company will indemnify and hold harmless each
Underwriter, the directors, officers, employees and agents of each Underwriter
and each person, if any, who controls each Underwriter within the meaning of
Section 15 of the Act or Section 20 of the Exchange Act, from and against any
and all losses, claims, liabilities, expenses and damages (including any and all
investigative, legal and other expenses reasonably incurred in connection with,
and any amount paid in settlement of, any action, suit or proceeding or any
claim asserted), to which they, or any of them, may become subject under the
Act, the Exchange Act or other Federal or state statutory law or regulation, at
common law or otherwise, insofar as such losses, claims, liabilities, expenses
or damages arise out of or are based on any untrue statement or alleged untrue
statement of a material fact contained in any preliminary prospectus, the
Registration Statement or the Prospectus or any amendment or supplement to the
Registration Statement or the Prospectus, or the omission or alleged omission to
state in such document a material fact required to be stated in it or necessary
to make the statements in it not misleading in the light of the circumstances in
which they were made, or arise out of or are based in whole or in part on any
inaccuracy in the representations and warranties of the Company contained herein
or any failure of the Company to perform its obligations hereunder or under law
in connection with the transactions contemplated hereby; provided, however, that
(i) the Company will not be liable to the extent that such loss, claim,
liability, expense or damage arises from the sale of the Shares in the public
offering to any person by an Underwriter and is based on an untrue statement or
omission or alleged untrue statement or omission made in reliance on and in
conformity with information relating to any Underwriter furnished in writing to
the Company by the Representatives, on behalf of any Underwriter, expressly for
inclusion in the Registration Statement, the preliminary prospectus or the
Prospectus; and (ii) the Company will not be liable to any Underwriter, the
directors, officers, employees or agents of such Underwriter or any person
controlling such
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<PAGE>
Underwriter with respect to any loss, claim, liability, expense, or damage
arising out of or based on any untrue statement or omission or alleged untrue
statement or omission or alleged omission to state a material fact in the
preliminary prospectus which is corrected in the Prospectus if the person
asserting any such loss, claim, liability, charge or damage purchased Shares
from such Underwriter but was not sent or given a copy of the Prospectus at or
prior to the written confirmation of the sale of such Shares to such person. The
Company acknowledges that the statements set forth under the heading
"Underwriting" in the preliminary prospectus and the Prospectus constitute the
only information relating to any Underwriter furnished in writing to the Company
by the Representatives on behalf of the Underwriters expressly for inclusion in
the Registration Statement, the preliminary prospectus or the Prospectus. This
indemnity agreement will be in addition to any liability that the Company might
otherwise have.
(b) Each Underwriter will indemnify and hold harmless the
Company, each director of the Company, each officer of the Company who signs the
Registration Statement, and each person, if any, who controls the Company within
the meaning of Section 15 of the Act or Section 20 of the Exchange Act, to the
same extent as the foregoing indemnity from the Company to each Underwriter, as
set forth in Section 6(a), but only insofar as losses, claims, liabilities,
expenses or damages arise out of or are based on any untrue statement or
omission or alleged untrue statement or omission made in reliance on and in
conformity with information relating to any Underwriter furnished in writing to
the Company by the Representatives, on behalf of such Underwriter, expressly for
use in the Registration Statement, the preliminary prospectus or the Prospectus.
The Company acknowledges that the statements set forth under the heading
"Underwriting" in the preliminary prospectus and the Prospectus constitute the
only information relating to any Underwriter furnished in writing to the Company
by the Representatives on behalf of the Underwriters expressly for inclusion in
the Registration Statement, the preliminary prospectus or the Prospectus. This
indemnity will be in addition to any liability that each Underwriter might
otherwise have.
(c) Any party that proposes to assert the right to be
indemnified under this Section 6 shall, promptly after receipt of notice of
commencement of any action against such party in respect of which a claim is to
be made against an indemnifying party or parties under this Section 6, notify
each such indemnifying party in writing of the commencement of such action,
enclosing with such notice a copy of all papers served, but the omission so to
notify such indemnifying party will not relieve it from any liability that it
may have to any indemnified party under the foregoing provisions of this Section
6 unless, and only to the extent that, such omission results in the loss of
substantive rights or defenses by the indemnifying party. If any such action is
brought against any indemnified party and it notifies the indemnifying party of
its commencement, the indemnifying party will be entitled to participate in and,
to the extent that it elects by delivering written notice to the indemnified
party promptly after receiving notice of the commencement of the action from the
indemnified party, jointly with any other indemnifying party similarly notified,
to assume the defense of the action, with counsel reasonably satisfactory to the
indemnified party. After notice from the indemnifying party to the indemnified
party of its election to assume the defense, the indemnifying party will not be
liable to the indemnified party for any legal or other expenses except as
provided below and except for the reasonable costs of investigation subsequently
21
<PAGE>
incurred by the indemnified party in connection with the defense. The
indemnified party will have the right to employ its own counsel in any such
action, but the fees, expenses and other charges of such counsel will be at the
expense of such indemnified party unless (i) the employment of counsel by the
indemnified party has been authorized in writing by the indemnifying party, (ii)
the indemnified party has reasonably concluded (based on advice of counsel) that
there may be legal defenses available to it or other indemnified parties that
are different from or in addition to those available to the indemnifying party,
(iii) a conflict or potential conflict exists (based on advice of counsel to the
indemnified party) between the indemnified party and the indemnifying party (in
which case the indemnifying party will not have the right to direct the defense
of such action on behalf of the indemnified party) or (iv) the indemnifying
party has not in fact employed counsel to assume the defense of such action
within a reasonable time after receiving notice of the commencement of the
action, in each of which cases the reasonable fees, disbursements and other
charges of counsel will be at the expense of the indemnifying party or parties.
It is understood that the indemnifying party or parties shall not, in connection
with any proceeding or related proceedings in the same jurisdiction, be liable
for the reasonable fees, disbursements and other charges of more than one
separate firm admitted to practice in such jurisdiction at any one time for all
such indemnified party or parties. All such fees, disbursements and other
charges will be reimbursed by the indemnifying party promptly as they are
incurred. Any indemnifying party will not be liable for any settlement of any
action or claim effected without its written consent (which consent will not be
unreasonably withheld).
(d) If the indemnification provided for in this Section 6 is
applicable in accordance with its terms but for any reason is held to be
unavailable to or insufficient to hold harmless an indemnified party under
paragraphs (a), (b) and (c) of this Section 6 in respect of any losses, claims,
liabilities, expenses and damages referred to therein, then each applicable
indemnifying party, in lieu of indemnifying such indemnified party, shall
contribute to the amount paid or payable (including any investigative, legal and
other expenses reasonably incurred in connection with, and any amount paid in
settlement of, any action, suit or proceeding or any claim asserted, but after
deducting any contribution received by the Company from persons other than the
Underwriters, such as persons who control the Company within the meaning of the
Act, officers of the Company who signed the Registration Statement and directors
of the Company, who also may be liable for contribution) by such indemnified
party as a result of such losses, claims, liabilities, expenses and damages in
such proportion as shall be appropriate to reflect the relative benefits
received by the Company, on the one hand, and the Underwriters, on the other
hand. The relative benefits received by the Company, on the one hand, and the
Underwriters, on the other hand, shall be deemed to be in the same proportion as
the total net proceeds from the offering (before deducting expenses) received by
the Company bear to the total underwriting discounts and commissions received by
the Underwriters, in each case as set forth in the table on the cover page of
the Prospectus. If, but only if, the allocation provided by the foregoing
sentence is not permitted by applicable law, the allocation of contribution
shall be made in such proportion as is appropriate to reflect not only the
relative benefits referred to in the foregoing sentence but also the relative
fault of the Company, on the one hand, and the Underwriters, on the other hand,
with respect to the statements or omissions which resulted in such loss, claim,
liability, expense or damage, or action in respect thereof, as well as any other
relevant equitable considerations with respect to such offering. Such relative
22
<PAGE>
fault shall be determined by reference to whether the untrue or alleged untrue
statement of a material fact or omission or alleged omission to state a material
fact relates to information supplied by the Company or the Representatives on
behalf of the Underwriters, the intent of the parties and their relative
knowledge, access to information and opportunity to correct or prevent such
statement or omission. The Company and the Underwriters agree that it would not
be just and equitable if contributions pursuant to this Section 6(d) were to be
determined by pro rata allocation (even if the Underwriters were treated as one
entity for such purpose) or by any other method of allocation which does not
take into account the equitable considerations referred to herein. The amount
paid or payable by an indemnified party as a result of the loss claim,
liability, expense or damage, or action in respect thereof, referred to above in
this Section 6(d) shall be deemed to include, for purposes of this Section 6(d),
any legal or other expenses reasonably incurred by such indemnified party in
connection with investigating or defending any such action or claim.
Notwithstanding the provisions of this Section 6(d), no Underwriter shall be
required to contribute any amount in excess of the underwriting discounts
received by it and no person found guilty of fraudulent misrepresentation
(within the meaning of Section 11(f) of the Act) will be entitled to
contribution from any person who was not guilty of such fraudulent
misrepresentation. The Underwriters' obligations to contribute as provided in
this Section 6(d) are several in proportion to their respective underwriting
obligations and not joint. For purposes of this Section 6(d), any person who
controls a party to this Agreement within the meaning of the Act will have the
same rights to contribution as that party, and each officer of the Company who
signed the Registration Statement will have the same rights to contribution as
the Company, subject in each case to the provisions hereof. Any party entitled
to contribution, promptly after receipt of notice of commencement of any action
against any such party in respect of which a claim for contribution may be made
under this Section 6(d), will notify any such party or parties from whom
contribution may be sought, but the omission so to notify will not relieve the
party or parties from whom contribution may be sought from any other obligation
it or they may have under this Section 6(d). No party will be liable for
contribution with respect to any action or claim settled without its written
consent (which consent will not be unreasonably withheld).
(e) The indemnity and contribution agreements contained in
this Section 6 and the representations and warranties of the Company contained
in this Agreement shall remain operative and in full force and effect regardless
of (i) any investigation made by or on behalf of the Underwriters, (ii)
acceptance of any of the Shares and payment therefor, or (iii) any termination
of this Agreement.
7. Reimbursement of Certain Expenses. In addition to its other
obligations under Section 6(a) of this Agreement, the Company hereby agrees to
reimburse on a quarterly basis the Underwriters for all reasonable legal and
other expenses incurred in connection with investigating or defending any claim,
action, investigation, inquiry or other proceeding arising out of or based upon,
in whole or in part, any statement or omission or alleged statement or omission,
or any inaccuracy in the representations and warranties of the Company contained
herein or failure of the Company to perform its obligations hereunder or under
law, all as described in Section 6(a), notwithstanding the absence of a judicial
determination as to the propriety and enforceability of
23
<PAGE>
the obligations under this Section 7 and the possibility that such payment might
later be held to be improper; provided, however, that, to the extent any such
payment is ultimately held to be improper, the persons receiving such payments
shall promptly refund them.
8. Termination. The obligations of the several Underwriters under this
Agreement may be terminated at any time on or prior to the Closing Date (or,
with respect to the Option Shares, on or prior to the Option Closing Date), by
notice to the Company from the Representatives, without liability on the part of
any Underwriter to the Company if, prior to delivery and payment for the Firm
Shares or Option Shares, as the case may be, in the sole judgment of the
Representatives, (i) trading in any of the equity securities of the Company
shall have been suspended by the Commission or by The Nasdaq Stock Market, (ii)
trading in securities generally on the New York Stock Exchange or The Nasdaq
Stock Market shall have been suspended or limited or minimum or maximum prices
shall have been generally established on such exchange, or additional material
governmental restrictions, not in force on the date of this Agreement, shall
have been imposed upon trading in securities generally by such exchange, by
order of the Commission, any court or other governmental authority or The Nasdaq
Stock Market, (iii) a general banking moratorium shall have been declared by
either Federal or New York State authorities, or (iv) any material adverse
change in the financial or securities markets in the United States or in
political, financial or economic conditions in the United States or any outbreak
or material escalation of hostilities or other calamity or crisis shall have
occurred, the effect of which is such as to make it, in the sole judgment of the
Representatives, impracticable or inadvisable to proceed with completion of the
public offering or the delivery of and payment for the Shares.
If this Agreement is terminated pursuant to this Section 8, the Company
shall not be under any liability to any Underwriter except as provided in
Sections 4(j), 6 and 7 hereof; but, if for any other reason the purchase of the
Shares by the Underwriters is not consummated or if for any reason the Company
shall be unable to perform its obligations hereunder, the Company will reimburse
the several Underwriters for all out-of-pocket expenses (including the fees,
disbursements and other charges of counsel to the Underwriters) incurred by them
in connection with the offering of the Shares.
9. Substitution of Underwriters. If any one or more of the Underwriters
shall fail or refuse to purchase any of the Firm Shares which it or they have
agreed to purchase hereunder, and the aggregate number of Firm Shares which such
defaulting Underwriter or Underwriters agreed but failed or refused to purchase
is not more than one-tenth of the aggregate number of Firm Shares, the other
Underwriters shall be obligated, severally, to purchase the Firm Shares which
such defaulting Underwriter or Underwriters agreed but failed or refused to
purchase, in the proportions which the number of Firm Shares which they have
respectively agreed to purchase pursuant to Section 1 bears to the aggregate
number of Firm Shares which all such non-defaulting Underwriters have so agreed
to purchase, or in such other proportions as the Representatives may specify;
provided that in no event shall the maximum number of Firm Shares which any
Underwriter has become obligated to purchase pursuant to Section 1 be increased
pursuant to this Section 9 by more than one-ninth of such number of Firm Shares
without the prior written consent of such Underwriter. If any Underwriter or
Underwriters shall fail or refuse to purchase any Firm Shares and the aggregate
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<PAGE>
number of Firm Shares which such defaulting Underwriter or Underwriters agreed
but failed or refused to purchase exceeds one-tenth of the aggregate number of
the Firm Shares and arrangements satisfactory to the Representatives and the
Company for the purchase of such Firm Shares are not made within 48 hours after
such default, this Agreement will terminate without liability on the part of any
non-defaulting Underwriter or the Company for the purchase or sale of any Shares
under this Agreement. In any such case either the Representatives or the Company
shall have the right to postpone the Closing Date, but in no event for longer
than seven days, in order that the required changes, if any, in the Registration
Statement and the Prospectus or in any other documents or arrangements may be
effected. Any action taken pursuant to this Section 9 shall not relieve any
defaulting Underwriter from liability in respect of any default of such
Underwriter under this Agreement.
10. Miscellaneous. Notice given pursuant to any of the provisions of
this Agreement shall be in writing and, unless otherwise specified, shall be
mailed or delivered (a) if to the Company, at the office of the Company, 119
Technology Drive, Bethlehem, Pennsylvania 18015, Attention: Thomas L. Hierl,
with a copy to Jeffrey P. Libson, Esq., 3000 Two Logan Square, Philadelphia,
Pennsylvania 19103, or (b) if to the Underwriters, to the Representatives at the
offices of Needham & Company, Inc., 445 Park Avenue, New York, New York 10022,
Attention: Corporate Finance Department, with a copy to Charles C. Zall, Esq.,
3800 Centre Square West, Philadelphia, Pennsylvania 19102. Any such notice shall
be effective only upon receipt. Any notice under such Section 8 or 9 may be made
by telex or telephone, but if so made shall be subsequently confirmed in
writing.
11. This Agreement has been and is made solely for the benefit of the
several Underwriters, the Company and the controlling persons, directors and
officers referred to in Section 6, and their respective successors and assigns,
and no other person shall acquire or have any right under or by virtue of this
Agreement. The term "successors and assigns" as used in this Agreement shall not
include a purchaser, as such purchaser, of Shares from any of the several
Underwriters.
12. Any action required or permitted to be made by the Representatives
under this Agreement may be taken by them jointly or by Needham & Company, Inc.
13. This Agreement shall be governed by and construed in accordance
with the laws of the State of New York applicable to contracts made and to be
performed entirely within such State.
14. This Agreement may be signed in two or more counterparts (including
by facsimile) with the same effect as if the signatures thereto and hereto were
upon the same instrument.
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15. In case any provision in this Agreement shall be invalid, illegal
or unenforceable, the validity, legality and enforceability of the remaining
provisions shall not in any way be affected or impaired thereby.
16. The Company and the Underwriters each hereby waive any right they
may have to a trial by jury in respect of any claim based upon or arising out of
this Agreement or the transactions contemplated hereby.
Please confirm that the foregoing correctly sets forth the agreement
among the Company and the several Underwriters.
Very truly yours,
QUANTUM EPITAXIAL DESIGNS, INC.
By:_____________________________________
Title:
Confirmed as of the date first above mentioned:
NEEDHAM & COMPANY, INC.
JANNEY MONTGOMERY SCOTT INC.
Acting on behalf of themselves and as the Representatives of the other
several Underwriters named in Schedule I hereto.
By: NEEDHAM & COMPANY, INC.
By: ___________________________________
Title:
26
<PAGE>
SCHEDULE I
UNDERWRITERS
Number of
Firm
Shares
Underwriters to be Purchased
- ------------ ---------------
Needham & Company, Inc.........................................
Janney Montgomery Scott Inc....................................
--------
Total............................................... 2,500,000
=========
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SCHEDULE II
FORM OF LOCK-UP AGREEMENT
The undersigned is a holder of securities of Quantum Epitaxial Designs,
Inc., a Pennsylvania corporation (the "Company"), and wishes to facilitate the
public offering of shares of the Common Stock (the "Common Stock") of the
Company (the "Offering"). The undersigned recognizes that such Offering will be
of benefit to the undersigned.
In consideration of the foregoing and in order to induce you to act as
underwriters in connection with the Offering, the undersigned hereby agrees that
he, she or it will not, without the prior written approval of Needham & Company,
Inc., acting on its own behalf and/or on behalf of other representatives of the
underwriters, directly or indirectly, sell, contract to sell, make any short
sale, or otherwise dispose of, or enter into any hedging transaction that is
likely to result in a transfer of, any shares of Common Stock, options to
acquire shares of Common Stock or securities exchangeable for or convertible
into shares of Common Stock of the Company which he, she or it may own, for a
period commencing as of the date hereof and ending on the date which is one
hundred eighty (180) days after the date of the final Prospectus relating to the
Offering; provided, however, that the foregoing shall not prohibit (i) any
transfer by a partnership to its partners, by a corporation to an affiliated
entity or by an individual to a trust for the benefit of his or her spouse,
descendants or heirs, or (ii) any pledge of any shares of Common Stock so long
as, in any such instance, such partners, affiliated entity, trustee or pledgee,
as the case may be, agrees to be bound by the terms of this Agreement. The
undersigned confirms that he, she or it understands that the underwriters and
the Company will rely upon the covenants set forth in this Agreement in
proceeding with the Offering. The undersigned further confirms that the
agreements of the undersigned are irrevocable and shall be binding upon the
undersigned's heirs, legal representatives, successors and assigns. The
undersigned agrees and consents to the entry of stop transfer instructions with
the Company's transfer agent against the transfer of securities held by the
undersigned except in compliance with this Agreement.
This Agreement shall be binding on the undersigned and his, her or its
respective successors, heirs, personal representatives and assigns.
______________________________________
Name:
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EXHIBIT A
FORM OF REPRESENTATIVES' WARRANTS
WARRANT
THIS WARRANT AND ANY SHARES ACQUIRED UPON THE EXERCISE OF THIS WARRANT HAVE NOT
BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "ACT"), OR ANY
STATE SECURITIES LAWS AND MAY NOT BE SOLD OR OTHERWISE TRANSFERRED EXCEPT
PURSUANT TO (1) AN EFFECTIVE REGISTRATION STATEMENT FILED UNDER SUCH ACT OR (2)
AN OPINION OF COUNSEL SATISFACTORY TO THE ISSUER THAT AN EXEMPTION FROM SUCH
REGISTRATION IS AVAILABLE.
VOID AFTER 5:00 P.M., NEW YORK TIME, ON ________, 2002, OR IF NOT A BUSINESS
DAY, AS DEFINED HEREIN, AT 5:00 P.M., NEW YORK TIME, ON THE NEXT FOLLOWING
BUSINESS DAY.
WARRANT TO PURCHASE
--------
SHARES OF COMMON STOCK
OF
QUANTUM EPITAXIAL DESIGNS, INC.
No. _
This certifies that, for and in consideration of services rendered and
in connection with the initial public offering of Common Stock of the Company
named below (the "Offering") and other good and valuable consideration, Needham
& Company, Inc., and its registered, permitted assigns (collectively, the
"Warrantholder"), is entitled to purchase from Quantum Epitaxial Designs, Inc.,
a corporation incorporated under the laws of the Commonwealth of Pennsylvania
(the "Company"), subject to the terms and conditions hereof, at any time on or
after 9:00 a.m., New York time, on __________________, 1998, and before 5:00
p.m., New York on __________________, 2002 (or, if such day is not a Business
Day, at or before 5:00 p.m., New York time, on the next following Business Day),
the number of fully paid and non-assessable shares of Common Stock of the
Company at the Exercise Price (as defined herein). The Exercise Price and the
number of shares purchasable hereunder are subject to adjustment from time to
time as provided in Article 3 hereof.
ARTICLE 1
1.1 Definition of Terms. As used in this Warrant, the following
capitalized terms shall have the following respective meanings:
(a) Business Day: A day other than a Saturday, Sunday or other
day on which banks in the State of New York are authorized by law to remain
closed.
(b) Common Stock: Common stock, $.001 par value, of the
Company.
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(c) Common Stock Equivalents: Securities that are convertible
into or exercisable for shares of Common Stock.
(d) Demand Registration: See Section 6.2.
(e) Exchange Act: The Securities Exchange Act of 1934, as
amended.
(f) Exercise Price: $____ per Warrant Share, as such price may
be adjusted from time to time pursuant to Article 3 hereof.
(g) Expiration Date: 5:00 p.m., New York time, on
_________________, 2002 or if such day is not a Business Day, the next
succeeding day which is a Business Day.
(h) 25% Holders: At any time as to which a Demand Registration
is requested, the Holder and/or the holders of any other Warrants and/or the
holders of Warrant Shares who have the right to acquire or hold, as the case may
be, not less than 25% of the combined total of Warrant Shares issuable and
Warrant Shares outstanding at the time such Demand Registration is requested.
(i) Holder: A Holder of Registrable Securities.
(j) NASD: National Association of Securities Dealers, Inc.
(k) Net Issuance Exercise Date: See Section 2.2.
(l) Net Issuance Right: See Section 2.3.
(m) Net Issuance Warrant Shares: See Section 2.3.
(n) Person: An individual, partnership, joint venture,
corporation, trust, unincorporated organization or government or any department
or agency thereof.
(o) Piggyback Registration: See Section 6.1.
(p) Prospectus: Any prospectus included in any Registration
Statement, as amended or supplemented by any prospectus supplement, with respect
to the terms of the offering of any portion of the Registrable Securities
covered by such Registration Statement and all other amendments and supplements
to the Prospectus, including post-effective amendments and all material
incorporated by reference in such Prospectus.
(q) Public Offering: A public offering of any of the Company's
equity or debt securities pursuant to a Registration Statement under the
Securities Act.
(r) Registration Expenses: Any and all expenses incurred in
connection with any registration or action incident to performance of or
compliance by the Company with Article 6, including, without limitation, (i) all
SEC, national securities exchange and NASD registration and filing fees; all
listing fees and all transfer agent fees; (ii) all fees and expenses of
complying with state securities or blue sky laws (including the fees and
disbursements of counsel of the underwriters in connection with blue sky
qualifications of the Registrable Securities); (iii) all printing, mailing,
messenger and delivery expenses, (iv) all fees and disbursements of counsel for
the Company and of its accountants, including the expenses of any special audits
and/or "cold comfort" letters required by or incident to such performance and
compliance, and (v) any disbursements of underwriters customarily paid by
issuers or sellers of securities including the reasonable fees and expenses of
any special experts retained in connection with the requested registration, but
excluding underwriting discounts and commissions, brokerage fees and transfer
taxes, if any, and fees of counsel or accountants retained by the holders of
Registrable Securities to advise them in their capacity as Holders of
Registrable Securities.
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(s) Registrable Securities: Any Warrant Shares issued to
Needham & Company, Inc., and/or its designees or permitted transferees and/or
other securities that may be or are issued by the Company upon exercise of this
Warrant, including those which may thereafter be issued by the Company in
respect of any such securities by means of any stock splits, stock dividends,
recapitalizations, reclassifications or the like, and as adjusted pursuant to
Article 3 hereof; provided, however, that as to any particular security
contained in Registrable Securities, such securities shall cease to be
Registrable Securities when (i) a Registration Statement with respect to the
sale of such securities shall have become effective under the Securities Act and
such securities shall have been disposed of in accordance with such Registration
Statement; or (ii) they shall have been sold to the public pursuant to Rule 144
(or any successor provision) under the Securities Act.
(t) Registration Statement: Any registration statement of the
Company filed or to be filed with the SEC which covers any of the Registrable
Securities pursuant to the provisions of this Agreement, including all
amendments (including post-effective amendments) and supplements thereto, all
exhibits thereto and all material incorporated therein by reference.
(u) SEC: The Securities and Exchange Commission or any other
federal agency at the time administering the Securities Act or the Exchange Act.
(v) Securities Act: The Securities Act of 1933, as amended.
(w) Warrants: This Warrant, all other warrants issued on the
date hereof and all other warrants that may be issued in its or their place
(together evidencing the right to purchase an aggregate of up to ______ shares
of Common Stock), originally issued as set forth in the definition of
Registrable Securities.
(x) Warrantholder: The person(s) or entity(ies) to whom this
Warrant is originally issued, or any successor in interest thereto, or any
assignee or transferee thereof, in whose name this Warrant is registered upon
the books to be maintained by the Company for that purpose.
(y) Warrant Shares: Common Stock, Common Stock Equivalents and
other securities purchased or purchasable upon exercise of the Warrants.
ARTICLE 2
DURATION AND EXERCISE OF WARRANT
2.1 Duration of Warrant. The Warrantholder may exercise this Warrant at
any time and from time to time after 9:00 a.m., New York time, on
______________, 1998 and before 5:00 p.m., New York time, on the Expiration
Date. If this Warrant is not exercised on the Expiration Date, it shall become
void, and all rights hereunder shall thereupon cease.
2.2 Method of Exercise.
(a) The Warrantholder may exercise this Warrant, in whole or
in part, by presentation and surrender of this Warrant to the Company at its
corporate office at ____________ or at the office of its stock transfer agent,
if any, with the Exercise Form annexed hereto duly executed and, in the event of
an exercise for cash pursuant to Section 2.3(a), accompanied by payment of the
full Exercise Price for each Warrant Share to be purchased.
(b) Upon receipt of this Warrant with the Exercise Form fully
executed and, in the event of an exercise for cash pursuant to Section 2.3(a),
accompanied by payment of the aggregate Exercise Price for the Warrant Shares
for which this Warrant is then being exercised, the Company shall cause to be
issued certificates for the total number of whole shares of Common Stock for
which this Warrant is being exercised (adjusted to reflect the effect of the
anti-dilution provisions contained in Article 3 hereof, if any, and as provided
in Section 2.4 hereof) in such denominations as are requested for delivery to
the Warrantholder, and the Company shall thereupon deliver such certificates to
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the Warrantholder. A net issuance exercise pursuant to Section 2.3(b) shall be
effective upon receipt by the Company of this Warrant together with the
aforesaid written statement, or on such later date as is specified therein (the
"Net Issuance Exercise Date"), and, at the election of the Holder hereof, may be
made contingent upon the closing of the sale of the Company's Common Stock in a
Public Offering. The Warrantholder shall be deemed to be the holder of record of
the shares of Common Stock issuable upon such exercise as of the time of receipt
of the Exercise Form and payment in accordance with the preceding sentence, in
the case of an exercise for cash pursuant to Section 2.3(a), or as of the Net
Issuance Exercise Date, in the case of a net issuance exercise pursuant to
Section 2.3(b), notwithstanding that the stock transfer books of the Company
shall then be closed or that certificates representing such shares of Common
Stock shall not then be actually delivered to the Warrantholder. If at the time
this Warrant is exercised, a Registration Statement is not in effect to register
under the Securities Act the Warrant Shares issuable upon exercise of this
Warrant, the Company may, in the case of an exercise for cash pursuant to
Section 2.3(a), require the Warrantholder to make such representations, and may
place such legends on certificates representing the Warrant Shares, as may be
reasonably required in the opinion of counsel to the Company to permit the
Warrant Shares to be issued without such registration.
(c) In case the Warrantholder shall exercise this Warrant with
respect to less than all of the Warrant Shares that may be purchased under this
Warrant, the Company shall execute as of the exercise date (or, if later, the
Net Issuance Exercise Date) a new warrant in the form of this Warrant for the
balance of such Warrant Shares and deliver such new warrant to the Warrantholder
within thirty (30) days following the exercise date (or, if later, the Net
Issuance Exercise Date).
(d) The Company shall pay any and all stock transfer and
similar taxes which may be payable in respect of the issuance of any Warrant
Shares.
2.3 Exercise of Warrant.
(a) Right to Exercise for Cash. This Warrant may be exercised
by the Holder by delivery of payment to the Company, for the account of the
Company, by cash or by certified or bank cashier's check, of the Exercise Price
for the number of Warrant Shares specified in the Exercise Form in lawful money
of the United States of America.
(b) Right to Exercise on a Net Issuance Basis. In lieu of
exercising this Warrant for cash pursuant to Section 2.3(a), the Holder shall
have the right to exercise this Warrant or any portion thereof (the "Net
Issuance Right") into shares of Common Stock as provided in this Section 2.3(b)
at any time or from time to time during the period specified in Section 2.1
hereof by the surrender of this Warrant to the Company, with a duly executed and
completed Exercise Form marked to reflect net issuance exercise. Upon exercise
of the Net Issuance Right with respect to a particular number of shares subject
to this Warrant and noted on the Exercise Form (the "Net Issuance Warrant
Shares"), the Company shall deliver to the Holder (without payment by the Holder
of any Exercise Price or any cash or other consideration) (X) that number of
shares of fully paid and nonassessable Common Stock equal to the quotient
obtained by dividing the value of this Warrant (or the specified portion hereof)
on the Net Issuance Exercise Date, which value shall be determined by
subtracting (A) the aggregate Exercise Price of the Net Issuance Warrant Shares
immediately prior to the exercise of the Net Issuance Right from (B) the
aggregate fair market value of the Net Issuance Warrant Shares issuable upon
exercise of this Warrant (or the specified portion hereof) on the Net Issuance
Exercise Date (as herein defined) by (Y) the fair market value of one share of
Common Stock on the Net Issuance Exercise Date (as herein defined).
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Expressed as a formula, such net issuance exercise shall be computed as
follows:
X = B - A
-------
Y
Where: X = the number of shares of Common Stock that
may be issued to the Holder
Y = the fair market value (FMV) of one share
of Common Stock as of the Net Issuance
Exercise Date
A = the aggregate Exercise Price (i.e., Net
Issuance Warrant Shares x Exercise
Price)
B = the aggregate FMV (i.e., FMV x Net Issuance
Warrant Shares)
(c) Determination of Fair Market Value. For purposes of this
Section 2.3, "fair market value" of a share of Common Stock as of the Net
Issuance Exercise Date shall mean:
(i) If the Net Issuance Right is exercised in
connection with and contingent upon a Public Offering of Common Stock, and if
the Company's Registration Statement relating to such Public Offering of Common
Stock has been declared effective by the SEC, then the initial "Price to Public"
specified in the final Prospectus with respect to such offering.
(ii) If the Net Issuance Right is not exercised in
connection with and contingent upon a Public Offering of Common Stock, then as
follows:
(A) If traded on a securities exchange, the
Nasdaq National Market, or The Nasdaq SmallCap Market, the fair market value of
the Common Stock shall be deemed to be the last reported sale price of the
Common Stock on such exchange or Market on the trading day immediately prior to
the Net Issuance Exercise Date;
(B) If traded over-the-counter other than on
the Nasdaq National Market or The Nasdaq SmallCap Market, the fair market value
of the Common Stock shall be deemed to be the average of the closing bid and ask
prices of the Common Stock on the trading day immediately prior to the Net
Issuance Exercise Date; and
(C) If there is no public market for the
Common Stock, then fair market value shall be determined by mutual agreement of
the Warrantholder and the Company, and if the Warrantholder and the Company are
unable to so agree, at the Company's sole expense, by an investment banker of
national reputation selected by the Company and reasonably acceptable to the
Warrantholder.
2.4 Reservation of Shares. The Company hereby agrees that at all times
there shall be reserved for issuance and delivery upon exercise of this Warrant
such number of shares of Common Stock or other shares of capital stock of the
Company from time to time issuable upon exercise of this Warrant. All such
shares shall be duly authorized, and when issued upon such exercise, shall be
validly issued, fully paid and non-assessable, free and clear of all liens,
security interests, charges and other encumbrances or restrictions on sale
(except as contemplated by Sections 2.2(b) and 5.2) and free and clear of all
preemptive rights.
2.5 Fractional Shares. The Company shall not be required to issue any
fraction of a share of its capital stock in connection with the exercise of this
Warrant, and in any case where the Warrantholder would, except for the
provisions of this Section 2.5, be entitled under the terms of this Warrant to
receive a fraction of a share upon the exercise of this Warrant, the Company
shall, upon the exercise of this Warrant, pay to the Warrantholder an amount in
cash equal to the fair market value of such fractional share as of the exercise
date (or, if applicable and a later date, the Net Issuance Exercise Date).
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2.6 Listing. Prior to the issuance of any shares of Common Stock upon
exercise of this Warrant, the Company shall secure the listing of such shares of
Common Stock upon each national securities exchange or automated quotation
system, if any, upon which shares of Common Stock are then listed (subject to
official notice of issuance upon exercise of this Warrant) and shall maintain,
so long as any other shares of Common Stock shall be so listed, such listing of
all shares of Common Stock from time to time issuable upon the exercise of this
Warrant; and the Company shall so list on each national securities exchange or
automated quotation system, and shall maintain such listing of, any other shares
of capital stock of the Company issuable upon the exercise of this Warrant if
and so long as any shares of the same class shall be listed on such national
securities exchange or automated quotation system.
ARTICLE 3
ADJUSTMENT OF SHARES OF COMMON STOCK
PURCHASABLE AND OF EXERCISE PRICE
The Exercise Price and the number and kind of Warrant Shares shall be
subject to adjustment from time to time upon the happening of certain events as
provided in this Article 3.
3.1 Mechanical Adjustments.
(a) If at any time prior to the exercise of this Warrant in
full, the Company shall (i) declare a dividend or make a distribution on the
Common Stock payable in shares of its capital stock (whether shares of Common
Stock or of capital stock of any other class); (ii) subdivide, reclassify or
recapitalize its outstanding Common Stock into a greater number of shares; (iii)
combine, reclassify or recapitalize its outstanding Common Stock into a smaller
number of shares, or (iv) issue any shares of its capital stock by
reclassification of its Common Stock (including any such reclassification in
connection with a consolidation or a merger in which the Company is the
continuing corporation), the number of Warrant Shares issuable upon exercise of
the Warrant and/or the Exercise Price in effect at the time of the record date
of such dividend, distribution, subdivision, combination, reclassification or
recapitalization shall be adjusted so that the Warrantholder shall be entitled
to receive the aggregate number and kind of shares which, if this Warrant had
been exercised in full immediately prior to such event, the Warrantholder would
have owned upon such exercise and been entitled to receive by virtue of such
dividend, distribution, subdivision, combination, reclassification or
recapitalization. Any adjustment required by this Section 3.1(a) shall be made
successively immediately after the record date, in the case of a dividend or
distribution, or the effective date, in the case of a subdivision, combination,
reclassification or recapitalization, to allow the purchase of such aggregate
number and kind of shares.
(b) If at any time prior to the exercise of this Warrant in
full, the Company shall fix a record date for the issuance or making of a
distribution to all holders of the Common Stock (including any such distribution
to be made in connection with a consolidation or merger in which the Company is
to be the continuing corporation) of evidences of its indebtedness, any other
securities of the Company or any cash, property or other assets (excluding a
combination, reclassification or recapitalization referred to in Section 3.1(a),
regular cash dividends or cash distributions paid out of net profits legally
available therefor and in the ordinary course of business or subscription
rights, options or warrants for Common Stock or Common Stock Equivalents (any
such nonexcluded event being herein called a "Special Dividend")), the Exercise
Price shall be decreased immediately after the record date for such Special
Dividend to a price determined by multiplying the Exercise Price then in effect
by a fraction, the numerator of which shall be the then current market price of
the Common Stock (as defined in Section 3.1(e)) on such record date less the
fair market value (as determined by the Company's Board of Directors) of the
evidences of indebtedness, securities or property, or other assets issued or
distributed in such Special Dividend applicable to one share of Common Stock or
of such subscription rights or warrants applicable to one share of Common Stock
and the denominator of which shall be such then current market price per share
of Common Stock (as so determined). Any adjustment required by this Section
3.1(b) shall be made successively whenever such a record date is fixed and in
the event that such distribution is not so made, the Exercise Price shall again
be adjusted to be the Exercise Price that was in effect immediately prior to
such record date.
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(c) If at any time prior to the exercise of this Warrant in
full, the Company shall make a distribution to all holders of the Common Stock
of stock of a subsidiary or securities convertible into or exercisable for such
stock, then in lieu of an adjustment in the Exercise Price or the number of
Warrant Shares purchasable upon the exercise of this Warrant, each
Warrantholder, upon the exercise hereof at any time after such distribution,
shall be entitled to receive from the Company, such subsidiary or both, as the
Company shall determine, the stock or other securities to which such
Warrantholder would have been entitled if such Warrantholder had exercised this
Warrant immediately prior thereto, all subject to further adjustment as provided
in this Article 3, and the Company shall reserve, for the life of the Warrant,
such securities of such subsidiary or other corporation; provided, however, that
no adjustment in respect of dividends or interest on such stock or other
securities shall be made during the term of this Warrant or upon its exercise.
(d) Whenever the Exercise Price payable upon exercise of each
Warrant is adjusted pursuant to either or both of paragraphs (a) and (b) of this
Section 3.1, the Warrant Shares shall simultaneously be adjusted by multiplying
the number of Warrant Shares initially issuable upon exercise of each Warrant by
the Exercise Price in effect on the date thereof and dividing the product so
obtained by the Exercise Price, as adjusted.
(e) For the purpose of any computation under this Section 3.1,
the current market price per share of Common Stock at any date shall be deemed
to be the average of the daily closing prices for 20 consecutive trading days
commencing 30 trading days before such date. The closing price for each day
shall be the last sale price regular way or, in case no such reported sales take
place on such day, the average of the last reported bid and asked prices regular
way, in either case on the principal national securities exchange on which the
Common Stock is admitted to trading or listed, or if not listed or admitted to
trading on such exchange, the representative closing bid price as reported by
Nasdaq, or other similar organization if Nasdaq is no longer reporting such
information, or if not so available, the fair market price as determined in good
faith by the Board of Directors of the Company.
(f) No adjustment in the Exercise Price shall be required
unless such adjustment would require an increase or decrease of at least five
cents ($.05) in such price; provided, however, that any adjustments which by
reason of this paragraph (f) are not required to be made shall be carried
forward and taken into account in any subsequent adjustment. All calculations
under this Section 3.1 shall be made to the nearest cent or to the nearest
one-hundredth of a share, as the case may be. Notwithstanding anything in this
Section 3.1 to the contrary, the Exercise Price shall not be reduced to less
than the then existing par value of the Common Stock as a result of any
adjustment made hereunder.
(g) In the event that at any time, as a result of any
adjustment made pursuant to Section 3.1(a), the Warrantholder thereafter shall
become entitled to receive any shares of the Company other than Common Stock,
thereafter the number of such other shares so receivable upon exercise of any
Warrant shall be subject to adjustment from time to time in a manner and on
terms as nearly equivalent as practicable to the provisions with respect to the
Common Stock contained in Section 3.1(a) or this Section 3.1(g).
3.2 Notices of Adjustment. Whenever the number of Warrant Shares or the
Exercise Period is adjusted as herein provided, the Company shall prepare and
deliver forthwith to the Warrantholder a certificate signed by its President,
and by any Vice President, Treasurer or Secretary, setting forth the adjusted
number of shares purchasable upon the exercise of this Warrant and the Exercise
Price of such shares after such adjustment, setting forth a brief statement of
the facts requiring such adjustment and setting forth the computation by which
adjustment was made.
3.3 No Adjustment for Dividends. Except as provided in Section 3.1 of
this Agreement, no adjustment in respect of any cash dividends shall be made
during the term of this Warrant or upon the exercise of this Warrant.
3.4 Preservation of Purchase Rights in Certain Transactions. In case of
any reclassification, capital reorganization or other change of outstanding
shares of Common Stock (other than a subdivision or combination of the
outstanding Common Stock and other than a change in the par value of the Common
Stock) or in case of any consolidation or merger of the Company with or into
another corporation (other than merger with a subsidiary in which the Company is
the continuing corporation and that does not result in any reclassification,
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capital reorganization or other change of outstanding shares of Common Stock of
the class issuable upon exercise of this Warrant) or in the case of any sale,
lease, transfer or conveyance to another corporation of the property and assets
of the Company as an entirety or substantially as an entirety, the Company may,
as a condition precedent to such transaction cause such successor or purchasing
corporation, as the case may be, to execute with the Warrantholder an agreement
granting the Warrantholder the right thereafter, upon payment of the Exercise
Price in effect immediately prior to such action, to receive upon exercise of
this Warrant the kind and amount of shares and other securities and property
which he would have owned or have been entitled to receive after the happening
of such reclassification, change, consolidation, merger, sale or conveyance had
this Warrant been exercised immediately prior to such action. In the event that
in connection with any such reclassification, capital reorganization, change,
consolidation, merger, sale or conveyance, additional shares of Common Stock
shall be issued in exchange, conversion, substitution or payment, in whole or in
part, for, or of, a security of Company other than Common Stock, any such issue
shall be treated as an issue of Common Stock covered by the provisions of
Article 3. The provisions of this Section 3.4 shall similarly apply to
successive reclassifications, capital reorganizations, consolidations, mergers,
sales or conveyances.
3.5 Form of Warrant After Adjustments. The form of this Warrant need
not be changed because of any adjustments in the Exercise Price or the number or
kind of the Warrant Shares, and Warrants theretofore or thereafter issued may
continue to express the same price and number and kind of shares as are stated
in this Warrant, as initially issued.
3.6 Treatment of Warrantholder. Prior to due presentment for
registration of transfer of this Warrant, the Company may deem and treat the
Warrantholder as the absolute owner of this Warrant (notwithstanding any
notation of ownership or other writing hereon) for all purposes and shall not be
affected by any notice to the contrary.
ARTICLE 4
OTHER PROVISIONS RELATING TO RIGHTS OF WARRANTHOLDER
4.1 No Rights as Shareholders; Notice to Warrantholders. Nothing
contained in this Warrant shall be construed as conferring upon the
Warrantholder or his or its transferees the right to vote or to receive
dividends or to consent or to receive notice as a shareholder in respect of any
meeting of shareholders for the election of directors of the Company or of any
other matter, or any rights whatsoever as shareholders of the Company. The
Company shall give notice to the Warrantholder by registered mail if at any time
prior to the expiration or exercise in full of the Warrants, any of the
following events shall occur:
(a) the Company shall authorize the payment of any dividend
payable in any securities upon shares of Common Stock or authorize the making of
any distribution (other than a cash dividend subject to the parenthetical set
forth in Section 3.1(b)) to all holders of Common Stock;
(b) the Company shall authorize the issuance to all holders of
Common Stock of any additional shares of Common Stock or Common Stock
Equivalents or of rights, options or warrants to subscribe for or purchase
Common Stock or Common Stock Equivalents or of any other subscription rights,
options or warrants;
(c) a dissolution, liquidation or winding up of the Company
shall be proposed; or
(d) a capital reorganization or reclassification of the Common
Stock (other than a subdivision or combination of the outstanding Common Stock
and other than a change in the par value of the Common Stock) or any
consolidation or merger of the Company with or into another corporation (other
than a consolidation or merger in which the Company is the continuing
corporation and that does not result in any reclassification or change of Common
Stock outstanding) or in the case of any sale or conveyance to another
corporation of the property of the Company as an entirety or substantially as an
entirety.
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Such giving of notice shall be initiated at least 10 Business
Days prior to the date fixed as a record date or effective date or the date of
closing of the Company's stock transfer books for the determination of the
shareholders entitled to such dividend, distribution or subscription rights, or
for the determination of the shareholders entitled to vote on such proposed
merger, consolidation, sale, conveyance, dissolution, liquidation or winding up.
Such notice shall specify such record date or the date of closing the stock
transfer books, as the case may be. Failure to provide such notice shall not
affect the validity of any action taken in connection with such dividend,
distribution or subscription rights, or proposed merger, consolidation, sale,
conveyance, dissolution, liquidation or winding up.
4.2 Lost, Stolen, Mutilated or Destroyed Warrants. If this Warrant is
lost, stolen, mutilated or destroyed, the Company may, on such terms as to
indemnity or otherwise as it may in its discretion impose (which shall, in the
case of a mutilated Warrant, include the surrender thereof), issue a new Warrant
of like denomination and tenor as, and in substitution for, this Warrant.
ARTICLE 5
SPLIT-UP, COMBINATION, EXCHANGE AND
TRANSFER OF WARRANTS AND WARRANT SHARES
5.1 Split-Up, Combination and Exchange of Warrants. This Warrant may be
split up, combined or exchanged for another Warrant or Warrants containing the
same terms to purchase a like aggregate number of Warrant Shares. If the
Warrantholder desires to split up, combine or exchange this Warrant, he or it
shall make such request in writing delivered to the Company and shall surrender
to the Company this Warrant and any other Warrants to be so split-up, combined
or exchanged. Upon any such surrender for a split-up, combination or exchange,
the Company shall, subject to compliance with federal and state securities laws,
execute and deliver to the person entitled thereto a Warrant or Warrants, as the
case may be, as so requested. The Company shall not be required to effect any
split-up, combination or exchange which will result in the issuance of a Warrant
entitling the Warrantholder to purchase upon exercise a fraction of a share of
Common Stock or a fractional Warrant. The Company may require such Warrantholder
to pay a sum sufficient to cover any tax or governmental charge that may be
imposed in connection with any split-up, combination or exchange of Warrants.
5.2 Restrictions on Transfer; Restrictive Legends.
(a) This Warrant may not be sold, transferred, assigned,
pledged or hypothecated by the Warrantholder, other than by operation of law or
by reason of the reorganization of the Company, for a period of one year
following the effective date of the Offering. Notwithstanding the foregoing
restricition on transfer, this Warrant may be transferred to any member
participating in the Offering and the officers or partners thereof provided that
this Warrant shall remain subject to the foregoing restriction thereafter.
(b) Except as otherwise permitted by this Section 5.2, each
stock certificate for Warrant Shares issued upon the exercise of any Warrant and
each stock certificate issued upon the direct or indirect transfer of any such
Warrant Shares shall be stamped or otherwise imprinted with a legend in
substantially the following form:
"THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN
REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "ACT"),
AND MAY NOT BE SOLD OR OTHERWISE TRANSFERRED EXCEPT PURSUANT TO (1) AN
EFFECTIVE REGISTRATION STATEMENT FILED UNDER THE ACT OR (2) AN OPINION
OF COUNSEL SATISFACTORY TO THE ISSUER THAT AN EXEMPTION FROM SUCH
REGISTRATION IS AVAILABLE."
Notwithstanding the foregoing, the Warrantholder may require the
Company to issue a Warrant or a stock certificate for Warrant Shares, in each
case without a legend, if (i) the issuance of such Warrant Shares has been
registered under the Securities Act, (ii) such Warrant or such Warrant Shares,
as the case may be, have been registered for resale under the Securities Act or
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sold pursuant to Rule 144 under the Securities Act (or a successor thereto) or
(iii) the Warrantholder has received an opinion of counsel (who may be house
counsel for such Warrantholder) reasonably satisfactory to the Company that such
registration is not required with respect to such Warrant or such Warrant
Shares, as the case may be.
ARTICLE 6
REGISTRATION UNDER THE SECURITIES ACT OF 1933
6.1 Piggyback Registration.
(a) Right to include Registrable Securities. If at any time or
from time to time prior to the second anniversary of the Expiration Date, the
Company proposes to register any of its securities under the Securities Act on
any form for the registration of securities under such Act, whether or not for
its own account (other than by a registration statement on Form S-8, Form S-4 or
other form which does not include substantially the same information as would be
required in a form for the general registration of securities or would not be
available for the Registrable Securities) (a "Piggyback Registration"), it shall
as expeditiously as possible give written notice to all Holders of its intention
to do so and of such Holders' rights under this Section 6.1. Such rights are
referred to hereinafter as "Piggyback Registration Rights." Upon the written
request of any such Holder made within 20 days after receipt of any such notice
(which request shall specify the Registrable Securities intended to be disposed
of by such Holder), the Company shall include in the Registration Statement the
Registrable Securities which the Company has been so requested to register by
the Holders thereof and the Company shall keep such registration statement in
effect and maintain compliance with each Federal and state law or regulation for
the period necessary for such Holder to effect the proposed sale or other
disposition (but in no event for a period greater than 120 days).
(b) Withdrawal of Piggyback Registration by Company. If, at
any time after giving written notice of its intention to register any securities
in a Piggyback Registration but prior to the effective date of the related
Registration Statement, the Company shall determine for any reason not to
register such securities, the Company shall give notice of such determination to
each Holder and, thereupon, shall be relieved of its obligation to register any
Registrable Securities in connection with such Piggyback Registration. All best
efforts obligations of the Company pursuant to Section 6.4 shall cease if the
Company determines to terminate prior to such effective date any registration
where Registrable Securities are being registered pursuant to this Section 6.1.
(c) Piggyback Registration of Underwritten Public Offerings.
If a Piggyback Registration involves an offering by or through underwriters,
then (i) all Holders requesting to have their Registrable securities included in
the Company's Registration Statement must sell their Registrable Securities to
the underwriters selected by the Company on the same terms and conditions as
apply to other Selling Shareholders and (ii) any Holder requesting to have his
or its Registrable Securities included in such Registration Statement may elect
in writing, not later than three Business Days prior to the effectiveness of the
Registration Statement filed in connection with such registration, not to have
his or its Registrable Securities so included in connection with such
registration.
(d) Payment of Registration Expenses for Piggyback
Registration. The Company shall pay all Registration Expenses in connection with
each registration of Registrable Securities requested pursuant to a Piggyback
Registration Right contained in this Section 6.1.
(e) Priority in Piggyback Registration. If a Piggyback
Registration involves an offering by or through underwriters, the Company,
except as otherwise provided herein, shall not be required to include
Registrable Shares therein if and to the extent the underwriter managing the
offering reasonably believes in good faith and advises each Holder requesting to
have Registrable Securities included in the company's Registration Statement
that such inclusion would materially adversely affect such offering; provided
that the Company will reduce or eliminate the number of shares proposed to be
included in such underwritten public offering (i) first, if other selling
shareholders who are employees, officers, directors or other affiliates of the
Company have requested registration of securities in the proposed offering, the
Company will reduce or eliminate such other selling shareholders' securities
before any reduction or elimination of Registrable Securities; (ii) second, pro
rata among all the holders of the securities of the Company exercising
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"Piggyback Registration Rights" similar to those set forth herein, other than
AMP Incorporated, NEPA Venture Fund, L.P., and James C.M. Hwang (the "Other
Shareholders"), in proportion to the respective number of shares they have
requested to be registered; and (iii) third, if necessary, pro rata among the
Holders of Registrable Securities and the Other Shareholders, in proportion to
the respective number of shares they have requested to be registered.
Notwithstanding the foregoing, in any event, within 60 days of the effective
date of the Registration Statement, the Company shall file such supplements and
post effective amendments or take such other action necessary under Federal and
state regulation as may be necessary to permit such Holders to include all of
the Registrable Securities requested to be registered by the Holders in the
offering for a period of 90 days following such period of delay.
6.2 Demand Registration.
(a) Request for Registration. If, at any time prior to the
Expiration Date, any 25% Holders request that the Company file a registration
statement under the Securities Act, as soon as practicable thereafter the
Company shall use its best efforts to file a registration statement with respect
to all Warrant Shares that it has been so requested to include and obtain the
effectiveness thereof, and to take all other action necessary under any Federal
or state law or regulation to permit the Warrant Shares that are held and/or
that may be acquired upon the exercise of the Warrants specified in the notices
of the Holders or holders hereof to be sold or otherwise disposed of, and the
Company shall maintain such compliance with each such Federal and state law and
regulation for the period necessary for such Holders or holders to effect the
proposed sale or other disposition; provided, however, the Company shall be
entitled to defer such registration for a period of up to 60 days if and to the
extent that its Board of Directors shall determine that such registration would
interfere with a pending corporate transaction. The Company shall also promptly
give written notice to the Holders and the holders of any other Warrants and/or
the holders of any Warrant Shares who or that have not made a request to the
Company pursuant to the provisions of this Section 6.2(a) of its intention to
effect any required registration or qualification, and shall use its best
efforts to effect as expeditiously as possible such registration or
qualification of all such other Warrant Shares that are then held and/or that
may be acquired upon the exercise of the Warrants, the Holder or holders of
which have requested such registration or qualification, within 15 days after
such notice has been given by the Company, as provided in the preceding
sentence. The Company shall be required to effect a registration or
qualification pursuant to this Section 6.2(a) on one occasion only.
(b) Payment of Registration Expenses for Demand Registration.
The Company shall pay all Registration Expenses in connection with the Demand
Registration.
(c) Selection of Underwriters. If any Demand Registration is
requested to be in the form of an underwritten offering, the managing
underwriter shall be Needham & Company, Inc. and the co-manager (if any) and the
independent pricer required under the rules of the NASD (if any) shall be
selected and obtained by the Holders of a majority of the Warrant Shares to be
registered. Such selection shall be subject to the company's consent, which
consent shall not be unreasonably withheld. All fees and expenses (other than
Registration Expenses otherwise required to be paid) of any managing
underwriter, any co-manager or any independent underwriter or other independent
pricer required under the rules of the NASD shall be paid for by such
underwriters or by the Holders or holders whose shares are being registered. If
Needham & Company, Inc. should decline to serve as managing underwriter, the
Holders of a majority of the Warrant Shares to be registered may select and
obtain one or more managing underwriters. Such selection shall be subject to the
Company's consent, which shall not be unreasonably withheld.
(d) Procedure for Requesting Demand Registration. Any request
for a Demand Registration shall specify the aggregate number of the Registrable
Securities proposed to be sold and the intended method of disposition. Within
ten (10) days after receipt of such a request the Company will give written
notice of such registration request to all Holders, and, subject to the
limitations of Section 6.2(b), the Company will include in such registration all
Registrable Securities with respect to which the Company has received written
requests for inclusion therein within 15 Business Days after the date on which
such notice is given. Each such request shall also specify the aggregate number
of Registrable Securities to be registered and the intended method of
disposition thereof.
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6.3 Buy-outs of Registration Demand. In lieu of carrying out its
obligations to effect a Piggyback Registration or Demand Registration of any
Registrable Securities pursuant to this Article 6, the Company may carry out
such obligation by offering to purchase and purchasing such Registrable
Securities requested to be registered at an amount in cash equal to the
difference between (a) 95% of the last sale price of the Common Stock on the day
the request for registration is made and (b) the Exercise Price in effect on
such day; provided, however, that the Holder or Holders may withdraw such
request for registration rather than accept such offer by the Company.
6.4 Registration Procedures. If and whenever the Company is required to
use its best efforts to take action pursuant to any Federal or state law or
regulation to permit the sale or other disposition of any Registrable Securities
that are then held or that may be acquired upon exercise of the Warrants in
order to effect or cause the registration of any Registrable Securities under
the Securities Act as provided in this Article 6, the Company shall, as
expeditiously as practicable:
(a) Prepare and file with the SEC, within ninety (90) days
after the end of the period within which requests for registration may be given
to the Company (but subject to the provision for deferral contained in Section
6.2(a) hereof) a Registration Statement or Registration Statements relating to
the registration on any appropriate form under the Securities Act, which form
shall be available for the sale of the Registrable Securities in accordance with
the intended method or methods of distribution thereof, subject to Section
6.1(e) hereof, and use its best efforts to cause such Registration Statements to
become effective; provided that before filing a Registration Statement or
Prospectus or any amendment or supplements thereto, including documents
incorporated by reference after the initial filing of any Registration
Statement, the Company will furnish to the Holders of the Registrable Securities
covered by such Registration Statement and the underwriters, if any, copies of
all such documents provided to be filed, which documents will be subject to the
review of such Holders and underwriters;
(b) prepare and file with the SEC such amendments and
post-effective amendments to a Registration Statement as may be necessary to
keep such Registration Statement effective for a reasonable period not to exceed
180 days; cause the related Prospectus to be supplemented by any required
Prospectus supplement, and as so supplemented to be filed pursuant to Rule 424
under the Securities Act; and comply in all material respects with the
provisions of the Securities Act with respect to the disposition of all
securities covered by such Registration Statement during such period in
accordance with the intended methods of disposition by the sellers thereof set
forth in such Registration Statement or supplement to such Prospectus;
(c) notify the selling Holders of Registrable Securities and
the managing underwriters, if any, promptly, and (if requested by any such
Person) confirm such advice in writing, (i) when a Prospectus or any Prospectus
supplement or post-effective amendment has been filed, and, with respect to a
Registration Statement or any post-effective amendment, when the same has become
effective; (ii) of any request by the SEC for amendments or supplements to a
Registration Statement or related Prospectus or for additional information;
(iii) of the issuance by the SEC of any stop order suspending the effectiveness
of a Registration Statement or the initiation of any proceedings for that
purpose; (iv) if at any time the representations and warranties of the Company
contemplated by paragraph (n) below ceases to be true and correct in all
material respects; (v) of the receipt by the Company of any notification with
respect to the suspension of the qualification of any of the Registrable
Securities for sale in any jurisdiction or the initiation or threatening of any
proceeding for such purpose, and (vi) of the happening of any event that makes
any statement of a material fact made in the Registration Statement, the
Prospectus or any document incorporated therein by reference untrue or which
requires the making of any changes in the Registration Statement or Prospectus
so that they will not contain any untrue statement of a material fact or omit to
state any material fact required to be stated therein or necessary to make the
statements therein not misleading;
(d) make every reasonable effort to obtain the withdrawal of
any order suspending the effectiveness of a Registration Statement at the
earliest possible moment;
(e) if reasonably requested by the managing underwriters,
immediately incorporate in a Prospectus supplement or post-effective amendment
such information as the managing underwriters believe (on advice of counsel)
should be included therein as required by applicable law relating to such sale
of Registrable Securities, including, without limitation, information with
respect to the purchase price being paid for the Registrable Securities by such
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underwriters and with respect to any other terms of the underwritten (or
"best-efforts" underwritten) offering; and make all required filings of such
Prospectus supplement or post-effective amendment as promptly as possible after
notification of the matters to be incorporated in such Prospectus supplement or
post-effective amendment;
(f) furnish to each selling Holder of Registrable Securities
and each managing underwriter, without charge, at least one signed copy of the
Registration Statement and any post-effective amendment thereto, including
financial statements and schedules, all documents incorporated therein by
reference and all exhibits (including those incorporated by reference);
(g) deliver to each selling Holder of Registrable Securities
and the underwriters, if any, without charge, as many copies of the Prospectus
or Prospectuses (including each preliminary Prospectus) any amendment or
supplement thereto as such Persons may reasonably request; the Company consents
to the use of such Prospectus or any amendment or supplement thereto by each of
the selling Holders of Registrable Securities and the underwriters, if any, in
connection with the offering and sale of the Registrable Securities covered by
such Prospectus or any Amendment or supplement thereto;
(h) prior to any public offering of Registrable Securities,
cooperate with the selling Holders of Registrable Securities, the underwriters,
if any, and their respective counsel in connection with the registration or
qualification of such Registrable Securities for offer and sale under the
securities or Blue Sky laws of such jurisdictions within the United States as
any selling Holder or underwriter reasonably requests in writing, keep each such
registration or qualification effective during the period such Registration
Statement is required to be kept effective and do any and all other acts or
things necessary or advisable to enable the disposition in such jurisdictions of
the Registrable Securities covered by the applicable Registration Statement;
provided that the Company will not be required to qualify to do business in any
jurisdiction where it is not then so qualified or to take any action which would
subject the Company to general service of process in any jurisdiction where it
is not at the time so subject;
(i) cooperate with the selling Holders of Registrable
Securities and the managing underwriters, if any, to facilitate the timely
preparation and delivery of certificates representing Registrable Securities to
be sold and not bearing any restrictive legends; and enable such Registrable
Securities to be in such denominations and registered in such names as the
managing underwriters may request at least two Business Days prior to any sale
of Registrable Securities to the underwriters;
(j) use its best efforts to cause the Registrable Securities
covered by the applicable Registration Statement to be registered with or
approved by such other governmental agencies or authorities within the United
States as may be necessary to enable the seller or sellers thereof or the
underwriters, if any, to consummate the disposition of such Registrable
Securities;
(k) upon the occurrence of any event contemplated by Section
6.4(c)(vi) above, prepare a supplement or post-effective amendment to the
applicable Registration Statement or related Prospectus or any document
incorporated therein by reference or file any other required document so that,
as thereafter delivered to the purchasers of the Registrable Securities being
sold thereunder, such Prospectus will not contain an untrue statement of a
material fact or omit to state any material fact necessary to make the
statements therein not misleading;
(l) with respect to each issue or class of Registrable
Securities, use its best efforts to cause all Registrable Securities covered by
the Registration Statements to be listed on each securities exchange, if any, on
which similar securities issued by the Company are then listed if requested by
the Holders of a majority of such issue or class of Registrable Securities;
(m) enter into such agreements (including an underwriting
agreement) and take all such other action reasonably required in connection
therewith in order to expedite or facilitate the disposition of such Registrable
Securities and in such connection, if the registration is in connection with an
underwritten offering (i) make such representations and warranties to the
underwriters, in such form, substance and scope as are customarily made by
issuers to underwriters in underwritten offering and confirm the same if and
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when requested; (ii) obtain opinions of counsel to the Company and updates
thereof (which counsel and opinions in form, scope and substance shall be
reasonably satisfactory to the underwriters) addressed to the underwriters
covering the matters customarily covered in opinions requested in underwritten
offerings and such other matters as may be reasonably requested by such
underwriters; (iii) obtain "cold comfort" letters and updates thereof from the
Company's accountants addressed to the underwriters, such letters to be in
customary form and covering matters of the type customarily covered in "cold
comfort" letters by underwriters in connection with underwritten offerings; (iv)
set forth in full in any underwriting agreement entered into the indemnification
provisions and procedures of Section 6.5 hereof with respect to all parties to
be indemnified pursuant to said Section; and (v) deliver such documents and
certificates as may be reasonably requested by the underwriters to evidence
compliance with clause (i) above and with any customary conditions contained in
the underwriting agreement or other agreement entered into by the Company; the
above shall be done at each closing under such underwriting or similar agreement
or as and to the extent required hereunder;
(n) make available for inspection by one or more
representatives of the Holders of Registrable Securities being sold, any
underwriter participating in any disposition pursuant to such registration, and
any attorney or accountant retained by such Holders or underwriter, all
financial and other records, pertinent corporate documents and properties of the
Company, and cause the Company's officers, directors and employees to supply all
information reasonably requested by any such representatives, in connection with
such; and
(o) otherwise use its best efforts to comply with all
applicable Federal and state regulations; and take such other action as may be
reasonably necessary to or advisable to enable each such Holder and each such
underwriter to consummate the sale or disposition in such jurisdiction or
jurisdiction in which any such Holder or underwriter shall have requested that
the Registrable Securities be sold.
Except as otherwise provided in this Agreement, the Company shall have
sole control in connection with the preparation, filing, withdrawal, amendment
or supplementing of each Registration Statement, the selection of underwriters,
and the distribution of any preliminary prospectus included in the Registration
Statement, and may include within the coverage thereof additional shares of
Common Stock or other securities for its own account or for the account of one
or more of its other security holders.
The Company may require each Seller of Registrable Securities as to
which any registration is being effected to furnish to the Company such
information regarding the distribution of such securities and such other
information as may otherwise be required by the Securities Act to be included in
such Registration Statement.
6.5 Indemnification.
(a) Indemnification by Company. In connection with each
Registration Statement relating to disposition of Registrable Securities, the
Company shall indemnify and hold harmless each Holder and each underwriter of
Registrable Securities and each Person, if any, who controls such Holder or
underwriter (within the meaning of Section 15 of the Securities Act or Section
20 of the Exchange Act) against any and all losses, claims, damages and
liabilities, joint or several (including any reasonable investigation, legal and
other expenses incurred in connection with, and any amount paid in settlement of
any action, suit or proceeding or any claim asserted), to which they, or any of
them, may become subject under the Securities Act, the Exchange Act or other
Federal or state law or regulation, at common law or otherwise, insofar as such
losses, claims, damages or liabilities arise out of or are based upon any untrue
statement or alleged untrue statement of a material fact contained in any
Registration Statement, Prospectus or preliminary prospectus or any amendment
thereof or supplement thereto, or arise out of or are based upon any omission or
alleged omission to state therein a material fact required to be stated therein
or necessary to make the statements therein not misleading; provided, however,
that such indemnity shall not inure to the benefit of any Holder or underwriter
(or any person controlling such Holder or underwriter within the meaning of
Section 15 of the Securities Act or Section 20 of the Exchange Act) on account
of any losses, claims, damages or liabilities arising from the sale of the
Registrable Securities if such untrue statement or omission or alleged untrue
statement or omission was made in such Registration Statement, Prospectus or
preliminary prospectus, or such amendment or supplement, in reliance upon and in
conformity with information furnished in writing to the Company by such Holder
or underwriter specifically for use therein. The Company shall also indemnify
selling brokers, dealer managers and similar securities industry professionals
participating in the distribution, their officers and directors and each Person
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who controls such Persons (within the meaning of Section 15 of the Securities
Act or Section 20 of the Exchange Act) to the same extent as provided above with
respect to the indemnification of the Holders of Registrable Securities, if
requested. This indemnity agreement shall be in addition to any liability which
the Company may otherwise have.
(b) Indemnification by Holder. In connection with each
Registration Statement, each Holder shall indemnify, to the same extent as the
indemnification provided by the Company in Section 6.5(a), the Company, its
directors and each officer who signs the Registration Statement and each Person
who controls the Company (within the meaning of Section 15 of the Securities Act
and Section 20 of the Exchange Act) but only insofar as such losses, claims,
damages and liabilities arise out of or are based upon any untrue statement or
omission or alleged untrue statement or omission which was made in the
Registration Statement, the Prospectus or preliminary prospectus or any
amendment thereof or supplement thereto, in reliance upon and in conformity with
information furnished in writing by such Holder to the Company specifically for
use therein. In no event shall the liability of any selling Holder of
Registrable Securities hereunder be greater in amount than the dollar amount of
the net proceeds received by such Holder upon the sale of the Registrable
Securities giving rise to such indemnification obligation. The Company shall be
entitled to receive indemnities from underwriters, selling brokers, dealer
managers and similar securities industry professionals participating in the
distribution, to the same extent as provided above, with respect to information
so furnished in writing by such Persons specifically for inclusion in any
Prospectus, Registration Statement or preliminary prospectus or any amendment
thereof or supplement thereto.
(c) Conduct of Indemnification Procedure. Any party that
proposes to assert the right to be indemnified hereunder will, promptly after
receipt of notice of commencement of any action, suit or proceeding against such
party in respect of which a claim is to be made against an indemnifying party or
parties under this Section, notify each such indemnifying party of the
commencement of such action, suit or proceeding, enclosing a copy of all papers
served. In case any such action, suit or proceeding shall be brought against any
indemnified party and it shall notify the indemnifying party of the commencement
thereof, the indemnifying party shall be entitled to participate in, and, to the
extent that it shall wish, jointly with any other indemnifying party similarly
notified, to assume the defense thereof, with counsel satisfactory to such
indemnified party, and after notice from the indemnifying party to such
indemnified party of its election so to assume the defense thereof and the
approval by the indemnified party of such counsel, the indemnifying party shall
not be liable to such indemnified party for any legal or other expenses, except
as provided below and except for the reasonable costs of investigation
subsequently incurred by such indemnified party in connection with the defense
thereof. The indemnified party shall have the right to employ its counsel in any
such action, but the fees and expenses of such counsel shall be at the expense
of such indemnified party unless (i) the employment of counsel by such
indemnified party has been authorized in writing by the indemnifying parties,
(ii) counsel to the indemnified party shall have reasonably concluded that there
may be a conflict of interest that has not been waived between the indemnifying
parties and the indemnified party in the conduct of the defense of such action
(in which case the indemnifying parties shall not have the right to direct the
defense of such action on behalf of the indemnified party) or (iii) the
indemnifying parties shall not have employed counsel to assume the defense of
such action within a reasonable time after notice of the commencement thereof,
in each of which cases the fees and expenses of counsel shall be at the expense
of the indemnifying parties. It is understood that the indemnifying party or
parties shall not, in conection with any proceeding or related proceedings in
the same jurisdiction, be liable for the reasonable fees, disbursements and
other charges of more than one separate firm admitted to practice in such
jurisdiction at any one time for all such indemnified party or parties. All such
fees, disbursements and other charges will be reimbursed by the indemnifying
party promptly as they are incurred. An indemnified party shall not be liable
for any settlement of any action, suit, proceeding or claim effected without its
written consent (which consent will not be unreasonably withheld).
(d) Contribution. In connection with each Registration
Statement relating to the disposition of Registrable Securities, if the
indemnification provided for in subsection a. hereof is unavailable to an
indemnified party thereunder in respect to any losses, claims, damages or
liabilities referred to therein, then the indemnifying party shall contribute to
the amount paid or payable by such indemnified party as a result of the losses,
claims, damages or liabilities referred to in paragraphs (a) or (b) of this
Section 6.5 in such proportion as is appropriate to reflect the relative fault
of the indemnifying party on the one hand and of the indemnified party on the
other in connection with the statements or omissions that resulted in such
losses, claims, damages or liabilities, or actions in respect thereof, as well
as any other relevant equitable considerations. Relative fault shall be
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determined by reference to, among other things, whether the untrue or alleged
untrue statement of a material fact or the omission or alleged omission to state
a material fact relates to information supplied by the indemnifying party or the
indemnified party and the parties' relative intent, knowledge, access to
information and opportunity to correct or prevent such untrue statement or
omission. The amount paid or payable by an indemnified party as a result of the
losses, claims, damages or liabilities (or actions in respect thereof) referred
to above in this paragraph (d) shall be deemed to include any legal or other
expenses reasonably incurred by such indemnified party in connection with
investigating or defending any such action or claim.
(e) Underwriting Agreement to Control. Notwithstanding the
foregoing provisions of this Section 6.5, the provisions on indemnification and
contribution contained in any underwriting agreement entered into in connection
with the underwritten public offering of the Registrable Securities shall
supersede and replace the foregoing provisions.
(f) Specific Performance. The Company and the Holder
acknowledge that remedies at law for the enforcement of this Section 6.5 may be
inadequate and intend that this Section 6.5 shall be specifically enforceable.
(g) Survival of Obligations. The obligations of the Company
and the Holder under this Section 6.5 shall survive the completion of any
offering of Registrable Securities pursuant to a Registration Statement under
this Article 6, and otherwise.
6.6 Reports Under Securities Exchange Act of 1934. With a view
to making available to the Holders the benefits of Rule 144 promulgated under
the Securities Act and any other rule or regulation of the SEC that may at any
time permit a Holder to sell securities of the Company to the public without
registration or pursuant to a registration on Form S-3, the Company agrees to:
(a) make and keep public information available, as those terms
are understood and defined in SEC Rule 144, at all times after 90 days after the
effective date of the first registration statement filed by the Company for the
offering of its securities to the general public;
(b) file with the SEC in a timely manner all reports and other
documents required of the Company under the Securities Act and the Exchange Act;
and
(c) furnish to any Holder, so long as the Holder owns any
Registrable Securities, forthwith upon request (i) a written statement by the
Company that it has complied with the reporting requirements of SEC Rule 144 (at
any time after 90 days after the effective date of the first registration
statement filed by the Company), the Securities Act and the Exchange Act (at any
time after it has become subject to such reporting requirements), or that it
qualifies as a registrant whose securities may be resold pursuant to Form S-3
(at any time after it so qualifies), (ii) a copy of the most recent annual or
quarterly report of the Company and such other reports and documents so filed by
the Company and (iii) such other information as may be reasonably requested in
availing any Holder of any rule or regulation of the SEC which permits the
selling of any such securities without registration or pursuant to such form.
ARTICLE 7
OTHER MATTERS
7.1 Binding Effects; Benefits. This Warrant shall inure to the benefit
of and shall be binding upon the Company and the Warrantholder and their
respective heirs, legal representatives, successors and permitted assigns.
Nothing in this Warrant, expressed or implied, is intended to or shall confer on
any person other than the Company and the Warrantholder, or their respective
heirs, legal representatives, successors or permitted assigns, any rights,
remedies, obligations or liabilities under or by reason of this Warrant.
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7.2 No Inconsistent Agreements. The Company will not on or after the
date of this Warrant enter into any agreement with respect to its securities
which is inconsistent with the rights granted to the Holders in this Warrant or
otherwise conflicts with the provisions hereof. The rights granted to the
Holders hereunder do not in any way conflict with and are not inconsistent with
the rights granted to holders of the Company's securities under any other
agreements.
7.3 Adjustments Affecting Registrable Securities. The Company will not
take any action outside the ordinary course of business, or permit any change
within its control to occur outside the ordinary course of business, with
respect to the Registrable Securities which is without a bona fide business
purpose, and which is intended to interfere with the ability of the Holders of
Registrable Securities to include such Registrable Securities in a registration
undertaken pursuant to this Agreement.
7.4 Integration/Entire Agreement. This Warrant is intended by the
parties as a final expression of their agreement and intended to be a complete
and exclusive statement of the agreement and understanding of the parties hereto
in respect of the subject matter contained herein. There are no restrictions,
promises, warranties or undertakings, other than those set forth or referred to
herein with respect to the registration rights granted by the Company with
respect to the Warrants. This Warrant supersedes all prior agreements and
understandings between the parties with respect to such subject matter (other
than warrants previously issued by the Company to the Warrantholder).
7.5 Amendments and Waivers. The provisions of this Warrant, including
the provisions of this sentence, may not be amended, modified or supplemented,
and waiver or consents to departures from the provisions hereof may not be given
unless the Company has obtained the written consent of holders of at least a
majority of the outstanding Registrable Securities. Holders shall be bound by
any consent authorized by this Section whether or not certificates representing
such Registrable Securities have been marked to indicate such consent.
7.6 Counterparts. This Warrant may be executed in any number of
counterparts and by the parties hereto in separate counterparts, each of which
so executed shall be deemed to be an original and all of which taken together
shall constitute one and the same agreement.
7.7 Governing Law. This Warrant shall be governed by and construed in
accordance with the laws of the Commonwealth of Pennsylvania.
7.8 Severability. In the event that any one or more of the provisions
contained herein, or the application thereof in any circumstances, is held
invalid, illegal or unenforceable, the validity, legality and enforceability of
any such provisions in every other respect and of the remaining provisions
contained herein shall not be affected or impaired thereby.
7.9 Attorneys' Fees. In any action or proceeding brought to enforce any
provisions of this Warrant, or where any provision hereof is validly asserted as
a defense, the successful party shall be entitled to recover reasonable
attorneys' fees and disbursements in addition to its costs and expenses and any
other available remedy.
7.10 Computations of Consent. Whenever the consent or approval of
Holders of a specified percentage of Registrable Securities is required
hereunder, Registrable Securities held by the Company or its affiliates (other
than the Warrantholder or subsequent Holders if they are deemed to be such
affiliates solely by reason of their holdings of such Registrable Securities)
shall not be counted in determining whether such consent or approval was given
by the Holders of such required percentage.
7.11 Notice. Any notices or certificates by the Company to the Holder
and by the Holder to the Company shall be deemed delivered if in writing and
delivered in person or by registered mail (return receipt requested) to the
Holder addressed to him in care of Needham & Company, Inc., 445 Park Avenue, New
York, New York 10022 or, if the Holder has designated, by notice in writing to
the Company, any other address, to such other address, and if to the Company,
addressed to it at: 119 Technology Drive, Bethlehem, PA 18015 or if the Company
has designated, by notice in writing to the Holder, any other address, to such
other address.
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The Company may change its address by written notice to the Holder and the
Holder may change its address by written notice to the Company.
IN WITNESS WHEREOF, this Warrant has been duly executed by the Company
under its corporate seal as of the ____ day of ___________________, 1997.
QUANTUM EPITAXIAL DESIGNS, INC.
By:___________________________________
Title:_________________________________
Attest:________________________________
Secretary
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EXERCISE FORM
(To be executed upon exercise of Warrant)
Quantum Epitaxial Designs, Inc.:
The undersigned hereby irrevocably elects to exercise the right,
represented by this Warrant, to purchase Warrant Shares and (check one):
___ herewith tenders payment for _______ of the Warrant Shares to
the order of Quantum Epitaxial Designs, Inc. in the amount of
$_________ in accordance with the terms of this Warrant; or
___ herewith tenders this Warrant for _______ Warrant Shares
pursuant to the net issuance exercise provisions of Section
2.3(b) of this Warrant.
Please issue a certificate or certificates for such Warrant Shares in
the name of, and pay any cash for any fractional share to:
Name _______________________________________________
_______________________________________________
_______________________________________________
_______________________________________________
(Please print Name, Address and Social Security No.)
Signature ______________________________________________
Note: The above signature should correspond exactly with
the name on the first page of this Warrant
Certificate or with the name of the assignee
appearing in the assignment form below.
If said number of shares shall not be all the shares purchasable under
the within Warrant Certificate, a new Warrant Certificate is to be issued in the
name of said undersigned for the balance remaining of the shares purchasable
thereunder.
A-19
<PAGE>
ASSIGNMENT
(To be executed only upon assignment of Warrant)
For value received, ______________________________ hereby sells,
assigns and transfers unto the Assignee(s) named below the rights represented by
such Warrant to purchase number of Warrant Shares listed opposite the respective
name(s) of the Assignee(s) named below and all other rights of the Warrantholder
under the within Warrant (including, without limitation, the registration rights
provided in Section 6 of the within Warrant), and does hereby irrevocably
constitute and appoint _____________________________ attorney, to transfer said
Warrant on the books of the within-named Company with respect to the number of
Warrant Shares set forth below, with full power of substitution in the premises:
Name(s) of
Assignee(s) Address No. of Warrant Shares
----------- ------- ---------------------
And if said number of Warrant Shares shall not be all the Warrant Shares
represented by the Warrant, a new Warrant is to be issued in the name of said
undersigned for the balance remaining of the Warrant Shares registered by said
Warrant.
Dated: __________, 19__ Signature ___________________________________________
Note: The above signature should correspond
exactly with the name on the face of this
Warrant
A-20
<PAGE>
November 20, 1997
Quantum Epitaxial Designs, Inc.
119 Technology Drive
Bethlehem, Pennsylvania 18015
Re: Registration Statement on Form S-1
(Registration No. 333-37457)
----------------------------------
Ladies and Gentlemen:
We have acted as special counsel to Quantum Epitaxial Designs,
Inc., a Pennsylvania corporation (the "Company"), in connection with the
registration under the Securities Act of 1933, as amended (the "Act"), of a
public offering (the "Offering") of (i) 2,500,000 shares ("Firm Shares") of the
Company's common stock, par value $0.001 per share ("Common Stock"), to be sold
by the Company, and (ii) up to 375,000 shares ("Option Shares," and together
with the Firm Shares, the "Shares") of Common Stock to be sold by the Company
pursuant to exercise of the over-allotment option granted to the underwriters
named in the Registration Statement on Form S-1 (Registration No. 333-37457)
filed with the Securities and Exchange Commission under the Act (together with
all amendments thereto, the "Registration Statement").
The opinion is delivered in accordance with the requirements
of Item 601(b)(5) of Regulation S-K under the Act.
We have examined originals or copies, certified or otherwise
identified to our satisfaction, of (i) the Registration Statement, (ii) the form
of underwriting agreement, filed as Exhibit 1.1 to Amendment No. 4 to the
Registration Statement (the "Underwriting Agreement"), to be entered into by and
among the Company, Needham & Company, Inc. and Janney Montgomery Scott Inc. (the
"Underwriters"), (iii) the Company's Articles of Incorporation and Bylaws, as in
effect on the date hereof; (iv) the form of the Company's Articles of
Incorporation and Bylaws, to become effective in connection with the
consummation of the Offering, (v) certain resolutions of the Board of Directors
of the Company relating to, among other things, the issuance of the Shares, (vi)
a specimen certificate representing shares of Common Stock, and (vii) such
other documents as we have deemed necessary or appropriate as a basis for the
opinions set forth below.
<PAGE>
In our examination, we have assumed the legal capacity of all
natural persons, the genuineness of all signatures, the authenticity of all
documents submitted to us as certified or photostatic copies and the
authenticity of the originals of such latter documents. As to factual matters,
we have relied upon statements and representations of officers and other
representatives of the Company and others. In addition, we have assumed the
conformity of the certificates representing the Shares to the form of the
specimen thereof examined by us and the due execution and delivery of such
certificates.
Members of our firm are admitted to the Bar of the
Commonwealth of Pennsylvania, and we express no opinion as to the laws of any
other jurisdiction other than the Federal laws of the United States of America.
Based upon and subject to the foregoing, we are of the opinion
that when the Shares are sold to and paid for by the Underwriters pursuant to
the terms of the Underwriting Agreement, the Shares will be duly authorized,
legally issued, fully paid and nonassessable.
We hereby consent to the filing of this opinion as an exhibit
to the Registration Statement and to the reference to this firm under the
caption "Legal Matters" in the prospectus filed as part of the Registration
Statement. In giving such consent, we do not thereby admit that we are in the
category of persons whose consent is required under Section 7 of the Act or the
Rules and Regulations promulgated thereunder.
This opinion is furnished by us, as your special counsel, in
connection with the filing of the Registration Statement and, except as provided
in the immediately preceding paragraph, is not to be used, circulated, quoted or
otherwise referred to for any other purpose without our express written
permission or relied upon by any other person.
Very truly yours,
PEPPER, HAMILTON & SCHEETZ LLP
<PAGE>
EXHIBIT 10.9
TAX AGREEMENT
THIS TAX AGREEMENT (the "Agreement") is made and entered into
as of the ___ day of November, 1997 by and among QUANTUM EPITAXIAL DESIGNS,
INC., a Pennsylvania corporation, and _____________________(the "Shareholder").
RECITALS
A. The Company filed an election on or about July 1, 1989, with the
Internal Revenue Service to be taxed as an "S" corporation (as defined in
Section 1361 of the Code) and, until the Termination Date (defined below), will
continue to be taxed as an S corporation.
B. The Company contemplates an initial public offering of its common
stock, $.001 par value per share ("Public Offering").
C. The Shareholder will continue to be a shareholder of the Company
until immediately before the consummation of the Public Offering.
D. The Company and the Shareholder wish to provide for a tax agreement
with respect to certain taxes (and related liabilities) which may be imposed
upon the Shareholder or the Company.
AGREEMENTS
In consideration of the recitals and the mutual agreements
which follow, and for other good and valuable consideration the receipt and
sufficiency of which are hereby acknowledged, the parties agree as follows:
1.1. Definitions. The following terms, as used herein have the
following meanings:
"C Corporation Period" means the period beginning on the
Termination Date.
"C Short Year" means that portion of the S Termination
year beginning on the Termination Date and ending on the last day of the S
Termination Year.
"Code" means the Internal Revenue Code of 1986, as
amended.
"Losses" means losses, liabilities, obligations, damages,
impositions, assessments, fines, deficiencies, costs and expenses, including,
without limitation, attorneys' and accountants' fees and expenses, with respect
to all federal and state income taxes of any kind whatsoever, including
interest, penalties and additions to taxes.
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<PAGE>
"Percentage Interest" means the percentage of the stock
of the Company owned by the Shareholder at the end of the S Corporation Period.
"S Corporation Period" means the period beginning on July
1, 1989 and ending at the close of business two days immediately preceding the
Termination Date.
"S Corporation Taxable Income" means the taxable income
of the Company from all sources during the S Corporation Period.
"S Short Year" means that portion of the S Termination
Year beginning on the first date of such taxable year and ending on the day
immediately preceding the Termination Date.
"S Termination Year" means the fiscal year of the Company
that includes the Termination Date.
"Taxing Authority" or "Taxing Authorities" means the
applicable federal and/or state taxing authority or authorities.
"Termination Date" mens the date on which the S
corporation status of the Company is terminated pursuant to Section 1362(d)(1)
of the Code.
ARTICLE 2
TAXES
2.1. Shareholder's Obligation to Use Reasonable Efforts to
Obtain Refund. The Shareholder covenants and agrees that if any Taxing Authority
determines that the Company owes additional tax as a result of: (a) any final
determination of an adjustment to the Company's tax liability (by reason of an
amended return, claim for refund, audit or otherwise) attributable to a shift in
items of income or gain from the Company's S Corporation Period to the Company's
C Corporation Period or a shift in items of loss, deduction or credit from the
Company's C Corporation Period to the Company's S Corporation Period which shift
results in a decrease in the income of the Shareholder, or (b) any final
determination that the Company was a C corporation at any time during the S
Corporation period, the Shareholder will use reasonable efforts to obtain a
refund of the taxes paid by the Shareholder attributable to the income of the
Company, plus interest thereon, and will pay such refund plus interest thereon
to the Company. Reasonable efforts shall include but not be limited to filing an
amended tax return, claim for refund, or other necessary documents. If the
Company, in its sole discretion, determines that the Shareholder has failed to
use reasonable efforts, the Shareholder shall permit the Company to pursue the
refund claim and shall cooperate and provide to the Company any items required
by the Company to pursue such claim. The Company will provided timely notice to
the Shareholder of such Taxing Authority's determination that would form the
basis of a refund claim. The Company shall reimburse the Shareholder for
reasonable attorneys' and accountants' expenses incurred in obtaining such
refund.
2
<PAGE>
2.2. Company's Obligation to Use Reasonable Efforts to Obtain
Refund; Company's Obligation to Pay Taxes. The Company covenants and agrees that
if any taxing authority determines that the Company owes less tax than the
amount originally reported by the Company as a result of any final determination
of an adjustment to the Company's tax liability (by reason of an amended return,
claim for refund, audit or otherwise) attributable to a shift in items of loss,
deduction or credit from the Company's S Corporation Period to the company's C
Corporation Period or a shift in items of income or gain from the Company's C
Corporation Period to the Company's S Corporation Period, the Company will use
reasonable efforts to obtain a refund of the taxes paid by the Company, plus
interest thereon, and will pay to the Shareholder the portion of such refund
plus interest thereon equal to the Shareholder's Percentage Interest in the
Company, but such payment shall not exceed the amount needed by the Shareholder
to pay any additional taxes, penalties and/or interest attributable to the
income of the Company imposed on the Shareholder for the Company's S Corporation
Period. If the refund is insufficient for the Shareholder to pay such additional
taxes, penalties and/or interest, the Company will pay or provide such
additional amount, including any amount attributable to any tax imposed on the
Shareholder on such additional amount. The Company shall reimburse the
Shareholder for reasonable attorneys' fees and accountants' expenses incurred in
connection with the payment of such additional taxes, penalties and/or interest.
2.3. Liability For Any Additional Taxes Attributable to C
Corporation Years Including C Short Year, and Additional Corporate Taxes for S
Corporation Year. The Company covenants and agrees that, to the extent that
additional taxes, penalties and/or interest are imposed on the Company, it shall
pay to the respective Taxing Authorities or otherwise satisfy any and all such
additional taxes, penalties and/or interest as may be attributable to taxable
income of the Company and which it is required to pay or satisfy relative to the
C Short Year, all taxable periods thereafter that are periods in which the
Company is a C corporation, and a final determination that the Company was a C
Corporation at any time during the S Corporation Period.
2.4. Payments. The Shareholder or the Company, as the case may
be, shall make any payment required under this Agreement in cash within thirty
(30) days after (a) in the case of a payment to a Taxing Authority, written
notice that the obligation to the appropriate Taxing Authority has either become
final or, notwithstanding the pendency or availability of any further tax
contest, must otherwise be paid; and (b) in the case of a payment to the other
party, within thirty (30) days of receipt of a refund that is required to be
paid to the other party or receipt of notice from the other party that a payment
is due.
2.5. Notices of Audits and Adjustments
(a) If the Shareholder receives notice of an intention by
a Taxing Authority to audit any return of the Shareholder that includes any item
of income, gain, deduction, loss or credit reported by the Company with respect
to the Company's S Corporation Period, the Shareholder shall inform the Company,
in writing, of the audit promptly after receipt of such notice. If the
Shareholder receives notice from a Taxing Authority of any proposed adjustment
for which the Company may be required to make a payment or reimburse the
Shareholder hereunder (a "Proposed Adjustment"), the Shareholder shall give
notice to the Company of the Proposed Adjustment promptly after receipt of such
notice from a Taxing Authority. A failure on the part of the Shareholder to
provide such notice to the Company on a timely basis shall not relieve the
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<PAGE>
Company of its obligations of payment or reimbursement under Section 2.2 unless
such failure materially prejudices the ability of the Company to cause the
Proposed Adjustment to be contested. Upon receipt of such notice from the
Shareholder, the Company may, by in turn giving prompt written notice to the
Shareholder, request that the Shareholder contest such Proposed Adjustment. If
the Company requests that any Proposed Adjustment be contested, then the
Shareholder shall, at the Company's request and expense, contest the Proposed
Adjustment or permit the Company and its representatives, at the Company's
request and expense, to contest the Proposed Adjustment (including pursuing all
administrative and judicial appeals and processes) or participate in such
proceedings. The Company shall pay to the Shareholder on demand all costs and
expenses (including reasonable attorneys' and accountants' fees) that the
Shareholder incurs in contesting such Proposed Adjustments at the Company's
request. The Shareholder shall not make, accept or enter into a settlement or
other compromise with respect to any taxes required to be paid or reimbursed by
the Company hereunder, or forego or terminate any proceeding undertaken
hereunder without the consent of the Company, which consent shall not be
unreasonably withheld.
(b) Nothing in Section 2.5 shall limit the Company's
obligation to make payment or reimbursement to the Shareholder pursuant to
Section 2.2 hereof if the Company decides not to contest or abandons its prior
decision to contest the Proposed Adjustment.
ARTICLE 3
MISCELLANEOUS
3.1. Counterparts. This Agreement may be executed in
counterparts, each of which shall be deemed an original, but all of which
together shall constitute one and the same agreement.
3.2. Benefit. Nothing herein expressed or implied is intended,
or shall be construed, to confer upon or give any person, firm or corporation,
other than the parties hereto or their respective successors and assigns, any
rights or remedies under or by reason of this Agreement.
3.3. Cost of Enforcement; Interest. If, within ten (10) days
after a demand to comply with the obligations of this Agreement is served in
writing on a party, compliance or reasonable assurance of compliance is not
forthcoming, and the requesting party engaged the services of an attorney to
enforce his or its rights under this Agreement, the prevailing party in any
action shall be entitled to recover from the other party or parties all
reasonable costs and expenses incurred by the prevailing party (including
reasonable legal fees and expenses, whenever incurred, whether before trial or
appellate proceeding, at trial, on appeal or otherwise).
3.4. Governing Law. This Agreement shall be governed by, and
construed and enforced in accordance with, the internal laws of the Commonwealth
of Pennsylvania.
3.5. Notices. All notice and other communications required or
permitted to be given hereunder shall be in writing and shall be deemed to have
been duly given when received, if personally delivered, when transmitted, if
transmitted by electronic fax, telecopy or similar electronic transmission
method, with receipt confirmed; the day after it is sent, if sent by
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<PAGE>
recognized expedited delivery service, and two days after it is sent, if mailed,
first class mail, postage prepaid. In each case notice shall be sent to the
parties at the address then listed on the Company's records, or to such other
address as any party shall have specified by notice in writing to the other
parties in accordance with this section.
3.6. Amendment and Modification. This Agreement may be
amended, modified or supplemented only by a written agreement executed by all of
the parties hereto.
3.7. Binding Effect. This Agreement and all of the provisions
hereof shall be binding upon, inure to the benefit of and be enforceable by and
against the parties hereto and their respective heirs, successors and permitted
assigns, but neither this Agreement nor any of the rights, interests or
obligations hereunder shall be assigned by any of the parties hereto without the
prior written consent of the other parties.
3.8. Interpretation. The title, article and section headings
contained in this Agreement are solely for the purpose of reference, are not
part of the Agreement and shall in no way affect the meaning or interpretation
of this Agreement.
3.9. Severability. If any one or more of the provisions of
this Agreement shall be held to be illegal, invalid or unenforceable in any
respect, the same shall not in any respect affect the validity, legality or
enforceability of the remainder of this Agreement, and the parties shall use
their best efforts to replace such illegal, invalid or enforceable provisions
with an enforceable provision approximating, to the extent possible, the
original intent of the parties.
3.10. Entire Agreement. This Agreement embodies the entire
agreement and understanding of the parties hereto with respect to the subject
matter contained herein and supersedes all prior agreements and the
understandings between the parties with respect to such subject matter.
3.11. Survival. The covenants and agreements of the parties
set forth in this Agreement shall survive indefinitely.
QUANTUM EPITAXIAL DESIGNS, INC.
By: ______________________________
Its __________________________
__________________________________
_____________________, Shareholder
5
