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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT
OF 1934. FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998.
OR
[] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934. FOR THE TRANSITION PERIOD FROM ________ TO _________.
COMMISSION FILE NUMBER 0-26944
SILICON STORAGE TECHNOLOGY, INC.
(Exact name of Registrant as specified in its charter)
CALIFORNIA 77-0225590
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1171 SONORA COURT, SUNNYVALE, CA 94086
(Address of principal executive offices) (Zip code)
Company's telephone number, including area code: (408) 735-9110
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Securities registered pursuant to Section 12(b) of the Act:
TITLE OF CLASS. NAME OF EACH EXCHANGE ON WHICH REGISTERED.
None. None.
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value.
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Indicate by check mark whether the Company (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Company was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No .
-- --
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Company's knowledge, in definitive proxy or information statement
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. Yes X No .
-- --
Aggregate market value of the voting stock held by non-affiliates of the Company
as of March 1, 1999: $82,761,225. based on the closing price of the Company's
Common Stock as reported on NASDAQ. Number of shares outstanding of the
Company's Common Stock, no par value, as of March 1, 1999: 23,231,221.
Documents incorporated by reference: Exhibits previously filed as noted on page
33. Index to Exhibits is on page 33.
Total number of pages in this Form 10-K is 59.
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SILICON STORAGE TECHNOLOGY, INC.
FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 1998
TABLE OF CONTENTS
<TABLE>
PART I
<S> <C>
Item 1. Business ........................................................... 3
Item 2. Properties ......................................................... 14
Item 3. Legal Proceedings .................................................. 15
Item 4. Submission of Matters to a Vote of Security Holders ................ 16
PART II
Item 5. Market for Registrant's Common Stock and Related Shareholder Matters 17
Item 6. Selected Consolidated Financial Data ............................... 17
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations .............................................. 18
Item 7A.Quantitative and Qualitative Disclosures about Market Risk .......... 25
Item 8. Consolidated Financial Statements and Supplementary Data ........... 25
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure ............................................... 26
PART III
Item 10. Directors and Executive Officers of the Company .................... 27
Item 11. Executive Compensation ............................................. 29
Item 12. Security Ownership of Certain Beneficial Owners and Management ..... 31
Item 13. Certain Relationships and Related Transactions ..................... 32
PART IV
Item 14. Exhibits, Financial Statement Schedule, and Reports on Form 8-K .... 33
Index to Exhibits .................................................................... 33
Signatures ........................................................................... 34
Index to Consolidated Financial Statements ........................................... 39
</TABLE>
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PART I
ITEM 1. BUSINESS
Silicon Storage Technology, Inc. ("SST" or the "Company") was
incorporated in California in 1989. The Company is a supplier of flash memory
devices, addressing the requirements of high volume applications. Currently, the
Company offers small sector, medium density devices ranging from 512Kbit to
4Mbit that target a broad range of existing and emerging applications in the
personal computer ("PC"), PC peripheral, communications, consumer and industrial
markets. The Company is developing higher density memory products to address
broader markets such as digital cameras, voice recorders, memory cards,
networking systems, digital cellular phones, telecommunications and printer font
storage. The Company is also entering the 8-bit flash microcontroller industry
segment with products to address the emerging application of in-system
programmable ("ISP") flash microcontrollers and has continued the expansion of
the Company's technology licensing strategy with respect to the Company's
technology for embedded applications. Silicon Storage Technology, Inc.,
SuperFlash and the SST logo are registered trademarks of the Company. MTP, MPF,
IAP, In-Application Programming, SoftLock and the FlashFlex51 are trademarks of
the Company. The Company's executive offices are located at 1171 Sonora Court,
Sunnyvale, California, 94086, and its telephone number is (408) 735-9110. Except
for the historical information contained herein, the following discussion
contains forward-looking statements that involve risks and uncertainties. The
Company's actual results could differ materially from those discussed here.
Factors that could cause or contribute to such differences include, but are not
limited to, those discussed in this section, as well as in the sections entitled
Risk Factors, Legal Proceedings, and Management's Discussion and Analysis of
Financial Condition and Results of Operations.
BACKGROUND
All of the Company's memory products are nonvolatile memory devices.
Nonvolatile memory represents a major class of the semiconductor memory
market. The nonvolatile memory market is experiencing significant growth and
facing new performance, reliability and cost requirements. Nonvolatile memory
devices are distinguished from volatile memory devices, such as static random
access memories ("SRAMs") and dynamic random access memories ("DRAMs"), by
their ability to retain data without a continuous supply of power. Virtually
all microprocessor and microcontroller based electronic systems require
nonvolatile memory to store "program code" consisting of a basic instruction
set critical to the operation of the system and information regarding the
system configuration.
Read-only memory ("ROM") devices, which are permanently encoded when
they are produced, were the earliest and most basic type of nonvolatile memory.
However, when program code had to be modified or changed, manufacturers needed
to order new ROM devices. Erasable Programmable ROMs ("EPROMs") were developed
in the early 1970s to enable system manufacturers to install or update program
code immediately prior to system assembly. Furthermore, EPROMs can be
reprogrammed by removing the device from the system, erasing the data through
exposure to ultraviolet light for approximately 30 minutes, reprogramming and
reinstalling the device in the system. Despite this rather costly and
time-consuming erasure procedure, EPROMs have achieved market acceptance in a
wide variety of applications.
Nevertheless, system manufacturers generally prefer nonvolatile memory
devices that can be reprogrammed efficiently in the system in order to achieve
several important advantages. With in-system reprogrammable devices,
manufacturers can more cost effectively change program codes in response to
faster product cycles and changing market specifications thereby simplifying
their inventory management and manufacturing process. With these devices,
systems can be easily customized for the end user's specific system
configuration, or remotely programmed and updated using a modem. In addition,
in-system reprogrammable devices can be used for data storage functions, such as
storage of phone numbers for speed dialing in a cellular phone. These market
opportunities were initially addressed by the advent of Electrically Erasable
PROMs ("EEPROMs") which could be electrically altered while remaining in the
system. However, EEPROMs have remained considerably more expensive than EPROMs
for a given amount of storage capacity ("density"). Flash memory was first
introduced in the late 1980s as an alternative solution to EPROMs and EEPROMs.
Flash memory devices are significantly less expensive than EEPROMs and can
electrically erase select blocks of data on the chip "in a flash." The flash
memory market has grown quickly as customers substitute flash memory for EPROMs
and the more expensive EEPROMs.
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PRODUCTS AND APPLICATIONS
The Company currently designs and markets a variety of flash memory
devices, higher density memory data storage products such as CompactFlash Cards,
and flash microcontrollers, all of which incorporate and are manufactured using
the Company's proprietary SuperFlash technology. The Company's products are
differentiated based upon certain attributes, such as density, voltage, access
speed, packaging and predicted endurance. The following tables set forth current
product families, products and applications.
<TABLE>
<CAPTION>
PAGE WRITE FLASH EEPROM
ACCESS INITIAL SHIP
DENSITY PRODUCT DESCRIPTION SPEED (ns) APPLICATION DATE
------- ------- ----------- ---------- ----------- ----
<S> <C> <C> <C> <C> <C>
512Kbit 29EE512 Page Mode, 5.0V 70, 90 CD-ROM Drive, Analog Cellular Phone, Network Card 4/95
29LE512 Page Mode, 3.0V 120, 150 Analog Cellular Phone, Graphics Card 3/96
29VE512 Page Mode, 2.7V 200, 250 Electronic Organizer/Data Bank 2/96
1Mbit 29EE010 Page Mode, 5.0V 90, 120 PC-BIOS, Hard Disk Drive, CD-ROM Drive, 6/93
Analog Cellular Phone, Modem, Set-top Box
Point of Sale Terminal
29LE010 Page Mode, 3.0V 150, 200 Wireless Modem, Analog Cellular Phone, Video Game 6/95
29VE010 Page Mode, 2.7V 200, 250 Electronic Organizer/Data Bank, DECT Phone 9/95
2Mbit 29EE020 Page Mode, 5.0V 120, 150 PC-BIOS, Telecom 10/96
29LE020 Page Mode, 3.0V 200, 250 BIOS for Notebook PC, Telecom 4/97
29VE020 Page Mode, 2.7V 200, 250 Electronic Organizer/Data Bank, Pager, DECT Phone 4/97
<CAPTION>
SECTOR ERASE BYTE PROGRAM EEPROM
ACCESS INITIAL SHIP
DENSITY PRODUCT DESCRIPTION SPEED (ns) APPLICATION DATE
------- ------- ----------- ---------- ----------- ----
<S> <C> <C> <C> <C> <C>
4Mbit 28SF040 Byte-Write, 5.0V 120, 150 Point of Sale Terminal, Video Game, Industrial 11/94
Control
Printer
28LF040 Byte-Write, 3.0V 200, 250 Video Games 10/95
28VF040 Byte-Write, 2.7V 200, 250 Data Bank, Organizer, Digital Cellular Phone, 10/96
Pager
<CAPTION>
MULTI-PURPOSE FLASH (MPF)
ACCESS INITIAL SHIP
DENSITY PRODUCT DESCRIPTION SPEED (ns) APPLICATION DATE
------- ------- ----------- ---------- ----------- ----
<S> <C> <C> <C> <C> <C>
2Mbit 39SF020 MPF, 5.0V 70, 90 Modem, PC-BIOS 9/98
<CAPTION>
MANY-TIME PROGRAMMABLE (MTP)
ACCESS INITIAL SHIP
DENSITY PRODUCT DESCRIPTION SPEED (ns) APPLICATION DATE
------- ------- ----------- ---------- ----------- ----
<S> <C> <C> <C> <C> <C>
1Mbit 27SF010 MTP, 5.0V 70, 90 Printer, Copier 7/98
<CAPTION>
COMPACTFLASH PRODUCT FAMILY
ACCESS INITIAL SHIP
DENSITY PRODUCT DESCRIPTION SPEED (ns) APPLICATION DATE
------- ------- ----------- ---------- ----------- ----
<S> <C> <C> <C> <C> <C>
4Mbyte 48CF004 CompactFlash Card Reset to ready: 50 Digital cameras, PDAs 11/98
8Mbyte 48CF008 CompactFlash Card Reset to ready: 50 Digital cameras, PDAs 11/98
12Mbyte 48CF012 CompactFlash Card Reset to ready: 50 Digital cameras, PDAs 11/98
16Mbyte 48CF016 CompactFlash Card Reset to ready: 50 Digital cameras, PDAs 12/98
24Mbyte 48CF024 CompactFlash Card Reset to ready: 50 Digital cameras, PDAs 12/98
4
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<CAPTION>
FLASHFLEX51 PRODUCT FAMILY
ACCESS INITIAL SHIP
DENSITY PRODUCT DESCRIPTION SPEED (ns) APPLICATION DATE
------- ------- ----------- ---------- ----------- ----
<S> <C> <C> <C> <C> <C>
20KB/256B 89C54 8-bit 12 MHz @ 3V VCD Player, PC Peripherals, Instrumentation, 11/98
Microcontroller Medical
36KB/256B 89C58 8-bit 12 MHz @ 5V VCD Player, PC Peripherals, Instrumentation, 11/98
Microcontroller Medical
</TABLE>
During 1998, substantially all of the Company's product revenues were
derived from sales of the Company's small sector flash memory product lines,
specifically from the Page Write Flash products and the Sector Erase/Byte
Program Flash products. The largest applications of the Company's products are
for PC peripheral applications and PC-BIOS storage by PC motherboard
manufacturers. These products also address applications for communications
devices and consumer electronics products such as video games, modems and
set-top boxes.
During 1998, the Company introduced two alternative flash families, the
Multi-Purpose Flash ("MPF") product family and Many-Time Programmable ("MTP")
product family. The purpose of these new families of products is to provide more
complete coverage of application requirements. MPF is a cost-effective flash
that addresses mainstream flash applications that require ISP. MTP devices
provide a low cost flash solution by eliminating much of the peripheral
circuitry of the existing high-functionality SuperFlash products while retaining
the benefits of the SuperFlash core - high reliability, faster write
performance, geometric scalability, and a low-cost manufacturing process. These
products address EPROM and the low end of the flash market that does not require
ISP. Initial shipments from both new product families were made to customers
during the third quarter of 1998. Although the Company is encouraged by the
initial acceptance of these products, there can be no assurance that sales
volumes of these products will grow above their current levels.
The CompactFlash Card product family was introduced during 1998 and
features a series of five cards of differing densities. The Company's
CompactFlash Card products leverage the Company's patented ATA controller
technology and flash memory design expertise to offer favorable read/write data
transfer rates to the flash memory, which allows significant speed advantages
for CompactFlash Card users for applications such as digital cameras. Initial
shipments were made to customers during the fourth quarter of 1998. Although the
Company is encouraged by the initial acceptance of these products, there can be
no assurance that sales volumes of these products will grow above their current
levels.
SST's 8-bit flash microcontroller product family is called the
FlashFlex51 family and features products which are software and pin compatible
with the industry standard 8051 microcontroller family with embedded proprietary
high-performance CMOS SuperFlash memory. The product has a dual bank program
memory organization to support concurrent flash read and write operations using
In-Application Programming ("IAP") and contains SoftLock, security features to
allow IAP while preventing software piracy. Initial shipments were made to
customers during the fourth quarter of 1998. Although the Company is encouraged
by the initial acceptance of these products, there can be no assurance that
sales of these products will grow above their current levels.
The Company is in the process of developing more MPF and MTP
derivative memory products with different densities and maintaining the
voltage requirement of either the 5.0V or 2.7V. The Company also continues to
develop new products in its CompactFlash and FlashFlex51 product families. In
addition, the Company is developing other memory products in different
industry segments, such as combination memory (for example: flash with SRAM
or E(2)PROM on a monolithic chip) and other data storage products. However,
there can be no assurance that such products will be successfully developed,
that the Company can anticipate future market demands or that the products it
develops will meet future market needs. A decline in market demand for the
Company's SuperFlash standard small sector products may adversely affect the
Company's operating results. The risk associated with the Company's present
revenue reliance on its small sector SuperFlash products is heightened by the
concentration of product sales in the PC motherboard, CD-ROM drive and video
game industry markets. A decline in demand in the PC, PC peripheral or
consumer industries could have a material adverse effect on the Company's
operating results and financial condition.
SALES AND DISTRIBUTION
The Company's products are commodity products, and sales are highly
dependent on the overall strength and sales of the PC, PC peripheral product and
consumer electronic industries. A reduction in activity in one of these
industries could have an adverse impact on the Company's product revenues and
overall earnings. In 1998, the
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semiconductor memory industry experienced significant declines in average
selling prices for all memory products, including flash memory. Such
significant price declines have impacted gross margins in 1998 and, should
they continue, will impact gross margins in 1999 and beyond.
Most of the Company's sales are made to customers in Asia for use in
PCs, PC peripherals and consumer electronics. The Company primarily sells to
customers in Asia through manufacturers' representatives. The Company sells and
distributes its products in North America and Europe through a sales
organization supported primarily by manufacturers' representatives and
distributors. These manufacturers' representatives and distributors could
discontinue selling the Company's products at any time. Two of the Company's
manufacturers' representatives accounted for 28% of product revenues during
1998. The loss of any of these manufacturers' representatives or any other
significant manufacturers' representative or distributor could have an adverse
effect on the Company's operating results and financial condition.
During 1998, one customer, Silicon Technology Company, Ltd., in which
the Company holds a 14% equity investment, accounted for 15% of the Company's
net revenues. International product and license revenues represented
approximately 86% or $80.3 million, 87% or $65.3 and 93% or $64.3 million of the
Company's net revenues during fiscal 1996, 1997 and 1998, respectively. Most of
the Company's international revenues during 1996 through 1998 have been earned
on shipments to Asian manufacturers in the personal computer industry. These
customers include Acer, Actron Technology Co., Ltd., First International
Computer, Giga-Byte Technology Corporation, Asustek Computer Corporation,
Adaptec, Group Sense, Silicon Technology Company, Ltd., Compal Electronics,
Grand Wide Technology Limited, STD Manufacturing Ltd., Serial Systems and
Quantum Designs. The Company's products are also being used in CD-ROM drives,
DVD players, hard disk drives, video games, and portable electronic devices
manufactured by Sony Corporation, Hitachi Corporation, Matsushita Electronics
Industries, Toshiba Corporation, TEAC AMERICA, INC., NEC, and InterAct
Accessories, Inc.
Due to its level of international sales, the Company is subject to the
risks of conducting business internationally. These risks include unexpected
changes in regulatory requirements, delays resulting from difficulty in
obtaining export licenses of certain technology, tariffs and other barriers and
restrictions, and the burdens of complying with a variety of foreign laws. The
Company is also subject to general geopolitical risks in connection with its
international operations, such as political and economic instability and changes
in diplomatic and trade relationships. During 1997 and 1998, currency
depreciation and economic deflation was experienced in several Asian economies
in which the Company does business, such as Japan, Korea, and Taiwan. During
1998, the Company derived 82% of its sales revenue from the Far East. Economic
problems in this region can have an adverse impact on the Company's total
revenues and can negatively impact the Company's ability to collect payments
from these customers. Furthermore, the lack of capital in the financial sectors
of these countries may impact the customers' ability to open letters of credit
or other financial instruments that are guaranteed by foreign banks.
Additionally, the Company's major wafer suppliers, assembly and packaging
subcontractors are located in the Far East. Major disruptions in their
businesses due to these economic problems can have an adverse impact on their
business that, in turn, may negatively impact their ability to adequately supply
the Company. Finally, the current economic situation in the Far East has
impaired the Company's ability to compete on the basis of price. This situation
has exacerbated the current decline in the average selling prices for the
Company's products as the Company's competitors reduce product prices to
generate needed cash. Continued economic and/or political instability of any
kind in this region may continue to have a material adverse effect on the
Company's operating results due to the anticipated concentration of the
Company's activities in this region for the foreseeable future. In addition,
because the Company's international sales are denominated in U.S. dollars,
fluctuations in the exchange rate of currencies may increase the price in local
currencies of the Company's products in foreign markets and make the Company's
products relatively more expensive when compared to competitors' products that
are denominated in local currencies. The Company has experienced, and may
continue to experience, material adverse effects on its operations as a result
of such regulatory, geopolitical and other factors. These events may adversely
impact the Company's operations or may require the Company to modify its current
business practices.
MANUFACTURING
The Company subcontracts to semiconductor manufacturing foundries. As
of December 31, 1998, the Company's major wafer fabrication foundries were Sanyo
Electric Co. Ltd. ("Sanyo") and Taiwan Semiconductor Manufacturing Co. Ltd.
("TSMC"). In the past, the Company was not always able to procure sufficient
wafers from its current wafer fabrication foundries to meet all of the demand
and experienced difficulties in meeting scheduled shipments to its
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customers. There can be no assurance that such a situation, which resulted in
allocating available products among its customers, may not recur again in the
future.
In order to obtain, on an ongoing basis, an adequate supply of wafers,
especially for future products fabricated using advanced processing
technologies, the Company has considered and will continue to consider various
possible options, including equity investments in foundries in exchange for
guaranteed production volumes, the formation of joint ventures to own and
operate foundries and/or the licensing of its proprietary technology. There can
be no assurance that the Company's current foundries, together with any
additional foundries whose capacities might be obtained, will be willing or able
to satisfy all of the Company's requirements on a timely basis at competitive
prices.
In 1997, the Company entered into an agreement with TSMC. Under the
agreement, TSMC licenses the Company's technology to manufacture wafers, pays a
royalty on wafers manufactured using the Company's technology, and grants the
Company favorable considerations for wafer pricing and capacity allocation. The
Company has agreed to provide TSMC with the information necessary to establish
the Company's technology in TSMC's foundry. Full production began in the third
quarter of 1997. No royalty revenue was received from TSMC in 1998. There can be
no assurance that TSMC will be able to attain volume production in a timely
fashion or that TSMC will allocate sufficient production capacity to the Company
to satisfy the Company's wafer requirements.
The Company purchases wafers from Sanyo under a manufacturing agreement
that expires in the year 2009. In addition, the Company has an arrangement with
Sanyo to cost-share changes in the exchange rate fluctuations of the Japanese
yen to the U.S. dollar. The arrangement can have a favorable or an unfavorable
impact on the Company's cost of revenues for certain standard memory products
depending on the exchange rate fluctuations of the Japanese yen to the U.S.
dollar. During 1998, receipts and payments under this arrangement were not
significant. In the past, the Company also purchased wafers from Winbond
Electronics of Taiwan ("Winbond") under a licensing agreement that expires in
the year 2008. During 1997 and 1998, no wafers were purchased from Winbond.
However, royalty revenue was received from Winbond. At the current time, the
Company has terminated the agreement and is suing Winbond for breach of
contract. A counter-suit has been filed by Winbond with regard to the same
matter. Refer the Legal Proceedings section for specific information on the
Winbond litigation.
In 1996, the Company entered into an agreement with Seiko Epson
Corporation ("Seiko Epson") whereby Seiko Epson paid the Company an upfront
license fee, agreed to pay the Company a royalty on wafers manufactured using
the Company's technology other than those wafers produced for sale to the
Company and to provide the Company with a monthly minimum quantity of wafers
which increases over time. The Company has granted Seiko Epson a license to use
certain of the Company's technology to manufacture wafers and to provide Seiko
Epson with the information necessary to establish the Company's technology in
Seiko Epson's foundry. In 1997, the Company entered into an agreement with Seiko
Epson, which extended the technology license coverage and provided the Company
with increased capacity for the production of products using 0.33 - 0.35 micron
technology. In the past, the Company has encountered delays in the qualification
process and production ramp-up at other facilities, and there can be no
assurance that the Company will not experience future delays in the
qualification or production ramp-up of this facility. Royalty revenue was
received from Seiko Epson in 1998 relating to Seiko's use of the Company's
technology, however, the amount was not significant in relation to the overall
financial position of the Company.
In 1998, the Company entered into an agreement with Samsung
Semiconductor Corporation ("Samsung"), whereby Samsung paid the Company an
up-front license fee in 1998, agreed to pay a royalty on sales of products using
the Company's technology, and also agreed to provide minimum wafer foundry
capacity. In the past, the Company has encountered delays in the qualification
process and production ramp-up at other facilities, and there can be no
assurance that the Company will not experience future delays in the
qualification or production ramp-up of this facility. The Company granted
Samsung a license to use certain of the Company's technology for its embedded
ASIC and microcontroller products. In addition, the two companies will
collaborate on CompactFlash Card products. No royalty revenue was received from
Samsung in 1998.
In 1998, wafer sort was performed at Sanyo and TSMC. The Company may
add additional wafer sort capacity at the foundries; however, there can be no
assurance that the Company will not experience delays in the qualification or
production ramp-up of such facilities. In the assembly process, the silicon
wafers are separated into individual die that are assembled into PDIP, PLCC or
TSOP packages. Following assembly, the packaged devices require testing and
finishing to segregate conforming from nonconforming devices and to identify
devices by performance levels. Currently, all devices
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are tested and inspected pursuant to the Company's quality assurance program
at the Company's test facilities in Sunnyvale, California or at other
domestic or international subcontracted facilities. Finishing operations are
performed at the Company's facility in Sunnyvale, California or at other
domestic or international subcontracted facilities before shipment to
customers. During 1998, in order to reduce costs, the Company focused on
consolidating assembly/packaging, test and finishing operations at one
location. The three facilities currently performing these consolidated
operations are Lingsen in Taiwan, Anam in Korea and Gateway Electronics in
the Philippines. For newly released products, most of the test and finishing
activities are performed at the Company's facility in Sunnyvale, California.
In the event of a rapid growth in demand for the Company's products, there is
no assurance that the Company will be able to procure a sufficient supply of
packages to satisfy its customers from its package assembly foundries or that
it will not experience delays in the production ramp-up of future facilities.
While the timeliness, yield, quality and reliability of wafers and
packaged devices delivered from the Company's foundries have been acceptable to
date, there can be no assurance that problems will not occur in the future. Any
significant disruption in adequate supplies from foundries, subcontractors, or
the Company's own test facilities could delay shipment and result in loss of
customers, limitations, or reductions in the Company's revenues, and other
adverse effects on the Company's operating results.
To date the Company has not found it necessary to seek ISO-9000
certification. If in the future the Company's customers were to require such
certification, the Company would be required to spend significant time and
resources implementing the systems and controls necessary to obtain
certification. There can be no assurance that the Company would be able to
achieve such certification.
The Company maintains an information system for monitoring
work-in-process inventory and various quality parameters. The information system
maintains both forward and backward traceability for each wafer lot through
test, finish, and inspection. Records are maintained in order to maximize
yields, evaluate foundry performance, diagnose potential problems, and monitor
and improve product and process quality. As the Company expands its products and
markets, there is no assurance that the Company's current information system
will be adequate for its future needs.
RESEARCH AND DEVELOPMENT
During 1996, 1997 and 1998, the Company spent $6.9 million, $8.7
million and $14.5 million, respectively, on research and development. The
Company is developing 16Mbit and higher density products with applications for
networking systems, cellular telephones, printer font storage, digital cameras,
voice recorders, and memory cards. The Company is also developing flash
microcontroller products to address the emerging applications of ISP flash
microcontrollers and has continued the expansion of the Company's technology
licensing strategy with respect to the Company's technology for embedded
applications. In addition the Company is developing a new 0.25 micron process
for these high density products. The markets for the Company's products are
characterized by rapidly changing technology, product obsolescence, and the
frequent introduction of new products. There can be no assurance that the
Company can anticipate future market demands or that the products it develops
will meet future market needs.
The Company's ability to succeed depends upon its ability to develop
new products for markets with which the Company has limited or no experience.
There can be no assurance that the Company will be able to identify new product
opportunities, much less that the Company will be able to develop and market new
products successfully. The Company competes with other technology companies for
qualified engineers for the development of new products. There is no guarantee
that the Company can hire or retain qualified engineers. Delays in developing
new products or achieving volume production of new products could have a
material adverse effect on the Company's operations and financial condition. In
addition, there can be no assurance that such products, even if introduced, will
gain market acceptance or that the Company will be able to respond effectively
to new technological changes or new product announcements by others.
From time to time the Company invests in, jointly develops with or
licenses or acquires technology from other companies in the course of developing
products. Payments under such agreements during 1998 were not individually
significant.
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COMPETITION
The semiconductor industry is intensely competitive and has been
characterized by price erosion, rapid technological change and product
obsolescence. The Company competes with major domestic and international
semiconductor companies, many of whom have substantially greater financial,
technical, marketing, distribution, and other resources than the Company. The
Company's medium density products, sales of which presently account for
substantially all of the Company's revenues, compete principally against
products offered by Intel Corporation ("Intel"), Advanced Micro Devices, Inc.,
Atmel Corporation ("Atmel"), STMicroelectronics, Inc. ("STMicro"), Winbond, and
Macronix, Inc. If the Company is successful in developing its high density
products, it expects that these products will compete principally with products
offered by Intel, Advanced Micro Devices, Inc., Atmel, Fujitsu Limited, Sharp
Electronics Corporation, Samsung Semiconductor, Inc., and Toshiba Corporation,
as well as any new entrants to the market. In addition, the Company believes
that a primary source of competition comes from alternative technologies. If
ferroelectric random access memory devices ("FRAMs") technology is
commercialized for higher density applications, additional competition may
result from companies that offer FRAMs.
With the introduction of the Company's new products such as the
FlashFlex51 microcontroller product family and the CompactFlash product family,
the competition in these existing markets which the Company is just beginning to
enter is extremely intense. The Company competes principally with major
companies such as Philips Electronics, Atmel, Intel, and Microchip Technology
Inc. in the microcontroller market and with SanDisk Corporation and Hitachi
Corporation in the memory card market. Even if the Company is successful in
penetrating these existing markets, there may be declines in the average selling
prices of these products which may adversely impact the Company's ability to
compete in these markets.
The Company may, in the future, experience direct competition from its
foundry partners. The Company has licensed to each foundry the right to
fabricate products based on the Company's technology and circuit design, and to
sell such products worldwide, subject to royalty payments to the Company. There
can be no assurance that the Company will be able to compete successfully in the
future.
The Company believes that the principal factors upon which its products
must compete are price, reliability, functionality and the ability to offer
timely delivery to customers. The current economic situation in the Far East has
impaired the Company's ability to compete on the basis of price. This situation
has exacerbated the current decline in the average selling prices for the
Company's products as the Company's competitors reduce product prices to
generate needed cash. While the Company believes that its medium density
products currently compete favorably on the basis of reliability and
functionality, the Company's principal competitors have a significant advantage
over the Company in terms of financial, technical and marketing resources. The
long-term ability of the Company to compete successfully in the evolving flash
memory market will depend on factors both within and beyond its control,
including access to advanced process technologies at competitive prices,
successful and timely product development, wafer supply, product pricing,
actions of its competitors and general economic conditions. The failure of the
Company to compete successfully in these or other areas could materially and
adversely affect the Company's business, operating results and financial
condition.
TECHNOLOGY LICENSING
The Company's products are designed around patented memory cell
technology and are fabricated using patented process technology. The Company
owns 20 U.S. patents concerning certain aspects of its products and processes,
although not all of these patents are in the field of memory cell or process
technology. Foreign patent applications have been filed in Europe, Japan and
Canada. There can be no assurance that pending patent applications will be
granted. The Company's products are also protected by copyrights and mask work
production rights. There can be no assurance, however, that the Company's
patents, copyrights or mask work production rights will provide meaningful
protection from competition, especially outside the U.S. Refer to the Legal
Proceedings section for specific information on claims made by and against the
Company's competitors. The Company's operating results could be materially
adversely affected by piracy of the Company's intellectual property.
The Company has from time to time received, and may in the future
receive, communications from third parties asserting patent rights embracing the
Company's products. Refer to the Risk Factors section, LIMITS OF PATENT
PROTECTION; CLAIMS OF OTHERS for specific information on claims against the
Company in patent and other intellectual property matters.
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The Company has licensed to its current foundries the right to
fabricate products based on the Company's technology and to sell such products
worldwide, subject to royalty payments to the Company. The Company intends to
license its technology to other third parties in the future who may also compete
against the Company. Revenue from license or other technology arrangements is
recognized upon the delivery of all specified technology documentation and/or
products if the fee is fixed and determinable, collection of the fee is
probable, and there are no remaining obligations from the Company. For license
and other arrangements under which the Company is obligated to provide
unspecified upgrades, revenue is recognized ratably over the shorter of the
contract term or the estimated economic life of the technology beginning upon
delivery of all specified technology documentation and/or products.
BACKLOG
Sales are made primarily using short-term cancelable purchase orders.
The quantities actually purchased by the customer, as well as shipment
schedules, are frequently revised to reflect changes in the customer's needs.
Accordingly, the Company believes that its open purchase orders at any given
time are not a meaningful indicator of future sales and that changes in the
amount of its open purchase orders do not necessarily reflect a corresponding
change in the level of actual sales.
EMPLOYEES
As of December 31, 1998, the Company employed 217 individuals on a
full-time basis, all but three of whom reside in the U.S. Two employees reside
in Japan and one in England. Of these 217 employees, 55 were employed in
manufacturing support, 94 in engineering, 37 in sales and marketing and 31 in
administration and finance. None of the Company's employees are represented by a
collective bargaining agreement, nor has the Company ever experienced any work
stoppage. Management believes that the Company's relationship with its employees
is good.
RISK FACTORS
The following factors should be considered carefully in addition to
other information contained in this report:
FLUCTUATIONS IN OPERATING RESULTS; NET LOSSES FOR THE PAST TWO FISCAL YEARS. The
Company has a limited operating history and its operating results are subject to
quarterly and annual fluctuations due to a variety of factors including the
availability, deliverability and cost of wafers from the Company's suppliers,
competitive pricing pressures and related changes in average selling prices,
fluctuations in manufacturing yields, new product announcements and
introductions by the Company or its competitors, changes in demand for, or in
the mix of, the Company's products, the gain or loss of significant customers,
market acceptance of products utilizing the Company's SuperFlash technology,
changes in the channels through which the Company's products are distributed,
exchange rate fluctuations, unanticipated research and development expenses
associated with new product introductions and the timing of significant orders.
Specifically, industry overcapacity during 1998 has resulted in higher than
normal price declines in the markets in which the Company sells. This
significant price erosion has unfavorably impacted the Company's revenues, gross
margins and profitability during the year, resulting in net losses, and should
they continue, will impact gross margin in 1999 and beyond.
Operating results could also be adversely affected by general economic
conditions and a downturn in the market for consumer products, which incorporate
the Company's products, such as personal computers and cellular telephones. All
of these factors, and other factors, are difficult to forecast and can
materially affect the Company's quarterly or annual operating results.
Fluctuations in revenues and operating results may cause volatility in the
Company's stock price.
The Company typically receives and fulfills a majority of its orders
within the quarter, with a substantial portion occurring in the third month of
the fiscal quarter. As a result, the Company may not learn of revenue shortfalls
until late in a fiscal quarter. Additionally, the Company's operating expenses
are based in part on its expectations for future revenues and are relatively
fixed in the short term. Any revenue shortfall below expectations could have an
immediate and significant adverse effect on results of operations and financial
condition.
POSSIBLE VOLATILITY OF STOCK PRICE. In recent years, the stock market in
general, and the price of stock of technology companies in particular, have
experienced extreme price fluctuations, sometimes without regard to the
operating performance of particular companies. Factors such as quarterly
variations in actual or anticipated operating results, changes in earnings
estimates by analysts, market conditions in the industry, announcements by
competitors, regulatory
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actions and general economic conditions or broad market trends unrelated to
performance may have a significant effect on the market price of the
Company's Common Stock.
LIMITED OFFERING OF PRODUCT LINES; CONCENTRATION OF PRODUCT APPLICATION. The
Company's sales are concentrated in the nonvolatile memory sector of the
semiconductor memory market. During 1998, substantially all of the Company's
product revenues were derived from sales of the standard flash memory product
families. A decline in market demand for the Company's Page Write Flash and
Sector Erase/Byte Program Flash products may adversely affect the Company's
operating results. In addition, during 1998 the majority of product revenues
came from sales to customers in the personal computer and computer peripherals
industries. A decline in demand in these industries could have a material
adverse effect on the Company's operating results and financial condition.
NEED FOR ADDITIONAL CAPITAL. Bringing new products to market and ramping up
inventory has significant working capital requirements. During 1998, the Company
signed a credit agreement to provide potential on-going working capital
requirements. However, there can be no assurance that events in the future will
not require the Company to increase borrowing under the line of credit, sell
additional shares of the Company's stock or seek additional borrowings or
capital, and if so required, that such options will be available on terms
acceptable to the Company. If the Company issues additional shares of common
stock, investors will experience dilution with respect to their investment.
LIMITS OF PATENT PROTECTION; CLAIMS OF OTHERS. The Company owns 20 U.S. patents
concerning certain aspects of its products and processes. Foreign patent
applications have been filed in Europe, Japan, and Canada. There can be no
assurance that pending patent applications will be granted. The Company's
products are also protected by copyrights and mask work production rights. There
can be no assurance, however, that the Company's patents, copyrights or mask
work production rights will provide it meaningful protection from competition,
especially abroad. The Company's operating results could be materially adversely
affected by piracy of the Company's intellectual property.
On January 3, 1996, Atmel Corporation ("Atmel") sued the Company in the
U.S. District Court for the Northern District of California. Atmel's complaint
alleges that the Company, by making, using and selling devices, is willfully
infringing on five U.S. patents owned by or exclusively licensed to Atmel. Atmel
later amended its complaint to allege infringement of a sixth patent. Regarding
each of these six patents, Atmel seeks a judgment that the Company has infringed
the patent, an injunction prohibiting future infringement, treble the amount of
damages caused by the alleged infringement and attorney's fees, costs and
expenses. On February 13, 1996, the Company filed an answer denying Atmel's
allegations and asserting affirmative defenses and counterclaims. On June 25,
1997, a U.S. District Court Judge denied Atmel's motions for summary judgment
for certain patents mentioned in the above lawsuit. The basis for the denial was
that not all elements of the claims of the patents were infringed as required
for a ruling in Atmel's favor. On September 22, 1997, the District Court granted
the Company's motion for summary judgment and found that one of the patents is
not infringed. The Court later denied Atmel's motion for reconsideration of the
ruling. That patent was also subsequently dismissed from the ITC action, as
described below. On November 24, 1997, and January 20, 1998, the District Court
denied the Company's motions for summary judgment of invalidity for two of the
patents. On January 6, 1998, the District Court denied the Company's motion for
summary judgment that it does not infringe two other patents and also denied
Atmel's cross motion that the Company infringed. On July 7, 1998, the District
Court granted Atmel a motion for summary judgment that the Company could not
pursue its unfair competition claims against Atmel. On August 5, 1998, the
District Court granted a summary judgment in the Company's favor on the basis
that the '811 patent' and the '829 patent' were found to be invalid by another
court. Atmel has appealed the decision. No date has been set for oral argument.
On October 26, 1998, the Company filed for a motion of summary judgment that it
does not infringe on the '673' patent. The trial on the remaining issues has
been postponed until Atmel's appeal is heard.
On February 17, 1997, Atmel filed an action with the International
Trade Commission ("ITC") against two suppliers of the Company's parts. On
March 18, 1997, the ITC initiated an investigation against two suppliers of
the Company's parts based upon a complaint filed by Atmel. This action
involves certain of the patents that Atmel has alleged the Company infringes.
The Company intervened as a party to that investigation. Pursuant to
indemnification agreements with these suppliers, the Company has agreed to
indemnify both to the extent that it is required to do so under the
agreements. A hearing was held on December 8, 1997 regarding this matter. On
March 19, 1998, the ITC issued its initial determination, finding that the
Company's products do not infringe the three patents remaining in that
investigation and that Atmel has no legal right to enforce one of those
patents. On July 9, 1998, the ITC entered its opinion of finding no violation
by the Company. Atmel has filed a notice of appeal of the decision. The
Federal Circuit has ordered the ITC to reconsider its decision on the '903
patent'. No schedule has been set for the new hearing.
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On November 14, 1997, Intel Corporation ("Intel") sued the Company in
the U.S. District Court for the District of Delaware. Intel's complaint alleged
that the Company, by making, using and selling devices, was willfully infringing
four U.S. patents owned by Intel. Regarding each of these four patents, Intel
sought a judgment that the Company had infringed on the patent, an injunction
prohibiting further infringement, an accounting of all damages caused by the
alleged infringement, treble the amount of damages caused by the alleged
infringement and attorney's fees, costs and expenses. The Company moved that the
Delaware action be dismissed for lack of jurisdiction or in the alternative be
transferred to California. On August 5, 1998, the District Court granted the
Company's motion and dismissed the complaint on the grounds that the District
Court could not exercise personal jurisdiction over the Company.
On September 14, 1998, Intel sued the Company in the U.S. District
Court for the Northern District of California, San Jose Division. Intel's
complaint alleged that the Company, by making, using and selling devices, was
willfully infringing four U.S. patents owned by Intel. Regarding each of these
four patents, Intel is seeking a judgment that the Company has infringed on the
patent, an injunction prohibiting further infringement, an accounting of all
damages caused by the alleged infringement, treble the amount of damages caused
by the alleged infringement and attorney's fees, costs and expenses. The Company
has denied infringement of any of the Intel patents and has counter-claimed for
invalidity and non-infringement of the Intel patents. The Company believes that
the substantive allegations in the Intel complaint are without merit and intends
to vigorously defend itself against the action.
On July 31, 1998, the Company filed suit against Winbond Electronics of
Taiwan ("Winbond") in the U.S. District Court for the Northern District of
California, San Jose Division. The Company is suing for breach of contract and
breach of covenant of good faith and fair dealing. The Company seeks damages and
an injunction prohibiting Winbond from using any of the technology licensed to
Winbond by the Company and a return of technical material transferred to Winbond
under the original license agreement. Winbond has answered the complaint and has
counter-claimed for a declaration that it is not in material breach of the
agreement; that the Company has breached the agreement; that the Company has
breached the covenant of good faith and fair dealing; that the Company has
interfered with prospective economic advantage; that the Company has engaged in
unlawful business practice in violation of the California Business and
Profession Code; and that the Company has committed acts of common law unfair
competition. The Company has replied by denying these charges. The Company
believes that the substantive allegations in the Winbond counter-complaint are
without merit and intends to vigorously defend itself against the action.
In addition to Atmel and Intel, the Company has from time to time
received and may in the future receive, communications from third parties
asserting patent rights embracing the Company's products. The Atmel and Intel
complaints state that the Company's use of its SuperFlash technology
infringes the patents of those third parties. Since the design of all the
Company's products are based on the Company's SuperFlash technology, any
finding that the Company's use of its SuperFlash technology infringes a third
party patent could have a material adverse effect on the Company's entire
product line and operating results. The Company has responded to each of
these claims of infringement asserting defenses that it believes are
meritorious. There can be no assurance that other third parties will not
bring suit against the Company claiming an infringement of intellectual
property. The Company cannot predict the effects of any such litigation. If
any of the Company's products were found to infringe the protected technology
of a third party, there can be no assurance that the Company could license
such technology on commercially reasonable terms or that the Company could
successfully operate without such technology. Moreover, the Company, if found
to infringe, could be required to pay damages to the owner of the protected
technology and could be prohibited from making, using, selling, or importing
into the U.S. any products that infringe the protected technology. In
addition, the management attention consumed by and legal cost associated with
any litigation could have a material adverse effect on the Company's
operating results.
DEPENDENCE ON FOREIGN FOUNDRIES. The Company does not have the complete internal
capability to manufacture its products. The Company currently buys all of its
wafers, an integral component of its products, from a limited number of
suppliers. Failure by these suppliers to satisfy the Company's requirements on a
timely basis at competitive prices could cause a delay in manufacturing and a
possible loss of revenues or higher than anticipated cost of revenues, which
would affect operating results adversely. During 1998, substantially all of the
wafers and sorted die were supplied by Sanyo and TSMC.
At times, the Company has been unable to meet all of the demand for its
products, and, at times, has failed to meet scheduled shipment dates, due to the
Company's inability to obtain a sufficient supply from its foundries. There can
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be no assurance that the Company's current contract foundries, together with any
additional foundry at which capacity might be obtained, would be willing or able
to satisfy all of the Company's requirements on a timely basis at favorable
prices. In addition, the Company has encountered delays in the qualification
process and production ramp-up in the past, and qualification and production
ramp-up times at any additional foundry, assuming an additional foundry could be
found at all, could take longer than anticipated. The Company is also subject to
the risks of service disruptions, raw material shortages and price increases by
the foundries. Such disruptions, shortages and price increases could have a
material adverse effect on the Company's operating results.
DEPENDENCE ON MANUFACTURERS' REPRESENTATIVES AND DISTRIBUTORS. Most of the
Company's sales are made through manufacturers' representatives and
distributors. These manufacturers' representatives and distributors can
discontinue selling the Company's products at any time. Two of the
manufacturers' representatives are responsible for substantially all sales
into Taiwan, which accounted for 28% of the Company's product revenues during
1998. The loss of any of the manufacturers' representatives or any other
significant manufacturers' representatives or distributors could have a
material adverse effect on the Company's operating results.
DEPENDENCE ON FLASH MEMORY MARKET. All of the Company's products, as well as all
new products currently under design, are stand alone flash memory devices or
devices embedded with flash memory. A technology other than SuperFlash may be
adopted as the industry standard. The Company's competitors are generally in a
better financial and marketing position than the Company from which to influence
industry acceptance of a particular flash technology. To the extent those
competitors are able to promote a technology other than SuperFlash as an
industry standard, the Company's operating results and financial condition may
be adversely affected.
PRICE VOLATILITY; RECENT MARKET CONDITIONS; COMPETITION. The semiconductor
memory industry is intensely competitive and has been characterized by price
erosion, rapid technological change and product obsolescence. Historically, the
selling prices for semiconductor memory products fluctuate significantly with
changes in the supply and demand for these products. During 1998, industry over
capacity resulted in higher than normal price declines in the Company's markets,
which has unfavorably impacted the Company's revenues, gross margins, and
profitability. The Company expects this price erosion may continue for some
time, as market conditions indicate that growth in worldwide supply outpaced
growth in demand during 1998 and such market conditions may continue into 1999
and beyond. The Company is attempting to accelerate its cost reduction efforts
and to develop new products to expand and diversify the Company's application
and geographic base. However, there can be no assurance that these activities
will be implemented in a timely manner to offset anticipated future declines in
average selling prices.
The Company competes with major domestic and international
semiconductor companies, many of whom have substantially greater financial,
technical, marketing, distribution, and other resources than the Company. Many
of the Company's competitors have recently added significant capacity for the
production of semiconductor memory components. The Company's medium density
products, sales of which presently account for substantially all of the
Company's revenues, compete principally against products offered by Intel
Corporation, Advanced Micro Devices, Inc., Atmel Corporation, STMicro, Sanyo,
Winbond Electronics Co. and Macronix, Inc. If the Company is successful in
developing its high density products, it expects that these products will
compete principally with products offered by Intel Corporation, Advanced Micro
Devices, Fujitsu Limited, Sharp Electronics Corporation, Samsung Semiconductor,
Inc., SanDisk Corporation and Toshiba Corporation, as well as any new entrants
to the market.
In addition, the Company believes that a primary source of competition
may come from alternative technologies. In particular, competition may come from
companies that offer FRAMs if such technology is commercialized for higher
density applications.
The Company may in the future experience direct competition from its
foundry partners. The Company has licensed the right to fabricate product based
on the Company's technology and circuit design, and to sell such products
worldwide, subject to royalty payments to the Company. There can be no
assurances that the Company will be able to compete successfully in the future.
INTERNATIONAL OPERATIONS. During 1996, 1997, and 1998, export product and
licensing accounted for approximately 86%, 87%, and 93% of the Company's net
revenues, respectively. Due to its international sales and manufacturing, the
Company is exposed to risks associated with tariffs, non-tariff trade
barriers, taxes, import license requirements, exchange rate fluctuations,
foreign government regulations, and geopolitical risks such as political and
economic instability
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including changes in diplomatic and trade relations.
During 1998, currency fluctuation and economic deflation was
experienced in several Asian economies in which the Company does business, such
as Japan, Korea, and Taiwan. During 1998, the Company derived 82% of its product
revenue from the Far East. Economic instability in this region may have an
adverse impact on the Company's total revenues and may negatively impact the
Company's ability to collect payments from these customers. Furthermore, the
lack of capital in the financal sectors of these countries may impact the
customers' ability to open letters of credit or other financial instruments
which are guaranteed by foreign banks. Additionally, the Company's major wafer
suppliers and assembly and packaging subcontractors are located in the Far East.
Major disruptions in their businesses due to these economic problems can have an
adverse impact on their business, which in turn may negatively impact their
ability to adequately supply the Company. Finally, the economic situation may
exacerbate the current decline in average selling prices for the Company's
products if the Company's competitors reduce product prices to generate needed
cash. Continued economic and/or political instability of any kind in this region
will have a material adverse effect on the Company's operating results due to
the large concentration of the Company's activities in this region.
RAPID TECHNOLOGICAL CHANGE AND NEW PRODUCT DEVELOPMENT. The markets for the
Company's product are characterized by rapidly changing technology, product
obsolescence, and the frequent introduction of new products. The Company's
ability to succeed depends on its ability to develop products with which the
Company has limited or no experience. There can be no assurance that the Company
will be able to identify new product opportunities, or that the Company will be
able to both develop and market new products successfully or in a timely
fashion.
PURCHASE OF MANUFACTURING CAPACITY. In order to obtain additional manufacturing
capacity, the Company has considered expenditures in the form of deposits,
equipment purchases, loans, joint ventures, equity investments or technology
licenses in or with wafer fabrication companies. Any such transaction could
involve a Company commitment of substantial capital and technology licenses in
return for production capacity. The need to commit substantial capital may
require the Company to seek additional equity or debt financing. There can be no
assurance that such additional financing, if required, will be available when
needed on terms acceptable to the Company. The Company's inability to secure
such financing, if needed, could have a material adverse impact on the Company's
operating results.
READINESS FOR YEAR 2000. Many existing computer systems and applications, and
other control devices, use only two digits to identify a year in the date field,
without considering the impact of the upcoming change in the century. They could
fail or create erroneous results unless corrected so that they can process data
related to the year 2000. The Company relies on its systems (such as general
ledger, accounts payable and payroll modules), customer services,
infrastructure, embedded computer chips, networks and telecommunications
equipment and end products. The Company also relies on external systems of
business enterprises such as customers, suppliers, creditors, financial
organizations, and of governments, both domestically and globally, directly for
accurate exchange of data and indirectly. The Company's current estimate is that
the costs associated with the Year 2000 issue, and the consequences of
incomplete or untimely resolution of the Year 2000 issue, will not have a
material adverse affect on the results of operations or financial position of
the Company in any given year. However, despite the Company's efforts to address
the Year 2000 impact on its internal systems, the Company is not sure that it
has fully identified such impact and that it can resolve it without disruption
of its business and without incurring significant expense. In addition, even if
the internal systems of the Company are not materially affected by the Year 2000
issue, the Company could be affected through disruption in the operation of the
enterprises with which the Company interacts. Refer to specific details
regarding the Company's state of readiness for year 2000 in the section called
Management's Discussion and Analysis of Financial Condition and Results of
Operations.
ITEM 2. PROPERTIES
The Company occupies three leased facilities totaling approximately
53,000 square feet in Sunnyvale, California in which its executive offices,
manufacturing engineering, research and development and testing facilities are
located. The lease on the first two of these facilities that the Company
occupies, accounting for approximately 33,000 square feet, expires in May 2003.
The lease on the third facility of 20,000 square feet expires in April 2000. It
is renewable with one two-year option to extend the lease. The Company believes
these facilities are adequate to meet its needs for at least the next 12 months.
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ITEM 3. LEGAL PROCEEDINGS
On January 3, 1996, Atmel Corporation ("Atmel") sued the Company in the
U.S. District Court for the Northern District of California. Atmel's complaint
alleges that the Company, by making, using and selling devices, is willfully
infringing on five U.S. patents owned by or exclusively licensed to Atmel. Atmel
later amended its complaint to allege infringement of a sixth patent. Regarding
each of these six patents, Atmel seeks a judgment that the Company has infringed
the patent, an injunction prohibiting future infringement, treble the amount of
damages caused by the alleged infringement and attorney's fees, costs and
expenses. On February 13, 1996, the Company filed an answer denying Atmel's
allegations and asserting affirmative defenses and counterclaims. On June 25,
1997, a U.S. District Court Judge denied Atmel's motions for summary judgment
for certain patents mentioned in the above lawsuit. The basis for the denial was
that not all elements of the claims of the patents were infringed as required
for a ruling in Atmel's favor. On September 22, 1997, the District Court granted
the Company's motion for summary judgment and found that one of the patents is
not infringed. The Court later denied Atmel's motion for reconsideration of the
ruling. That patent was also subsequently dismissed from the ITC action, as
described below. On November 24, 1997, and January 20, 1998, the District Court
denied the Company's motions for summary judgment of invalidity for two of the
patents. On January 6, 1998, the District Court denied the Company's motion for
summary judgment that it does not infringe two other patents and also denied
Atmel's cross motion that the Company infringed. On July 7, 1998, the District
Court granted Atmel a motion for summary judgment that the Company could not
pursue its unfair competition claims against Atmel. On August 5, 1998, the
District Court granted a summary judgment in the Company's favor on the basis
that the '811 patent' and the '829 patent' were found to be invalid by another
court. Atmel has appealed the decision. No date has been set for oral argument.
On October 26, 1998, the Company filed for a motion of summary judgment that it
does not infringe on the '673' patent. The trial on the remaining issues has
been postponed until Atmel's appeal is heard.
On February 17, 1997, Atmel filed an action with the International
Trade Commission ("ITC") against two suppliers of the Company's parts. On
March 18, 1997, the ITC initiated an investigation against two suppliers of
the Company's parts based upon a complaint filed by Atmel. This action
involves certain of the patents that Atmel has alleged the Company infringes.
The Company intervened as a party to that investigation. Pursuant to
indemnification agreements with these suppliers, the Company has agreed to
indemnify both to the extent that it is required to do so under the
agreements. A hearing was held on December 8, 1997 regarding this matter. On
March 19, 1998, the ITC issued its initial determination, finding that the
Company's products do not infringe the three patents remaining in that
investigation and that Atmel has no legal right to enforce one of those
patents. On July 9, 1998, the ITC entered its opinion of finding no violation
by the Company. Atmel has filed a notice of appeal of the decision. The
Federal Circuit has ordered the ITC to reconsider its decision on the '903
patent'. No schedule has been set for the new hearing.
On November 14, 1997, Intel Corporation ("Intel") sued the Company in
the U.S. District Court for the District of Delaware. Intel's complaint alleged
that the Company, by making, using and selling devices, was willfully infringing
four U.S. patents owned by Intel. Regarding each of these four patents, Intel
sought a judgment that the Company had infringed on the patent, an injunction
prohibiting further infringement, an accounting of all damages caused by the
alleged infringement, treble the amount of damages caused by the alleged
infringement and attorney's fees, costs and expenses. The Company moved that the
Delaware action be dismissed for lack of jurisdiction or in the alternative be
transferred to California. On August 5, 1998, the District Court granted the
Company's motion and dismissed the complaint on the grounds that the District
Court could not exercise personal jurisdiction over the Company.
On September 14, 1998, Intel sued the Company in the U.S. District
Court for the Northern District of California, San Jose Division. Intel's
complaint alleged that the Company, by making, using and selling devices, was
willfully infringing four U.S. patents owned by Intel. Regarding each of these
four patents, Intel is seeking a judgment that the Company has infringed on the
patent, an injunction prohibiting further infringement, an accounting of all
damages caused by the alleged infringement, treble the amount of damages caused
by the alleged infringement and attorney's fees, costs and expenses. The Company
has denied infringement of any of the Intel patents and has counter-claimed for
invalidity and non-infringement of the Intel patents. The Company believes that
the substantive allegations in the Intel complaint are without merit and intends
to vigorously defend itself against the action.
On July 31, 1998, the Company filed suit against Winbond Electronics of
Taiwan ("Winbond") in the U.S. District Court for the Northern District of
California, San Jose Division. The Company is suing for breach of contract and
breach of covenant of good faith and fair dealing. The Company seeks damages and
an injunction prohibiting Winbond from using any of the technology licensed to
Winbond by the Company and a return of technical material transferred to
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Winbond under the original license agreement. Winbond has answered the
complaint and has counter-claimed for a declaration that it is not in
material breach of the agreement; that the Company has breached the
agreement; that the Company has breached the covenant of good faith and fair
dealing; that the Company has interfered with prospective economic advantage;
that the Company has engaged in unlawful business practice in violation of
the California Business and Profession Code; and that the Company has
committed acts of common law unfair competition. The Company has replied by
denying these charges. The Company believes that the substantive allegations
in the Winbond counter-complaint are without merit and intends to vigorously
defend itself against the action.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter to a vote of
security holders.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER MATTERS
Price Range of Common Stock
The principal U.S. market for the Company's Common Stock is The Nasdaq
Stock Market. In 1998, NASD, parent of The Nasdaq Stock Market, merged with the
American Stock Exchange. Subsequent to the merger, The Nasdaq-Amex Market Group
was created as a holding company under which both The Nasdaq Stock Market and
the American Stock Exchange function as independent subsidiaries, which separate
listed companies. The only class of the Company's securities that is traded is
the Company's Common Stock. The Company's Common Stock has traded on The Nasdaq
Stock Market since November 21, 1995, under the symbol SSTI. The following table
sets forth the quarterly high and low closing sales prices of the Common Stock
for the period indicated as reported by The Nasdaq Stock Market. These prices do
not include retail mark-ups, mark-downs, or commissions. The closing sales price
of the Company's Common Stock on December 31, 1998 (the last trading day in
1998) was $2.438.
<TABLE>
<CAPTION>
1997: HIGH CLOSE LOW CLOSE
---------- ---------
<S> <C> <C>
First Quarter: January 1 - March 31, 1997 $ 5 1/4 $ 3 1/4
Second Quarter: April 1 - June 30, 1997 4 1/8 2 3/4
Third Quarter: July 1 - September 30, 1997 8 3 1/4
Fourth Quarter: October 1 - December 31, 1997 6 5/8 3 1/8
<CAPTION>
1998: HIGH CLOSE LOW CLOSE
---------- ---------
First Quarter: January 1 - March 31, 1998 $ 3 3/4 $ 2 15/16
Second Quarter: April 1 - June 30, 1998 3 11/16 2 21/32
Third Quarter: July 1 - September 30, 1998 4 1/4 2 1/32
Fourth Quarter: October 1 - December 31, 1998 2 3/4 1 5/16
</TABLE>
Approximate Number of Equity Securityholders
As of December 31, 1998, there were approximately 3,606 record holders
of the Company's Common Stock.
Dividends
The Company has never paid a cash dividend on its Common Stock and
intends to continue to retain earnings, if any, to finance future growth.
Accordingly, the Company does not anticipate the payment of cash dividends to
holders of Common Stock in the foreseeable future.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Consolidated Financial Statements and the notes thereto
included elsewhere in this Report. The statements of operations data for the
years ended December 31, 1996, 1997 and 1998 and the balance sheet data at
December 31, 1997 and 1998 are derived from, and should be read in conjunction
with, the audited consolidated financial statements and notes thereto included
elsewhere in this Report. The statements of operations data for the year ended
December 31, 1994 and 1995 and the balance sheet data at December 31, 1994, 1995
and 1996 are derived from audited financial statements not included in this
Report. The results of operations are not necessarily indicative of the results
to be expected for future periods.
17
<PAGE>
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31,
---------------------------------
1994 1995 1996 1997 1998
------------ ---------- ----------- ----------- ----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENTS OF OPERATIONS DATA:
Net revenues:
Product revenues $3,355 $38,283 $90,638 $73,796 $66,875
License revenues 730 1,245 2,652 1,526 2,536
------------ ---------- ----------- ----------- ----------
Total net revenues 4,085 39,528 93,290 75,322 69,411
------------ ---------- ----------- ----------- ----------
Costs and expenses:
Cost of revenues 4,080 26,360 59,494 62,747 62,703
Research and development 2,722 4,058 6,948 8,744 14,527
Sales and marketing 599 2,455 5,292 6,587 7,290
General and administrative 910 1,464 3,370 9,479 4,592
------------ ---------- ----------- ----------- ----------
8,311 34,337 75,104 87,557 89,112
------------ ---------- ----------- ----------- ----------
Income (loss) from operations (4,226) 5,191 18,186 (12,235) (19,701)
Interest and other income, net 77 517 1,763 2,146 1,573
Interest expense (309) (273) - - (31)
------------ ---------- ----------- ----------- ----------
Income (loss) before provision for (benefit from) (4,458) 5,435 19,949 (10,089) (18,159)
income taxes
Provision for (benefit from) income taxes 51 (594) 7,598 (3,165) (571)
------------ ---------- ----------- ----------- ----------
Net income (loss) ($4,509) $6,029 $12,351 ($6,924) ($17,588)
------------ ---------- ----------- ----------- ----------
------------ ---------- ----------- ----------- ----------
Net income (loss) per share - basic ($0.59) $0.70 $0.54 ($0.30) ($0.77)
------------ ---------- ----------- ----------- ----------
------------ ---------- ----------- ----------- ----------
Net income (loss) per share - diluted ($0.59) $0.32 $0.49 ($0.30) ($0.77)
------------ ---------- ----------- ----------- ----------
------------ ---------- ----------- ----------- ----------
Total assets $7,749 $66,403 $80,914 $82,539 $56,138
------------ ---------- ----------- ----------- ----------
------------ ---------- ----------- ----------- ----------
Long-term obligations $3,571 $ - $ - $ - $663
------------ ---------- ----------- ----------- ----------
------------ ---------- ----------- ----------- ----------
</TABLE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED HEREIN, THE
FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS
AND UNCERTAINTIES. THE STATEMENTS CONTAINED IN THIS REPORT ON FORM 10K THAT
ARE NOT PURELY HISTORICAL ARE FORWARD-LOOKING STATEMENTS WITHIN THE MEANING
OF SECTION 27A OF THE SECURITIES EXCHANGE ACT OF 1933, AS AMENDED, AND
SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, INCLUDING
STATEMENTS REGARDING OUR EXPECTATIONS, BELIEFS, INTENTIONS OR STRATEGIES
REGARDING THE FUTURE. ALL FORWARD-LOOKING STATEMENTS INCLUDED IN THIS
DOCUMENT ARE BASED ON INFORMATION AVAILABLE TO THE COMPANY ON THE DATE
HEREOF, AND WE ASSUME NO OBLIGATION TO UPDATE ANY SUCH FORWARD-LOOKING
STATEMENTS. OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE DISCUSSED.
FACTORS THAT COULD CAUSE OR CONTRIBUTE TO SUCH DIFFERENCES INCLUDE, BUT ARE
NOT LIMITED TO, THOSE DISCUSSED ELSEWHERE IN ITEM 1 UNDER HEADING "RISK
FACTORS", AS WELL AS THOSE DISCUSSED ELSEWHERE IN THIS REPORT, AND THE RISKS
DISCUSSED IN THE COMPANY'S OTHER SECURITIES AND EXCHANGE COMMISSION FILINGS.
RESULTS OF OPERATIONS: YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998
OVERVIEW. All of the Company's products are currently manufactured through
collaborative manufacturing relationships with two semiconductor manufacturers:
Sanyo and TSMC. To date, the Company has obtained the majority of its wafers and
sorted die from Sanyo and TSMC. The Company's orders to these manufacturers are
based upon existing and forecasted customer demand. In the past, as demand for
the Company's products has increased, the Company has been unable to obtain its
desired allotment of wafers. The Company has entered into agreements with Seiko
Epson, TSMC, Samsung, Sanyo, IBM and Acer to obtain additional wafer
manufacturing capacity. Bringing a new manufacturer up to full volume production
is a complex procedure and there can be no assurance that any of these
facilities will be able to achieve volume production in a timely fashion or that
these facilities will allocate sufficient production capacity to the Company.
The Company is in the process of transitioning production of its primary
SuperFlash products to smaller geometries, thereby increasing the number of
usable die per wafer that the Company receives from its manufacturers. There can
be no assurance that the Company will be able to complete such transitions in a
timely and cost effective
18
<PAGE>
manner.
Average selling prices of the Company's products have declined
significantly over the past two years, and average selling prices of
semiconductor products have generally declined over time and are expected to
decline in the future, principally due to increased market competition.
Specifically, industry overcapacity during 1997 and 1998 has resulted in higher
than normal price declines in the Company's markets, which has unfavorably
impacted the Company's revenues, gross margins, and profitability. The Company
expects that this price erosion may continue for some time. The Company is
attempting to accelerate its cost reduction efforts and to develop new products
to expand and diversify the Company's application and geographic base. If such
activities can not be implemented in a timely manner, losses may result and
liquidity may be impacted.
During 1998, the Company derived approximately 28% of its product
revenues from sales to Taiwan-based PC manufacturers. The Company intends to
diversify its customer base by increasing sales in other geographic areas and
targeting additional high volume applications such as the cellular telephone,
pager, modem, hard disk drive, electronic organizer and set-top box markets. The
Company anticipates that if sales in Japan, the United States and Europe
increase, overall days sales outstanding may increase. During 1996, 1997 and
1998, international product and license revenues accounted for approximately 86%
or $80.3 million, 87% or $65.3 million, and 93% or $64.3 million of the
Company's net revenues, respectively. The Company is in the process of
increasing the scope of its international operations and expects that
international sales will continue to account for a significant portion of its
product revenues although the percentage may fluctuate from period to period.
Although the Company's international sales are primarily denominated in U.S.
dollars, these sales are subject to a number of risks associated generally with
international sales, including the effect of exchange rate fluctuations,
economic conditions, state-imposed restrictions on the repatriation of funds,
import and export duties and restrictions.
During 1998, currency devaluation and economic deflation were
experienced in several Asian economies in which the Company does business, such
as Japan, Korea, and Taiwan. During 1998, the Company derived 82% of its product
revenue from the Far East. Economic problems in this region may have an adverse
impact on the Company's total revenues and may negatively impact the Company's
ability to collect payments from these customers. Furthermore, the lack of
capital in the financial sectors of these countries may impact the customers'
ability to open letters of credit or other financial instruments that are
guaranteed by foreign banks. Additionally, the Company's major wafer suppliers
and assembly and packaging subcontractors are located in the Far East. Major
disruptions in their businesses due to these economic problems can have an
adverse impact on their business, which in turn may negatively impact their
ability to adequately supply the Company. Finally, the economic situation may
exacerbate the current decline in average selling prices for the Company's
products if the Company's competitors reduce product prices to generate needed
cash. Continued economic and/or political instability of any kind in this region
will have a material adverse effect on the Company's operating results due to
the large concentration of the Company's activities in this region.
NET REVENUES. Net revenues decreased from $93.3 million in 1996 to $75.3 million
in 1997 and to $69.4 million in 1998. Net unit shipments were 28.8 million units
in 1996, 36.8 million units in 1997 and 50.9 million units in 1998. Decreases in
net revenues were due to lower average selling prices in each year despite
increases in units shipped each year as compared to the prior year.
Product revenues were $90.6 million in 1996, $73.8 million in 1997, and
$66.9 million in 1998. The decrease from 1996 to 1998 was primarily the result
of a decline in average selling prices due to industry overcapacity. Direct
sales to customers are recognized upon shipment of product net of an allowance
for estimated returns. Sales to distributors are made primarily under
arrangements allowing price protection and the right of stock rotation on
merchandise unsold to distributors. Because of the uncertainty associated with
pricing concessions and future returns, the Company defers recognition of such
revenues, related costs of revenues and related gross margin until the
merchandise is sold by the distributor to the end user.
The Company's ability to maintain or increase revenues is highly
dependent upon its ability to increase unit sales volumes and decrease
manufacturing costs of existing products and to introduce and sell new products
in quantities sufficient to compensate for the anticipated declines in average
selling prices. The Company's ability to increase its unit sales volumes depends
on the capacity of its manufacturers' representatives and distributors to
generate orders, increasing its wafer capacity allocation from current
foundries, improving the yield of die per wafer from its foundries through
reductions in the die size of the Company's products, adding additional
foundries and implementing advanced process
19
<PAGE>
technologies. Industry overcapacity during 1997 and 1998 has resulted in
greater than normal price declines in the Company's markets, which has
unfavorably impacted the Company's revenues, gross margins, and
profitability. The Company expects that this price erosion may continue
throughout 1999.
License revenues were $2.7 million in 1996, $1.5 million in 1997,
and $2.5 million in 1998. Most of the Company's technology licenses provide
for the payment of upfront license fees and continuing royalties based on
product sales. Revenue from license or other technology arrangements is
recognized upon the delivery of all specified technology documentation and/or
products if the fee is fixed and determinable, collection of the fee is
probable, and there are no remaining obligations from the Company. For
license and other arrangements under which the Company is obligated to
provide unspecified upgrades, revenue is recognized ratably over the shorter
of the contract term or the estimated economic life of the technology
beginning upon delivery of all specified technology documentation and/or
products. The Company anticipates that license revenues will fluctuate
significantly in the future. See Note 1 of Notes to Consolidated Financial
Statements.
COST OF REVENUES/GROSS MARGIN. Gross profit was $33.8 million or gross margin
of 36% of net revenues in 1996, $12.6 million or 17% of net revenues in 1997,
and $6.7 million or 10% of net revenues in 1998. The decreases in gross
profits and gross margins from 1996 to 1998 were primarily due to declines in
average selling prices in 1997 and 1998. Average selling prices of flash
memory products are subject to significant fluctuations due to periodic
changes in supply and demand. Declining average selling prices will continue
to adversely affect gross margins unless the Company is able to offset such
declines with reductions in per unit costs or changes in product mix.
Specifically, industry overcapacity during 1998 has resulted in greater than
normal price declines in the Company's target markets. Year-to-year
fluctuations in gross margins during 1996 through 1998 were not necessarily
reflective of quarterly results during this period. Refer to Item 8: Selected
Consolidated Quarterly Data for a discussion of quarterly results.
OPERATING EXPENSES. Operating expenses (research and development, sales and
marketing, and general and administrative expenses) were $15.6 million or 17% of
net revenues in 1996, $24.8 million or 33% of net revenues in 1997, and $26.4
million or 38% of net revenues in 1998. The increase was due to hiring
additional personnel, development of new products and accruing legal fees for
defending the Company's patents. While the amount of operating expenses as a
percentage of product revenues from year to year is not necessarily indicative
of future behavior of operating expenses as a percentage of product revenues,
operating expenses are expected to increase in absolute dollar amount over time.
The expected increase is due to the hiring of additional personnel and
development of the Company's infrastructure.
RESEARCH AND DEVELOPMENT. Research and development expenses were $6.9 million or
7% of net revenues in 1996, $8.7 million or 12% or net revenues in 1997, and
$14.5 million or 21% of net revenues in 1998. These year over year increases in
the level of research and development expense were primarily due to the hiring
of additional personnel, depreciation related to purchases of additional test
equipment, and increased prototyping and product qualification costs associated
with the Company's product and process development efforts. Research and
development expenses are expected to increase in absolute dollars but not
necessarily as a percentage of net revenue over time.
SALES AND MARKETING. Sales and marketing expenses were $5.3 million or 6% of net
revenues in 1996, $6.6 million or 9% of net revenues in 1997, and $7.3 million
or 11% of net revenues in 1998. Sales and marketing expenses consist primarily
of sales commissions to manufacturers' representatives, salaries of the
Company's sales and marketing personnel and product literature. The significant
increase in sales and marketing expenses from 1996 to 1998 was primarily due to
the hiring additional sales personnel.
Historically, a majority of the Company's product revenues have been
generated through manufacturers' representatives. Manufacturers' representatives
are expected to continue to be responsible for a majority of the Company's
product revenues for the foreseeable future. The Company's sales commission
structure for its manufacturers' representatives decreases as manufacturers'
representatives achieve higher levels of sales activities within a given year.
Accordingly, the Company expects that sales commissions to manufacturers'
representatives will decrease as a percentage of product revenues as cumulative
yearly product revenues increase.
GENERAL AND ADMINISTRATIVE. General and administrative expenses were $3.4
million or 4% of net revenues in 1996, $9.5 million or 13% of net revenues in
1997, and $4.6 million or 7% of net revenues in 1998. The increase in the level
of general and administrative expenses during 1997 was primarily due to greater
legal expenses associated with pending
20
<PAGE>
lawsuits. General and administrative expenses during 1998 included a one-time
charge of $0.5 million for the termination of a land purchase agreement. The
Company anticipates that general and administrative expenses will continue to
increase in absolute dollar amount. Additionally, it is reasonably possible
that the Company may incur additional expenses in connection with the Atmel,
Intel and Winbond litigation.
INTEREST AND OTHER INCOME. Interest and other income was $1.8 million or 2% of
net revenues in 1996, $2.1 million or 3% of net revenues in 1997, and $1.5
million or 2% of net revenues in 1998. Interest income decreased from 1997 to
1998 as cash and investments decreased.
INTEREST EXPENSE. There was no interest expense in 1996 or 1997. Interest
expense for 1998 was $31 thousand. Interest expense may increase during 1999 if
the Company borrows against its available line of credit.
PROVISION FOR (BENEFIT FROM) INCOME TAXES. The Company's provision for (benefit
from) income taxes was $7.6 million in 1996, $(3.2) million in 1997, and
$(571,000) in 1998. During 1996, the Company was fully subject to federal and
state income taxes. The benefit in 1997 and 1998 relates to the Company's loss
position for those years and related future benefits. During 1998, the Company
determined that its cumulative net operating losses incurred exceeded the amount
of tax carry back available. For this reason, in the third quarter of 1998, the
Company recorded a full valuation allowance against the deferred tax asset. The
Company will provide a full valuation against its deferred tax asset until such
time as evidence shows that the deferred tax asset is recoverable.
RECENT ACCOUNTING PRONOUNCEMENTS. In June 1997, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 131,
"Disclosures about the Segments of an Enterprise and Related Information" (SFAS
131), which requires companies to report financial and descriptive information
about reportable operating segments - the components of the enterprise that
provide separate financial data to the company's decision maker. During 1998 and
prior, the Company did not internally report financial and descriptive data in
segments based upon operating segments due to the limited number of products and
product families manufactured and sold. However, with the Company's planned
expansion into new product lines and introduction of new products during 1998
and 1999, such internal segment reporting may be developed and, at such time,
will be disclosed in the financial statements.
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (SFAS 133). SFAS 133 establishes a new model
for accounting for derivatives and hedging activities as is effective for the
Company's fiscal year 1999. The impact of the implementation of SFAS 133 on the
consolidated financial statements of the Company has not yet been determined.
In March 1998, the Accounting Standards Executive Committee ("AcSEC"),
released Statement of Position 98-1, "Accounting for Costs of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1"). SOP 98-1 requires certain
costs of computer software developed or obtained for internal use to be
capitalized, provided that those costs are not research and development. SOP
98-1 is effective for the Company's fiscal year 1999, and the impact of the
adoption of SOP 98-1 on the Company's consolidated financial statements has not
yet been determined.
In April 1998, AcSEC released Statement of Position 98-5, "Accounting
for Costs of Start-Up Activities" ("SOP 98-5"). SOP 98-5 requires the costs of
start-up activities to be expensed as incurred. Start-up activities are defined
as those one-time activities related to opening a new facility, introducing a
new product or service, conducting business in a new territory, conducting
business with a new class of customer, initiating a new process in an existing
facility, or commencing some new operation. SOP 98-5 is effective for the
Company's fiscal year 1999, and the impact of the adoption of SOP 98-5 on the
Company's consolidated financial statements has not yet been determined.
LIQUIDITY AND CAPITAL RESOURCES
Cash used in operating activities was $1.4 million during 1996 and
primarily resulted from net income of $12.4 million and increases in accounts
payable of $2.3 million being offset by inventory increases of $13.6 million and
increases to accounts receivable and accounts receivable from related parties of
$5.5 million. Cash provided by operations was $13.3 million during 1997 and
primarily resulted from a decrease in accounts receivable and accounts
receivable from related parties of $2.1 million, an increase in accounts payable
of $8.5 million and an increase in accrued expenses of $2.8 million offset by a
net loss of $6.9 million. Cash used in operating activities was $17.5 million
during 1998 and primarily resulted from a net loss of $17.6 and a decrease in
accounts payable of $8.6 million offset by a decrease in net deferred
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<PAGE>
income taxes of $3.7 million, a decrease in net inventory of $3.6 million and
depreciation and amortization of $4.2 million.
On September 22, 1998, the Company signed a credit agreement with
Foothill Capital Corporation, which provides for up to $25.0 million of
borrowings through September 22, 2001. The Company must pay an unused line fee
at the annual rate of one-quarter of one percent on the unused portion of the
first $5 million and the Company is required to maintain a minimum level of
tangible net worth. The line of credit is secured by the Company's assets and
availability under the line is limited to 80% of eligible world-wide accounts
receivable. Interest is payable at one-half of one percent above the bank's base
rate (8.75% at December 31, 1998). At December 31, 1998, the Company had no
borrowings against this agreement. The Company had no long-term debt outstanding
as of December 31, 1996 or 1997. As of December 31, 1998, the Company had
$663,000 outstanding in long-term debt relating to future amounts owed for the
bank fee related to establishing the line of credit facility and for purchased
intellectual property.
The Company made capital expenditures of approximately $10.7 million,
$2.8 million, and $3.8 million in 1996, 1997 and 1998, respectively. These
expenditures were primarily for the purchase of test equipment, design and
engineering tools, and computer equipment. During 1996 and 1997, the Company
resold certain equipment to a subcontractor for proceeds of $1.3 million and
$2.6 million, respectfully. Management estimates that gross expenditures for
capital equipment will be approximately $7.0 million in 1999.
In January 1998, the Company entered into an agreement to purchase a 14
acre plot of land located in San Jose, California for $9.2 million. The Company
planned to build its corporate headquarters on this site, scheduled for
completion in 1999. In the second quarter of 1998, the Company elected to
withdraw from the agreement. The costs associated with the termination of the
agreement were approximately $500,000 and are included in general and
administrative expenses.
In July 1996, the Board of Directors approved a stock repurchase
program whereby up to an aggregate of 500,000 shares of the Company's common
stock could be repurchased on the open market at prevailing market prices.
Approximately 100,000 shares were repurchased under this authorization during
August and September 1996 for an aggregate purchase price of approximately
$723,000.
In February 1997, the Board of Directors approved a stock repurchase
program whereby up to an aggregate of 1,000,000 shares of the Company's
common stock could be repurchased on the open market at prevailing market
prices. The repurchase program ended June 1997. Approximately 492,000 shares
were repurchased under this authorization during the quarter ended June 1997
for an aggregate purchase price of $1,863,000. Purchase prices ranged from
$3.69 to $3.88 per share.
In July 1997, the Board of Directors authorized a stock repurchase
program whereby 1,000,000 shares of the Company's common stock could be
repurchased on the open market at prevailing market prices. The repurchase
program ended December 1997. Approximately 234,000 shares were repurchased
under this authorization during the period ended December 1997 for an
aggregate purchase price of $872,000. Purchase prices ranged from $3.62 to
$3.78 per share.
In January 1998, the Board of Directors authorized a stock
repurchase program whereby 1,000,000 shares of the Company's common stock
could be repurchased on the open market at prevailing market prices. The
repurchase program ended June 1998. Approximately 449,000 shares were
repurchased under this authorization during the period ended June 1998 for an
aggregate purchase price of $1,584,000. Purchase prices ranged from $3.19 to
$3.78 per share.
In February 1998, the Company agreed to purchase technology from a
product development partner for $1.8 million, payable upon the completion of
certain product development milestones over the next eighteen months.
During 1998, the Company paid $0.3 million pursuant to this agreement.
As of December 31 1998, the Company's principal sources of liquidity
included cash, cash equivalents, and short-term investments of approximately
$23.9 million. As of December 31, 1998, the Company had an open line of credit
of up to $25 million to secure sufficient working capital to finance growth in
operations and new product development efforts, as noted above. At December 31,
1998, there was no borrowing against the line. The Company believes that the
cash balances, together with funds expected to be generated from operations and
the line of credit availability will be
22
<PAGE>
sufficient to meet its projected working capital and other cash requirements
through at least the next twelve months. However, there can be no assurance
that events in the future will not require the Company to seek additional
borrowings or capital and, if so required, that such borrowings or capital
will be available on terms acceptable to the Company.
Specifically, industry overcapacity during 1998 has resulted in higher
than expected price declines in the Company's markets, which has unfavorably
impacted the Company's revenues, gross margins, and profitability. The Company
expects this price erosion may continue for some time. The Company is attempting
to accelerate its cost reduction efforts and to develop new products to expand
and diversify the Company's application and geographic base. If such activities
can not be implemented in a timely manner to offset anticipated declines in
average selling prices, losses may result and liquidity may be adversely
impacted.
READINESS FOR YEAR 2000
Many existing computer systems and applications, and other control
devices, use only two digits to identify a year in the date field, without
considering the impact of the upcoming change in the century. They could fail or
create erroneous results unless corrected so that they can process data related
to the year 2000. The Company relies on primary management information and
accounting systems (such as integrated general ledger, accounts receivable,
accounts payable, sales order entry and purchasing modules), ancillary
information systems (such as payroll, human resource and fixed asset tracking
software), customer services infrastructure, embedded computer chips, networks
and telecommunications equipment, manufacturing test equipment, research and
development software tools and end products, electronic security systems and
other systems whose operational ability may be adversely impacted by the year
2000. The Company also relies on external systems of business enterprises such
as customers, suppliers, creditors, financial institutions and organizations,
and of governments, both domestically and globally, directly and indirectly, for
the accurate exchange of data and other business-critical resources.
The Company's assessment of potential Year 2000 problems in its current
and previously sold products is that, to the best of its knowledge and belief,
at the time of shipment the Company's products do not contain date sensitive
data or real time clocks; thus, they are neither affected by nor will they
directly cause "Year 2000" problems.
For the Company, Year 2000 compliant means the technology (including
but not limited to hardware, software, firmware, microchips, or other electronic
components, equipment, processes, or systems) shall provide the following
functions in a correct and consistent manner: (1) handle date information,
including 9/9/99, before, during, and after the 1st of January 2000, including
but not limited to: accepting date input, providing date output, and performing
calculations on dates, or portions of dates; (2) performance and functionality
are not affected by dates prior to, during, and after the 1st of January 2000;
(3) respond to two-digit year date input in a way that resolves the ambiguity of
which century in a disclosed, defined, and predetermined manner, i.e., a date
ending in 00 must return 2000; (4) store and provide output of date information
in ways that are unambiguous as to which century; and (5) Year 2000 is
recognized as a leap year.
THE YEAR 2000 PROJECT. The Company's Year 2000 Project ("the Project")
informally began in 1997 within the information technology ("IT") department.
The department began to upgrade the Company's management information systems and
personal computer hardware and software to be Year 2000 compliant. The Project's
mission and strategy became formalized in August 1998. The Company has and plans
to continue to dedicate the equivalent of two full-time resources to the Project
from the end of the fourth quarter of 1998 through the year 2000. The Project
consists of an eight step approach; (1) awareness that no system is safe from
Year 2000 problems, (2) inventorying SST internal and external resources and
activities with potential Year 2000 issues, (3) assessment of every item in the
inventory for Year 2000 compliance to determine where the problems lie, (4)
planning a strategy for fixing the problems encountered, focussing first on the
most business-critical functions, (5) remediation of business-critical processes
followed by other processes, (6) testing of remedied processes, (7) integration
back into other functions within and outside of the Company, and (8) contingency
planning to keep the Company functional in case Year 2000 compliance failures
occur.
AWARENESS. The awareness stage is 100% complete as it relates to both IT
supported functions internal to the Company and as it relates to all other
internal and external operations of the Company. The Project has full executive
and Board-level sponsorship and support at the appropriate levels of the
Company. Project funding has been discussed and incorporated into the 1999
planning and budgeting process. An internal cross-functional Task Force has been
established to develop strategies to assess the Year 2000 compliance of
customers, vendors and other significant corporate partners as well as to
inventory and to assess compliance of the systems and equipment within the
Company. The awareness stage has
23
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been completed.
INVENTORY AND ASSESSMENT. The Company is actively inventorying Company resources
and assessing Year 2000 compliance of these resources. The inventory and
assessment stages are both approximately 85% complete as they relate to IT
supported functions, such as management information systems and accounting
hardware and software, and approximately 60% complete as they relate to non-IT
supported functions, such as manufacturing test equipment and other Company
operations. The inventory and assessment stages are expected to be completed by
the middle of the second quarter of 1999.
Currently, the Company is conducting a survey of both its internal
systems and the equipment and systems supported by third party providers to
assess Year 2000 compliance. The Company plans to survey its active customers
with sales activity over $1 million in the past eighteen months, significant
vendors and other trading partners to assess Year 2000 compliance. All
significant vendors will be asked to complete a survey questionnaire and to
certify Year 2000 compliance. All of the Company's significant third party
vendors have been contacted thus far and the Company awaits their responses. The
survey responses will be reviewed and evaluated during the second quarter of
1999.
PLANNING AND REMEDIATION. The Company has already begun to strategize on how to
best fix the problems encountered. Decisions are made on a case by case basis,
and approximately 70% of the problems can be fixed by the replacement or
purchase of additional parts or software upgrades. The remaining 30% of the
problems require replacement of the entire system. Because the Company is
relatively young and does not use many proprietary systems, much of the cost of
upgrading the Company's systems to ensure Year 2000 compliance is a part of the
Company's practice of routinely upgrading IT supported systems as new versions
are released by vendors and is considered to be a normal cost of doing business.
In this respect, the Company has already upgraded all of its personal computer
hardware and operating systems, its network switches, and its primary management
information and accounting systems to Year 2000 compliant versions. The cost
incurred for this effort was approximately $250,000.
The planning and remediation stages are approximately 80% complete as
they relate to IT supported functions and approximately 50% as they relate to
non-IT supported functions. The planning and remediation stages are expected to
be completed by the end of the second quarter of 1999.
TESTING AND INTEGRATION. The testing and integration stages are approximately
65% complete for items related to IT supported functions and 20% complete for
items related to non-IT supported functions. Testing of vendor supplied survey
data may include follow-up discussions of survey data, site visits, and review
of Year 2000 compliance project timelines. These stages are expected to be
completed by the end of the third quarter of 1999.
Based upon the information available at this time, the future costs
related to Year 2000 compliance are not expected to exceed $500,000. The cost
estimate is based on the Company's current assessment of the projects identified
and is subject to change as the projects progress. The estimate does not include
potential costs related to any customer or other claims.
CONTINGENCY PLANNING. The contingency planning stage will be performed in
conjunction with the planning and remediation stages and the testing and
integration stages. For each mission critical vendor or trading partner that has
not responded on Year 2000 compliance to the Company's satisfaction by June 30,
1999, a contingency plan which includes an alternative vendor source will be
developed. If, during a follow-up survey scheduled for the third quarter of
1999, it appears that compliance is behind schedule or problematic, the
contingency plan will be implemented and an alternative vendor will be qualified
to provide service from late 1999 through the early part of year 2000. This
stage is expected to be complete by the middle of the fourth quarter of 1999.
Despite the Company's efforts to address the Year 2000 impact on its
internal systems, the Company is not sure that it has fully identified such
impact and that it can resolve such impact without disruption of its business
and without incurring significant expense. In addition, even if the internal
systems of the Company are not materially affected by the Year 2000 issue, the
Company could be materially affected through disruption in the operation of the
enterprises, financial institutions, or governmental entities with which the
Company interacts. A failure to identify and or correct a material Year 2000
problem could result in an interruption in, or a failure of, certain normal
business activities or operations. Such failures could materially and adversely
affect the Company's results of operations, liquidity and financial condition.
Specifically, if the Company does not adequately identify and correct Year 2000
problems in its
24
<PAGE>
information systems it could experience interruptions in its operations,
including manufacturing, order processing, receivables collections and
accounting, such that there would be delays in product shipments, lost data
and a consequential impact on revenues, expenditures and financial reporting.
If the Company does not adequately identify and correct Year 2000 problems in
its non-IT supported systems it could experience interruptions in its
manufacturing and related operations, such that there would be delays in
product shipments and a consequential impact on revenues. If the Company does
not adequately identify and correct Year 2000 problems with its significant
third parties it could experience interruptions in the supply of key
components or services from those parties, such that there would be delays in
product shipments or services and a consequential impact on revenues. In
addition, given the inherent complexity of the Year 2000 problem, there can
be no assurance that actual costs will not be higher than currently
anticipated or that corrective actions will not take longer than currently
anticipated to complete. There is also a risk that the Company's plans for
achieving Year 2000 compliance may not be completed on time.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Due to its international sales and manufacturing, the Company is
exposed to risks associated with foreign exchange rate fluctuations. These
exposures may change over time as business practices evolve and could have a
material adverse effect on the Company's operating results and financial
condition. All of the Company's sales are denominated in U.S. dollars. An
increase in the value of the U.S. dollar relative to foreign currencies could
make the Company's products more expensive, reducing the demand for the
Company's products. A decline in the demand of the Company's product could have
a material adverse effect on the Company's operating results and financial
position. In addition, a downturn in the Japanese economy could impair the value
of the Company's investment in its Japanese affiliate.
The Company maintains an investment portfolio of various issuers, types and
maturities. The Company's portfolio consists of municipal securities and
commercial papers, which are classified as available-for-sale and recorded on
the balance sheet at their fair market value. The securities all mature within
120 days. At any time, fluctuations in interest rates could effect interest
earnings on the Company's cash, cash equivalents and short-term investments.
Currently, the Company does not hedge these interest rate exposures.
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements, together with the report thereon
of PricewaterhouseCoopers LLP, independent accountants, dated January 11, 1999,
are included in a separate section of this Report. See Index to Consolidated
Financial Statements on Page 39.
SUPPLEMENTARY DATA: SELECTED CONSOLIDATED QUARTERLY DATA
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1997 YEAR ENDED DECEMBER 31, 1998
---------------------------------------- -----------------------------------------
FIRST SECOND THIRD FOURTH FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER
------- ------- ------- ------- ------- ------- ------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues $17,092 $18,056 $20,015 $20,159 $16,365 $16,824 $18,139 $18,083
Gross profit (loss) 559 3,182 4,585 4,249 1,975 3,418 1,902 (587)
Income (loss) from operations (3,928) (1,834) (165) (6,308) (3,866) (3,513) (5,373) (6,949)
Net income (loss) (2,519) (1,019) 395 (3,781) (2,325) (1,242) (7,273) (6,747)
Net income (loss) per share -
basic ($0.11) ($0.04) $0.02 ($0.16) ($0.10) ($0.05) ($0.32) ($0.29)
Net income (loss) per share -
diluted ($0.11) ($0.04) $0.02 ($0.16) ($0.10) ($0.05) ($0.32) ($0.29)
</TABLE>
NET REVENUES. The percentage increase in net revenues from quarter to quarter
for 1997 was due to increased shipment volume. Net revenues decreased from the
fourth quarter of 1997 to the first quarter of 1998 due to a 7% decrease in
units shipped from quarter to quarter as well as declining average selling
prices. For each quarter after the first quarter of 1998, net revenues increased
due to increasing volume of shipments, somewhat offset by declining average
selling prices. The fourth quarter of 1998 had record shipments of 15.6 million
units, a 48% increase from fourth quarter of 1997.
GROSS MARGIN. Gross margin as a percentage of net revenue and in absolute
dollars in the first quarter of 1997 was lower than each successive quarter
thereafter in 1997 due to a $3.2 million charge to reduce the carrying value of
inventory to its approximate replacement cost. Gross margin dropped from 21% in
the fourth quarter of 1997 to 12% in the first quarter of 1998 despite increased
unit shipment activity due to an approximate 14% decrease in weighted average
selling prices
25
<PAGE>
from quarter to quarter, due to industry over capacity. Gross margin
increased from the first quarter of 1998 to the second quarter as a result of
renegotiated die prices and increased unit shipment activity. The decrease in
gross margin as a percentage of net revenue and in absolute dollars during
the third and fourth quarters of 1998 was due to continued price erosion.
INCOME (LOSS) FROM OPERATIONS. Loss from operations decreased steadily during
the first three quarters of 1997 due to increases in volume of shipments and
slowing declines in average selling prices during the last two quarters of 1997.
In addition, a $3.2 million charge in the first quarter of 1997 to reduce the
carrying value of inventory to its approximate replacement cost and a charge of
approximately $3 million in the fourth quarter of 1997 to accrue estimated costs
to defend on-going legal actions, significantly reduced net income from
operations for those respective quarters. Net loss decreased from the fourth
quarter of 1997 to the first quarter of 1998 largely due to the $3 million
charge for accrual of estimated costs to defend on-going legal actions in the
fourth quarter of 1997. Net loss from operations generally increased from
quarter to quarter during 1998 because declining average selling prices outpaced
manufacturing cost reductions.
NET INCOME (LOSS). Net loss decreased steadily during the first two quarters of
1997 due to increases in volume of shipments and slowing declines in average
selling prices. In addition, a $3.2 million charge in the first quarter of 1997
to reduce the carrying value of inventory to its approximate replacement cost
and a charge of approximately $3 million in the fourth quarter of 1997 to accrue
estimated costs to defend on-going legal actions, significantly reduced net
income from operations for those respective quarters. Net loss decreased from
the first quarter to the second quarter of 1998 due to an increase in the tax
benefit rate from 30% to 44%. Net loss increased during the last two quarters of
1998 due to declining gross margins and a $2.2 million charge in the third
quarter to provide a full valuation allowance against the carrying value of the
Company's deferred tax asset as a result of cumulative net operating losses.
NET INCOME (LOSS) PER SHARE. Net income (loss) per share increased steadily
during the first three quarters of 1997 due to increases in volume of shipments
and slowing declines in average selling prices during the last two quarters of
1997. In addition, a $3.2 million charge in the first quarter of 1997 to reduce
the carrying value of inventory to its approximate replacement cost and a charge
of approximately $3 million in the fourth quarter of 1997 to accrue estimated
costs to defend on-going legal actions, significantly reduced net income from
operations for those respective quarters. Net loss per share decreased from the
first quarter to the second quarter of 1998 due to an increase in the tax
benefit rate from 30% to 44%. Net loss per share increased during the last two
quarters of 1998 due to declining gross margins and a $2.2 million charge to the
provision for income taxes in the third quarter to provide a full valuation
allowance against the carrying value of the Company's deferred tax asset as a
result of cumulative net operating losses.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
26
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
The following table lists the names, ages and positions held with the Company of
all executive officers and Directors of the Company as of March 1, 1999. There
are no family relationships between any director or executive officer of the
Company. Executive officers serve at the discretion of the Board of Directors.
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Bing Yeh (1)(4) 48 President and Chief Executive Officer, and Director
Jeffrey L. Garon 38 Chief Financial Officer and Vice President, Finance
and Administration, and Corporate Secretary
Joel J. Camarda 49 Vice President, Operations
Isao Nojima 55 Vice President, Advanced Development
Yaw-Wen Hu 49 Vice President, Process Development
and Wafer Manufacturing, and Director
David Sweetman 51 Vice President, Quality and Customer Support
Michael Briner 51 Vice President, Design Engineering
Derek Best 48 Vice President, Sales and Marketing
<CAPTION>
NAME AGE PRINCIPAL OCCUPATION/POSITION HELD WITH THE COMPANY
---- --- ----------------------------------------------------
Tsuyoshi Taira (1)(2)(3) 60 President, Tazan International, Inc. / Director
Yasushi Chikagami (1)(2)(3) 60 Director, GVC Corporation / Director
Ronald Chwang (1)(2)(3) 50 President, Acer Capital America / Director
</TABLE>
(1) Member of Compensation Committee
(2) Member of Audit Committee
(3) Member of Stock Option Committee
(4) Sole Member of Non-Officer Stock Option Committee
Bing Yeh, co-founder of the Company, has served as President, Chief
Executive Officer and a director of the Company since its inception in 1989.
Prior to founding the Company, Mr. Yeh served as a Senior Research and
Development Manager of Xicor, Inc., a nonvolatile memory semiconductor company.
From 1981 to 1984, Mr. Yeh held program manager and other positions at Honeywell
Inc. From 1979 to 1981, Mr. Yeh was a senior development engineer of EEPROM
technology of Intel Corporation. He was a Ph.D. candidate in Applied Physics and
earned an Engineer degree at Stanford University. Mr. Yeh holds an M.S. and a
B.S. in Physics from National Taiwan University.
Jeffrey L. Garon joined the Company as Chief Financial Officer and Vice
President, Finance and Administration and Corporate Secretary in March 1998.
Prior to joining the company, Mr. Garon served as President and Senior Operating
Officer of The Garon Financial Group, Inc., a venture capital and venture
consulting firm specializing in start-ups, turnarounds and restarts, from 1994
to 1998. From 1993 to 1994, he served as a Vice President and Chief Financial
Officer of Monster Cable Products, Inc., a leading provider of audio cables and
supplies to consumers and the consumer electronic retail channel. Prior to this,
Mr. Garon held senior financial positions with Visual Edge Technology, Inc., a
provider of large format digital imaging systems, Oracle Corporation,
Ashton-Tate Corporation and Teledyne Microelectronics. Mr. Garon holds a B.S. in
Business Administration Finance from California State University, Northridge and
a M.B.A. from Loyola Marymount University.
27
<PAGE>
Joel J. Camarda joined the Company as Vice President, Operations in
1998. Prior to joining the Company, Mr. Camarda served as Vice President,
Operations of Integrated Packaging Assembly Corporation from 1994 to 1997. From
1988 to 1994, he progressed to Director of Worldwide Assembly Manufacturing of
Cypress Semiconductor. Mr. Camarda holds a B.S. in Aeronautical Engineering from
New York University and has completed post graduate course work in semiconductor
materials and in business.
Isao Nojima has served the Company as Vice President, Advanced
Development since July 1997. From March 1993 to June 1997 he served as Vice
President, Memory Design and Product Engineering. From 1990 to 1993, Mr. Nojima
served as Director of Design Engineering of Pioneer Semiconductor Corporation
(Pericom), a manufacturer of semiconductors. From 1980 to 1990, he served as
Design Manager of Xicor Inc., a nonvolatile semiconductor company. From 1977 to
1980, he served as a Senior Design Engineer for Intel Corporation. From 1969 to
1976, he was a Senior Researcher at Toshiba's R&D Center in Japan. Mr. Nojima
holds a B.S. and an M.S. in Electrical Engineering from Osaka University in
Japan.
Yaw Wen Hu, Ph.D., has served the Company as Vice President, Process
Development and Wafer Manufacturing since July 1993 and became a director of the
Company in September 1995. From 1990 to 1993, Dr. Hu served as Deputy General
Manager of Technology Development of Vitelic Taiwan Corporation. From 1988 to
1990, he served as FAB Engineering Manager of Integrated Device Technology, Inc.
From 1985 to 1988 he was the Director of Technology Development at Vitelic
Corporation. From 1978 to 1985 he worked as a senior development engineer in
Intel Corporation's Technology Development group. Mr. Hu holds a B.S. in Physics
from National Taiwan University and an M.S. in Computer Engineering and a Ph.D.
in Applied Physics from Stanford University.
David Sweetman has served the Company as Vice President, Quality and
Customer Support since February 1994. Prior to joining the Company, he served
from 1991 to 1993 as Vice President of Quality and Reliability of Catalyst
Semiconductor Inc. From 1986 to 1991, he served as Director of Military Programs
of Seeq Technology Inc. He has published numerous papers on the quality,
reliability and performance of reprogrammable nonvolatile memories, SPC and PPM.
Mr. Sweetman holds a B.S. in Physics from San Diego State University and a
M.B.A. from the University of Santa Clara.
Michael Briner joined the Company as Vice President, Design Engineering
in November 1997. From 1993 to 1997, he served as Vice President of Design
Engineering for Micron Quantum Devices, Inc., a subsidiary of Micron Technology,
Inc., chartered to develop and manufacture flash memory products. From 1986
through 1992, he served as Director of Design Engineering for the Nonvolatile
Division of Advanced Micro Devices, Inc. In this position, he was instrumental
in helping AMD become a major nonvolatile memory manufacturer. Mr. Briner holds
a B.S. in Electrical Engineering from the University of Cincinnati.
Derek Best joined the Company in June 1997 as Vice President of Sales
and Marketing. Prior to joining the Company he worked for Micromodule Systems, a
manufacturer of high density interconnect technology, as Vice President
Marketing and Sales World Wide from 1992 to 1996. From 1987 to 1992 he owned his
own company, Mosaic Semiconductor, a semiconductor company. Mr. Best holds an
Electrical Engineering degree from Portsmouth University in England.
Tsuyoshi Taira has been a director of the Company since July 1993. Mr.
Taira served as a member of the board of directors of Atmel Corporation from
1987 to 1992. Mr. Taira served as president of Sanyo Semiconductor Corporation
from 1986 to 1993. Mr. Taira was Chairman of the Sanyo Semiconductor Corporation
from 1993 to 1996. Mr. Taira left the Sanyo Semiconductor Corporation in August,
1996. Mr. Taira currently owns and runs a marketing and management consulting
company, Tazan International, Inc. Mr. Taira holds a B.S. from Tokyo
Metropolitan University.
Yasushi Chikagami has been a director of the Company since September
1995. Mr. Chikagami has been Chairman of Keian Corporation, a personal computer
and PC peripheral distributor, since 1993. Mr. Chikagami has also served as
director of GVC Corporation and Trident Microsystems, Inc. since 1993. Mr.
Chikagami holds a B.S. in Agricultural Engineering from Taiwan University and a
M.S. in engineering from University of Tokyo.
28
<PAGE>
Ronald Chwang, Ph.D. has been a director of the Company since June
1997. Dr. Chwang is the president of Acer Capital America and managing general
partner of Acer Technology Venture Fund. Previously, Dr. Chwang was President
and Chief Executive Officer of Acer America, a subsidiary of Acer Group, a
worldwide computer, component and semiconductor manufacturer, from 1992 to 1997,
and has been with Acer in various capacities since 1986. Dr. Chwang has
previously held development and management positions at Intel Corporation and
Bell Northern Research. Dr. Chwang holds a B.S. in Engineering from McGill
University and a Ph.D. in Electrical Engineering from the University of Southern
California.
COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES EXCHANGE ACT OF 1934
Section 16(a) of the Securities Exchange Act of 1934 (the "Securities
Exchange Act") requires Company's directors and executive officers, and persons
who own more than ten percent of a registered class of the Company's equity
securities, to file with the Securities & Exchange Commission initial reports of
ownership and reports of changes in ownership of the Common Stock and other
equity securities of the Company. Officers, directors, and greater than ten
percent shareholders are required by the Securities & Exchange Commission
regulations to furnish the Company with copies of all Section 16(a) forms they
file.
To the Company's knowledge all Section 16(a) filing requirements
applicable to its officers, directors and greater than ten percent beneficial
owners were complied with in accordance with the Securities Exchange Act.
ITEM 11. EXECUTIVE COMPENSATION
COMPENSATION OF DIRECTORS
Directors do not currently receive any cash compensation from the
Company for their service as members of the Board of Directors, although they
are reimbursed for certain travel-related expenses in connection with attendance
at Board and Committee meetings.
COMPENSATION OF EXECUTIVE OFFICERS
The following table sets forth certain compensation awarded or paid by
the Company during the fiscal years ended December 31, 1996, December 31, 1997
and December 31, 1998 to its President and Chief Executive Officer and the four
other Named Executive Officers:
<TABLE>
<CAPTION>
LONG-TERM COMPENSATION
----------------------- ---------------------------- ALL OTHER
SALARY BONUS SECURITIES UNDERLYING COMPENSATION
NAME AND PRINCIPAL POSITION YEAR ($) ($) (2) STOCK OPTIONS ($) (1)
- ---------------------------------------------- --------- --------- ------------- ------------------------ -----------------
<S> <C> <C> <C> <C> <C>
Bing Yeh
President and Chief Executive Officer 1998 221,905 ----- ----- 600
1997 207,121 ----- ----- 1,480
1996 195,000 78,682 ----- 2,592
Michael Briner 1998 187,739 ----- ----- -----
Vice President, Design Engineering 1997 26,939 ----- ----- -----
Derek Best 1998 162,097 ----- ----- 2,960
Vice President, Sales and Marketing 1997 90,417 ----- ----- -----
Yaw-Wen Hu 1998 149,297 ----- ----- -----
Vice President, Process 1997 137,280 ----- 25,640 (3) 280
Development and Wafer Manufacturing 1996 132,000 40,814 ----- 1,792
Isao Nojima 1998 148,601 ----- ----- 260
Vice President, 1997 141,353 ----- 24,420 (3) -----
Advanced Development 1996 135,000 41,851 ----- $1,072
</TABLE>
29
<PAGE>
(1) Other compensation for travel time, new hire referrals, amounts paid by the
Company for supplemental term life insurance, etc.
(2) Bonuses received pursuant to the Company's profit sharing plan.
(3) Stock option grant, net of impact of repriced stock options.
STOCK OPTION GRANTS OF NAMED EXECUTIVE OFFICERS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
PERCENT OF POTENTIAL REALIZABLE VALUE
TOTAL OPTIONS AT ASSUMED ANNUAL RATES
GRANTED TO EXERCISE MARKET OF STOCK PRICE APPRECIATION
DATE OPTIONS EMPLOYEES IN PRICE PRICE EXPIRATION FOR OPTION TERM
NAME OF GRANT GRANTED FISCAL YEAR ($/SH) ($/SH) DATE 0% 5% 10%
---- -------- ------- ------------ ------ ------ ---- -- -- ---
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Derek Best Jul-98 26,483 3.04% $2.84 $2.84 7/6/08 - $47,367 $120,037
Yaw-Wen Hu Jul-98 15,262 1.75% $2.84 $2.84 7/6/08 - $27,297 $69,177
Isao Nojima Jul-98 9,768 1.12% $2.84 $2.84 7/6/08 - $17,471 $44,274
</TABLE>
AGGREGATE OPTION EXERCISES OF NAMED EXECUTIVE OFFICERS
IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
<TABLE>
<CAPTION>
NUMBER (#) OF SECURITIES $ VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS AT
SHARES ACQUIRED $ VALUE OPTIONS AT DECEMBER 31, 1998 DECEMBER 31, 1998
NAME ON EXERCISE REALIZED (1) EXERCISABLE / UNEXERCISABLE EXERCISABLE / UNEXERCISABLE(2)
- ---- ----------- ------------ --------------------------- ------------------------------
<S> <C> <C> <C> <C>
Bing Yeh - - - -
Derek Best - - 22,500/63,983 $0/$0
Michael Briner - - 36,400/131,600 $0/$0
Isao Nojima 50,000 $ 105,000 264,794/24,394 $583,290/$0
Yaw-Wen Hu 40,000 $ 99,620 234,560/31,642 $515,346/$0
</TABLE>
(1) Based on the fair market value of the Company's Common Stock on the dates of
exercise minus the exercise price.
(2) Based on the closing price of the Company's Common Stock ($2.438) on
December 31, 1998, the last trading day of the fiscal year, as reporting on the
Nasdaq National Market, minus the exercise price of the option, multiplied by
the number of shares underlying the option.
As of March 1, 1999, options to purchase a total of 728,422 shares were
outstanding and exercisable under the Equity Incentive Plan for purchase by
beneficial owners and options to purchase a total of 55,864 shares were
outstanding and exercisable under the Directors' Option Plan for purchase by
beneficial owners. Options to purchase approximately 851,000 and 47,000 shares
remained authorized and available for grant as of that date for the Equity
Incentive Plan and the Directors' Options Plan, respectively.
30
<PAGE>
COMPENSATION PLANS
On October 3, 1995 the Company adopted its Equity Incentive Plan,
Employee Stock Purchase Plan and 1995 Non-Employee Directors' Stock Option Plan.
The Employee Stock Purchase Plan was amended in January 1998 to increase the
number of shares allowed to be purchased by the employees in each period. The
Equity Incentive Plan was amended in July 1998 to increase the authorized shares
issued under the plan by 750,000 shares to 6,750,000 shares. No other amendments
to these plans were made in 1998 or are proposed for the Annual Meeting to be
held July 15, 1999.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information regarding the ownership of
the Company's Common Stock as of March 1, 1999 by: (i) each director and each
nominee for director; (ii) each of the executive officers named in the Summary
Compensation Table employed by the Company in that capacity on March 1, 1999;
(iii) all executive officers and directors of the Company as a group; and (iv)
all those known by the Company to be beneficial owners of more than five percent
of its Common Stock.
<TABLE>
<CAPTION>
BENEFICIAL OWNERSHIP (1)
----------------------------------
5% SHAREHOLDERS, DIRECTORS, AND OFFICERS NUMBER OF SHARES PERCENT OF TOTAL
- ---------------------------------------- ---------------- ----------------
<S> <C> <C>
Bing Yeh (2) 3,670,000 15.3%
c/o Silicon Storage Technology, Inc.
1171 Sonora Court
Sunnyvale, CA 94086
Ching S. Jenq 1,980,000 8.2
13030 Cumbra Vista Court
Los Altos Hills, CA 94022
Su Hwa Tseng 1,410,000 5.9
22, R&D Road 2
Hsin-Chu Science Park
Taiwan, R.O.C. 30077
Michael Briner (3) 103,437 *
Derek Best (4) 27,500 *
Isao Nojima (5) 348,159 1.4
Yaw Wen Hu (6) 335,799 1.4
Tsuyoshi Taira (7) 24,005 *
Yasushi Chikagami (7) 24,005 *
Ronald Chwang (8) 17,504 *
All directors and executive officers as a group
(eleven persons) (9) 4,780,277 19.9%
</TABLE>
* Represents beneficial ownership of less than 1%.
31
<PAGE>
(1) This table is based upon information supplied by officers, directors and
principal shareholders and schedules 13D and 13G filed with the Securities &
Exchange Commission. Unless otherwise indicated in the footnotes to this table,
and subject to community property laws where applicable, each of the
shareholders named in this table above has sole voting and investment power with
respect to the shares of Common Stock shown as beneficially owned. Percentage of
beneficial ownership is based on 23,231,221 shares of the Company's Common Stock
outstanding as of March 1, 1999 adjusted as required by rules promulgated by the
Securities & Exchange Commission.
(2) Includes (i) 1,160,000 shares held by the Yeh Family Trust U/D/T dated
August 14, 1995, of which Mr. Yeh and his wife are trustees and (ii) 2,480,000
shares held by the Yeh 1995 Children's Trust U/T/A dated July 31, 1995 (the
"Children's Trust") of which Su-Wen Y. Liu and Yeon-Hong Chan are trustees. Mr.
Yeh disclaims beneficial ownership of the shares held by the Children's Trust.
Also includes 30,000 shares purchased under an IRA account in the name of Bing
Yeh.
(3) Includes 47,600 shares issuable subject to options exercisable on or before
April 29, 1999.
(4) Includes 27,500 shares issuable subject to options exercisable on or before
April 29, 1999.
(5) Includes 268,695 shares issuable subject to options exercisable on or before
April 29, 1999.
(6) Includes (i) 5,000 shares held by each of Mr. Hu's two minor children and
(ii) 238,655 shares issuable subject to options exercisable on or before April
29, 1999.
(7) Includes 24,005 shares issuable subject to options exercisable on or before
April 29, 1999.
(8) Includes 12,504 shares issuable subject to options exercisable on or before
April 29, 1999.
(9) Includes 827,332 shares subject to stock options held by directors and
officers exercisable within 60 days of March 1, 1999. See footnotes (3), (4),
(5), (6), (7), and (8).
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
On January 31, 1996, the Company acquired a 14% interest in a Japanese
company for approximately $939,000 paid in cash. The president of the Japanese
company is a shareholder of the Company. In 1996, 1997 and 1998 this customer
accounted for 12.7%, 15.4% and 14.7%, respectively, or approximately $11.8
million, $11.6 million $10.2 million, of net revenues of the Company. This was
the only customer that accounted for more than 10% of the Company's net revenues
in 1996 and 1997. In 1998, the only other customer to account for more than 10%
of net revenues was Actron Technology, Co., Inc., which accounted for 10.4% or
approximately $7.2 million of net revenues.
In June 1997, Dr. Ronald Chwang became a member of the Board of
Directors. Dr. Chwang is the president of Acer Capital America and managing
general partner of Acer Technology Venture Fund. Related entities, Acer
Corporation, Acer Peripherals and Acer Technologies are customers of the
Company. In 1997 and 1998, these customers accounted for 6.0% and 7.3%,
respectively, or approximately $4.5 million and $5.1 million of net revenues.
The Compensation Committee of the Board of Directors is composed of the
following persons: Mr. Bing Yeh, Mr. Tsuyoshi Taira, Mr. Yasushi Chikagami and
Dr. Ronald Chwang. Of these Directors, Mr. Yeh is also an officer of the
Company.
As a matter of policy, all future transactions between the Company or
any of its officers, directors, or principal shareholders will be approved by a
majority of the independent and disinterested members of the Board of Directors,
and will be on terms no less favorable to the Company than could be obtained
from unaffiliated third parties and will be in connection with bona fide
business purposes of the Company.
32
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULE, AND REPORTS ON FORM 8-K.
(a) 1. CONSOLIDATED FINANCIAL STATEMENTS. The index to the consolidated
financial statements is found on page 39 of this Report.
(a) 2. FINANCIAL STATEMENT SCHEDULE. Financial statement schedule Number
II is included on page 37 of this Report.
(a) 3. EXHIBITS. See Exhibit Index in part (c), below.
(b) Reports on Form 8-K filed in the last quarter of the period and
subsequent: None
(c) INDEX TO EXHIBITS.
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF DOCUMENT
--------- -----------------------
<S> <C>
3.2+ Bylaws of the Company.
3.4+ Form of Restated Articles of Incorporation of the Company to be
effective upon the closing of the offering, dated November 3,
1995.
4.1+ Reference is made to Exhibits 3.2.
10.1+ Equity Incentive Plan and related agreements.
10.2+ 1990 Stock Option Plan and related agreements.
10.3+ Employee Stock Purchase Plan.
10.4+ 1995 Non-Employee Directors' Stock Option Plan.
10.5+ Profit Sharing Plan.
10.6+ Lease Agreement between the Company and Sonora Court Properties,
dated March 15, 1993, as amended.
10.7+ Lease Agreement between the Company and Coast Properties, dated May 4, 1995, as amended.
10.8+ License Agreement between the Company and Winbond Electronics Corporation, dated
July 30, 1990, as amended on September 14, 1990, August 27, 1992, December 15, 1992 and
December 1, 1993.
10.9+ License Agreement between the Company and Sanyo Electric Co., Ltd., dated April 7, 1993, as clarified by two letters
each dated April 8, 1993.
10.10+ Manufacturing Agreement between the Company and Sanyo Electric Co., Ltd., dated December 10, 1994.
10.11+ License and Technical Assistance Agreement between the Company and Rockwell International Corporation, Digital
Communications Division, dated September 1993, as amended on March 29, 1995.
10.13++ Documents relating to investment in Japanese company.
10.14++ Lease Agreement between the Company and Aetna Life Insurance Company, dated March 5, 1996.
10.15++ License Agreement between the Company and Seiko Epson Corporation dated March 31, 1996.
10.16++ License Agreement between the Company and Taiwan Semiconductor Manufacturing Co., Ltd. dated February 26, 1997.
10.17++ Lease amendment dated March 4, 1998 between Silicon Storage Technology, Inc. and Sonora Court Properties.
10.18++ Lease amendment dated March 4, 1998 between Silicon Storage Technology, Inc. and Coast Properties.
10.19 Loan and Security Agreement between the Company and Foothill Capital
Corporation dated September 22, 1998.
10.20 Loan and Security Agreement amendment between the Company and Foothill Capital Corporation dated
December 8, 1998.
23.1 Consent of PricewaterhouseCoopers LLP, Independent Accountants. See page 38.
27.1 Financial Data Schedule
</TABLE>
+ Previously filed as an Exhibit to the Registration Statement
filed on Form S-1 and incorporated by reference herein.
++ Previously filed as an Exhibit to Form 10-K or Form 10-Q
and incorporated by reference herein.
33
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Sunnyvale,
County of Santa Clara, State of California, on the 30th day of March, 1999.
SILICON STORAGE TECHNOLOGY, INC.
By: /s/ BING YEH
-----------------------------------------
Bing Yeh
President and Chief Executive Officer
(Principle Executive Officer)
Pursuant to the requirements of the Securities Act of 1934, this report
has been signed below by the following persons on behalf of the Company and in
the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- -----
<S> <C> <C>
President, Chief Executive March 30, 1999
/s/ BING YEH Officer and Director (Principal
- --------------------- Executive Officer)
Bing Yeh
Vice President Finance & Administration, March 30, 1999
/s/ JEFFREY L. GARON Chief Financial Officer and Secretary
- ---------------------- (Principal Financial and Accounting Officer)
Jeffrey L. Garon
Vice President, Process March 30, 1999
/s/ YAW WEN HU Development and Wafer
- ----------------------- Manufacturing and Director
Yaw Wen Hu
/s/ TSUYOSHI TAIRA
- ------------------------ Director March 30, 1999
Tsuyoshi Taira
/s/ RONALD CHWANG
- ------------------------ Director March 30, 1999
Ronald Chwang
- ------------------------
Yasushi Chikagami Director
</TABLE>
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO SECTION
15(d) OF THE ACT BY COMPANIES WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO
SECTION 12 OF THE ACT.
No annual report or proxy material has been sent to security holders as of the
date of the filing of this report. Such report and proxy material is to be
furnished to security holders subsequent to the filing of the annual report of
this Form, and the Company shall furnish copies of such material to the
Commission when it is sent to security holders.
34
<PAGE>
TRANSFER AGENT AND REGISTRAR
American Stock Transfer & Trust Company
40 Wall Street
New York, New York 10005
LEGAL COUNSEL
Cooley Godward LLP
5 Palo Alto Square
3000 El Camino Real
Palo Alto, CA 94306-2155
INDEPENDENT ACCOUNTANTS
PricewaterhouseCoopers LLP
Ten Almaden Blvd., Suite 800
San Jose, CA 95113
35
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE
To the Board of Directors of Silicon Storage Technology, Inc. and Subsidiary:
Our audits of the consolidated financial statements referred to in our report
dated January 11, 1999 appearing on page 40 of the 1998 Annual Report on Form
10-K of Silicon Storage Technology, Inc. and Subsidiary also included an audit
of the financial statement schedule listed in Item 14(a)(2) of this Form 10-K.
In our opinion, this financial statement schedule presents fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements.
/s/ PRICEWATERHOUSECOOPERS LLP
PricewaterhouseCoopers LLP
San Jose, California
January 11, 1999
36
<PAGE>
SCHEDULE II
SILICON STORAGE TECHNOLOGY, INC.
VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
BALANCE AT CHARGED TO WRITE-OFF BALANCE AT
BEGINNING OF COSTS AND OF ACCOUNTS END OF
DESCRIPTION PERIOD EXPENSES /OTHER PERIOD
- -------------- ----------- --------- ----------- ------------
<S> <C> <C> <C> <C>
Year ended December 31, 1996
Allowance for doubtful accounts ............. $ 333 $ 17 $ -- $ 350
Allowance for sales returns.................. $ -- $ 1,456 $ -- $ 1,456
Allowance for excess and obsolete inventories $ 1,096 $ 1,622 $ -- $ 2,718
Valuation allowance on deferred tax ......... $ -- $ -- $ -- $ --
Year ended December 31, 1997
Allowance for doubtful accounts ............. $ 350 $ 400 $ 30 $ 720
Allowance for sales returns.................. $ 1,456 $ (759) $ 28 $ 699
Allowance for excess and obsolete inventories $ 2,718 $ 4,175 $ 3,160 $ 3,733
Valuation allowance on deferred tax ......... $ -- $ -- $ -- $ --
Year ended December 31, 1998
Allowance for doubtful accounts ............. $ 720 $ 13 $ 170 $ 563
Allowance for sales returns.................. $ 699 $ (609) $ -- $ 60
Allowance for excess and obsolete inventories $ 3,733 $ 2,740 $ 5,051 $ 1,422
Valuation allowance on deferred tax ......... $ -- $ 9,607 $ -- $ 9,607
</TABLE>
37
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statement of
Silicon Storage Technology, Inc. on Form S-8 (File No. 0-26944) of our reports
dated January 11, 1999, on our audits of the consolidated financial statements
and financial statement schedule of Silicon Storage Technology, Inc. as of
December 31, 1997 and 1998, and for the years ended December 31, 1996, 1997 and
1998, which reports are included in this Annual Report on Form 10-K.
/s/ PRICEWATERHOUSECOOPERS LLP
PricewaterhouseCoopers LLP
San Jose, California
March 30, 1999
38
<PAGE>
SILICON STORAGE TECHNOLOGY, INC. AND SUBSIDIARY
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Accountants....................................... 40
Consolidated Balance Sheets............................................. 41
Consolidated Statements of Operations................................... 42
Consolidated Statements of Shareholders' Equity (Deficit)............... 43
Consolidated Statements of Cash Flows................................... 44
Notes to Consolidated Financial Statements.............................. 45
</TABLE>
39
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
Silicon Storage Technology, Inc. and Subsidiary
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, shareholders' equity (deficit) and cash
flows present fairly, in all material respects, the financial position of
Silicon Storage Technology, Inc. and Subsidiary (the "Company") at December 31,
1997 and 1998, and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 1998, in conformity with
generally accepted accounting principals. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with generally accepted auditing
standards which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
/s/ PRICEWATERHOUSECOOPERS LLP
PricewaterhouseCoopers LLP
San Jose, California
January 11, 1999
40
<PAGE>
SILICON STORAGE TECHNOLOGY, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
ASSETS
December 31,
------------------------
1997 1998
----------- -----------
<S> <C> <C>
Current assets:
Cash and cash equivalents $26,743 $23,007
Short-term investments 20,476 851
Accounts receivable, net of allowance for doubtful accounts
of $720 in 1997 and $563 in 1998 8,318 9,249
Accounts receivable from related parties 2,124 2,838
Inventories, net 11,909 8,297
Current deferred tax asset 3,716 -
Other current assets 1,011 2,615
----------- -----------
Total current assets 74,297 46,857
Furniture, fixtures, and equipment, net 7,224 6,847
Other assets 1,018 2,434
----------- -----------
Total assets $82,539 $56,138
----------- -----------
----------- -----------
LIABILITIES
Current liabilities:
Trade accounts payable 18,957 10,309
Accrued expenses 6,327 5,309
Deferred revenue 1,300 1,827
----------- -----------
Total current liabilities 26,584 17,445
Other liabilities 66 663
----------- -----------
Total liabilities 26,650 18,108
----------- -----------
Commitments and contingencies (Note 4).
SHAREHOLDERS' EQUITY
Common stock, no par value:
Authorized: 45,000 shares
Issued and outstanding: 23,107 shares (1997) and 23,086 shares (1998) 53,356 53,601
Deferred stock compensation (66) (32)
Retained earnings/(accumulated deficit) 2,599 (15,539)
----------- -----------
Total shareholders' equity 55,889 38,030
----------- -----------
Total liabilities and shareholders' equity $82,539 $56,138
----------- -----------
----------- -----------
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
41
<PAGE>
SILICON STORAGE TECHNOLOGY, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
Year ended December 31,
-------------------------------------
1996 1997 1998
----------- ----------- -----------
<S> <C> <C> <C>
Net revenues:
Product revenues $90,638 $73,796 $66,875
License revenues 2,652 1,526 2,536
----------- ----------- -----------
Total net revenues 93,290 75,322 69,411
----------- ----------- -----------
Costs and expenses:
Cost of revenues 59,494 62,747 62,703
Research and development 6,948 8,744 14,527
Sales and marketing 5,292 6,587 7,290
General and administrative 3,370 9,479 4,592
----------- ----------- -----------
75,104 87,557 89,112
----------- ----------- -----------
Income (loss) from operations 18,186 (12,235) (19,701)
Interest income 1,648 2,146 1,542
Interest expense - - (31)
Other income, net 115 - 31
----------- ----------- -----------
Income (loss) before provision for (benefit from) income taxes 19,949 (10,089) (18,159)
Provision for (benefit from) income taxes 7,598 (3,165) (571)
----------- ----------- -----------
Net income (loss) $12,351 ($6,924) ($17,588)
----------- ----------- -----------
----------- ----------- -----------
Net income (loss) per share - basic $0.54 ($0.30) ($0.77)
----------- ----------- -----------
----------- ----------- -----------
Net income (loss) per share - diluted $0.49 ($0.30) ($0.77)
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
42
<PAGE>
SILICON STORAGE TECHNOLOGY, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS)
<TABLE>
<CAPTION>
RETAINED EARNINGS/
COMMON STOCK DEFERRED STOCK (ACCUMULATED
SHARES AMOUNT COMPENSATION DEFICIT) TOTAL
------ ----- -------------- --------------- ---------
<S> <C> <C> <C> <C> <C>
Balances, December 31, 1995 22,791 $ 53,590 $ (133) $ (1,285) $ 52,172
Repurchase of shares of common stock (100) (233) - (490) (723)
Issuance of shares of common stock under
employees' stock purchase and option plans 534 263 - - 263
Tax benefit from exercise of stock options - 692 - - 692
Amortization of deferred stock
compensation - - 33 - 33
Net income - - - 12,351 12,351
-------- --------- ---------- ----------- -----------
Balances, December 31, 1996 23,225 54,312 (100) 10,576 64,788
Repurchase of shares of common stock -
Issuance of shares of common stock under (725) (1,682) (1,053) (2,735)
employees' stock purchase and option plans 607 599 - - 599
Tax benefit from exercise of stock options - 127 - - 127
Amortization of deferred stock
compensation - - 34 - 34
Net loss - - - (6,924) (6,924)
-------- --------- ---------- ----------- -----------
Balances, December 31, 1997 23,107 53,356 (66) 2,599 55,889
Repurchase of shares of common stock (449) (1,034) - (550) (1,584)
Issuance of shares of common stock under
employees' stock purchase and option plans 428 572 - - 572
Tax benefit from exercise of stock options - 707 - - 707
Amortization of deferred stock
compensation - - 34 - 34
Net loss - - - (17,588) (17,588)
-------- --------- ---------- ----------- -----------
Balances, December 31, 1998 23,086 $ 53,601 $ (32) $ (15,539) $ 38,030
-------- --------- ---------- ----------- -----------
-------- --------- ---------- ----------- -----------
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
43
<PAGE>
SILICON STORAGE TECHNOLOGY, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
Year ended December 31,
----------------------------------
1996 1997 1998
----------- ---------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $12,351 ($6,924) ($17,588)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization 3,431 4,206 4,235
Provision for doubtful accounts receivable 17 400 13
Provision for excess and obsolete inventories 1,622 4,175 2,740
Amortization of deferred stock compensation 33 34 34
(Gain) loss on sale of equipment (179) 7 1
Deferred income taxes (1,390) (127) 3,747
Changes in operating assets and liabilities:
Accounts receivable (2,339) 1,084 (944)
Accounts receivable from related parties (3,124) 1,000 (714)
Inventories (13,634) (2,121) 872
Other current and noncurrent assets (789) 361 (1,219)
Trade accounts payable and accounts payable to related party 2,347 8,470 (8,648)
Accrued expenses and other liabilities 173 2,817 (580)
Deferred revenue 67 (104) 527
----------- ---------- -----------
Net cash provided by (used in) operating activities (1,414) 13,278 (17,524)
----------- ---------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of furniture, fixtures and equipment (10,659) (2,777) (3,758)
Proceeds from sale of equipment 1,311 2,614 -
Purchases of available-for-sale investments (36,375) (101,659) (25,167)
Sales and maturities of available-for-sale investments 21,428 107,143 44,792
Other (943) - (1,000)
----------- ---------- -----------
Net cash provided by (used in) investing activities (25,238) 5,321 14,867
----------- ---------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of shares of common stock 263 599 572
Repurchase of common stock (723) (2,735) (1,584)
Other - - (67)
----------- ---------- -----------
Net cash provided by (used in) financing activities (460) (2,136) (1,079)
----------- ---------- -----------
Net increase (decrease) in cash and cash equivalents (27,112) 16,463 (3,736)
Cash and cash equivalents at beginning of period 37,392 10,280 26,743
----------- ---------- -----------
Cash and cash equivalents at end of period $10,280 $26,743 $23,007
----------- ---------- -----------
----------- ---------- -----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest $ - $ - $ 31
Cash paid during the period for income taxes 9,392 - -
Tax benefit from exercise of stock options 692 127 707
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
44
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS:
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
NATURE OF OPERATIONS:
Silicon Storage Technology, Inc. ("SST" or "the Company") is a supplier
of Flash memory devices, addressing the requirements of high volume customers
and applications. Substantially all of the Company's product revenues to date
have substantially been derived from the sale of four products: 512Kbit, 1Mbit,
2Mbit and 4Mbit memory devices used in personal computers, personal computer
peripheral devices and consumer electronics and communications devices. The
products are sold to manufacturers located primarily in Asia.
USE OF ESTIMATES IN PREPARATION OF THE FINANCIAL STATEMENTS:
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 the
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.
RISKS AND UNCERTAINTIES:
The Company's sales are concentrated in the nonvolatile memory class of
the semiconductor memory industry, which is highly competitive and rapidly
changing. Significant technological changes in the industry, changes in customer
requirements, changes in product costs and selling prices, or the emergence of
competitor products with new capabilities or technologies could affect the
Company's operating results adversely. Specifically, average selling prices
declined during 1997 and 1998. The Company currently buys all of its wafers, an
integral component of its products, from outside suppliers. Failure by these
suppliers to satisfy the Company's requirements on a timely basis at competitive
prices could cause a delay in manufacturing and a possible loss of revenues,
which would affect operating results adversely.
Most of the Company's sales are made through manufacturers'
representatives and distributors. These manufacturers' representatives and
distributors can discontinue selling the Company's products at any time. Two of
the manufacturers' representatives are responsible for substantially all sales
into Taiwan, which accounted for 28% of the Company's product revenues during
1998. The loss of any of the manufacturers' representatives or any other
significant manufacturers' representatives or distributors could have a material
adverse effect on the Company's operating results. A majority of the Company's
product revenue came from sales to customers in the personal computer and
computer peripherals industries. A decline in demand in these industries could
have a material adverse affect on the Company's operating results and financial
condition.
During 1998, currency devaluation and economic deflation was
experienced in several Asian economies in which the Company does business, such
as Japan, Korea, and Taiwan. During 1998, the Company derived 82% of its product
revenue from the Far East. Economic problems in this region may have an adverse
impact on the Company's total revenues and may negatively impact the Company's
ability to collect payments from these customers. Furthermore, the lack of
capital in the financial sectors of these countries may impact the customers'
ability to open letters of credit or other financial instruments that are
guaranteed by foreign banks. Additionally, the Company's major wafer suppliers
and assembly and packaging subcontractors are located in the Far East. Major
disruptions in their businesses due to these economic problems may have an
adverse impact on their business which, in turn, may negatively impact their
ability to adequately supply the Company. Finally, the economic situation may
exacerbate the current decline in average selling prices for the Company's
products if the Company's competitors reduce product prices to generate needed
cash. Continued economic and/or political instability of any kind in this region
may have a material adverse effect on the Company's operating results due to the
large concentration of the Company's activities in this region.
45
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,
CONTINUED:
BASIS OF CONSOLIDATION:
The consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiary after elimination of intercompany
balances and transactions.
FINANCIAL INSTRUMENTS:
Cash equivalents are highly liquid investments with original or
remaining maturities of three months or less as of the dates of purchase, are
classified as available for sale and are carried at cost which approximates fair
value. Cash equivalents present insignificant risk of changes in value because
of interest rate changes. The Company maintains substantially all of its cash
balances with several major financial and/or brokerage institutions domiciled in
the United States and has not experienced any material losses relating to these
investment instruments.
Short-term investments, which are comprised of state and municipal
securities, are classified as available-for-sale and carried at fair value,
based on quoted market prices, with the unrealized gains or losses, net of tax,
reported in shareholders' equity. Gross unrealized holding gains and losses have
not been material. The amortized cost of debt securities is adjusted for
amortization of premiums and accretion of discounts to maturity, both of which
are included in interest income. Realized gains and losses are recorded on the
specific identification method. As of December 31, 1998 and 1997, the fair value
of the short-term investments approximated cost, and all such investments are
scheduled to mature within one year.
The carrying amounts reported for cash and cash equivalents, accounts
receivable, accounts payable and accrued expenses are considered to approximate
fair values based upon the short maturities of those financial instruments.
Financial instruments that potentially subject the Company to concentrations of
credit risks comprise, principally, cash, investments and trade accounts
receivable. The Company invests its excess cash in accordance with its
investment policy which is approved by the Board of Directors and reviewed
periodically. The Company performs credit evaluations of new customers and
requires those without positive, established histories to pay in advance, upon
delivery or through letters of credit. Otherwise, the Company does not require
collateral of its customers, and maintains allowances for potential credit
losses which have historically not been material.
The Company acquired a 14% interest in a privately held Japanese
company in January, 1996 (see Note 7). It was not practicable to estimate the
fair value of the investment in the issued untraded common stock of this
company. The investment is carried at its original cost of $939,000 in the
accompanying balance sheets.
INVENTORIES:
Inventories are stated at the lower of cost (determined on a
first-in, first-out basis) or market value. The Company's inventories include
high technology parts and components that are specialized in nature or
subject to rapid technological obsolescence. During the quarter ended March
31, 1997, the Company recorded a charge of approximately $3.2 million to
reduce the carrying value of inventories to replacement cost. While the
Company has programs to minimize the required inventories on hand and
considers technological obsolescence when estimating allowances for
potentially excess and obsolete inventories and those required to reduce
recorded amounts to market values, it is reasonably possible that such
estimates could change in the near term.
FURNITURE, FIXTURES AND EQUIPMENT:
Furniture, fixtures and equipment are stated at cost and depreciated
using the straight-line method over estimated useful lives of three to seven
years (see Note 3).
46
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,
CONTINUED:
LONG-LIVED ASSETS:
Long-lived assets include licensing agreements which are stated at
the net present value of the cash paid under the agreement. Amortization is
provided for by the straight-line method over the shorter of the license
agreement or the estimated life of the underlying technology. Whenever events
or changes in circumstances indicate that the carrying amounts of long-lived
assets may not be recoverable, the Company estimates the future cash flows,
undiscounted and without interest charges, expected to result from the use of
those assets and their eventual cash position. If the sum of the expected
future cash flows is less then the carrying amount of those assets, the
Company recognizes an impairment loss based on the excess of the carrying
amount over the fair value of the assets.
WARRANTIES:
The Company's products are generally subject to warranty and the
Company provides for the estimated future costs of repair, replacement or
customer accommodation in the accompanying statements of operations.
REVENUE RECOGNITION:
Direct sales to customers are recognized upon shipment of product net
of an allowance for estimated returns. Sales to distributors are made primarily
under arrangements allowing price protection and the right of stock rotation on
merchandise unsold to distributors. Because of the uncertainty associated with
pricing concessions and future returns, the Company defers recognition of such
revenues, related costs of revenues and related gross margin until the
merchandise is sold by the distributor to the end user.
Revenue from license or other technology arrangements is recognized
upon the delivery of all specified technology documentation and/or products if
the fee is fixed and determinable, collection of the fee is probable, and there
are no remaining obligations from the Company. For license and other
arrangements under which the Company is obligated to provide unspecified
upgrades, revenue is recognized ratably over the shorter of the contract term or
the estimated economic life of the technology beginning upon delivery of all
specified technology documentation and/or products.
RESEARCH AND DEVELOPMENT:
Research and development expenses are charged to operations as
incurred.
INCOME TAXES:
Deferred tax assets and liabilities are determined based on the
difference between the financial statement and tax bases of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to affect taxable income. Valuation allowances are
established when necessary to reduce deferred tax assets to the amounts
expected to be realized.
COMPUTATION OF NET INCOME (LOSS) PER SHARE:
The Company has computed and presented net income (loss) per share
under two methods, basic and diluted. Basic net income (loss) per share is
computed by dividing income (loss) available to common shareholders by the
weighted average number of common shares outstanding for the period. Diluted
net income (loss) per share is computed by dividing income (loss) available
to common shareholders by the sum of the weighted average number of common
shares outstanding and potential common shares (when dilutive).
47
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,
CONTINUED:
STOCK COMPENSATION:
The Company accounts for stock-based compensation using the intrinsic
value method. The Company calculates the fair value of stock-based compensation
and discloses the pro forma impact of the value on net income (loss) and net
income (loss) per share in the footnotes to the financial statements.
RECENT ACCOUNTING PRONOUNCEMENTS.
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 131, "Disclosures about the Segments of an
Enterprise and Related Information" (SFAS 131), which requires companies to
report financial and descriptive information about reportable operating segments
- - the components of the enterprise that provide separate financial data to the
company's decision maker. During 1998 and prior, the Company did not internally
report financial and descriptive data in segments based upon operating segments
due to the limited number of products and product families manufactured and
sold. However, with the Company's planned expansion into new product lines and
introduction of new products during 1998 and 1999, such internal segment
reporting may be developed and, at such time, will be disclosed in the financial
statements.
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (SFAS 133). SFAS 133 establishes a new model
for accounting for derivatives and hedging activities as is effective for the
Company's fiscal year 1999. The impact of the implementation of SFAS 133 on the
consolidated financial statements of the Company has not yet been determined.
In March 1998, the Accounting Standards Executive Committee ("AcSEC"),
released Statement of Position 98-1, "Accounting for Costs of Computer Software
Developed or Obtained for Internal Use ("SOP 98-1"). SOP 98-1 requires certain
costs of computer software developed or obtained for internal use to be
capitalized, provided that those costs are not research and development. SOP
98-1 is effective for the Company's fiscal year 1999, and the impact of the
adoption of SOP 98-1 on the Company's consolidated financial statements has not
yet been determined.
In April 1998, AcSEC released Statement of Position 98-5, "Accounting for
Costs of Start-Up Activities" ("SOP 98-5"). SOP 98-5 requires the costs of
start-up activities to be expensed as incurred. Start-up activities are defined
as those one-time activities related to opening a new facility, introducing a
new product or service, conducting business in a new territory, conducting
business with a new class of customer, initiating a new process in an existing
facility, or commencing some new operation. SOP 98-5 is effective for the
Company's fiscal year 1999, and the impact of the adoption of SOP 98-5 on the
Company's consolidated financial statements has not yet been determined.
2. INVENTORIES (IN THOUSANDS):
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------
1997 1998
---------- -----------
<S> <C> <C>
Raw materials $ 118 $ 311
Work in process 9,249 4,717
Finished goods 2,542 3,269
---------- -----------
$11,909 $ 8,297
---------- -----------
---------- -----------
</TABLE>
48
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
3. FURNITURE, FIXTURES AND EQUIPMENT, NET (IN THOUSANDS):
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------- ESTIMATED
1997 1998 USEFUL LIVES
---------- ----------- ------------
<S> <C> <C> <C>
Equipment $11,606 $ 13,325 Four years
Design hardware 2,273 3,559 Three years
Software 1,755 2,131 Four years
Furniture and fixtures 714 804 Seven years
---------- -----------
16,348 19,819
Less accumulated depreciation 9,124 12,972
---------- -----------
$ 7,224 $ 6,847
---------- -----------
---------- -----------
</TABLE>
Depreciation expense was $3,431,000, $4,206,000, and $4,134,000 for 1996, 1997,
and 1998, respectively.
4. COMMITMENTS AND CONTINGENCIES:
The Company leases its corporate facilities under noncancelable
operating leases that expire in 2000 and 2003. The leases require escalating
monthly payments over their terms and, therefore, periodic rent expense is being
recognized on a straight-line basis. Under the terms of the leases, the Company
is responsible for maintenance costs, including real property taxes, utilities
and other costs. Rent expense was $449,000, $421,000, and $749,000 in 1996,
1997, and 1998, respectively.
Future minimum rental payments at December 31, 1998 are as follows (IN
THOUSANDS):
<TABLE>
<S> <C>
1999 $ 901
2000 719
2001 704
2002 732
Thereafter 297
--------
$ 3,353
--------
--------
</TABLE>
In February 1998, the Company agreed to purchase technology from a
product development partner for $1.8 million, payable upon the completion of
certain product development milestones over the next eighteen months.
During 1998, the Company paid $275,000 pursuant to this agreement.
Future minimum payments at December 31, 1998 are anticipated as follows (IN
THOUSANDS):
<TABLE>
<S> <C>
1999 $ 750
2000 775
2001 0
2002 0
Thereafter 0
--------
$ 1,525
--------
--------
</TABLE>
49
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
4. COMMITMENTS AND CONTINGENCIES, CONTINUED:
On January 3, 1996, Atmel Corporation ("Atmel") sued the Company in the
U.S. District Court for the Northern District of California. Atmel's complaint
alleges that the Company, by making, using and selling devices, is willfully
infringing on five U.S. patents owned by or exclusively licensed to Atmel. Atmel
later amended its complaint to allege infringement of a sixth patent. Regarding
each of these six patents, Atmel seeks a judgment that the Company has infringed
the patent, an injunction prohibiting future infringement, treble the amount of
damages caused by the alleged infringement and attorney's fees, costs and
expenses. On February 13, 1996, the Company filed an answer denying Atmel's
allegations and asserting affirmative defenses and counterclaims. On June 25,
1997, a U.S. District Court Judge denied Atmel's motions for summary judgment
for certain patents mentioned in the above lawsuit. The basis for the denial was
that not all elements of the claims of the patents were infringed as required
for a ruling in Atmel's favor. On September 22, 1997, the District Court granted
the Company's motion for summary judgment and found that one of the patents is
not infringed. The Court later denied Atmel's motion for reconsideration of the
ruling. That patent was also subsequently dismissed from the ITC action, as
described below. On November 24, 1997, and January 20, 1998, the District Court
denied the Company's motions for summary judgment of invalidity for two of the
patents. On January 6, 1998, the District Court denied the Company's motion for
summary judgment that it does not infringe two other patents and also denied
Atmel's cross motion that the Company infringed. On July 7, 1998, the District
Court granted Atmel a motion for summary judgment that the Company could not
pursue its unfair competition claims against Atmel. On August 5, 1998, the
District Court granted a summary judgment in the Company's favor on the basis
that the `811 patent' and the `829 patent' were found to be invalid by another
court. Atmel has appealed the decision. No date has been set for oral argument.
On October 26, 1998, the Company filed for a motion of summary judgment that it
does not infringe on the `673' patent. The trial on the remaining issues has
been postponed until Atmel's appeal is heard.
On February 17, 1997, Atmel filed an action with the International
Trade Commission ("ITC") against two suppliers of the Company's parts. On March
18, 1997, the ITC instituted an investigation against two suppliers of the
Company's parts based upon a complaint filed by Atmel. This action involves
certain of the patents that Atmel has alleged the Company infringes. The Company
intervened as a party to that investigation. Pursuant to indemnification
agreements with these suppliers, the Company has agreed to indemnify both to the
extent that it is required to do so under the agreements. A hearing was held on
December 8, 1997 regarding this matter. On March 19, 1998, the ITC issued its
initial determination, finding that the Company's products do not infringe the
three patents remaining in that investigation and that Atmel has no legal right
to enforce one of those patents. On July 9, 1998, the ITC entered its opinion of
finding no violation by the Company. Atmel has appealed the decision. The
Federal Circuit has ordered the ITC to reconsider its decision on the `903
patent'. No schedule has been set for the new hearing.
On November 14, 1997, Intel Corporation ("Intel") sued the Company in
the U.S. District Court for the District of Delaware. Intel's complaint alleged
that the Company, by making, using and selling devices, was willfully infringing
four U.S. patents owned by Intel. Regarding each of these four patents, Intel
sought a judgment that the Company had infringed on the patent, an injunction
prohibiting further infringement, an accounting of all damages caused by the
alleged infringement, treble the amount of damages caused by the alleged
infringement and attorney's fees, costs and expenses. The Company moved that the
Delaware action be dismissed for lack of jurisdiction or in the alternative be
transferred to California. On August 5, 1998, the District Court granted the
Company's motion and dismissed the complaint on the grounds that the District
Court could not exercise personal jurisdiction over the Company.
50
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
4. COMMITMENTS AND CONTINGENCIES, CONTINUED:
On September 14, 1998, Intel sued the Company in the U.S. District
Court for the Northern District of California, San Jose Division. Intel's
complaint alleged that the Company, by making, using and selling devices, was
willfully infringing four U.S. patents owned by Intel. Regarding each of these
four patents, Intel is seeking a judgment that the Company has infringed on the
patent, an injunction prohibiting further infringement, an accounting of all
damages caused by the alleged infringement, treble the amount of damages caused
by the alleged infringement and attorney's fees, costs and expenses. The Company
has denied infringement of any of the Intel patents and has counter-claimed for
invalidity and non-infringement of the Intel patents. The Company believes that
the substantive allegations in the Intel complaint are without merit and intends
to vigorously defend itself against the action. The Federal Trade Commission has
initiated contact with the Company to gather information about the case.
On July 31, 1998, the Company filed suit against Winbond Electronics of
Taiwan ("Winbond") in the U.S. District Court for the Northern District of
California, San Jose Division. The Company is suing for breach of contract and
breach of covenant of good faith and fair dealing. The Company seeks damages and
an injunction prohibiting Winbond from using any of the technology licensed to
Winbond by the Company and a return of technical material transferred to Winbond
under the original license agreement. Winbond has answered the complaint and has
counter-claimed for a declaration that it is not in material breach of the
agreement; that the Company has breached the agreement; that the Company has
breached the covenant of good faith and fair dealing; that the Company has
interfered with prospective economic advantage; that the Company has engaged in
unlawful business practice in violation of the California Business and
Profession Code; and that the Company has committed acts of common law unfair
competition. The Company has replied by denying these charges.
Also, from time to time, the Company is involved in other legal actions
arising in the ordinary course of business. While the Company has accrued
certain amounts for the estimated costs associated with defending these matters,
there can be no assurance that the Atmel complaint, the Intel complaint, the
Winbond complaint or other third party assertions will be resolved without
costly litigation, in a manner that is not adverse to the Company's financial
position, results of operations or cash flows, or without requiring royalty
payments in the future which may adversely impact gross margins. No estimate can
be made of the possible loss or possible range of loss associated with the
resolution of these contingencies. Also, from time to time, the Company is
involved in other legal actions arising in the ordinary course of business.
5. SHAREHOLDERS' EQUITY:
AUTHORIZED CAPITAL SHARES:
The Company's authorized capital shares consist of 45,000,000 shares of
common stock and 7,000,000 shares of preferred stock. None of the preferred
stock has been designated or is outstanding. All of the Company's capital shares
have no par value.
51
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
5. SHAREHOLDERS' EQUITY, CONTINUED:
NET INCOME (LOSS) PER SHARE:
A reconciliation of the numerator and the denominator of basic and
diluted income (loss) per share is as follows:
<TABLE>
<CAPTION>
1996 1997 1998
---- ---- ----
<S> <C> <C> <C>
Numerator - Basic:
Net income (loss) $12,351 ($6,924) ($17,588)
------- ------- --------
------- ------- --------
Denominator - Basic:
Weighted average common stock outstanding 22,972 23,166 22,958
------- ------- --------
------- ------- --------
Basic net income (loss) per share $0.54 ($0.30) ($0.77)
------- ------- --------
------- ------- --------
Numerator - Diluted:
Net income (loss) $12,351 ($6,924) ($17,588)
------- ------- --------
------- ------- --------
Denominator - Diluted:
Weighted average common stock outstanding 22,972 23,166 22,958
Dilutive potential of common stock:
Options and warrants 2,142 - -
------- ------- --------
25,114 23,166 22,958
------- ------- --------
------- ------- --------
Diluted net income (loss) per share $0.49 ($0.30) ($0.77)
------- ------- --------
------- ------- --------
</TABLE>
Stock options to purchase 3,095,000 shares of common stock were
outstanding in 1998, but were not included in the computation of diluted loss
per share because the Company has a net loss in 1998.
Stock options to purchase 2,886,000 shares of common stock were
outstanding in 1997, but were not included in the computation of diluted loss
per share because the Company has a net loss in 1997.
Stock options to purchase shares 46,000 of common stock were
outstanding in 1996, but were not included in the computation of diluted net
income per share, because the exercise price was greater than the average market
value of the common shares.
REPURCHASE OF COMMON STOCK:
In July 1996, the Board of Directors approved a stock repurchase
program whereby up to an aggregate of 500,000 shares of the Company's common
stock could be repurchased on the open market at prevailing market prices.
Approximately 100,000 shares were repurchased under this authorization during
August and September 1996 for an aggregate purchase price of approximately
$723,000.
In February 1997 the Board of Directors approved a stock repurchase
program whereby up to an aggregate of 1,000,000 shares of the Company's
common stock may be repurchased on the open market at prevailing market
prices. The repurchase program ended June 1997. Approximately 492,000 shares
were repurchased under this authorization during the quarter ended June 1997
for an aggregate purchase price of $1,863,000 at prices ranging from $3.69 to
$3.88 per share.
52
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
5. SHAREHOLDERS' EQUITY, CONTINUED:
REPURCHASE OF COMMON STOCK, CONTINUED:
In July 1997 the Board of Directors authorized a stock repurchase
program whereby 1,000,000 shares of the Company's common stock may be
repurchased on the open market at prevailing market prices. The repurchase
program ended December 1997. Approximately 234,000 shares were repurchased
under this authorization during the period ended December 1997 for an
aggregate purchase price of $872,000 at prices ranging from $3.62 to $3.78
per share.
In January 1998, the Board of Directors approved a stock repurchase
program whereby up to an aggregate of 1,000,000 shares of the Company's
common stock may be repurchased on the open market at prevailing market
prices. The repurchase program ended June 1998. Approximately 449,000 shares
were repurchased under this authorization during the period ended June 1998
for an aggregate purchase price of $1,584,000 at prices ranging from $3.19 to
$3.78 per share.
EQUITY INCENTIVE PLAN:
In 1990, the Company adopted a combined incentive and supplemental
stock option plan (the Option Plan) under which the Board of Directors could
issue options to purchase up to 4,000,000 shares of common stock to employees
and directors of and consultants to the Company and its affiliates. In November
1995, the Company amended the Option Plan, restated it as the Equity Incentive
Plan and reserved an additional 2,000,000 shares of common stock for issuance
under the plan. In July 1998, the Company amended the Equity Incentive Plan and
reserved an additional 750,000 shares of common stock for issuance under the
plan.
Under the Equity Incentive Plan, the Board of Directors has the
authority to determine to whom options will be granted, the number of shares
under option, the option term and the exercise price. The options generally are
exercisable beginning one year from date of grant and generally vest over
periods ranging from four to five years from the date of grant. The term of any
options issued under either plan may not exceed ten years from the date of
grant. At December 31, 1996 options to purchase approximately 967,000 shares of
common stock were exercisable at a weighted average exercise price of $0.34. At
December 31, 1997, options to purchase approximately 1,132,000 shares of common
stock were exercisable at a weighted average exercise price of $0.67. At
December 31, 1998, options to purchase approximately 1,343,000 shares of common
stock were exercisable at a weighted average exercise price of $1.25. Activity
under the plan is as follows:
(IN THOUSANDS, EXCEPT PER SHARE DATA):
<TABLE>
<CAPTION>
AVAILABLE OPTIONS OUTSTANDING WEIGHTED
FOR ----------------------------------------- AVERAGE
GRANT SHARES PRICE PER SHARE AMOUNT EXERCISE PRICE
----------- ---------- ------------------- --------- -----------------
<S> <C> <C> <C> <C> <C>
Balances, December 31, 1995 1,871 2,607 $0.075-$16.50 $2,221 $0.85
Granted (541) 541 $6.875-$15.25 $4,987 $9.22
Exercised - (509) $0.075-$2.50 ($106) $0.21
Terminated 366 (366) $0.15-$16.50 ($3,695) $10.10
----------- ---------- ---------
Balances, December 31, 1996 1,696 2,273 $0.15-$9.50 $3,407 $1.50
Granted (2,228) 2,228 $3.125-$6.00 $8,422 $3.78
Exercised - (493) $0.15-$3.125 ($167) $0.34
Terminated 1,207 (1,207) $0.15-$9.50 ($5,719) $4.74
----------- ---------- ---------
Balances, December 31, 1997 675 2,801 $0.15-$6.00 $5,943 $2.12
Granted (870) 870 $1.313-$3.00 $2,299 $2.64
Exercised - (268) $0.15-$3.125 ($155) $0.58
Terminated 411 (411) $0.25-$6.00 ($1,542) $3.75
Authorized 750 - - - -
----------- ---------- ---------
Balances, December 31, 1998 966 2,992 $0.15-$9.00 $6,545 $2.19
----------- ---------- ---------
----------- ---------- ---------
</TABLE>
53
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
5. SHAREHOLDERS' EQUITY, CONTINUED:
EQUITY INCENTIVE PLAN, CONTINUED:
On September 11, 1996, the Board of Directors authorized employees the
right to convert certain outstanding stock options into option grants with an
exercise price of $7.125 per share (the fair market value as of the date of the
Board's authorization). The converted option grants vest on a date that is six
months after the date such installment would have vested had the option not been
amended by the employee exercising this conversion right. Approximately 277,000
stock options were terminated at exercise prices ranging from $9.00 to $16.50,
and new options were issued pursuant to this program.
On April 23, 1997 the Board of Directors approved an offer to employees
of the Company to reprice outstanding options granted prior to that date with an
exercise price above $3.125 per share (the "1997 Repricing Program"). Under the
1997 Repricing Program, as of April 28, 1997, 845,000 option grants were
converted into repriced option grants with an exercise price of $3.125 (based on
the closing price as reported on the Nasdaq National Stock Market on such date).
As consideration for the grant of repriced options, optionees are prohibited
from exercising the repriced options for a period of three months following the
initial vest date of such repriced options. The 1997 Repricing Program
terminated on April 28, 1997.
DIRECTORS' OPTION PLAN:
In October 1995, the Company adopted the Non-Employee Directors' Stock
Option Plan (the "Directors' Plan") which became effective upon the effective
date of the Company's initial public offering. The Directors' Plan provided for
the automatic grant of options to purchase 24,000 shares of the Company's common
stock to non-employee directors of the Company upon the initial public offering.
It also provides for automatic grants upon new non-employee directors being
elected to the Board of Directors. The Directors' Plan also provides for the
grant of options to purchase up to an additional 6,000 shares annually
thereafter. Options under the Directors' Plan vest over 48 months and the
exercise price of options granted must equal or exceed the fair market value of
the Company's common stock on the date of grant. The options expire ten years
after the date of grant. The Company has reserved 150,000 shares of its common
stock for issuance under the Directors' Plan. During 1996, no options were
granted and 24,000 options were terminated. At December 31, 1996, 48,000 options
remained outstanding, of which 12,000 were exercisable at a weighted-average
exercise price of $9.00 per share. During 1997, 37,000 options were granted and
no options terminated. At December 31, 1997, 85,000 options remained
outstanding, of which 29,000 were exercisable at a weighted-average exercise
price of $6.52 per share. During 1998, 18,000 options were granted and no
options terminated. At December 31, 1998, 103,000 options remained outstanding,
of which 52,000 were exercisable at a weighted-average exercise price of $7.30
per share.
EMPLOYEE STOCK PURCHASE PLAN:
In October 1995, the Company adopted the Employee Stock Purchase Plan
(the "Purchase Plan") which became effective upon the effective date of the
Company's initial public offering. A total of 850,000 shares of common stock
have been reserved for issuance under the Purchase Plan. The Purchase Plan
provides for eligible employees to purchase shares of common stock at a price
equal to 85% of the fair market value of the Company's common stock on the date
of the option grant by withholding up to 10 percent of their annual base
earnings. At December 31, 1998, shares available for purchase under this plan
were approximately 552,000.
54
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
5. SHAREHOLDERS' EQUITY, CONTINUED:
EMPLOYEE STOCK PURCHASE PLAN, CONTINUED:
STOCK COMPENSATION:
The Company has adopted the disclosure-only provisions of SFAS 123.
Accordingly, no compensation cost has been recognized for the Equity Incentive
Plan, the Directors' Option Plan or the Stock Purchase Plan. Had compensation
cost for these plans been determined based on the fair value at the grant date
for the awards consistent with the provisions of SFAS 123, the Company's net
income (loss) and net income (loss) per share for the years ended 1996, 1997,
and 1998 would have been reduced to the pro forma amounts indicated below (IN
THOUSANDS):
<TABLE>
<CAPTION>
1996 1997 1998
------------ -------------- -------------
<S> <C> <C> <C>
Pro forma net income (loss) $ 11,440 $ (8,857) $(19,316)
Pro forma net income (loss) per share - basic $ 0.50 $ (0.38) $ (0.84)
Pro forma net income (loss) per share - diluted $ 0.46 $ (0.38) $ (0.84)
</TABLE>
The weighted average fair value of options granted during 1998, 1997 and 1996
was $2.64, $3.14 and $0.41, respectively, per share.
The fair value of each option grant for both the Directors' Plan and
the Equity Incentive Plan is estimated on the date of grant using the
Black-Scholes multiple options pricing model with the following weighted average
assumptions by year:
<TABLE>
<CAPTION>
1996 1997 1998
---- ---- ----
<S> <C> <C> <C>
Risk-free interest rate 5.2 - 6.0% 5.5 - 6.0% 4.1 - 5.8%
Expected term of option 2 years 2 years 2 years
Expected volatility 92% 92% 92%
Expected dividend yield 0% 0% 0%
</TABLE>
The weighted average valuation of rights during 1998, 1997 and 1996 was
$1.32, $2.03 and $4.12, respectively, per share.
The fair value of each right is estimated using the Black-Scholes model
with the following wieghted average assumptions by year:
<TABLE>
<CAPTION>
1996 1997 1998
---- ---- ----
<S> <C> <C> <C>
Risk-free interest rate 5.7% 5.7% 5.3 - 5.5%
Expected term of option 1/2 year 1/2 year 1/2 year
Expected volatility 92% 92% 92%
Expected dividend yield 0% 0% 0%
</TABLE>
Option grants and purchase plan rights are priced at the date of
grant. The risk-free interest rate range represents the low and high end of
the range used at different points during the year.
55
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
5. SHAREHOLDERS' EQUITY, CONTINUED:
STOCK COMPENSATION, CONTINUED:
The options outstanding and currently exercisable by exercise price
under the Equity Incentive Plan and the Directors' Option Plan at December 31,
1998 are as follows:
<TABLE>
<CAPTION>
OPTIONS
OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------ --------------------------------
WEIGHTED-AVERAGE
RANGE OF NUMBER REMAINING WEIGHTED-AVERAGE NUMBER WEIGHTED-AVERAGE
EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE EXERCISE PRICE OUTSTANDING EXERCISE PRICE
- ----------------- ------------- ------------------ ----------------- -------------- -----------------
<S> <C> <C> <C> <C> <C>
$0.150 - $0.500 895,000 5.05 $0.19 864,000 $0.18
$1.000 - $2.844 588,000 9.52 $2.40 15,000 $1.25
$2.938 - $3.000 296,000 9.21 $2.98 6,000 $3.00
$3.125 - $3.750 1,177,000 8.54 $3.15 427,000 $3.14
$5.750 - $9.000 139,000 8.09 $7.03 65,000 $7.71
------------ -------------
$0.150 - $9.000 3,095,000 7.76 $2.31 1,377,000 $1.48
------------ -------------
------------ -------------
</TABLE>
6. INCOME TAXES:
The components of the provision for (benefit from) income taxes
reflected in the statements of operations are as follows (IN THOUSANDS):
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------------------
1996 1997 1998
--------------- ------------- -------------
<S> <C> <C> <C>
Current:
Federal $ 7,464 $ (2,693) $ (4,445)
State 1,349 (471) 1
Foreign 175 126 126
--------------- ------------- -------------
8,988 (3,038) (4,318)
--------------- ------------- -------------
Deferred:
Federal (1,258) 240 3,088
State (132) (367) 659
--------------- ------------- -------------
(1,390) (127) 3,747
--------------- ------------- -------------
$ 7,598 $ (3,165) $ (571)
--------------- ------------- -------------
--------------- ------------- -------------
</TABLE>
Substantially all of the Company's revenue is taxable in the United
States. The principal items accounting for the difference between income taxes
computed at the U.S. statutory rate and the provision for income taxes reflected
in the statements of operations are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------------------
1996 1997 1998
------------- ------------- -------------
<S> <C> <C> <C>
United States statutory rate 34.0% (34.0)% (35.0)%
State taxes, net of federal benefit 6.1 (3.0) 4.3
Foreign taxes, net - 1.0 -
Change in valuation allowance - - 29.9
Other (2.0) 4.6 (2.3)
------------- ------------- -------------
38.1% (31.4)% (3.1)%
------------- ------------- -------------
------------- ------------- -------------
</TABLE>
56
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
6. INCOME TAXES, CONTINUED:
The tax effects of temporary differences that give rise to significant
portions of the net deferred tax asset are as follows (IN THOUSANDS):
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------
1997 1998
-------------- -------------
<S> <C> <C>
Capitalization of research and development
and purchased software costs $ 176 $ -
Accrued expenses and allowances 3,522 2,754
Depreciation (463) (419)
Net operating loss carry-forwards - 3,530
Credits - 3,742
Other 512 -
----------------------------
Total 3,747 9,607
Valuation Allowance - (9,607)
----------------------------
Net deferred tax asset $ 3,747 $ -
-------------- -------------
-------------- -------------
</TABLE>
Due to the uncertainties surrounding the realization of the deferred
tax assets through future taxable income, the Company has provided a full
valuation allowance and, therefore, no benefit has been recognized for the
operating loss and other deferred tax assets.
At December 31, 1998, the Company had available approximately
$8,159,000 and $8,390,000 of federal and state income tax, respectively, net
operating loss carry-forwards. These net operating losses, if not utilized,
expire between 2003 and 2018. At December 31, 1998, the Company also had
available research and development credit carry-forwards for federal and
state income tax purposes of approximately $1,392,000 and $705,000,
respectively. These credit carry-forwards expire between 2016 and 2019.
7. BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION:
The Company has adopted the Financial Accounting Standard's Board's
Statement of Financial Accounting Standards No. 131 ("SFAS 131"), Disclosures
about Segments of an Enterprise and Related Information, effective for fiscal
years beginning after December 31, 1997. SFAS 131 supersedes Statement of
Financial Accounting Standards No. 14 ("SFAS 14"), Financial Reporting for
Segments of a Business Enterprise. SFAS 131 changes current practice under SFAS
14 by establishing a new framework on which to base segment reporting and also
requires interim reporting of segment information.
During 1998 and prior, the Company did not internally report financial
and descriptive data in segments based upon operating segments due to the
limited number of products and product families manufactured and sold. However,
with the Company's planned expansion into new product lines and introduction of
new products in 1998 and 1999, such internal segment reporting may be developed
and, at such time, will be disclosed in the financial statements. The Company's
product and license revenues are all denominated in U.S. dollars and are
summarized as follows:
57
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
7. BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION, CONTINUED:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------
1996 1997 1998
------------ ---------- ----------
<S> <C> <C> <C>
Taiwan $36,597 $22,027 $19,134
Japan 18,438 17,878 13,739
Hong Kong 8,701 11,863 14,104
Singapore 5,552 7,185 4,253
United Kingdom 3,025 3,089 6,213
Other International 7,965 3,248 6,869
United States 13,012 10,032 5,099
------------ ---------- ----------
$93,290 $75,322 $69,411
------------ ---------- ----------
------------ ---------- ----------
</TABLE>
On January 31, 1996, the Company acquired a 14% interest in a Japanese
company for approximately $939,000 paid in cash, which interest is carried at
cost in the other noncurrent assets category in the accompanying balance sheet.
The president of the Japanese company is a shareholder of the Company. In 1996,
1997 and 1998 this customer accounted for 12.7%, 15.4%, and 14.7%, respectively
or approximately $11,823,000, $11,598,000 and $10,180,000, respectively, of net
revenues. In 1996 and 1997, no other customer accounted for more than 10% of net
revenues for the Company. In 1998, only one other customer accounted for more
than 10% of net revenues for the Company. This customer accounted for 10.8% or
approximately $7,187,000 of net revenues in 1998.
Until August 1996, one member of the Board of Directors was the
Chairman of a subsidiary of Sanyo Electric Company, Ltd. ("Sanyo"). The Company
purchased $40,013,000 of raw materials from Sanyo in 1996.
In June 1997 Dr. Ronald Chwang became a member of the Board of
Directors. Dr. Chwang is the president of Acer Capital America and managing
general partner of Acer Technology Venture Fund. Related Acer entities, Acer
Corporation, Acer Peripherals and Acer Technologies are customers of the
Company. In 1997 and 1998, the combined Acer entities accounted for 6.0% and
7.3%, respectively, or $4,502,000 and $5,084,000 of net revenues.
8. EMPLOYEE BENEFIT PLANS:
PROFIT SHARING PLAN:
In April 1995, the Board adopted the Profit Sharing Plan under which
employees may collectively earn up to 10% of the Company's operating profit,
provided that both net earnings before interest income (expense), net and
provision for (benefit from) income taxes and operating profit are greater than
10% of sales. For purposes of the Profit Sharing Plan, "operating profit" is
product revenues less cost of revenues and less operating expenses. The sum paid
to any particular employee as profit sharing is a function of the employee's
length of service, performance and salary. The Company plans to pay profit
sharing sums, when available, to employees twice a year. For the year ended
December 31, 1996, the Company expensed approximately $1,785,000 under this
plan. No profit sharing was paid in 1997 or 1998.
58
<PAGE>
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED:
8. EMPLOYEE BENEFIT PLANS, CONTINUED:
401(K) PLAN:
In 1995, the Company adopted the SST 401(k) Tax Sheltered Savings Plan
and Trust (the Plan), as amended, which is intended to qualify under Section 401
of the Internal Revenue Code of 1986. The Plan covers essentially all employees.
Each eligible employee may elect to contribute to the Plan, through payroll
deductions, up to 15% of their compensation, subject to certain limitations. The
Company, at its discretion, may make additional contributions on behalf of
employees. All employee contributions are 100% vested. No employer contributions
were made in 1996, 1997, or 1998.
59
<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
LOAN AND SECURITY AGREEMENT
BY AND BETWEEN
SILICON STORAGE TECHNOLOGY, INC.
AND
FOOTHILL CAPITAL CORPORATION
DATED AS OF SEPTEMBER 22, 1998
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
<PAGE>
TABLE OF CONTENTS
-----------------
<TABLE>
<CAPTION>
PAGE(S)
-------
<S> <C>
1. DEFINITIONS AND CONSTRUCTION. . . . . . . . . . . . . . . . . . . . . . 1
1.1 Definitions . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
1.2 Accounting Terms. . . . . . . . . . . . . . . . . . . . . . . . . 13
1.3 Code. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
1.4 Construction. . . . . . . . . . . . . . . . . . . . . . . . . . . 14
1.5 Schedules and Exhibits. . . . . . . . . . . . . . . . . . . . . . 14
2. LOAN AND TERMS OF PAYMENT . . . . . . . . . . . . . . . . . . . . . . . 14
2.1 Revolving Advances. . . . . . . . . . . . . . . . . . . . . . . . 14
2.2 Intentionally Omitted.. . . . . . . . . . . . . . . . . . . . . . 15
2.3 Intentionally Omitted.. . . . . . . . . . . . . . . . . . . . . . 15
2.4 Capital Expenditure Line. . . . . . . . . . . . . . . . . . . . . 15
2.5 Overadvances. . . . . . . . . . . . . . . . . . . . . . . . . . . 16
2.6 Interest, Rates, Payments, and Calculations.. . . . . . . . . . . 16
2.7 Collection of Accounts. . . . . . . . . . . . . . . . . . . . . . 17
2.8 Crediting Payments; Application of Collections. . . . . . . . . . 17
2.9 Designated Account. . . . . . . . . . . . . . . . . . . . . . . . 18
2.10 Maintenance of Loan Account; Statements of Obligations. . . . . . 18
2.11 Fees. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
2.12 Eurodollar Rate Loans.. . . . . . . . . . . . . . . . . . . . . . 19
2.13 Illegality. . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
2.14 Requirements of Law.. . . . . . . . . . . . . . . . . . . . . . . 21
2.15 Indemnity.. . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
3. CONDITIONS; TERM OF AGREEMENT . . . . . . . . . . . . . . . . . . . . . 23
3.1 Conditions Precedent to the Initial Advance and the Initial
Capital Expenditure Loan. . . . . . . . . . . . . . . . . . . . . 23
3.2 Conditions Precedent to all Advances and all Capital
Expenditure Loans.. . . . . . . . . . . . . . . . . . . . . . . . 25
3.3 Conditions Subsequent . . . . . . . . . . . . . . . . . . . . . . 25
3.4 Term. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
3.5 Effect of Termination.. . . . . . . . . . . . . . . . . . . . . . 26
3.6 Early Termination by Borrower.. . . . . . . . . . . . . . . . . . 26
3.7 Termination Upon Event of Default.. . . . . . . . . . . . . . . . 26
4. CREATION OF SECURITY INTEREST . . . . . . . . . . . . . . . . . . . . . 26
4.1 Grant of Security Interest. . . . . . . . . . . . . . . . . . . . 26
4.2 Negotiable Collateral.. . . . . . . . . . . . . . . . . . . . . . 27
4.3 Collection of Accounts, General Intangibles, and Negotiable
Collateral. . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
4.4 Delivery of Additional Documentation Required.. . . . . . . . . . 27
1
<PAGE>
4.5 Power of Attorney.. . . . . . . . . . . . . . . . . . . . . . . . 27
4.6 Right to Inspect. . . . . . . . . . . . . . . . . . . . . . . . . 28
5. REPRESENTATIONS AND WARRANTIES. . . . . . . . . . . . . . . . . . . . . 28
5.1 No Encumbrances.. . . . . . . . . . . . . . . . . . . . . . . . . 28
5.2 Eligible Accounts.. . . . . . . . . . . . . . . . . . . . . . . . 28
5.3 Intentionally Omitted.. . . . . . . . . . . . . . . . . . . . . . 28
5.4 Equipment . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
5.5 Location of Inventory and Equipment.. . . . . . . . . . . . . . . 28
5.6 Inventory Records.. . . . . . . . . . . . . . . . . . . . . . . . 29
5.7 Location of Chief Executive Office; FEIN. . . . . . . . . . . . . 29
5.8 Due Organization and Qualification; Subsidiaries. . . . . . . . . 29
5.9 Due Authorization; No Conflict. . . . . . . . . . . . . . . . . . 29
5.10 Litigation. . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
5.11 No Material Adverse Change. . . . . . . . . . . . . . . . . . . . 30
5.12 Solvency. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
5.13 Employee Benefits.. . . . . . . . . . . . . . . . . . . . . . . . 31
5.14 Environmental Condition.. . . . . . . . . . . . . . . . . . . . . 31
6. AFFIRMATIVE COVENANTS.. . . . . . . . . . . . . . . . . . . . . . . . . 31
6.1 Accounting System.. . . . . . . . . . . . . . . . . . . . . . . . 31
6.2 Collateral Reporting. . . . . . . . . . . . . . . . . . . . . . . 31
6.3 Financial Statements, Reports, Certificates.. . . . . . . . . . . 32
6.4 Tax Returns.. . . . . . . . . . . . . . . . . . . . . . . . . . . 33
6.5 Information About Account Debtors.. . . . . . . . . . . . . . . . 33
6.6 Returns.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
6.7 Title to Equipment. . . . . . . . . . . . . . . . . . . . . . . . 33
6.8 Maintenance of Equipment. . . . . . . . . . . . . . . . . . . . . 33
6.9 Taxes.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
6.10 Insurance.. . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
6.11 No Setoffs or Counterclaims.. . . . . . . . . . . . . . . . . . . 35
6.12 Location of Inventory and Equipment.. . . . . . . . . . . . . . . 35
6.13 Compliance with Laws. . . . . . . . . . . . . . . . . . . . . . . 35
6.14 Intentionally Omitted . . . . . . . . . . . . . . . . . . . . . . 35
6.15 Leases. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
6.16 Year 2000 Compliance. . . . . . . . . . . . . . . . . . . . . . . 35
7. NEGATIVE COVENANTS. . . . . . . . . . . . . . . . . . . . . . . . . . . 36
7.1 Indebtedness. . . . . . . . . . . . . . . . . . . . . . . . . . . 36
7.2 Liens.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
7.3 Restrictions on Fundamental Changes.. . . . . . . . . . . . . . . 36
7.4 Disposal of Assets. . . . . . . . . . . . . . . . . . . . . . . . 36
7.5 Change Name.. . . . . . . . . . . . . . . . . . . . . . . . . . . 37
7.6 Guarantee.. . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
2
<PAGE>
7.7 Nature of Business. . . . . . . . . . . . . . . . . . . . . . . . 37
7.8 Prepayments and Amendments. . . . . . . . . . . . . . . . . . . . 37
7.9 Change of Control.. . . . . . . . . . . . . . . . . . . . . . . . 37
7.10 Consignments. . . . . . . . . . . . . . . . . . . . . . . . . . . 37
7.11 Distributions.. . . . . . . . . . . . . . . . . . . . . . . . . . 37
7.12 Accounting Methods. . . . . . . . . . . . . . . . . . . . . . . . 38
7.13 Investments.. . . . . . . . . . . . . . . . . . . . . . . . . . . 38
7.14 Transactions with Affiliates. . . . . . . . . . . . . . . . . . . 38
7.15 Suspension. . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
7.16 Compensation. . . . . . . . . . . . . . . . . . . . . . . . . . . 38
7.17 Use of Proceeds.. . . . . . . . . . . . . . . . . . . . . . . . . 38
7.18 Change in Location of Chief Executive Office; Inventory and
Equipment with Bailees. . . . . . . . . . . . . . . . . . . . . . 38
7.19 Intentionally Omitted.. . . . . . . . . . . . . . . . . . . . . . 39
7.20 Financial Covenant. . . . . . . . . . . . . . . . . . . . . . . . 39
7.21 Capital Expenditures. . . . . . . . . . . . . . . . . . . . . . . 39
8. EVENTS OF DEFAULT.. . . . . . . . . . . . . . . . . . . . . . . . . . . 39
9. FOOTHILL'S RIGHTS AND REMEDIES. . . . . . . . . . . . . . . . . . . . . 41
9.1 Rights and Remedies.. . . . . . . . . . . . . . . . . . . . . . . 41
9.2 Remedies Cumulative.. . . . . . . . . . . . . . . . . . . . . . . 43
10. TAXES AND EXPENSES. . . . . . . . . . . . . . . . . . . . . . . . . . . 43
11. WAIVERS; INDEMNIFICATION. . . . . . . . . . . . . . . . . . . . . . . . 43
11.1 Demand; Protest; etc. . . . . . . . . . . . . . . . . . . . . . . 43
11.2 Foothill's Liability for Collateral.. . . . . . . . . . . . . . . 44
11.3 Indemnification.. . . . . . . . . . . . . . . . . . . . . . . . . 44
12. NOTICES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 44
13. CHOICE OF LAW AND VENUE; JURY TRIAL WAIVER. . . . . . . . . . . . . . . 45
14. DESTRUCTION OF BORROWER'S DOCUMENTS . . . . . . . . . . . . . . . . . . 46
15. GENERAL PROVISIONS. . . . . . . . . . . . . . . . . . . . . . . . . . . 46
15.1 Effectiveness.. . . . . . . . . . . . . . . . . . . . . . . . . . 46
15.2 Successors and Assigns. . . . . . . . . . . . . . . . . . . . . . 46
15.3 Section Headings. . . . . . . . . . . . . . . . . . . . . . . . . 47
15.4 Interpretation. . . . . . . . . . . . . . . . . . . . . . . . . . 47
15.5 Severability of Provisions. . . . . . . . . . . . . . . . . . . . 47
15.6 Amendments in Writing.. . . . . . . . . . . . . . . . . . . . . . 47
15.7 Counterparts; Telefacsimile Execution.. . . . . . . . . . . . . . 47
3
<PAGE>
15.8 Revival and Reinstatement of Obligations. . . . . . . . . . . . . 47
15.9 Integration.. . . . . . . . . . . . . . . . . . . . . . . . . . . 47
</TABLE>
4
<PAGE>
LOAN AND SECURITY AGREEMENT
1
<PAGE>
THIS LOAN AND SECURITY AGREEMENT (THIS "AGREEMENT"), is entered into as
of September 22, 1998, between FOOTHILL CAPITAL CORPORATION, a California
corporation ("Foothill"), with a place of business located at 11111 Santa
Monica Boulevard, Suite 1500, Los Angeles, California 90025-3333 and SILICON
STORAGE TECHNOLOGY, INC., a California corporation ("Borrower"), with its
chief executive office located at 1171 Sonora Court, Sunnyvale, California
94086.
The parties agree as follows:
1. DEFINITIONS AND CONSTRUCTION.
1.1 DEFINITIONS. As used in this Agreement, the following terms
shall have the following definitions:
"ACCOUNT DEBTOR" means any Person who is or who may become
obligated under, with respect to, or on account of, an Account.
"ACCOUNTS" means all currently existing and hereafter
arising accounts, contract rights, and all other forms of obligations owing
to Borrower arising out of the sale or lease of goods or the rendition of
services by Borrower, irrespective of whether earned by performance, and any
and all credit insurance, guaranties, or security therefor.
"ADJUSTED EURODOLLAR RATE" means, with respect to each
Interest Period for any Eurodollar Rate Loan, the rate per annum (rounded
upwards, if necessary, to the next whole multiple of 1/16 of 1% per annum)
determined by dividing (a) the Eurodollar Rate for such Interest Period by
(b) a percentage equal to (i) 100% minus (ii) the Reserve Percentage. The
Adjusted Eurodollar Rate shall be adjusted on and as of the effective day of
any change in the Reserve Percentage.
"ADVANCES" has the meaning set forth in SECTION 2.1(a).
"AFFILIATE" means, as applied to any Person, any other
Person who directly or indirectly controls, is controlled by, is under common
control with or is a director or officer of such Person. For purposes of
this definition, "control" means the possession, directly or indirectly, of
the power to vote 20% or more of the securities having ordinary voting power
for the election of directors or the direct or indirect power to direct the
management and policies of a Person.
"AGREEMENT" has the meaning set forth in the preamble hereto.
"AUTHORIZED PERSON" means any officer or other employee of
Borrower.
<PAGE>
"BANKRUPTCY CODE" means the United States Bankruptcy Code
(11 U.S.C. Section 101 ET SEQ.), as amended, and any successor statute.
"BENEFIT PLAN" means a "defined benefit plan" (as defined in
Section 3(35) of ERISA) for which Borrower, any Subsidiary of Borrower, or
any ERISA Affiliate has been an "employer" (as defined in Section 3(5) of
ERISA) within the past six years.
"BORROWER" has the meaning set forth in the preamble to this
Agreement.
"BORROWER'S BOOKS" means all of Borrower's books and records
including: ledgers; records indicating, summarizing, or evidencing
Borrower's properties or assets (including the Collateral) or liabilities;
all information relating to Borrower's business operations or financial
condition; and all computer programs, disk or tape files, printouts, runs, or
other computer prepared information.
"BORROWING BASE" has the meaning set forth in SECTION 2.1(a).
"BUSINESS DAY" means any day that is not a Saturday, Sunday,
or other day on which national banks are authorized or required to close.
"CAPITAL EXPENDITURE LINE COMMITMENT" has the meaning set
forth in SECTION 2.4.
"CAPITAL EXPENDITURE LOAN" has the meaning set forth in
SECTION 2.4.
"CHANGE OF CONTROL" shall be deemed to have occurred at such
time as a "person" or "group" (within the meaning of SECTIONS 13(d) and
14(d)(2) of the Securities Exchange Act of 1934) becomes the "beneficial
owner" (as defined in Rule 13d-3 under the Securities Exchange Act of 1934),
directly or indirectly, of more than 20% of the total voting power of all
classes of stock then outstanding of Borrower entitled to vote in the
election of directors.
"CLOSING DATE" means the date on which the conditions in
SECTION 3.1 are satisfied and the Closing Fee is paid.
"CODE" means the California Uniform Commercial Code.
"COLLATERAL" means each of the following:
(a) the Accounts,
(b) Borrower's Books,
<PAGE>
(c) the Equipment,
(d) the General Intangibles,
(e) the Inventory,
(f) the Investment Property,
(g) the Negotiable Collateral,
(h) any money, or other assets of Borrower that now or
hereafter come into the possession, custody, or control of Foothill, and
(i) the proceeds and products, whether tangible or
intangible, of any of the foregoing, including proceeds of insurance covering
any or all of the Collateral, and any and all Accounts, Borrower's Books,
Equipment, General Intangibles, Inventory, Negotiable Collateral, Real
Property, money, deposit accounts, or other tangible or intangible property
resulting from the sale, exchange, collection, or other disposition of any of
the foregoing, or any portion thereof or interest therein, and the proceeds
thereof.
"COLLATERAL ACCESS AGREEMENT" means a landlord waiver,
mortgagee waiver, bailee letter, or acknowledgement agreement of any
warehouseman, processor, lessor, consignee, or other Person in possession of,
having a Lien upon, or having rights or interests in the Equipment or
Inventory, in each case, in form and substance satisfactory to Foothill.
"COLLECTIONS" means all cash, checks, notes, instruments,
and other items of payment (including, insurance proceeds, proceeds of cash
sales, rental proceeds, and tax refunds).
"CONTROL AGREEMENT" means that certain Control Agreement
among Borrower, Foothill and Merrill Lynch or another Person mutually
acceptable to Borrower and Foothill.
"COMPLIANCE CERTIFICATE" means a certificate substantially
in the form of EXHIBIT C-1 and delivered by the chief financial officer of
Borrower to Foothill.
"DAILY BALANCE" means, with respect to each day during the
term of this Agreement, the amount of an Obligation owed at the end of such
day.
"DEEMS ITSELF INSECURE" means that the Person deems itself
insecure in accordance with the provisions of Section 1208 of the Code.
"DEFAULT" means an event, condition, or default that, with
the giving of
<PAGE>
notice, the passage of time, or both, would be an Event of Default.
"DESIGNATED ACCOUNT" means account number 1260003522 of
Borrower maintained with Borrower's Designated Account Bank, or such other
deposit account of Borrower (located within the United States) which has been
designated, in writing and from time to time, by Borrower to Foothill.
"DESIGNATED ACCOUNT BANK" means Union Bank of California,
whose office is located at Sunnyvale, California, and whose ABA number is
122000496, or such other banks as may be agreed to by Foothill and Borrower
from time to time.
"DILUTION" means, in each case based upon the experience of
the immediately prior three months, the result of dividing the Dollar amount
of (a) bad debt write-downs, discounts, advertising, returns, promotions,
credits, or other dilutive items with respect to the Accounts, by (b)
Borrower's Collections (excluding extraordinary items) plus the Dollar amount
of clause (a).
"DILUTION RESERVE" means, as of any date of determination,
an amount sufficient to reduce Foothill's advance rate against Eligible
Accounts by one percentage point for each percentage point by which Dilution
is in excess of 7.00%.
"DOLLARS OR $" means United States dollars.
"EARLY TERMINATION PREMIUM" has the meaning set forth in
SECTION 3.6.
"ELIGIBLE ACCOUNTS" means those Accounts (net of unapplied
cash and Borrower's general ledger reserve for price protection) created by
Borrower in the ordinary course of business that arise out of Borrower's sale
of goods or rendition of services, that strictly comply with each and all of
the representations and warranties respecting Accounts made by Borrower to
Foothill in the Loan Documents, and that are and at all times continue to be
acceptable to Foothill in all respects; PROVIDED, HOWEVER, that standards of
eligibility may be fixed and revised from time to time in good faith by
Foothill in Foothill's reasonable credit judgment. Eligible Accounts shall
not include the following:
(a) Accounts that the Account Debtor has failed to pay:
(i) within 120 days of invoice date or 60 days of due date or, (ii) in the
case of Silicon Technology Co., Ltd. (or other Persons as may be agreed to by
Foothill and Borrower from time to time), within 135 days of invoice date or
60 days of due date;
(b) Accounts owed by an Account Debtor or its Affiliates
where 50% or more of all Accounts owed by that Account Debtor (or its
Affiliates) are deemed ineligible under clause (a) above;
(c) Accounts with respect to which the Account Debtor is
an
<PAGE>
employee, Affiliate, or agent of Borrower, but excluding Silicon Technology
Co., Ltd. so long as Borrower owns less than 20% of the outstanding capital
stock of such company;
(d) Accounts with respect to which goods are placed on
consignment, guaranteed sale, sale or return, sale on approval, bill and
hold, or other terms by reason of which the payment by the Account Debtor may
be conditional;
(e) Accounts that are not payable in Dollars or with
respect to which the Account Debtor is the government of any foreign country
or sovereign state, or of any state, province, municipality, or other
political subdivision thereof, or of any department, agency, public
corporation, or other instrumentality thereof;
(f) Accounts with respect to which the Account Debtor is
either (i) the United States or any department, agency, or instrumentality of
the United States (exclusive, however, of Accounts with respect to which
Borrower has complied, to the satisfaction of Foothill, with the Assignment
of Claims Act, 31 U.S.C. Section 3727), or (ii) any State of the United
States (exclusive, however, of Accounts owed by any State that does not have
a statutory counterpart to the Assignment of Claims Act);
(g) Accounts with respect to which the Account Debtor is a
creditor of Borrower, has or has asserted a right of setoff, has disputed its
liability, or has made any claim with respect to the Account, to the extent
of the amount owed by Borrower to such Account Debtor;
(h) Accounts with respect to an Account Debtor whose total
obligations owing to Borrower exceed 10% of all Eligible Accounts (or (i) 25%
of all Eligible Accounts in the case of Acer Inc., (ii) the LESSER of (a)
$5,000,000 or (b) 25% of all Eligible Accounts in the case of Silicon
Technology Co., Ltd., (iii) 20% of all Eligible Accounts in the case of
Samsung Electronics Co., Ltd. and (iv) 15% of all Eligible Accounts in the
case of each of Actron Technology Co. Ltd. (provided that Foothill is given
satisfactory financial information for this Account Debtor) and Datel
Electronics Ltd.), to the extent of the obligations owing by such Account
Debtor in excess of such percentage;
(i) Accounts with respect to which the Account Debtor is
subject to any Insolvency Proceeding, or becomes insolvent, or goes out of
business;
(j) Accounts the collection of which Foothill, in its
reasonable credit judgment, believes to be doubtful by reason of the Account
Debtor's financial condition;
(k) Accounts with respect to which the goods giving rise
to such Account have not been shipped and billed to the Account Debtor, the
services giving rise to such Account have not been performed and accepted by
the Account Debtor, or the Account otherwise does not represent a final sale;
<PAGE>
(l) Accounts with respect to which the Account Debtor is
located in the states of New Jersey, Minnesota, or West Virginia (or any
other state that requires a creditor to file a Business Activity Report or
similar document in order to bring suit or otherwise enforce its remedies
against such Account Debtor in the courts or through any judicial process of
such state), unless Borrower has qualified to do business in New Jersey,
Minnesota, West Virginia, or such other states, or has filed a Notice of
Business Activities Report with the applicable division of taxation, the
department of revenue, or with such other state offices, as appropriate, for
the then-current year, or is exempt from such filing requirement;
(m) Accounts that represent progress payments or other
advance billings that are due prior to the completion of performance by
Borrower of the subject contract for goods or services;
(n) Accounts consisting of license or royalty fees,
deferred distributor revenue or other non-trade Accounts;
(o) Accounts resulting from Yen price sharing with Sanyo
Electric Co., Ltd.; and
(p) In the event that 15%, or more, of Borrower's Accounts
(other than those set forth in paragraphs (m), (n) and (o), above) are more
than 60 days past due, then Accounts that are not payable in Dollars or with
respect to which the Account Debtor: (i) does not maintain its chief
executive office in the United States, or (ii) is not organized under the
laws of the United States or any State thereof shall not be Eligible
Accounts, unless (y) the Account is supported by an irrevocable letter of
credit satisfactory to Foothill (as to form, substance, and issuer or
domestic confirming bank) that has been delivered to Foothill and is directly
drawable by Foothill, or (z) the Account is covered by credit insurance in
form and amount, and by an insurer, satisfactory to Foothill.
"EQUIPMENT" means all of Borrower's present and hereafter
acquired machinery, machine tools, motors, equipment, furniture, furnishings,
fixtures, vehicles (including motor vehicles and trailers), tools, parts,
goods (other than consumer goods, farm products, or Inventory), wherever
located, including, (a) any assets acquired by Borrower with the proceeds of
a Capital Expenditure Loan, (b) any interest of Borrower in any of the
foregoing, and (c) all attachments, accessories, accessions, replacements,
substitutions, additions, and improvements to any of the foregoing.
"ERISA" means the Employee Retirement Income Security Act of
1974, 29 U.S.C. Sections 1000 et seq., amendments thereto, successor
statutes, and regulations or guidance promulgated thereunder.
"ERISA AFFILIATE" means (a) any corporation subject to ERISA
whose
<PAGE>
employees are treated as employed by the same employer as the employees of
Borrower under IRC Section 414(b), (b) any trade or business subject to ERISA
whose employees are treated as employed by the same employer as the employees
of Borrower under IRC Section 414(c), (c) solely for purposes of Section 302
of ERISA and Section 412 of the IRC, any organization subject to ERISA that
is a member of an affiliated service group of which Borrower is a member
under IRC Section 414(m), or (d) solely for purposes of Section 302 of ERISA
and Section 412 of the IRC, any party subject to ERISA that is a party to an
arrangement with Borrower and whose employees are aggregated with the
employees of Borrower under IRC Section 414(o).
"EURODOLLAR RATE" means, with respect to the Interest Period
for a Eurodollar Rate Loan, the interest rate per annum (rounded upwards, if
necessary, to the next whole multiple of 1/16 of 1% per annum) at which
United States dollar deposits are offered to Norwest Bank Minnesota, National
Association (or its Affiliates) by major banks in the London interbank market
(or other Eurodollar Rate market selected by Foothill) on or about 11:00 a.m.
(California time) two Business Days prior to the commencement of such
Interest Period in amounts comparable to the amount of the Eurodollar Rate
Loans requested by and available to Borrower in accordance with this
Agreement and for a period of three months from the date of such offer.
"EURODOLLAR RATE LOANS" means any Advance (or any portion
thereof) made or outstanding hereunder during any period when interest on
such Advance (or portion thereof) is payable based on the Adjusted Eurodollar
Rate.
"EVENT OF DEFAULT" has the meaning set forth in SECTION 8.
"FEIN" means Federal Employer Identification Number.
"FOOTHILL" has the meaning set forth in the preamble to this
Agreement.
"FOOTHILL ACCOUNT" has the meaning set forth in SECTION 2.7.
"FOOTHILL EXPENSES" means all: costs or expenses (including
taxes, and insurance premiums) required to be paid by Borrower under any of
the Loan Documents that are paid or incurred by Foothill; fees or charges
paid or incurred by Foothill in connection with Foothill's transactions with
Borrower, including, fees or charges for photocopying, notarization, couriers
and messengers, telecommunication, public record searches (including tax
lien, litigation, and UCC searches and including searches with the patent and
trademark office, the copyright office, or the department of motor vehicles),
filing, recording, publication, costs and expenses incurred by Foothill in
the disbursement of funds to Borrower (by wire transfer or otherwise);
charges paid or incurred by Foothill resulting from the dishonor of checks;
costs and expenses paid or incurred by Foothill to correct any default or
enforce any provision of the Loan Documents, or in gaining possession of,
maintaining, handling, preserving, storing, shipping, selling, preparing for
sale, or advertising to sell the Collateral, or
<PAGE>
any portion thereof, irrespective of whether a sale is consummated; costs and
expenses paid or incurred by Foothill in examining Borrower's Books; costs
and expenses of third party claims or any other suit paid or incurred by
Foothill in enforcing or defending the Loan Documents or in connection with
the transactions contemplated by the Loan Documents or Foothill's
relationship with Borrower or any guarantor; and Foothill's reasonable
attorneys fees and expenses incurred in advising, structuring, drafting,
reviewing, amending, terminating, enforcing, defending, or concerning the
Loan Documents (including reasonable attorneys fees and expenses incurred in
connection with a "workout," a "restructuring," or an Insolvency Proceeding
concerning Borrower or any guarantor of the Obligations), irrespective of
whether suit is brought.
"GAAP" means generally accepted accounting principles as in
effect from time to time in the United States, consistently applied.
"GENERAL INTANGIBLES" means all of Borrower's present and
future general intangibles and other personal property (including contract
rights, rights arising under common law, statutes, or regulations, choses or
things in action, goodwill, patents, trade names, trademarks, servicemarks,
copyrights, blueprints, drawings, purchase orders, customer lists, monies due
or recoverable from pension funds, route lists, rights to payment and other
rights under any royalty or licensing agreements, infringement claims,
computer programs, information contained on computer disks or tapes,
literature, reports, catalogs, deposit accounts, insurance premium rebates,
tax refunds, and tax refund claims), other than goods, Accounts, and
Negotiable Collateral.
"GOVERNING DOCUMENTS" means the certificate or articles of
incorporation, by-laws, or other organizational or governing documents of any
Person.
"GOVERNMENTAL AUTHORITY" means any nation or government, any
state or other political subdivision thereof and any entity exercising
executive, legislative, judicial, regulatory or administrative functions of
or pertaining to government.
"HAZARDOUS MATERIALS" means (a) substances that are defined
or listed in, or otherwise classified pursuant to, any applicable laws or
regulations as "hazardous substances," "hazardous materials," "hazardous
wastes," "toxic substances," or any other formulation intended to define,
list, or classify substances by reason of deleterious properties such as
ignitability, corrosivity, reactivity, carcinogenicity, reproductive
toxicity, or "EP toxicity", (b) oil, petroleum, or petroleum derived
substances, natural gas, natural gas liquids, synthetic gas, drilling fluids,
produced waters, and other wastes associated with the exploration,
development, or production of crude oil, natural gas, or geothermal
resources, (c) any flammable substances or explosives or any radioactive
materials, and (d) asbestos in any form or electrical equipment that contains
any oil or dielectric fluid containing levels of polychlorinated biphenyls in
excess of 50 parts per million.
"INDEBTEDNESS" means: (a) all obligations of Borrower for
borrowed
<PAGE>
money, (b) all obligations of Borrower evidenced by bonds, debentures, notes,
or other similar instruments and all reimbursement or other obligations of
Borrower in respect of letters of credit, bankers acceptances, interest rate
swaps, or other financial products, (c) all obligations of Borrower under
capital leases, (d) all obligations or liabilities of others secured by a
Lien on any property or asset of Borrower, irrespective of whether such
obligation or liability is assumed, and (e) any obligation of Borrower
guaranteeing or intended to guarantee (whether guaranteed, endorsed, co-made,
discounted, or sold with recourse to Borrower) any indebtedness, lease,
dividend, letter of credit, or other obligation of any other Person.
"INSOLVENCY PROCEEDING" means any proceeding commenced by or
against any Person under any provision of the Bankruptcy Code or under any
other bankruptcy or insolvency law, assignments for the benefit of creditors,
formal or informal moratoria, compositions, extensions generally with
creditors, or proceedings seeking reorganization, arrangement, or other
similar relief.
"INTANGIBLE ASSETS" means, with respect to any Person, that
portion of the book value of all of such Person's assets that would be
treated as intangibles under GAAP.
"INTELLECTUAL PROPERTY SECURITY AGREEMENT" means that
certain Intellectual Property Security Agreement, of even date herewith,
between Borrower and Foothill.
"INTEREST PERIOD" means, for any Eurodollar Rate Loan, the
period commencing on the Business Day such Eurodollar Rate Loan is disbursed
or continued, or on the Business Day on which a Reference Rate Loan is
converted to such Eurodollar Rate Loan, and ending on the date that is one,
two or three months thereafter, as selected by Borrower and notified to
Foothill as provided in SECTION 2.12(a) and (b).
"INVENTORY" means all present and future inventory in which
Borrower has any interest, including goods held for sale or lease or to be
furnished under a contract of service and all of Borrower's present and
future raw materials, work in process, finished goods, and packing and
shipping materials, wherever located.
"INVESTMENT PROPERTY" has the meaning set forth in Section
9115 of the Code.
"IRC" means the Internal Revenue Code of 1986, as amended,
and the regulations thereunder.
"LIEN" means any interest in property securing an obligation
owed to, or a claim by, any Person other than the owner of the property,
whether such interest shall be based on the common law, statute, or contract,
whether such interest shall be recorded or perfected, and whether such
interest shall be contingent upon the occurrence of some future event or
events or the existence of some future circumstance or circumstances,
including the
<PAGE>
lien or security interest arising from a mortgage, deed of trust,
encumbrance, pledge, hypothecation, assignment, deposit arrangement, security
agreement, adverse claim or charge, conditional sale or trust receipt, or
from a lease, consignment, or bailment for security purposes and also
including reservations, exceptions, encroachments, easements, rights-of-way,
covenants, conditions, restrictions, leases, and other title exceptions and
encumbrances affecting Real Property.
"LOAN ACCOUNT" has the meaning set forth in SECTION 2.10.
"LOAN DOCUMENTS" means this Agreement, the Disbursement
Letter, the Lockbox Agreements, the Intellectual Property Security Agreement,
the Control Agreement, any note or notes executed by Borrower and payable to
Foothill, and any other agreement entered into, now or in the future, in
connection with this Agreement.
"LOCKBOX ACCOUNT" shall mean a depositary account
established pursuant to one of the Lockbox Agreements.
"LOCKBOX AGREEMENTS" means those certain Lockbox Operating
Procedural Agreements and those certain Depository Account Agreements, in
form and substance satisfactory to Borrower and Foothill, each of which is
among Borrower, Foothill, and one of the Lockbox Banks.
"LOCKBOX BANKS" means Union Bank of California or such other
banks as may be agreed to by Foothill and Borrower from time to time.
"LOCKBOXES" has the meaning set forth in SECTION 2.7.
"MATERIAL ADVERSE CHANGE" means (a) a material adverse
change in the business, operations, results of operations, assets,
liabilities or condition (financial or otherwise) of Borrower, (b) the
material impairment of Borrower's ability to perform its obligations under
the Loan Documents to which it is a party or of Foothill to enforce the
Obligations or realize upon the Collateral, (c) a material adverse effect on
the value of the Collateral or the amount that Foothill would be likely to
receive (after giving consideration to delays in payment and costs of
enforcement) in the liquidation of such Collateral, or (d) a material
impairment of the priority of Foothill's Liens with respect to the Collateral.
"MATURITY DATE" has the meaning set forth in SECTION 3.4.
"MAXIMUM AMOUNT" means, as of any date of determination, the
sum of (a) the Maximum Revolving Amount and (b) the outstanding Capital
Expenditure Loans.
"MAXIMUM REVOLVING AMOUNT" means $25,000,000 minus the
amount of the outstanding Capital Expenditure Loans.
<PAGE>
"NEGOTIABLE COLLATERAL" means all of Borrower's present and
future letters of credit, notes, drafts, instruments, Investment Property,
securities (including the shares of stock of Subsidiaries of Borrower),
documents, personal property leases (wherein Borrower is the lessor), and
chattel paper.
"OBLIGATIONS" means all loans, Advances, debts, principal,
interest (including any interest that, but for the provisions of the
Bankruptcy Code, would have accrued), premiums (including Early Termination
Premiums), liabilities (including all amounts charged to Borrower's Loan
Account pursuant hereto), obligations, fees, charges, costs, or Foothill
Expenses (including any fees or expenses that, but for the provisions of the
Bankruptcy Code, would have accrued), lease payments, guaranties, covenants,
and duties owing by Borrower to Foothill of any kind and description (whether
pursuant to or evidenced by the Loan Documents or pursuant to any other
agreement between Foothill and Borrower, and irrespective of whether for the
payment of money), whether direct or indirect, absolute or contingent, due or
to become due, now existing or hereafter arising, and including any debt,
liability, or obligation owing from Borrower to others that Foothill may have
obtained by assignment or otherwise, and further including all interest not
paid when due and all Foothill Expenses that Borrower is required to pay or
reimburse by the Loan Documents, by law, or otherwise.
"OVERADVANCE" has the meaning set forth in SECTION 2.5.
"PARTICIPANT" means any Person to which Foothill has sold a
participation interest in its rights under the Loan Documents.
"PAY-OFF LETTER" means a letter, in form and substance
reasonably satisfactory to Foothill, from Existing Lender respecting the
amount necessary to repay in full all of the obligations of Borrower owing to
Existing Lender and obtain a termination or release of all of the Liens
existing in favor of Existing Lender in and to the properties or assets of
Borrower.
"PERMITTED LIENS" means (a) Liens held by Foothill, (b)
Liens for unpaid taxes that either (i) are not yet due and payable or (ii)
are the subject of Permitted Protests, (c) Liens set forth on SCHEDULE P-1,
(d) the interests of lessors under operating leases and purchase money
security interests and Liens of lessors under capital leases to the extent
that the acquisition or lease of the underlying asset is permitted under
SECTION 7.21 and so long as the Lien only attaches to the asset purchased or
acquired and only secures the purchase price of the asset, (e) Liens arising
by operation of law in favor of warehousemen, landlords, carriers, mechanics,
materialmen, laborers, or suppliers, incurred in the ordinary course of
business of Borrower and not in connection with the borrowing of money, and
which Liens either (i) are for sums not yet due and payable, or (ii) are the
subject of Permitted Protests, (f) Liens arising from deposits made in
connection with obtaining worker's compensation or other unemployment
insurance, (g) Liens or deposits to secure performance of bids, tenders, or
leases (to the extent permitted under this Agreement), incurred in the
ordinary course of
<PAGE>
business of Borrower and not in connection with the borrowing of money, (h)
Liens arising by reason of security for surety or appeal bonds in the
ordinary course of business of Borrower, and (i) Liens of or resulting from
any judgment or award that would not cause a Material Adverse Change and as
to which the time for the appeal or petition for rehearing of which has not
yet expired, or in respect of which Borrower is in good faith prosecuting an
appeal or proceeding for a review, and in respect of which a stay of
execution pending such appeal or proceeding for review has been secured.
"PERMITTED PROTEST" means the right of Borrower to protest
any Lien (other than any such Lien that secures the Obligations), tax (other
than payroll taxes or taxes that are the subject of a United States federal
tax lien), or rental payment, provided that (a) a reserve with respect to
such obligation is established on the books of Borrower in an amount that is
reasonably satisfactory to Foothill, (b) any such protest is instituted and
diligently prosecuted by Borrower in good faith, and (c) Foothill is
satisfied that, while any such protest is pending, there will be no
impairment of the enforceability, validity, or priority of any of the Liens
of Foothill in and to the Collateral.
"PERSON" means and includes natural persons, corporations,
limited liability companies, limited partnerships, general partnerships,
limited liability partnerships, joint ventures, trusts, land trusts, business
trusts, or other organizations, irrespective of whether they are legal
entities, and governments and agencies and political subdivisions thereof.
"REAL PROPERTY" means any estates or interests in real
property now owned or hereafter acquired by Borrower.
"REFERENCE RATE" means the variable rate of interest, per
annum, most recently announced by Norwest Bank Minnesota, National
Association, or any successor thereto, as its "base rate," irrespective of
whether such announced rate is the best rate available from such financial
institution.
"REFERENCE RATE LOAN" means any Advance (or portion thereof)
made or outstanding hereunder during any period when interest on such Advance
(or portion thereof) is payable based on the Reference Rate.
"REQUIREMENT OF LAW" means, as to any Person: (a) (i) all
statutes and regulations and (ii) court orders and injunctions, arbitrators'
decisions, and/or similar rulings, in each instance by any Governmental
Authority or arbitrator applicable to or binding upon such Person or any of
such Person's property or to which such Person or any of such Person's
property is subject; and (b) that Person's organizational documents, by-laws
and/or other instruments which deal with corporate or similar governance, as
applicable.
"RESERVE PERCENTAGE" for any Interest Period means, as of
the date of determination thereof, the maximum percentage (rounded upward, if
necessary to the nearest 1/100th of 1%), as determined by Foothill (or its
Affiliates) in accordance with its (or their)
<PAGE>
usual procedures (which determination shall be conclusive in the absence of
manifest error), that is in effect on such date as prescribed by the Board of
Governors of the Federal Reserve System for determining the reserve
requirements (including supplemental, marginal, and emergency reserve
requirements) with respect to eurocurrency funding (currently referred to as
"eurocurrency liabilities") having a term equal to such Interest Period by
Foothill or its Affiliates.
"SOLVENT" means, with respect to any Person on a particular
date, that on such date (a) at fair valuations, all of the properties and
assets of such Person are greater than the sum of the debts, including
contingent liabilities, of such Person, (b) such Person is able to realize
upon its properties and assets and pay its debts and other liabilities,
contingent obligations and other commitments as they mature in the normal
course of business, (c) such Person does not intend to, and does not believe
that it will, incur debts beyond such Person's ability to pay as such debts
mature, and (d) such Person is not engaged in business or a transaction, and
is not about to engage in business or a transaction, for which such Person's
properties and assets would constitute unreasonably small capital after
giving due consideration to the prevailing practices in the industry in which
such Person is engaged. In computing the amount of contingent liabilities at
any time, it is intended that such liabilities will be computed at the amount
that, in light of all the facts and circumstances existing at such time,
represents the amount that reasonably can be expected to become an actual or
matured liability.
"STOCK PLEDGE AGREEMENT" means that certain Security
Agreement - Stock Pledge, of even date herewith, between Borrower and
Foothill relating to the shares of capital stock of Silicon Technology Co.,
Ltd. owned by Borrower.
"SUBSIDIARY" of a Person means a corporation, partnership,
limited liability company, or other entity in which that Person directly or
indirectly owns or controls the shares of stock or other ownership interests
having ordinary voting power to elect a majority of the board of directors
(or appoint other comparable managers) of such corporation, partnership,
limited liability company, or other entity.
"TANGIBLE NET WORTH" means, as of any date of determination,
the difference of (a) Borrower's total stockholder's equity, MINUS (b) the
sum of: (i) all Intangible Assets of Borrower, (ii) all of Borrower's
prepaid expenses, and (iii) all amounts due to Borrower from Affiliates.
"VOIDABLE TRANSFER" has the meaning set forth in SECTION
15.8.
"YEAR 2000 COMPLIANT" means, with regard to any Person, that
all software in goods produced or sold by, or utilized by and material to the
business operations or financial condition of, such entity are able to
interpret and manipulate data on and involving all calendar dates correctly
and without causing any abnormal ending scenario, including in relation to
dates in and after the year 2000.
<PAGE>
1.2 ACCOUNTING TERMS. All accounting terms not specifically
defined herein shall be construed in accordance with GAAP. When used herein,
the term "financial statements" shall include the notes and schedules
thereto. Whenever the term "Borrower" is used in respect of a financial
covenant or a related definition, it shall be understood to mean Borrower on
a consolidated basis unless the context clearly requires otherwise.
1.3 CODE. Any terms used in this Agreement that are defined in
the Code shall be construed and defined as set forth in the Code unless
otherwise defined herein.
1.4 CONSTRUCTION. Unless the context of this Agreement clearly
requires otherwise, references to the plural include the singular, references
to the singular include the plural, the term "including" is not limiting, and
the term "or" has, except where otherwise indicated, the inclusive meaning
represented by the phrase "and/or." The words "hereof," "herein," "hereby,"
"hereunder," and similar terms in this Agreement refer to this Agreement as a
whole and not to any particular provision of this Agreement. An Event of
Default shall "continue" or be "continuing" until such Event of Default has
been waived in writing by Foothill. Section, subsection, clause, schedule,
and exhibit references are to this Agreement unless otherwise specified. Any
reference in this Agreement or in the Loan Documents to this Agreement or any
of the Loan Documents shall include all alterations, amendments, changes,
extensions, modifications, renewals, replacements, substitutions, and
supplements, thereto and thereof, as applicable.
1.5 SCHEDULES AND EXHIBITS. All of the schedules and exhibits
attached to this Agreement shall be deemed incorporated herein by reference.
2. LOAN AND TERMS OF PAYMENT.
2.1 REVOLVING ADVANCES.
(a) Subject to the terms and conditions of this Agreement,
Foothill agrees to make advances ("Advances") to Borrower in an amount
outstanding not to exceed at any one time the lesser of (i) the Maximum
Revolving Amount or (ii) the Borrowing Base. For purposes of this Agreement,
"Borrowing Base", as of any date of determination, shall mean the result of:
(x) THE LESSER OF (i) 80% of the value of Eligible
Accounts, LESS the amount, if any, of the Dilution Reserve, or
(ii) an amount equal to Borrower's Collections with respect to
Accounts for the immediately preceding 90 day period, MINUS
(y) the aggregate amount of reserves, if any,
established by Foothill under SECTIONS 2.1(b), 6.15, and 10.
<PAGE>
(b) Anything to the contrary in SECTION 2.1(a) above
notwithstanding, Foothill may create reserves against the Borrowing Base or
reduce its advance rates based upon Eligible Accounts without declaring an
Event of Default if it determines that there has occurred a Material Adverse
Change.
(c) Amounts borrowed pursuant to this SECTION 2.1 may be
repaid and, subject to the terms and conditions of this Agreement, reborrowed
at any time during the term of this Agreement.
2.2 INTENTIONALLY OMITTED.
2.3 INTENTIONALLY OMITTED.
2.4 CAPITAL EXPENDITURE LINE. Subject to the terms and
conditions of this Agreement, Foothill agrees to make a series of term loans
to Borrower (each, a "Capital Expenditure Loan") in an aggregate amount at
any one time outstanding not to exceed $6,000,000 (the "Capital Expenditure
Line Commitment"). Each Capital Expenditure Loan shall be repayable in 36
equal monthly installments of principal, such installments to be payable on
the first day of each month commencing with the first day of the first month
following the date on which the Capital Expenditure Loan is made and
continuing on the first day of each succeeding month until and including the
date on which the unpaid balance of the Capital Expenditure Loan is paid in
full. The outstanding principal balance and all accrued and unpaid interest
under each Capital Expenditure Loan shall be due and payable upon the
termination of this Agreement, whether by its terms, by prepayment, by
acceleration, or otherwise.
Each Capital Expenditure Loan shall be made by Foothill at
such times and in such amounts as Borrower may request in writing, shall be
advanced directly to the applicable vendor or Borrower, as the case may be,
and once borrowed may be prepaid in whole or in part without penalty or
premium at any time during the term of this Agreement upon 30 days prior
written notice by Borrower to Foothill, all such prepaid amounts to be
applied to the installments due on all of the Capital Expenditure Loans in
the inverse order of their maturity. The foregoing to the contrary
notwithstanding, (a) each requested Capital Expenditure Loan shall be in a
principal amount of not less than (i) $250,000, or (ii) such lesser amount as
is the then unfunded balance of the Capital Expenditure Line Commitment, (b)
each Capital Expenditure Loan shall be in an amount, as determined by
Foothill, not to exceed 60% of Borrower's invoice cost (net of shipping,
freight, installation, and other so-called `soft costs') of (i) new Equipment
that is to be purchased by Borrower with the proceeds of such Capital
Expenditure Loan, or (ii) new Equipment that has been purchased by Borrower
within 90 days prior to the date of the making of such Capital Expenditure
Loan, (c) the new Equipment that is to be acquired or that has been purchased
by Borrower must be acceptable to Foothill in all respects, it must be
located at Borrower's place of business in the United States of America, it
must not be a fixture, and not be intended to be affixed to real property or
to become installed in or affixed to other goods, and (d) the aggregate
amount of all Capital
<PAGE>
Expenditure Loans outstanding at any time (including giving effect to any
requested Capital Expenditure Loan) shall not exceed the lesser of cost or
fair market value, of all of the Equipment acquired or financed with the
proceeds of such Capital Expenditure Loans. All amounts outstanding under
the Capital Expenditure Loans shall constitute Obligations.
2.5 OVERADVANCES. If, at any time or for any reason, the amount
of Obligations owed by Borrower to Foothill pursuant to SECTIONS 2.1 AND 2.4
is greater than either the Dollar or percentage limitations set forth in
SECTIONS 2.1 OR 2.4 (an "Overadvance"), Borrower immediately shall pay to
Foothill, in cash, the amount of such excess to be used by Foothill first, to
repay Advances outstanding under SECTION 2.1 and, thereafter, to be held by
Foothill as cash collateral to secure Borrower's obligation to repay Foothill
for all amounts paid pursuant to Letters of Credit.
2.6 INTEREST, RATES, PAYMENTS, AND CALCULATIONS.
(a) Interest Rate. Except as provided in SECTION 2.6(c),
below, all Obligations shall bear interest on the Daily Balance as follows:
(i) each Eurodollar Rate Loan shall bear interest
at a per annum rate of 3.00 percentage points above the Adjusted Eurodollar
Rate; and
(ii) all other Obligations shall bear interest at a per
annum rate of 0.50 percentage points above the Reference Rate.
(b) [Intentionally Deleted]
(c) Default Rate. Upon the occurrence and during the
continuation of an Event of Default, all Obligations shall bear interest on
the Daily Balance at a per annum rate equal to 4.50 percentage points above
the Reference Rate.
(d) Minimum Interest. In no event shall the rate of
interest chargeable hereunder for any day be less than 6.00% per annum. To
the extent that interest accrued hereunder at the rate set forth herein would
be less than the foregoing minimum daily rate, the interest rate chargeable
hereunder for such day automatically shall be deemed increased to the minimum
rate.
(e) Payments. Interest in respect of Reference Rate Loans
payable hereunder shall be due and payable, in arrears, on the first day of
each month during the term hereof. Interest in respect of each Eurodollar
Rate Loan shall be due and payable, in arrears, on (i) the last day of the
applicable Interest Period, and (ii) the first day of each month occurring
during the term thereof. Borrower hereby authorizes Foothill, at its option,
without prior notice to Borrower, to charge such interest, all Foothill
Expenses (as and when incurred), the fees and charges provided for in
SECTION 2.11 (as and when accrued or incurred), and all installments or other
payments due under the Capital Expenditure Loans, or any Loan
<PAGE>
Document to Borrower's Loan Account, which amounts thereafter shall accrue
interest at the rate then applicable to Advances hereunder. Any interest not
paid when due shall be compounded and shall thereafter accrue interest at the
rate then applicable to Advances hereunder.
(f) Computation. The Reference Rate as of the date of
this Agreement is 8.50% per annum. In the event the Reference Rate is
changed from time to time hereafter, the applicable rate of interest
hereunder automatically and immediately shall be increased or decreased by an
amount equal to such change in the Reference Rate. All interest and fees
chargeable under the Loan Documents shall be computed on the basis of a 360
day year for the actual number of days elapsed.
(g) Intent to Limit Charges to Maximum Lawful Rate. In no
event shall the interest rate or rates payable under this Agreement, plus any
other amounts paid in connection herewith, exceed the highest rate
permissible under any law that a court of competent jurisdiction shall, in a
final determination, deem applicable. Borrower and Foothill, in executing
and delivering this Agreement, intend legally to agree upon the rate or rates
of interest and manner of payment stated within it; PROVIDED, HOWEVER, that,
anything contained herein to the contrary notwithstanding, if said rate or
rates of interest or manner of payment exceeds the maximum allowable under
applicable law, then, IPSO FACTO as of the date of this Agreement, Borrower
is and shall be liable only for the payment of such maximum as allowed by
law, and payment received from Borrower in excess of such legal maximum,
whenever received, shall be applied to reduce the principal balance of the
Obligations to the extent of such excess.
2.7 COLLECTION OF ACCOUNTS. Borrower shall at all times
maintain lockboxes (the "Lockboxes") and, immediately after the Closing Date,
shall instruct all Account Debtors with respect to the Accounts, General
Intangibles, and Negotiable Collateral of Borrower to remit ALL Collections
in respect thereof to such Lockboxes. Borrower, Foothill, and the Lockbox
Banks shall enter into the Lockbox Agreements, which among other things shall
provide for the opening of a Lockbox Account for the deposit of Collections
at a Lockbox Bank. Borrower agrees that all Collections and other amounts
received by Borrower from any Account Debtor or any other source immediately
upon receipt shall be deposited into a Lockbox Account. No Lockbox Agreement
or arrangement contemplated thereby shall be modified by Borrower without the
prior written consent of Foothill. Upon the terms and subject to the
conditions set forth in the Lockbox Agreements, all amounts received in each
Lockbox Account shall be wired each Business Day into an account (the
"Foothill Account") maintained by Foothill at a depositary selected by
Foothill.
2.8 CREDITING PAYMENTS; APPLICATION OF COLLECTIONS. The receipt
of any Collections by Foothill (whether from transfers to Foothill by the
Lockbox Banks pursuant to the Lockbox Agreements or otherwise) immediately
shall be applied provisionally to reduce the Obligations outstanding under
SECTION 2.1, but shall not be considered a payment on account unless such
Collection item is a wire transfer of immediately available federal funds
<PAGE>
and is made to the Foothill Account or unless and until such Collection item
is honored when presented for payment. From and after the Closing Date,
Foothill shall be entitled to charge Borrower for one Business Day of
`clearance' or `float' at the rate set forth in SECTION 2.6(a)(i) or
SECTION 2.6(c)(ii), as applicable, on all Collections that are received by
Foothill (regardless of whether forwarded by the Lockbox Banks to Foothill,
whether provisionally applied to reduce the Obligations under SECTION 2.1, or
otherwise). This across-the-board one Business Day clearance or float charge
on all Collections is acknowledged by the parties to constitute an integral
aspect of the pricing of Foothill's financing of Borrower, and shall apply
irrespective of the characterization of whether receipts are owned by
Borrower or Foothill, and whether or not there are any outstanding Advances,
the effect of such clearance or float charge being the equivalent of charging
one Business Day of interest on such Collections. Should any Collection item
not be honored when presented for payment, then Borrower shall be deemed not
to have made such payment, and interest shall be recalculated accordingly.
Anything to the contrary contained herein notwithstanding, any Collection
item shall be deemed received by Foothill only if it is received into the
Foothill Account on a Business Day on or before 11:00 a.m. California time.
If any Collection item is received into the Foothill Account on a
non-Business Day or after 11:00 a.m. California time on a Business Day, it
shall be deemed to have been received by Foothill as of the opening of
business on the immediately following Business Day.
2.9 DESIGNATED ACCOUNT. Foothill is authorized to make the
Advances and the Capital Expenditure Loans under this Agreement based upon
telephonic or other instructions received from anyone purporting to be an
Authorized Person, or without instructions if pursuant to SECTION 2.6(e).
Borrower agrees to establish and maintain the Designated Account with the
Designated Account Bank for the purpose of receiving the proceeds of the
Advances and the Capital Expenditure Loans requested by Borrower and made by
Foothill hereunder. Unless otherwise agreed by Foothill and Borrower, any
Advance and the Capital Expenditure Loans requested by Borrower and made by
Foothill hereunder shall be made to the Designated Account.
2.10 MAINTENANCE OF LOAN ACCOUNT; STATEMENTS OF OBLIGATIONS.
Foothill shall maintain an account on its books in the name of Borrower (the
"Loan Account") on which Borrower will be charged with all Advances, and all
Capital Expenditure Loans made by Foothill to Borrower or for Borrower's
account, including, accrued interest, Foothill Expenses, and any other
payment Obligations of Borrower. In accordance with SECTION 2.8, the Loan
Account will be credited with all payments received by Foothill from Borrower
or for Borrower's account, including all amounts received in the Foothill
Account from any Lockbox Bank. Foothill shall render statements regarding
the Loan Account to Borrower, including principal, interest, fees, and
including an itemization of all charges and expenses constituting Foothill
Expenses owing, and such statements shall be conclusively presumed to be
correct and accurate and constitute an account stated between Borrower and
Foothill unless, within 30 days after receipt thereof by Borrower, Borrower
shall deliver to Foothill written objection thereto describing the error or
errors contained in any such statements.
<PAGE>
2.11 FEES. Borrower shall pay to Foothill the following fees:
(a) Closing Fee. On the Closing Date, a closing fee of
$250,000 shall be fully earned by Foothill. $125,000 of the closing fee
shall be payable on the Closing Date and $62,500 of such fee shall be payable
on each of the first and second anniversaries of the Closing Date;
(b) Unused Line Fee. On the first day of each month
during the term of this Agreement, an unused line fee in an amount equal to
0.25% per annum times the difference between the average Daily Balance of the
Advances that were outstanding during the immediately preceding month and
$5,000,000.
(c) Servicing Fee. On the first day of each month during
the term of this Agreement, and thereafter so long as any Obligations are
outstanding, a servicing fee in an amount equal to $2,500; and
(d) Financial Examination, Documentation, and Appraisal
Fees. Foothill's customary fee of $650 per day per examiner, plus
out-of-pocket expenses for each financial analysis and examination (i.e.,
audits) of Borrower performed by personnel employed by Foothill; Foothill's
customary appraisal fee of $1,500 per day per appraiser, plus out-of-pocket
expenses for each appraisal of the Collateral performed by personnel employed
by Foothill; and, the actual charges paid or incurred by Foothill if it
elects to employ the services of one or more third Persons to perform such
financial analyses and examinations (i.e., audits) of Borrower or to appraise
the Collateral; PROVIDED, HOWEVER, that prior to the occurrence of an Event
of Default, Borrower shall not be responsible to pay (i) for more than 20 man
days in any consecutive 12 month period for financial analysis and
examinations conducted by personal employed by Foothill plus (ii) Foothill's
out-of-pocket expenses.
2.12 EURODOLLAR RATE LOANS. Any other provisions herein to the
contrary notwithstanding, the following provisions shall govern with respect
to Eurodollar Rate Loans as to the matters covered:
(a) BORROWING; CONVERSION; CONTINUATION. Borrower may
from time to time, on or after the Closing Date (and subject to the
satisfaction of the requirements of SECTIONS 3.1 AND 3.2), request in a
written or telephonic communication with Foothill: (i) Advances to
constitute Eurodollar Rate Loans; (ii) that Reference Rate Loans be converted
into Eurodollar Rate Loans; or (iii) that existing Eurodollar Rate Loans
continue for an additional Interest Period. Any such request shall specify
the aggregate amount of the requested Eurodollar Rate Loans, the proposed
funding date therefor (which shall be a Business Day, and with respect to
continued Eurodollar Rate Loans shall be the last day of the Interest Period
of the existing Eurodollar Rate Loans being continued), and the proposed
Interest Period (in each case subject to the limitations set forth below).
Eurodollar Rate Loans may only be made, continued, or extended if, as of the
proposed funding date therefor, each of the following conditions is satisfied:
<PAGE>
(v) no Event of Default exists;
(w) no more than five Interest Periods may be in
effect at any one time;
(x) the amount of each Eurodollar Rate Loan
borrowed, converted, or continued must be in an amount not less
than $1,000,000 and integral multiples of $250,000 in excess
thereof;
(y) Foothill shall have determined that the Interest
Period or Adjusted Eurodollar Rate is available to it and can be
readily determined as of the date of the request for such
Eurodollar Rate Loan by Borrower; and
(z) Foothill shall have received such request at
least two Business Days prior to the proposed funding date
therefor.
Any request by Borrower to borrow Eurodollar Rate Loans, to
convert Reference Rate Loans to Eurodollar Rate Loans, or to continue any
existing Eurodollar Rate Loans shall be irrevocable, except to the extent
that Foothill shall determine under SECTIONS 2.12(a), 2.13 or 2.14 that such
Eurodollar Rate Loans cannot be made or continued.
(b) DETERMINATION OF INTEREST PERIOD. By giving notice as
set forth in SECTION 2.12(a), Borrower shall select an Interest Period for
such Eurodollar Rate Loan. The determination of the Interest Period shall be
subject to the following provisions:
(i) in the case of immediately successive Interest
Periods, each successive Interest Period shall commence on the day
on which the next preceding Interest Period expires;
(ii) if any Interest Period would otherwise expire on
a day which is not a Business Day, the Interest Period shall be
extended to expire on the next succeeding Business Day; PROVIDED,
HOWEVER, that if the next succeeding Business Day occurs in the
following calendar month, then such Interest Period shall expire
on the immediately preceding Business Day;
(iii) if any Interest Period begins on the last
Business Day of a month, or on a day for which there is no
numerically corresponding day in the calendar month at the end of
such Interest Period, then the Interest Period shall end on the
last Business Day of the calendar month at the end of such
Interest Period; and
(iv) Borrower may not select an Interest Period which
expires later than the Maturity Date.
<PAGE>
(c) AUTOMATIC CONVERSION: OPTIONAL CONVERSION BY FOOTHILL.
Any Eurodollar Rate Loan shall automatically convert to a Reference Rate
Loan upon the last day of the applicable Interest Period, unless Foothill has
received a request to continue such Eurodollar Rate Loan at least two
Business Days prior to the end of such Interest Period in accordance with the
terms of SECTION 2.12(a). Any Eurodollar Rate Loan shall, at Foothill's
option, upon notice to Borrower, immediately convert to a Reference Rate Loan
in the event that (i) an Event of Default shall have occurred and be
continuing or (ii) this Agreement shall terminate, and Borrower shall pay to
Foothill any amounts required by SECTION 2.15 as a result thereof.
2.13 ILLEGALITY. Any other provision herein to the contrary
notwithstanding, if the adoption of or any change in any Requirement of Law
or in the interpretation or application thereof by a Governmental Authority
made subsequent to the Closing Date shall make it unlawful for Foothill to
make or maintain Eurodollar Rate Loans as contemplated by this Agreement, (a)
the obligation of Foothill hereunder to make Eurodollar Rate Loans, continue
Eurodollar Rate Loans as such, and convert Reference Rate Loans to Eurodollar
Rate Loans shall forthwith be suspended and (b) Foothill's then outstanding
Eurodollar Rate Loans, if any, shall be converted automatically to Reference
Rate Loans on the respective last days of the then current Interest Periods
with respect thereto or within such earlier period as required by law;
PROVIDED, HOWEVER, that before making any such demand, Foothill agrees to use
reasonable efforts (consistent with its internal policy and legal and
regulatory restrictions and so long as such efforts would not be
disadvantageous to it, in its reasonable discretion, in any legal, economic,
or regulatory manner) to designate a different lending office if the making
of such a designation would allow Foothill or its lending office to continue
to perform its obligations to make Eurodollar Rate Loans. If any such
conversion of a Eurodollar Rate Loan occurs on a day which is not the last
day of the then current Interest Period with respect thereto, Borrower shall
pay to Foothill such amounts, if any, as may be required pursuant to
SECTION 2.14. If circumstances subsequently change so that Foothill shall
determine that it is no longer so affected, Foothill will promptly notify,
and upon receipt of such notice, the obligations of Foothill to make or
continue Eurodollar Rate Loans or to convert Reference Rate Loans into
Eurodollar Rate Loans shall be reinstated.
2.14 REQUIREMENTS OF LAW.
(a) If the adoption of or any change in any Requirement of
Law or in the interpretation or application thereof by a Governmental
Authority made subsequent to the Closing Date or compliance by Foothill with
any request or directive (whether or not having the force of law) from any
central bank or other Governmental Authority made subsequent to the Closing
Date
(i) shall subject Foothill to any tax, levy, charge,
fee, reduction, or withholding of any kind whatsoever with respect
to Eurodollar Rate Loans, or change the basis of taxation of
payments to Foothill in respect
<PAGE>
thereof (except for the establishment of a tax based on the net
income of Foothill or changes in the rate of tax on the net income
of Foothill);
(ii) shall in respect of Eurodollar Rate Loans
impose, modify or hold applicable any reserve, special deposit,
compulsory loan, or similar requirement against assets held by,
deposits or other liabilities in or for the account of, Advances
or other extensions of credit by, or any other acquisition of
funds by, any office of Foothill; or
(iii) shall impose on Foothill any other condition
with respect to Eurodollar Rate Loans;
and the result of any of the foregoing is to increase the cost to Foothill,
by an amount which Foothill deems to be material, of making, converting into,
continuing, or maintaining Eurodollar Rate Loans or to increase the cost to
Foothill in respect of Eurodollar Rate Loans, by an amount which Foothill
deems to be material, or to reduce any amount receivable hereunder in respect
of Eurodollar Rate Loans, or to forego any other sum payable thereunder or
make any payment on account thereof in respect of Eurodollar Rate Loans,
then, in any such case, Borrower shall promptly pay Foothill, upon its
demand, any additional amounts necessary to compensate Foothill for such
increased cost or reduced amount receivable; PROVIDED, HOWEVER, that before
making any such demand, Foothill agrees to use reasonable efforts (consistent
with its internal policy and legal and regulatory restrictions and so long as
such efforts would not be disadvantageous to it, in its reasonable
discretion, in any legal, economic, or regulatory manner) to designate a
different Eurodollar lending office if the making of such designation would
allow Foothill or its Eurodollar lending office to continue to perform its
obligations to make Eurodollar Rate Loans or to continue to fund or maintain
Eurodollar Rate Loans and avoid the need for, or materially reduce the amount
of, such increased cost. If Foothill becomes entitled to claim any
additional amounts pursuant to this SECTION 2.14, Foothill shall promptly
notify Borrower of the event by reason of which it has become so entitled. A
certificate as to any additional amounts payable pursuant to this SECTION 2.14
submitted in reasonable detail by Foothill to Borrower shall be conclusive in
the absence of manifest error. Within five Business Days after Foothill
notifies Borrower of any increased cost pursuant to the foregoing provisions
of this SECTION 2.14, Borrower may convert all Eurodollar Rate Loans then
outstanding into Reference Rate Loans in accordance with SECTION 2.12 and,
additionally, reimburse Foothill for any cost in accordance with SECTION 2.15.
This covenant shall survive the termination of this Agreement and the payment
of the Advances and all other amounts payable hereunder for nine months
following such termination and repayment.
(b) If Foothill shall have determined that the adoption of
or any change in any Requirement of Law regarding capital adequacy or in the
interpretation or application thereof by a Governmental Authority made
subsequent to the Closing Date or compliance by Foothill or any Person
controlling Foothill with any request or directive regarding capital adequacy
(whether or not having the force of law) from any Governmental
<PAGE>
Authority made subsequent to the Closing Date does or shall have the effect
of increasing the amount of capital required to be maintained or reducing the
rate of return on Foothill's or such Person's capital as a consequence of its
obligations hereunder to a level below that which Foothill or such Person
could have achieved but for such change or compliance (taking into
consideration Foothill's or such Person's policies with respect to capital
adequacy) by an amount deemed by Foothill to be material, then from time to
time, after submission by Foothill to Borrower of a prompt written request
therefor, Borrower shall pay to Foothill such additional amount or amounts as
will compensate Foothill or such Person for such reduction. This covenant
shall survive the termination of this Agreement and the payment of the
Advances and all other amounts payable hereunder for nine months following
such termination and repayment.
2.15 INDEMNITY. Borrower agrees to indemnify Foothill and to
hold Foothill harmless from any loss or expense which Foothill may sustain or
incur as a consequence of (a) default by Borrower in payment when due of the
principal amount of or interest on any Eurodollar Rate Loan, (b) default by
Borrower in making a Borrowing of, conversion into, or continuation of
Eurodollar Rate Loans after Borrower has given a notice requesting the same
in accordance with the provisions of this Agreement, (c) default by Borrower
in making any prepayment of a Eurodollar Rate Loan after Borrower has given a
notice thereof in accordance with the provisions of this Agreement, or (d)
the making of a prepayment of Eurodollar Rate Loans on a day which is not the
last day of an Interest Period with respect thereto (whether due to the
termination of this Agreement, upon an Event of Default, or otherwise),
including, in each case, any such loss or expense (but excluding loss of
margin or anticipated profits) arising from the reemployment of funds
obtained by it or from fees payable to terminate the deposits from which such
funds were obtained; PROVIDED, HOWEVER, that Foothill, if requesting
indemnification, shall have delivered to the Borrower a certificate as to the
amount of such loss or expense, which certificate shall be conclusive in the
absence of manifest error. Calculation of all amounts payable to Foothill
under this SECTION 2.15 shall be made as though Foothill had actually funded
the relevant Eurodollar Rate Loan through the purchase of a deposit bearing
interest at the Eurodollar Rate in an amount equal to the amount of such
Eurodollar Rate Loan and having a maturity comparable to the relevant
Interest Period; PROVIDED, HOWEVER, that Foothill may fund each of the
Eurodollar Rate Loans in any manner it sees fit, and the foregoing assumption
shall be utilized only for the calculation of amounts payable under this
SECTION 2.15. This covenant shall survive the termination of this Agreement
and the payment of the Loans and all other amounts payable hereunder for a
period of nine months thereafter.
3. CONDITIONS; TERM OF AGREEMENT.
3.1 CONDITIONS PRECEDENT TO THE INITIAL ADVANCE AND THE INITIAL
CAPITAL EXPENDITURE LOAN. The obligation of Foothill to make the initial
Advance or to make the initial Capital Expenditure Loan is subject to the
fulfillment, to the satisfaction of Foothill and its counsel, of each of the
following conditions on or before the Closing Date:
(a) the Closing Date shall occur on or before September 30,
1998;
<PAGE>
(b) Foothill shall have received each of the following
documents, duly executed, and each such document shall be in full force and
effect:
a. the Lockbox Agreements;
b. [intentionally deleted];
c. the Intellectual Property Security Agreement;
d. the Stock Pledge Agreement;
(c) Foothill shall have received a certificate from the
Secretary of Borrower attesting to the resolutions of Borrower's Board of
Directors authorizing its execution, delivery, and performance of this
Agreement and the other Loan Documents to which Borrower is a party and
authorizing specific officers of Borrower to execute the same;
(d) Foothill shall have received copies of Borrower's
Governing Documents, as amended, modified, or supplemented to the Closing
Date, certified by the Secretary of Borrower;
(e) Foothill shall have received a certificate of status
with respect to Borrower, dated within 10 days of the Closing Date, such
certificate to be issued by the appropriate officer of the jurisdiction of
organization of Borrower, which certificate shall indicate that Borrower is
in good standing in such jurisdiction;
(f) Foothill shall have received certificates of status
with respect to Borrower, each dated within 15 days of the Closing Date, such
certificates to be issued by the appropriate officer of the jurisdictions in
which its failure to be duly qualified or licensed would constitute a
Material Adverse Change, which certificates shall indicate that Borrower is
in good standing in such jurisdictions;
(g) Foothill shall have received a certificate of
insurance, together with the endorsements thereto, as are required by
SECTION 6.10, the form and substance of which shall be satisfactory to
Foothill and its counsel;
(h) Foothill shall have received confirmation that its
UCC-1 Financing Statements have been duly filed with all appropriate
jurisdictions;
(i) Foothill shall have received an opinion of Borrower's
counsel in form and substance satisfactory to Foothill in its discretion;
(j) Foothill shall have received evidence, satisfactory to
it, that Borrower has paid its 1997 property taxes, in full;
<PAGE>
(k) Foothill shall have received letters from Borrower to
its Account Debtors notifying them of Foothill's security interest in the
Accounts, which letters will not be sent out by Foothill unless an Event of
Default has occurred; and
(l) all other documents and legal matters in connection
with the transactions contemplated by this Agreement shall have been
delivered, executed, or recorded and shall be in form and substance
satisfactory to Foothill and its counsel.
3.2 CONDITIONS PRECEDENT TO ALL ADVANCES AND ALL CAPITAL
EXPENDITURE LOANS. The following shall be conditions precedent to all
Advances and all Capital Expenditure Loans hereunder:
(a) the representations and warranties contained in this
Agreement and the other Loan Documents shall be true and correct in all
respects on and as of the date of such extension of credit, as though made on
and as of such date (except to the extent that such representations and
warranties relate solely to an earlier date);
(b) no Default or Event of Default shall have occurred and
be continuing on the date of such extension of credit, nor shall either
result from the making thereof; and
(c) no injunction, writ, restraining order, or other order
of any nature prohibiting, directly or indirectly, the extending of such
credit shall have been issued and remain in force by any governmental
authority against Borrower, Foothill, or any of their Affiliates.
3.3 CONDITIONS SUBSEQUENT. As conditions subsequent to initial
closing hereunder, Borrower shall perform or cause to be performed the
following (the failure by Borrower to so perform or cause to be performed
constituting an Event of Default):
(a) within 45 days of the Closing Date, deliver to
Foothill Collateral Access Agreements with the lessors of Borrower's
locations in Sunnyvale, California;
(b) within 90 days of the Closing Date, deliver to
Foothill the certified copies of the policies of insurance, together with the
endorsements thereto, as are required by SECTION 6.10, the form and substance
of which shall be satisfactory to Foothill and its counsel;
(c) within 90 days of the Closing Date, deliver to
Foothill the Control Agreement; and
(d) promptly upon Foothill's request, deliver to Foothill
any and all documents, instruments, or the like that Foothill may reasonably
require in order to perfect its
<PAGE>
security interest in any Collateral now or in the future located in,
including intellectual property rights registered in, the Philippines or
Japan.
3.4 TERM. This Agreement shall become effective upon the
execution and delivery hereof by Borrower and Foothill and shall continue in
full force and effect for a term ending on the date (the "Maturity Date")
that is three years from the Closing Date, unless sooner terminated pursuant
to the terms hereof. The foregoing notwithstanding, Foothill shall have the
right to terminate its obligations under this Agreement immediately and
without notice upon the occurrence and during the continuation of an Event of
Default.
3.5 EFFECT OF TERMINATION. On the date of termination of this
Agreement, all Obligations (including contingent reimbursement obligations of
Borrower with respect to any outstanding Letters of Credit) immediately shall
become due and payable without notice or demand. No termination of this
Agreement, however, shall relieve or discharge Borrower of Borrower's duties,
Obligations, or covenants hereunder, and Foothill's continuing security
interests in the Collateral shall remain in effect until all Obligations have
been fully and finally discharged and Foothill's obligation to provide
additional credit hereunder is terminated.
3.6 EARLY TERMINATION BY BORROWER. The provisions of SECTION
3.4 that allow termination of this Agreement by Borrower only on the Maturity
Date, notwithstanding, Borrower has the option, at any time upon 90 days
prior written notice to Foothill, to terminate this Agreement by paying to
Foothill, in cash, the Obligations, in full, together with a premium (the
"Early Termination Premium") equal to (a) 2.00% of the Maximum Amount if such
termination occurs within one year of the Closing Date, and (b) 1.00% of the
Maximum Amount if such termination occurs after one year from the Closing
Date but prior to six months before the Termination Date. If such termination
occurs within six months of the Termination Date there shall not be an Early
Termination Premium.
3.7 TERMINATION UPON EVENT OF DEFAULT. If Foothill terminates
this Agreement upon the occurrence of an Event of Default, in view of the
impracticability and extreme difficulty of ascertaining actual damages and by
mutual agreement of the parties as to a reasonable calculation of Foothill's
lost profits as a result thereof, Borrower shall pay to Foothill upon the
effective date of such termination, a premium in an amount equal to the Early
Termination Premium. The Early Termination Premium shall be presumed to be
the amount of damages sustained by Foothill as the result of the early
termination and Borrower agrees that it is reasonable under the circumstances
currently existing. The Early Termination Premium provided for in this
SECTION 3.7 shall be deemed included in the Obligations.
<PAGE>
4. CREATION OF SECURITY INTEREST.
4.1 GRANT OF SECURITY INTEREST. Borrower hereby grants to
Foothill a continuing security interest in all currently existing and
hereafter acquired or arising Collateral in order to secure prompt repayment
of any and all Obligations and in order to secure prompt performance by
Borrower of each of its covenants and duties under the Loan Documents.
Foothill's security interests in the Collateral shall attach to all
Collateral without further act on the part of Foothill or Borrower. Anything
contained in this Agreement or any other Loan Document to the contrary
notwithstanding, except for the sale of Inventory to buyers in the ordinary
course of business, Borrower has no authority, express or implied, to dispose
of any item or portion of the Collateral.
4.2 NEGOTIABLE COLLATERAL. In the event that any Collateral,
including proceeds, is evidenced by or consists of Negotiable Collateral,
Borrower, immediately upon the request of Foothill, shall endorse and deliver
physical possession of such Negotiable Collateral to Foothill.
4.3 COLLECTION OF ACCOUNTS, GENERAL INTANGIBLES, AND NEGOTIABLE
COLLATERAL. Foothill or Foothill's designee may at any time that an Event of
Default has occurred and has not been cured by Borrower or waived by Foothill
(a) notify customers or Account Debtors of Borrower that the Accounts,
General Intangibles, or Negotiable Collateral have been assigned to Foothill
or that Foothill has a security interest therein, and (b) collect the
Accounts, General Intangibles, and Negotiable Collateral directly and charge
the collection costs and expenses to the Loan Account. Borrower agrees that
it will hold in trust for Foothill, as Foothill's trustee, any Collections
that it receives and immediately will deliver said Collections to Foothill in
their original form as received by Borrower.
4.4 DELIVERY OF ADDITIONAL DOCUMENTATION REQUIRED. At any time
upon the request of Foothill, Borrower shall execute and deliver to Foothill
all financing statements, continuation financing statements, fixture filings,
security agreements, pledges, assignments, control agreements, endorsements
of certificates of title, applications for title, affidavits, reports,
notices, schedules of accounts, letters of authority, and all other documents
that Foothill reasonably may request, in form satisfactory to Foothill, to
perfect and continue perfected Foothill's security interests in the
Collateral, and in order to fully consummate all of the transactions
contemplated hereby and under the other the Loan Documents.
4.5 POWER OF ATTORNEY. Borrower hereby irrevocably makes,
constitutes, and appoints Foothill (and any of Foothill's officers,
employees, or agents designated by Foothill) as Borrower's true and lawful
attorney, with power to (a) if Borrower refuses to, or fails timely to
execute and deliver any of the documents described in SECTION 4.4, sign the
name of Borrower on any of the documents described in SECTION 4.4, (b) at any
time that an Event of Default has occurred and is continuing or Foothill
deems itself insecure, sign Borrower's name on any invoice or bill of lading
relating to any Account, drafts against Account Debtors, schedules and
assignments of Accounts, verifications of Accounts, and
<PAGE>
notices to Account Debtors, (c) send requests for verification of Accounts,
(d) endorse Borrower's name on any Collection item that may come into
Foothill's possession, (e) at any time that an Event of Default has occurred
and is continuing or Foothill deems itself insecure, notify the post office
authorities to change the address for delivery of Borrower's mail to an
address designated by Foothill, to receive and open all mail addressed to
Borrower, and to retain all mail relating to the Collateral and forward all
other mail to Borrower, (f) at any time that an Event of Default has occurred
and is continuing or Foothill deems itself insecure, make, settle, and adjust
all claims under Borrower's policies of insurance and make all determinations
and decisions with respect to such policies of insurance, and (g) at any time
that an Event of Default has occurred and is continuing or Foothill deems
itself insecure, settle and adjust disputes and claims respecting the
Accounts directly with Account Debtors, for amounts and upon terms that
Foothill determines to be reasonable, and Foothill may cause to be executed
and delivered any documents and releases that Foothill determines to be
necessary. The appointment of Foothill as Borrower's attorney, and each and
every one of Foothill's rights and powers, being coupled with an interest, is
irrevocable until all of the Obligations have been fully and finally repaid
and performed and Foothill's obligation to extend credit hereunder is
terminated.
4.6 RIGHT TO INSPECT. Foothill (through any of its officers,
employees, or agents) shall have the right, from time to time hereafter to
inspect Borrower's Books and to check, test, and appraise the Collateral in
order to verify Borrower's financial condition or the amount, quality, value,
condition of, or any other matter relating to, the Collateral.
5. REPRESENTATIONS AND WARRANTIES.
In order to induce Foothill to enter into this Agreement, Borrower
makes the following representations and warranties which shall be true,
correct, and complete in all respects as of the date hereof, and shall be
true, correct, and complete in all respects as of the Closing Date, and at
and as of the date of the making of each Advance or Capital Expenditure Loan
made thereafter, as though made on and as of the date of such Advance or
Capital Expenditure Loan (except to the extent that such representations and
warranties relate solely to an earlier date) and such representations and
warranties shall survive the execution and delivery of this Agreement:
5.1 NO ENCUMBRANCES. Borrower has good and indefeasible title
to the Collateral, free and clear of Liens except for Permitted Liens.
5.2 ELIGIBLE ACCOUNTS. The Eligible Accounts are bona fide
existing obligations created by the sale and delivery of Inventory or the
rendition of services to Account Debtors in the ordinary course of Borrower's
business, unconditionally owed to Borrower without defenses, disputes,
offsets, counterclaims, or rights of return or cancellation. The property
giving rise to such Eligible Accounts has been delivered to the Account
Debtor, or to the Account Debtor's agent for immediate shipment to and
unconditional acceptance by the Account Debtor. Borrower has not received
notice of actual or imminent bankruptcy,
<PAGE>
insolvency, or material impairment of the financial condition of any Account
Debtor regarding any Eligible Account.
5.3 INTENTIONALLY OMITTED.
5.4 EQUIPMENT. All of the Equipment is used or held for use in
Borrower's business and is fit for such purposes.
5.5 LOCATION OF INVENTORY AND EQUIPMENT. The Inventory and
Equipment are not stored with a bailee, warehouseman, or similar party
(without Foothill's prior written consent) and are located only at the
locations identified on SCHEDULE 6.12 or otherwise permitted by SECTION 6.12.
5.6 INVENTORY RECORDS. Borrower keeps correct and accurate
records itemizing and describing the kind, type, quality, and quantity of the
Inventory, and Borrower's cost therefor.
5.7 LOCATION OF CHIEF EXECUTIVE OFFICE; FEIN. The chief
executive office of Borrower is located at the address indicated in the
preamble to this Agreement and Borrower's FEIN is 77-0225590.
5.8 DUE ORGANIZATION AND QUALIFICATION; SUBSIDIARIES.
(a) Borrower is duly organized and existing and in good
standing under the laws of the jurisdiction of its incorporation and
qualified and licensed to do business in, and in good standing in, any state
where the failure to be so licensed or qualified reasonably could be expected
to cause a Material Adverse Change.
(b) Set forth on SCHEDULE 5.8, is a complete and accurate
list of Borrower's direct and indirect Subsidiaries, showing: (i) the
jurisdiction of their incorporation; (ii) the number of shares of each class
of common and preferred stock authorized for each of such Subsidiaries; and
(iii) the number and the percentage of the outstanding shares of each such
class owned directly or indirectly by Borrower. All of the outstanding
capital stock of each such Subsidiary has been validly issued and is fully
paid and non-assessable.
(c) Except as set forth on SCHEDULE 5.8, no capital stock
(or any securities, instruments, warrants, options, purchase rights,
conversion or exchange rights, calls, commitments or claims of any character
convertible into or exercisable for capital stock) of any direct or indirect
Subsidiary of Borrower is subject to the issuance of any security,
instrument, warrant, option, purchase right, conversion or exchange right,
call, commitment or claim of any right, title, or interest therein or thereto.
<PAGE>
5.9 DUE AUTHORIZATION; NO CONFLICT.
(a) The execution, delivery, and performance by Borrower
of this Agreement and the Loan Documents to which it is a party have been
duly authorized by all necessary corporate action.
(b) The execution, delivery, and performance by Borrower
of this Agreement and the Loan Documents to which it is a party do not and
will not (i) violate any provision of federal, state, or local law or
regulation (including Regulations T, U, and X of the Federal Reserve Board)
applicable to Borrower, the Governing Documents of Borrower, or any order,
judgment, or decree of any court or other Governmental Authority binding on
Borrower, (ii) conflict with, result in a breach of, or constitute (with due
notice or lapse of time or both) a default under any material contractual
obligation or material lease of Borrower, (iii) result in or require the
creation or imposition of any Lien of any nature whatsoever upon any
properties or assets of Borrower, other than Permitted Liens, or (iv) require
any approval of stockholders or any approval or consent of any Person under
any material contractual obligation of Borrower.
(c) Other than the filing of appropriate financing
statements, fixture filings, and mortgages, the execution, delivery, and
performance by Borrower of this Agreement and the Loan Documents to which
Borrower is a party do not and will not require any registration with,
consent, or approval of, or notice to, or other action with or by, any
federal, state, foreign, or other Governmental Authority or other Person.
(d) This Agreement and the Loan Documents to which
Borrower is a party, and all other documents contemplated hereby and thereby,
when executed and delivered by Borrower will be the legally valid and binding
obligations of Borrower, enforceable against Borrower in accordance with
their respective terms, except as enforcement may be limited by equitable
principles or by bankruptcy, insolvency, reorganization, moratorium, or
similar laws relating to or limiting creditors' rights generally.
(e) The Liens granted by Borrower to Foothill in and to
its properties and assets pursuant to this Agreement and the other Loan
Documents are validly created, perfected, and first priority Liens, subject
only to Permitted Liens.
5.10 LITIGATION. There are no actions or proceedings pending by
or against Borrower before any court or administrative agency and Borrower
does not have knowledge or belief of any pending, threatened, or imminent
litigation, governmental investigations, or claims, complaints, actions, or
prosecutions involving Borrower or any guarantor of the Obligations, except
for: (a) ongoing collection matters in which Borrower is the plaintiff; (b)
matters disclosed on SCHEDULE 5.10; and (c) matters arising after the date
hereof that, if decided adversely to Borrower, would not cause a Material
Adverse Change.
5.11 NO MATERIAL ADVERSE CHANGE. All financial statements
relating to
<PAGE>
Borrower or any guarantor of the Obligations that have been delivered by
Borrower to Foothill have been prepared in accordance with GAAP (except, in
the case of unaudited financial statements, for the lack of footnotes and
being subject to year-end audit adjustments) and fairly present Borrower's
(or such guarantor's, as applicable) financial condition as of the date
thereof and Borrower's results of operations for the period then ended.
There has not been a Material Adverse Change with respect to Borrower (or
such guarantor, as applicable) since the date of the latest financial
statements submitted to Foothill on or before the Closing Date.
5.12 SOLVENCY. Borrower is Solvent. No transfer of property is
being made by Borrower and no obligation is being incurred by Borrower in
connection with the transactions contemplated by this Agreement or the other
Loan Documents with the intent to hinder, delay, or defraud either present or
future creditors of Borrower.
5.13 EMPLOYEE BENEFITS. None of Borrower, any of its
Subsidiaries, or any of their ERISA Affiliates maintains or contributes to
any Benefit Plan.
5.14 ENVIRONMENTAL CONDITION. None of Borrower's properties or
assets has ever been used by Borrower or, to the best of Borrower's
knowledge, by previous owners or operators in the disposal of, or to produce,
store, handle, treat, release, or transport, any Hazardous Materials. None
of Borrower's properties or assets has ever been designated or identified in
any manner pursuant to any environmental protection statute as a Hazardous
Materials disposal site, or a candidate for closure pursuant to any
environmental protection statute. No Lien arising under any environmental
protection statute has attached to any revenues or to any real or personal
property owned or operated by Borrower. Borrower has not received a summons,
citation, notice, or directive from the Environmental Protection Agency or
any other federal or state governmental agency concerning any action or
omission by Borrower resulting in the releasing or disposing of Hazardous
Materials into the environment.
6. AFFIRMATIVE COVENANTS.
Borrower covenants and agrees that, so long as any credit
hereunder shall be available and until full and final payment of the
Obligations, Borrower shall do all of the following:
6.1 ACCOUNTING SYSTEM. Maintain a standard and modern system of
accounting that enables Borrower to produce financial statements in
accordance with GAAP, and maintain records pertaining to the Collateral that
contain information as from time to time may be requested by Foothill.
Borrower also shall keep a modern inventory reporting system that shows all
additions, sales, claims, returns, and allowances with respect to the
Inventory.
6.2 COLLATERAL REPORTING. Provide Foothill with the following
documents at the following times in form satisfactory to Foothill: (a) on
each Business Day, a sales journal, collection journal, and credit register
since the last such schedule and a calculation of the Borrowing Base as of
such date, (b) on a monthly basis and, in any event, by no later than
<PAGE>
the 15th day of each month during the term of this Agreement, (1) a detailed
calculation of the Borrowing Base, (2) a detailed aging, by total, of the
Accounts, together with a reconciliation to the detailed calculation of the
Borrowing Base previously provided to Foothill, and (3) an Inventory report
specifying Borrower's cost and the wholesale market value of its Inventory by
category, with additional detail showing additions to and deletions from the
Inventory, (c) on a monthly basis and, in any event, by no later than the
15th day of each month during the term of this Agreement, a summary aging, by
vendor, of Borrower's accounts payable segregating current accounts payable
from those that are past due by 30 days or more, and any book overdraft, (d)
on each Business Day, notice of all returns, disputes, or claims, (e) upon
request, copies of invoices in connection with the Accounts, customer
statements, credit memos, remittance advices and reports, deposit slips,
shipping and delivery documents in connection with the Accounts and for
Inventory and Equipment acquired by Borrower, purchase orders and invoices,
(f) on a quarterly basis, a detailed list of Borrower's customers, (g) on a
monthly basis, a calculation of the Dilution for the prior month; (h) upon
request, Borrower's electronic data and (i) such other reports as to the
Collateral or the financial condition of Borrower as Foothill may reasonably
request from time to time.
6.3 FINANCIAL STATEMENTS, REPORTS, CERTIFICATES. Deliver to
Foothill: (a) as soon as available, but in any event within 30 days after
the end of each month during each of Borrower's fiscal years, a company
prepared balance sheet, income statement, and statement of cash flow covering
Borrower's operations during such period; and (b) as soon as available, but
in any event within 90 days after the end of each of Borrower's fiscal years,
financial statements of Borrower for each such fiscal year, audited by
independent certified public accountants reasonably acceptable to Foothill
and certified, without any qualifications, by such accountants to have been
prepared in accordance with GAAP, together with a certificate of such
accountants addressed to Foothill stating that such accountants do not have
knowledge of the existence of any Default or Event of Default under
SECTIONS 6.1, 6.11, 6.13, 7.1, 7.10, 7.11, 7.12, 7.13 and 7.18. Such audited
financial statements shall include a balance sheet, profit and loss
statement, and statement of cash flow and, if prepared, such accountants'
letter to management. If Borrower is a parent company of one or more
Subsidiaries or Affiliates, or is a Subsidiary or Affiliate of another
company, then, in addition to the financial statements referred to above,
Borrower agrees to deliver financial statements prepared on a consolidating
basis so as to present Borrower and each such related entity separately, and
on a consolidated basis.
Together with the above, Borrower also shall deliver to
Foothill Borrower's Form 10-Q Quarterly Reports, Form 10-K Annual Reports,
and Form 8-K Current Reports, and any other filings made by Borrower with the
Securities and Exchange Commission, if any, as soon as the same are filed, or
any other information that is provided by Borrower to its shareholders, and
any other report reasonably requested by Foothill relating to the financial
condition of Borrower.
Each month, together with the financial statements provided
pursuant to SECTION 6.3(a), Borrower shall deliver to Foothill a certificate
signed by its chief financial
<PAGE>
officer to the effect that: (i) all financial statements delivered or caused
to be delivered to Foothill hereunder have been prepared in accordance with
GAAP (except, in the case of unaudited financial statements, for the lack of
footnotes and being subject to year-end audit adjustments) and fairly present
the financial condition of Borrower, (ii) the representations and warranties
of Borrower contained in this Agreement and the other Loan Documents are true
and correct in all material respects on and as of the date of such
certificate, as though made on and as of such date (except to the extent that
such representations and warranties relate solely to an earlier date), (iii)
for each month that also is the date on which a financial covenant in SECTION
7.20 is to be tested, a Compliance Certificate demonstrating in reasonable
detail compliance at the end of such period with the applicable financial
covenants contained in SECTION 7.20, and (iv) on the date of delivery of such
certificate to Foothill there does not exist any condition or event that
constitutes a Default or Event of Default (or, in the case of clauses (i),
(ii), or (iii), to the extent of any non-compliance, describing such
non-compliance as to which he or she may have knowledge and what action
Borrower has taken, is taking, or proposes to take with respect thereto).
6.4 TAX RETURNS. Deliver to Foothill copies of each of
Borrower's future federal income tax returns, and any amendments thereto,
within 30 days of the filing thereof with the Internal Revenue Service.
6.5 INFORMATION ABOUT ACCOUNT DEBTORS. Annually Borrower shall
provide Foothill with updated financial information for each Account Debtor
that is anticipated to have Accounts equal to or greater than 10.00% of
Eligible Accounts at any time.
6.6 RETURNS. Cause returns and allowances, if any, as between
Borrower and its Account Debtors to be on the same basis and in accordance
with the usual customary practices of Borrower, as they exist at the time of
the execution and delivery of this Agreement. If, at a time when no Event of
Default has occurred and is continuing, any Account Debtor returns any
Inventory to Borrower, Borrower promptly shall determine the reason for such
return and, if Borrower accepts such return, issue a credit memorandum (with
a copy to be sent to Foothill) in the appropriate amount to such Account
Debtor. If, at a time when an Event of Default has occurred and is
continuing, any Account Debtor returns any Inventory to Borrower, Borrower
promptly shall determine the reason for such return and, if Foothill consents
(which consent shall not be unreasonably withheld), issue a credit memorandum
(with a copy to be sent to Foothill) in the appropriate amount to such
Account Debtor.
6.7 TITLE TO EQUIPMENT. Upon Foothill's request, Borrower
immediately shall deliver to Foothill, properly endorsed, any and all
evidences of ownership of, certificates of title, or applications for title
to any items of Equipment.
6.8 MAINTENANCE OF EQUIPMENT. Maintain the Equipment in good
operating condition and repair (ordinary wear and tear excepted), and make
all necessary replacements thereto so that the value and operating efficiency
thereof shall at all times be
<PAGE>
maintained and preserved. Other than those items of Equipment that
constitute fixtures on the Closing Date, Borrower shall not permit any item
of Equipment to become a fixture to real estate or an accession to other
property, and such Equipment shall at all times remain personal property.
6.9 TAXES. Cause all assessments and taxes, whether real,
personal, or otherwise, due or payable by, or imposed, levied, or assessed
against Borrower or any of its property to be paid in full, before
delinquency or before the expiration of any extension period, except to the
extent that the validity of such assessment or tax shall be the subject of a
Permitted Protest. Borrower shall make due and timely payment or deposit of
all such federal, state, and local taxes, assessments, or contributions
required of it by law, and will execute and deliver to Foothill, on demand,
appropriate certificates attesting to the payment thereof or deposit with
respect thereto. Borrower will make timely payment or deposit of all tax
payments and withholding taxes required of it by applicable laws, including
those laws concerning F.I.C.A., F.U.T.A., state disability, and local, state,
and federal income taxes, and will, upon request, furnish Foothill with proof
satisfactory to Foothill indicating that Borrower has made such payments or
deposits.
6.10 INSURANCE.
(a) At its expense, keep the Collateral (other than
Accounts) insured against loss or damage by fire, theft, explosion,
sprinklers, and all other hazards and risks, and in such amounts, as are
ordinarily insured against by other owners in similar businesses. Borrower
also shall maintain business interruption, public liability, product
liability, and property damage insurance relating to Borrower's ownership and
use of the Collateral, as well as insurance against larceny, embezzlement,
and criminal misappropriation.
(b) All such policies of insurance shall be in such form,
with such companies, and in such amounts as may be reasonably satisfactory to
Foothill. All insurance required herein shall be written by companies which
are authorized to do insurance business in the State of California. All
hazard insurance and such other insurance as Foothill shall specify, shall
contain a mortgagee endorsement satisfactory to Foothill, showing Foothill as
sole loss payee thereof, and shall contain a waiver of warranties. Every
policy of insurance referred to in this SECTION 6.10 shall contain an
agreement by the insurer that it will not cancel such policy except after 30
days prior written notice to Foothill and that any loss payable thereunder
shall be payable notwithstanding any act or negligence of Borrower or
Foothill which might, absent such agreement, result in a forfeiture of all or
a part of such insurance payment. Borrower shall deliver to Foothill
certified copies of such policies of insurance and evidence of the payment of
all premiums therefor.
(c) Original policies or certificates thereof satisfactory
to Foothill evidencing such insurance shall be delivered to Foothill at least
30 days prior to the expiration of the existing or preceding policies.
Borrower shall give Foothill prompt notice of any loss covered by such
insurance, and Foothill shall have the right to adjust any loss. Foothill
shall
<PAGE>
have the exclusive right to adjust all losses payable under any such
insurance policies without any liability to Borrower whatsoever in respect of
such adjustments. Any monies received as payment for any loss under any
insurance policy including the insurance policies mentioned above, shall be
paid over to Foothill to be applied at the option of Foothill either to the
prepayment of the Obligations without premium, in such order or manner as
Foothill may elect, or shall be disbursed to Borrower under stage payment
terms satisfactory to Foothill for application to the cost of repairs,
replacements, or restorations. All repairs, replacements, or restorations
shall be effected with reasonable promptness and shall be of a value at least
equal to the value of the items or property destroyed prior to such damage or
destruction. Upon the occurrence of an Event of Default, Foothill shall have
the right to apply all prepaid premiums to the payment of the Obligations in
such order or form as Foothill shall determine.
(d) Borrower shall not take out separate insurance
concurrent in form or contributing in the event of loss with that required to
be maintained under this SECTION 6.10, unless Foothill is included thereon as
named insured with the loss payable to Foothill under a standard mortgagee
endorsement, or its local equivalent. Borrower immediately shall notify
Foothill whenever such separate insurance is taken out, specifying the
insurer thereunder and full particulars as to the policies evidencing the
same, and originals of such policies immediately shall be provided to
Foothill.
6.11 NO SETOFFS OR COUNTERCLAIMS. Make payments hereunder and
under the other Loan Documents by or on behalf of Borrower without setoff or
counterclaim and free and clear of, and without deduction or withholding for
or on account of, any federal, state, or local taxes.
6.12 LOCATION OF INVENTORY AND EQUIPMENT. Keep the Inventory and
Equipment only at the locations identified on SCHEDULE 6.12; PROVIDED,
HOWEVER, that Borrower may amend SCHEDULE 6.12 so long as such amendment
occurs by written notice to Foothill not less than 30 days prior to the date
on which the Inventory or Equipment is moved to such new location, so long as
such new location is within the continental United States, and so long as, at
the time of such written notification, Borrower provides any financing
statements or fixture filings necessary to perfect and continue perfected
Foothill's security interests in such assets and also provides to Foothill a
Collateral Access Agreement.
6.13 COMPLIANCE WITH LAWS. Comply with the requirements of all
applicable laws, rules, regulations, and orders of any governmental
authority, including the Fair Labor Standards Act and the Americans With
Disabilities Act, other than laws, rules, regulations, and orders the
non-compliance with which, individually or in the aggregate, would not have
and could not reasonably be expected to cause a Material Adverse Change.
6.14 INTENTIONALLY OMITTED.
6.15 LEASES. Pay when due all rents and other amounts payable
under any leases to which Borrower is a party or by which Borrower's
properties and assets are bound,
<PAGE>
unless such payments are the subject of a Permitted Protest. To the extent
that Borrower fails timely to make payment of such rents and other amounts
payable when due under its leases, Foothill shall be entitled, in its
discretion, to reserve an amount equal to such unpaid amounts against the
Borrowing Base.
6.16 YEAR 2000 COMPLIANCE. Borrower's accounting and financial
record systems are Year 2000 Compliant.
7. NEGATIVE COVENANTS.
Borrower covenants and agrees that, so long as any credit
hereunder shall be available and until full and final payment of the
Obligations, Borrower will not do any of the following:
7.1 INDEBTEDNESS. Create, incur, assume, permit, guarantee, or
otherwise become or remain, directly or indirectly, liable with respect to
any Indebtedness, except:
(a) Indebtedness evidenced by this Agreement;
(b) Indebtedness set forth in SCHEDULE 7.1;
(c) Indebtedness secured by Permitted Liens; and
(d) refinancings, renewals, or extensions of Indebtedness
permitted under clauses (b) and (c) of this SECTION 7.1 (and continuance or
renewal of any Permitted Liens associated therewith) so long as: (i) the
terms and conditions of such refinancings, renewals, or extensions do not
materially impair the prospects of repayment of the Obligations by Borrower,
(ii) the net cash proceeds of such refinancings, renewals, or extensions do
not result in an increase in the aggregate principal amount of the
Indebtedness so refinanced, renewed, or extended, (iii) such refinancings,
renewals, refundings, or extensions do not result in a shortening of the
average weighted maturity of the Indebtedness so refinanced, renewed, or
extended, and (iv) to the extent that Indebtedness that is refinanced was
subordinated in right of payment to the Obligations, then the subordination
terms and conditions of the refinancing Indebtedness must be at least as
favorable to Foothill as those applicable to the refinanced Indebtedness.
7.2 LIENS. Create, incur, assume, or permit to exist, directly
or indirectly, any Lien on or with respect to any of its property or assets,
of any kind, whether now owned or hereafter acquired, or any income or
profits therefrom, except for Permitted Liens (including Liens that are
replacements of Permitted Liens to the extent that the original Indebtedness
is refinanced under SECTION 7.1(d) and so long as the replacement Liens only
encumber those assets or property that secured the original Indebtedness).
7.3 RESTRICTIONS ON FUNDAMENTAL CHANGES. Enter into any merger,
<PAGE>
consolidation, reorganization, or recapitalization, or reclassify its capital
stock, or liquidate, wind up, or dissolve itself (or suffer any liquidation
or dissolution), or convey, sell, assign, lease, transfer, or otherwise
dispose of, in one transaction or a series of transactions, all or any
substantial part of its property or assets.
7.4 DISPOSAL OF ASSETS. Sell, lease, assign, transfer, or
otherwise dispose of any of Borrower's properties or assets other than sales
of Inventory to buyers in the ordinary course of Borrower's business as
currently conducted.
7.5 CHANGE NAME. Change Borrower's name, FEIN, corporate
structure (within the meaning of Section 9402(7) of the Code), or identity,
or add any new fictitious name.
7.6 GUARANTEE. Guarantee or otherwise become in any way liable
with respect to the obligations of any third Person except by endorsement of
instruments or items of payment for deposit to the account of Borrower or
which are transmitted or turned over to Foothill.
7.7 NATURE OF BUSINESS. Make any change in the principal nature
of Borrower's business.
7.8 PREPAYMENTS AND AMENDMENTS.
(a) Except in connection with a refinancing permitted by
SECTION 7.1(d), prepay, redeem, retire, defease, purchase, or otherwise
acquire any Indebtedness owing to any third Person, other than the
Obligations in accordance with this Agreement, and
(b) Directly or indirectly, amend, modify, alter,
increase, or change any of the terms or conditions of any agreement,
instrument, document, indenture, or other writing evidencing or concerning
Indebtedness permitted under SECTIONS 7.1(b), (c), or (d).
7.9 CHANGE OF CONTROL. Cause, permit, or suffer, directly or
indirectly, any Change of Control.
7.10 CONSIGNMENTS. Except for consigned Inventory at Borrower's
distributors, consign any Inventory or sell any Inventory on bill and hold,
sale or return, sale on approval, or other conditional terms of sale.
7.11 DISTRIBUTIONS. Make any distribution or declare or pay any
dividends (in cash or other property, other than capital stock) on, or
purchase, acquire, redeem, or retire any of Borrower's capital stock, of any
class, whether now or hereafter outstanding; PROVIDED, HOWEVER, that Borrower
may make open market purchases of its common stock so long as (a) all such
purchases do not, in the aggregate, exceed $3,000,000 during the term of this
Agreement, (b) after giving effect to each such purchase there shall exist at
least $2,000,000 of
<PAGE>
unused Borrowing Base availability under Section 2.1(a), (c) no Event of
Default has occurred and is continuing, and (d) (i) if such purchase occurs
on or before December 31, 1999, Foothill has given its consent thereto (which
consent shall not be unreasonably withheld) or (ii) if such purchase occurs
after December 31, 1999, Borrower can demonstrate to Foothill that it has
achieved a net income of at least $1.00 for its fiscal year 1999.
7.12 ACCOUNTING METHODS. Modify or change its method of
accounting or enter into, modify, or terminate any agreement currently
existing, or at any time hereafter entered into with any third party
accounting firm or service bureau for the preparation or storage of
Borrower's accounting records without said accounting firm or service bureau
agreeing to provide Foothill information regarding the Collateral or
Borrower's financial condition. Borrower waives the right to assert a
confidential relationship, if any, it may have with any accounting firm or
service bureau in connection with any information requested by Foothill
pursuant to or in accordance with this Agreement, and agrees that Foothill
may contact directly any such accounting firm or service bureau in order to
obtain such information.
7.13 INVESTMENTS. Directly or indirectly make, acquire, or incur
any liabilities (including contingent obligations) for or in connection with
(a) the acquisition of the securities (whether debt or equity) of, or other
interests in, a Person, (b) loans, advances, capital contributions, or
transfers of property to a Person (except for loans to employees and
Affiliates in an aggregate amount not to exceed $500,000 outstanding at any
one time), or (c) the acquisition of all or substantially all of the
properties or assets of a Person.
7.14 TRANSACTIONS WITH AFFILIATES. Directly or indirectly enter
into or permit to exist any material transaction with any Affiliate of
Borrower except for transactions that are in the ordinary course of
Borrower's business, upon fair and reasonable terms, that are fully disclosed
to Foothill, and that are no less favorable to Borrower than would be
obtained in an arm's length transaction with a non-Affiliate.
7.15 SUSPENSION. Suspend or go out of a substantial portion of
its business.
7.16 COMPENSATION. Increase the annual fee or per-meeting fees
paid to directors during any year by more than 15% over the prior year; pay
or accrue total cash compensation, during any year, to officers and senior
management employees in an aggregate amount in excess of 130% of that paid or
accrued in the prior year.
7.17 USE OF PROCEEDS. Use (a) the proceeds of the Advances for
any purpose other than (i) on the Closing Date, to pay transactional costs
and expenses incurred in connection with this Agreement, and (ii) thereafter,
consistent with the terms and conditions hereof, for its lawful and permitted
corporate purposes, and (b) the proceeds of the Capital Expenditure Loans
made hereunder for any purpose other than to finance new Equipment in
accordance with SECTION 2.4.
7.18 CHANGE IN LOCATION OF CHIEF EXECUTIVE OFFICE; INVENTORY AND
<PAGE>
EQUIPMENT WITH BAILEES. Relocate its chief executive office to a new
location without providing 30 days prior written notification thereof to
Foothill and so long as, at the time of such written notification, Borrower
provides any financing statements or fixture filings necessary to perfect and
continue perfected Foothill's security interests and also provides to
Foothill a Collateral Access Agreement with respect to such new location. The
Inventory and Equipment shall not at any time now or hereafter be stored with
a bailee, warehouseman, or similar party without Foothill's prior written
consent.
7.19 INTENTIONALLY OMITTED.
7.20 FINANCIAL COVENANT. Fail to maintain Tangible Net Worth of
at least $30,000,000 at all times during the term of this Agreement, measured
on a fiscal quarter ending basis; PROVIDED, HOWEVER that Foothill shall be
entitled to reset this financial covenant for each fiscal quarter after
December 31, 1999, based upon Borrower's financial projections for the year
2000.
7.21 CAPITAL EXPENDITURES. Make capital expenditures in any
fiscal year in excess of $15,000,000.
8. EVENTS OF DEFAULT.
Any one or more of the following events shall constitute an event
of default (each, an "Event of Default") under this Agreement:
8.1 If Borrower fails to pay when due and payable or when
declared due and payable, any portion of the Obligations (whether of
principal, interest (including any interest which, but for the provisions of
the Bankruptcy Code, would have accrued on such amounts), fees and charges
due Foothill, reimbursement of Foothill Expenses, or other amounts
constituting Obligations); PROVIDED, HOWEVER, that in the case of
Overadvances that are caused by the charging of interest, fees, or Foothill
Expenses to the Loan Account, such event shall not constitute an Event of
Default if, within five days of incurring such Overadvance, Borrower repays,
or otherwise eliminates, such Overadvance;
8.2 (a) If Borrower fails to perform, keep, or observe any term,
provision, condition, covenant, or agreement contained in SECTION 6.2
(Collateral Reporting), 6.3 (Financial Statements, Reports, Certificates),
6.4 (Tax Returns), 6.7 (Location of Inventory and Equipment), 6.3 (Compliance
with Laws), or 6.15 (Leases) of this Agreement and such failure continues for
a period of five Business Days; (b) If Borrower fails or neglects to perform,
keep, or observe any term, provision, condition, covenant, or agreement
contained in SECTION 6.1 (Accounting System) or 6.8 (Maintenance of
Equipment) of this Agreement and such failure continues for a period of 10
Business Days; or (c) If Borrower fails or neglects to perform, keep, or
observe any other term, provision, condition, covenant, or agreement
contained in this Agreement, or in any of the other Loan Documents (giving
effect to any grace periods, cure periods, or required notices, if any,
expressly provided for in such Loan Document); in each
<PAGE>
case, other than any such term, provision, condition, covenant, or agreement
that is the subject of another provision of this SECTION 8, in which event
such other provision of this SECTION 8 shall govern;
8.3 If there is a Material Adverse Change;
8.4 If any material portion of Borrower's properties or assets
is attached, seized, subjected to a writ or distress warrant, or is levied
upon, or comes into the possession of any third Person;
8.5 If an Insolvency Proceeding is commenced by Borrower;
8.6 If an Insolvency Proceeding is commenced against Borrower
and any of the following events occur: (a) Borrower consents to the
institution of the Insolvency Proceeding against it; (b) the petition
commencing the Insolvency Proceeding is not timely controverted; (c) the
petition commencing the Insolvency Proceeding is not dismissed within 60
calendar days of the date of the filing thereof; PROVIDED, HOWEVER, that,
during the pendency of such period, Foothill shall be relieved of its
obligation to extend credit hereunder; (d) an interim trustee is appointed to
take possession of all or a substantial portion of the properties or assets
of, or to operate all or any substantial portion of the business of,
Borrower; or (e) an order for relief shall have been issued or entered
therein;
8.7 If Borrower is enjoined, restrained, or in any way prevented
by court order from continuing to conduct all or any material part of its
business affairs;
8.8 If a notice of Lien, levy, or assessment is filed of record
with respect to any of Borrower's properties or assets by the United States
Government, or any department, agency, or instrumentality thereof, or by any
state, county, municipal, or governmental agency, or if any taxes or debts
owing at any time hereafter to any one or more of such entities becomes a
Lien, whether choate or otherwise, upon any of Borrower's properties or
assets and the same is not paid on the payment date thereof;
8.9 If a judgment or other claim becomes a Lien or encumbrance
upon any material portion of Borrower's properties or assets;
8.10 If there is a default in any material agreement to which
Borrower is a party with one or more third Persons and such default (a)
occurs at the final maturity of the obligations thereunder, or (b) results in
a right by such third Person(s), irrespective of whether exercised, to
accelerate the maturity of Borrower's obligations thereunder;
8.11 If Borrower makes any payment on account of Indebtedness
that has been contractually subordinated in right of payment to the payment
of the Obligations, except to the extent such payment is permitted by the
terms of the subordination provisions applicable to such Indebtedness;
<PAGE>
8.12 If any material misstatement or misrepresentation exists at
the time made in any warranty, representation, statement, or report made to
Foothill by Borrower or any officer, employee, agent, or director of
Borrower, or if any such warranty or representation is withdrawn; or
8.13 If the obligation of any guarantor under its guaranty or
other third Person under any Loan Document is limited or terminated by
operation of law or by the guarantor or other third Person thereunder, or any
such guarantor or other third Person becomes the subject of an Insolvency
Proceeding.
9. FOOTHILL'S RIGHTS AND REMEDIES.
9.1 RIGHTS AND REMEDIES. Upon the occurrence, and during the
continuation, of an Event of Default Foothill may, at its election, without
notice of its election and without demand, do any one or more of the
following, all of which are authorized by Borrower:
(a) Declare all Obligations, whether evidenced by this
Agreement, by any of the other Loan Documents, or otherwise, immediately due
and payable;
(b) Cease advancing money or extending credit to or for
the benefit of Borrower under this Agreement, under any of the Loan
Documents, or under any other agreement between Borrower and Foothill;
(c) Terminate this Agreement and any of the other Loan
Documents as to any future liability or obligation of Foothill, but without
affecting Foothill's rights and security interests in the Collateral and
without affecting the Obligations;
(d) Settle or adjust disputes and claims directly with
Account Debtors for amounts and upon terms which Foothill considers
advisable, and in such cases, Foothill will credit Borrower's Loan Account
with only the net amounts received by Foothill in payment of such disputed
Accounts after deducting all Foothill Expenses incurred or expended in
connection therewith;
(e) Cause Borrower to hold all returned Inventory in trust
for Foothill, segregate all returned Inventory from all other property of
Borrower or in Borrower's possession and conspicuously label said returned
Inventory as the property of Foothill;
(f) Without notice to or demand upon Borrower or any
guarantor, make such payments and do such acts as Foothill considers
necessary or reasonable to protect its security interests in the Collateral.
Borrower agrees to assemble the Collateral if Foothill so requires, and to
make the Collateral available to Foothill as Foothill may designate.
Borrower authorizes Foothill to enter the premises where the Collateral is
located, to take and maintain
<PAGE>
possession of the Collateral, or any part of it, and to pay, purchase,
contest, or compromise any encumbrance, charge, or Lien that in Foothill's
determination appears to conflict with its security interests and to pay all
expenses incurred in connection therewith. With respect to any of Borrower's
owned or leased premises, Borrower hereby grants Foothill a license to enter
into possession of such premises and to occupy the same, without charge, for
up to 120 days in order to exercise any of Foothill's rights or remedies
provided herein, at law, in equity, or otherwise;
(g) Without notice to Borrower (such notice being
expressly waived), and without constituting a retention of any collateral in
satisfaction of an obligation (within the meaning of Section 9505 of the
Code), set off and apply to the Obligations any and all (i) balances and
deposits of Borrower held by Foothill (including any amounts received in the
Lockbox Accounts), or (ii) indebtedness at any time owing to or for the
credit or the account of Borrower held by Foothill;
(h) Hold, as cash collateral, any and all balances and
deposits of Borrower held by Foothill, and any amounts received in the
Lockbox Accounts, to secure the full and final repayment of all of the
Obligations;
(i) Ship, reclaim, recover, store, finish, maintain,
repair, prepare for sale, advertise for sale, and sell (in the manner
provided for herein) the Collateral. Foothill is hereby granted a license or
other right to use, without charge, Borrower's labels, patents, copyrights,
rights of use of any name, trade secrets, trade names, trademarks, service
marks, and advertising matter, or any property of a similar nature, as it
pertains to the Collateral, in completing production of, advertising for
sale, and selling any Collateral and Borrower's rights under all licenses and
all franchise agreements shall inure to Foothill's benefit;
(j) Sell the Collateral at either a public or private
sale, or both, by way of one or more contracts or transactions, for cash or
on terms, in such manner and at such places (including Borrower's premises)
as Foothill determines is commercially reasonable. It is not necessary that
the Collateral be present at any such sale;
(k) Foothill shall give notice of the disposition of the
Collateral as follows:
(1) Foothill shall give Borrower and each holder of
a security interest in the Collateral who has filed with Foothill a written
request for notice, a notice in writing of the time and place of public sale,
or, if the sale is a private sale or some other disposition other than a
public sale is to be made of the Collateral, then the time on or after which
the private sale or other disposition is to be made;
(2) The notice shall be personally delivered or
mailed, postage prepaid, to Borrower as provided in SECTION 12, at least 5
days before the date fixed for the sale, or at least 5 days before the date
on or after which the private sale or other disposition
<PAGE>
is to be made; no notice needs to be given prior to the disposition of any
portion of the Collateral that is perishable or threatens to decline speedily
in value or that is of a type customarily sold on a recognized market.
Notice to Persons other than Borrower claiming an interest in the Collateral
shall be sent to such addresses as they have furnished to Foothill;
(3) If the sale is to be a public sale, Foothill
also shall give notice of the time and place by publishing a notice one time
at least 5 days before the date of the sale in a newspaper of general
circulation in the county in which the sale is to be held;
(l) Foothill may credit bid and purchase at any public
sale; and
(m) Any deficiency that exists after disposition of the
Collateral as provided above will be paid immediately by Borrower. Any
excess will be returned, without interest and subject to the rights of third
Persons, by Foothill to Borrower.
9.2 REMEDIES CUMULATIVE. Foothill's rights and remedies under
this Agreement, the Loan Documents, and all other agreements shall be
cumulative. Foothill shall have all other rights and remedies not
inconsistent herewith as provided under the Code, by law, or in equity. No
exercise by Foothill of one right or remedy shall be deemed an election, and
no waiver by Foothill of any Event of Default shall be deemed a continuing
waiver. No delay by Foothill shall constitute a waiver, election, or
acquiescence by it.
10. TAXES AND EXPENSES.
If Borrower fails to pay any monies (whether taxes, assessments,
insurance premiums, or, in the case of leased properties or assets, rents or
other amounts payable under such leases) due to third Persons, or fails to
make any deposits or furnish any required proof of payment or deposit, all as
required under the terms of this Agreement, then, to the extent that Foothill
determines that such failure by Borrower could result in a Material Adverse
Change, in its discretion and without prior notice to Borrower, Foothill may
do any or all of the following: (a) make payment of the same or any part
thereof; (b) set up such reserves in Borrower's Loan Account as Foothill
deems necessary to protect Foothill from the exposure created by such
failure; or (c) obtain and maintain insurance policies of the type described
in SECTION 6.10, and take any action with respect to such policies as
Foothill deems prudent. Any such amounts paid by Foothill shall constitute
Foothill Expenses. Any such payments made by Foothill shall not constitute
an agreement by Foothill to make similar payments in the future or a waiver
by Foothill of any Event of Default under this Agreement. Foothill need not
inquire as to, or contest the validity of, any such expense, tax, or Lien and
the receipt of the usual official notice for the payment thereof shall be
conclusive evidence that the same was validly due and owing.
<PAGE>
11. WAIVERS; INDEMNIFICATION.
11.1 DEMAND; PROTEST; ETC. Borrower waives demand, protest,
notice of protest, notice of default or dishonor, notice of payment and
nonpayment, nonpayment at maturity, release, compromise, settlement,
extension, or renewal of accounts, documents, instruments, chattel paper, and
guarantees at any time held by Foothill on which Borrower may in any way be
liable.
11.2 FOOTHILL'S LIABILITY FOR COLLATERAL. So long as Foothill
complies with its obligations, if any, under Section 9207 of the Code,
Foothill shall not in any way or manner be liable or responsible for: (a)
the safekeeping of the Collateral; (b) any loss or damage thereto occurring
or arising in any manner or fashion from any cause; (c) any diminution in the
value thereof; or (d) any act or default of any carrier, warehouseman,
bailee, forwarding agency, or other Person. All risk of loss, damage, or
destruction of the Collateral shall be borne by Borrower.
11.3 INDEMNIFICATION. Borrower shall pay, indemnify, defend, and
hold Foothill, each Participant, and each of their respective officers,
directors, employees, counsel, agents, and attorneys-in-fact (each, an
"Indemnified Person") harmless (to the fullest extent permitted by law) from
and against any and all claims, demands, suits, actions, investigations,
proceedings, and damages, and all reasonable attorneys fees and disbursements
and other costs and expenses actually incurred in connection therewith (as
and when they are incurred and irrespective of whether suit is brought), at
any time asserted against, imposed upon, or incurred by any of them in
connection with or as a result of or related to the execution, delivery,
enforcement, performance, and administration of this Agreement and any other
Loan Documents or the transactions contemplated herein, and with respect to
any investigation, litigation, or proceeding related to this Agreement, any
other Loan Document, or the use of the proceeds of the credit provided
hereunder (irrespective of whether any Indemnified Person is a party
thereto), or any act, omission, event or circumstance in any manner related
thereto (all the foregoing, collectively, the "Indemnified Liabilities").
Borrower shall have no obligation to any Indemnified Person under this
SECTION 11.3 with respect to any Indemnified Liability that a court of
competent jurisdiction finally determines to have resulted from the gross
negligence or willful misconduct of such Indemnified Person. This provision
shall survive the termination of this Agreement and the repayment of the
Obligations.
12. NOTICES.
Unless otherwise provided in this Agreement, all notices or
demands by any party relating to this Agreement or any other Loan Document
shall be in writing and (except for financial statements and other
informational documents which may be sent by first-class mail, postage
prepaid) shall be personally delivered or sent by registered or certified
mail (postage prepaid, return receipt requested), overnight courier, or
telefacsimile to Borrower or to Foothill, as the case may be, at its address
set forth below:
<PAGE>
IF TO BORROWER: SILICON STORAGE TECHNOLOGY, INC.
1171 Sonora Court
Sunnyvale, California 94086
Attn: Jeffrey L. Garon
Fax No. 408.735.9036
WITH COPIES TO: COOLEY GODWARD LLP
5 Palo Alto Square
Palo Alto, California 94306
Attn: Mark P. Tanoury, Esq.
Fax No. 650.849.7400
IF TO FOOTHILL: FOOTHILL CAPITAL CORPORATION
11111 Santa Monica Boulevard
Suite 1500
Los Angeles, California 90025-3333
Attn: Business Finance Division Manager
Fax No. 310.478.9788
WITH COPIES TO: BUCHALTER, NEMER, FIELDS & YOUNGER
601 S. Figueroa Street, Suite 2400
Los Angeles, California 90017
Attn: Robert C. Colton, Esq.
Fax No. 213.896.0400
The parties hereto may change the address at which they are to
receive notices hereunder, by notice in writing in the foregoing manner given
to the other. All notices or demands sent in accordance with this SECTION 12,
other than notices by Foothill in connection with Sections 9504 or 9505 of
the Code, shall be deemed received on the earlier of the date of actual
receipt or 3 days after the deposit thereof in the mail. Borrower
acknowledges and agrees that notices sent by Foothill in connection with
Sections 9504 or 9505 of the Code shall be deemed sent when deposited in the
mail or personally delivered, or, where permitted by law, transmitted by
telefacsimile or other similar method set forth above.
<PAGE>
13. CHOICE OF LAW AND VENUE; JURY TRIAL WAIVER.
THE VALIDITY OF THIS AGREEMENT AND THE OTHER LOAN DOCUMENTS
(UNLESS EXPRESSLY PROVIDED TO THE CONTRARY IN ANOTHER LOAN DOCUMENT), THE
CONSTRUCTION, INTERPRETATION, AND ENFORCEMENT HEREOF AND THEREOF, AND THE
RIGHTS OF THE PARTIES HERETO AND THERETO WITH RESPECT TO ALL MATTERS ARISING
HEREUNDER OR THEREUNDER OR RELATED HERETO OR THERETO SHALL BE DETERMINED
UNDER, GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF
CALIFORNIA. THE PARTIES AGREE THAT ALL ACTIONS OR PROCEEDINGS ARISING IN
CONNECTION WITH THIS AGREEMENT AND THE OTHER LOAN DOCUMENTS SHALL BE TRIED
AND LITIGATED ONLY IN THE STATE AND FEDERAL COURTS LOCATED IN THE COUNTY OF
LOS ANGELES, STATE OF CALIFORNIA OR, AT THE SOLE OPTION OF FOOTHILL, IN ANY
OTHER COURT IN WHICH FOOTHILL SHALL INITIATE LEGAL OR EQUITABLE PROCEEDINGS
AND WHICH HAS SUBJECT MATTER JURISDICTION OVER THE MATTER IN CONTROVERSY.
EACH OF BORROWER AND FOOTHILL WAIVES, TO THE EXTENT PERMITTED UNDER
APPLICABLE LAW, ANY RIGHT EACH MAY HAVE TO ASSERT THE DOCTRINE OF FORUM NON
CONVENIENS OR TO OBJECT TO VENUE TO THE EXTENT ANY PROCEEDING IS BROUGHT IN
ACCORDANCE WITH THIS SECTION 13. BORROWER AND FOOTHILL HEREBY WAIVE THEIR
RESPECTIVE RIGHTS TO A JURY TRIAL OF ANY CLAIM OR CAUSE OF ACTION BASED UPON
OR ARISING OUT OF ANY OF THE LOAN DOCUMENTS OR ANY OF THE TRANSACTIONS
CONTEMPLATED THEREIN, INCLUDING CONTRACT CLAIMS, TORT CLAIMS, BREACH OF DUTY
CLAIMS, AND ALL OTHER COMMON LAW OR STATUTORY CLAIMS. EACH OF BORROWER AND
FOOTHILL REPRESENTS THAT IT HAS REVIEWED THIS WAIVER AND EACH KNOWINGLY AND
VOLUNTARILY WAIVES ITS JURY TRIAL RIGHTS FOLLOWING CONSULTATION WITH LEGAL
COUNSEL. IN THE EVENT OF LITIGATION, A COPY OF THIS AGREEMENT MAY BE FILED
AS A WRITTEN CONSENT TO A TRIAL BY THE COURT.
14. DESTRUCTION OF BORROWER'S DOCUMENTS.
All documents, schedules, invoices, agings, or other papers
delivered to Foothill may be destroyed or otherwise disposed of by Foothill
four months after they are delivered to or received by Foothill, unless
Borrower requests, in writing, the return of said documents, schedules, or
other papers and makes arrangements, at Borrower's expense, for their return.
<PAGE>
15. GENERAL PROVISIONS.
15.1 EFFECTIVENESS. This Agreement shall be binding and deemed
effective when executed by Borrower and Foothill.
15.2 SUCCESSORS AND ASSIGNS. This Agreement shall bind and inure
to the benefit of the respective successors and assigns of each of the
parties; PROVIDED, HOWEVER, that Borrower may not assign this Agreement or
any rights or duties hereunder without Foothill's prior written consent and
any prohibited assignment shall be absolutely void. No consent to an
assignment by Foothill shall release Borrower from its Obligations. Foothill
may assign this Agreement and its rights and duties hereunder and no consent
or approval by Borrower is required in connection with any such assignment.
Foothill reserves the right to sell, assign, transfer, negotiate, or grant
participations in all or any part of, or any interest in Foothill's rights
and benefits hereunder. In connection with any such assignment or
participation, Foothill may disclose all documents and information which
Foothill now or hereafter may have relating to Borrower or Borrower's
business. To the extent that Foothill assigns its rights and obligations
hereunder to a third Person, Foothill thereafter shall be released from such
assigned obligations to Borrower and such assignment shall effect a novation
between Borrower and such third Person.
15.3 SECTION HEADINGS. Headings and numbers have been set forth
herein for convenience only. Unless the contrary is compelled by the
context, everything contained in each section applies equally to this entire
Agreement.
15.4 INTERPRETATION. Neither this Agreement nor any uncertainty
or ambiguity herein shall be construed or resolved against Foothill or
Borrower, whether under any rule of construction or otherwise. On the
contrary, this Agreement has been reviewed by all parties and shall be
construed and interpreted according to the ordinary meaning of the words used
so as to fairly accomplish the purposes and intentions of all parties hereto.
15.5 SEVERABILITY OF PROVISIONS. Each provision of this
Agreement shall be severable from every other provision of this Agreement for
the purpose of determining the legal enforceability of any specific provision.
15.6 AMENDMENTS IN WRITING. This Agreement can only be amended
by a writing signed by both Foothill and Borrower.
15.7 COUNTERPARTS; TELEFACSIMILE EXECUTION. This Agreement may
be executed in any number of counterparts and by different parties on
separate counterparts, each of which, when executed and delivered, shall be
deemed to be an original, and all of which, when taken together, shall
constitute but one and the same Agreement. Delivery of an executed
counterpart of this Agreement by telefacsimile shall be equally as effective
as delivery of an original executed counterpart of this Agreement. Any party
delivering an executed counterpart of this Agreement by telefacsimile also
shall deliver an original executed
<PAGE>
counterpart of this Agreement but the failure to deliver an original executed
counterpart shall not affect the validity, enforceability, and binding effect
of this Agreement.
15.8 REVIVAL AND REINSTATEMENT OF OBLIGATIONS. If the incurrence
or payment of the Obligations by Borrower or any guarantor of the Obligations
or the transfer by either or both of such parties to Foothill of any property
of either or both of such parties should for any reason subsequently be
declared to be void or voidable under any state or federal law relating to
creditors' rights, including provisions of the Bankruptcy Code relating to
fraudulent conveyances, preferences, and other voidable or recoverable
payments of money or transfers of property (collectively, a "Voidable
Transfer"), and if Foothill is required to repay or restore, in whole or in
part, any such Voidable Transfer, or elects to do so upon the reasonable
advice of its counsel, then, as to any such Voidable Transfer, or the amount
thereof that Foothill is required or elects to repay or restore, and as to
all reasonable costs, expenses, and attorneys fees of Foothill related
thereto, the liability of Borrower or such guarantor automatically shall be
revived, reinstated, and restored and shall exist as though such Voidable
Transfer had never been made.
15.9 INTEGRATION. This Agreement, together with the other Loan
Documents, reflects the entire understanding of the parties with respect to
the transactions contemplated hereby and shall not be contradicted or
qualified by any other agreement, oral or written, before the date hereof.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement
to be executed in Los Angeles, California.
SILICON STORAGE TECHNOLOGY, INC.,
a California corporation
By /s/ Jeffrey L. Garon
---------------------------------------
Title: VP/CFO
------------------------------------
FOOTHILL CAPITAL CORPORATION,
a California corporation
By /s/ Brenda B. Foreman
---------------------------------------
Title: S.V.P.
------------------------------------
<PAGE>
AMENDMENT NUMBER ONE TO LOAN AND SECURITY AGREEMENT
This Amendment Number One to Loan and Security Agreement
("Amendment") is entered into as of December 8, 1998, by and between FOOTHILL
CAPITAL CORPORATION, a California corporation ("Foothill"), and SILICON
STORAGE TECHNOLOGY, INC., a California corporation ("Borrower"), in light of
the following:
FACT ONE: Borrower and Foothill have previously entered into that
certain Loan and Security Agreement, dated as of September 22, 1998 (the
"Agreement").
FACT TWO: Borrower and Foothill desire to amend the Agreement as
provided for and on the conditions herein.
NOW, THEREFORE, Borrower and Foothill hereby amend and supplement
the Agreement as follows:
1. DEFINITIONS. All initially capitalized terms used in this
Amendment shall have the meanings given to them in the Agreement unless
specifically defined herein.
2. AMENDMENT.
Section 7.20 of the Agreement is hereby amended to read as
follows:
"7.20 FINANCIAL COVENANT. Fail to maintain Tangible Net
Worth of at least $24,000,000, at all times during the term of this
Agreement, measured on a fiscal quarter ending basis; PROVIDED,
HOWEVER that Foothill shall be entitled to reset this financial
covenant for each fiscal quarter after December 31, 1999, based
upon Borrower's financial projections for the year 2000."
3. REPRESENTATIONS AND WARRANTIES. Borrower hereby affirms to
Foothill that all of Borrower's representations and warranties set forth in
the Agreement are true, complete and accurate in all respects as of the date
hereof.
4. NO DEFAULTS. Borrower hereby affirms to Foothill that no
Event of Default has occurred and is continuing as of the date hereof.
5. CONDITION PRECEDENT. The effectiveness of this Amendment is
expressly conditioned upon the following:
(a) Payment by Borrower to Foothill of an amendment fee in
the aggregate amount of $ 2,500, such fee to be charged to Borrower's loan
account pursuant to Section 2.6(e) of the Agreement; and
(b) Receipt by Foothill of an executed copy of this Amendment.
1
<PAGE>
6. COSTS AND EXPENSES. Borrower shall pay to Foothill all of
Foothill's out-of-pocket costs and expenses (including, without limitation,
the fees and expenses of its counsel, which counsel may include any local
counsel deemed necessary, search fees, filing and recording fees,
documentation fees, appraisal fees, travel expenses, and other fees) arising
in connection with the preparation, execution, and delivery of this Amendment
and all related documents.
7. LIMITED EFFECT. In the event of a conflict between the terms
and provisions of this Amendment and the terms and provisions of the
Agreement, the terms and provisions of this Amendment shall govern. In all
other respects, the Agreement, as amended and supplemented hereby, shall
remain in full force and effect.
8. COUNTERPARTS; EFFECTIVENESS. This Amendment may be executed
in any number of counterparts and by different parties on separate
counterparts, each of which when so executed and delivered shall be deemed to
be an original. All such counterparts, taken together, shall constitute but
one and the same Amendment. This Amendment shall become effective upon the
execution of a counterpart of this Amendment by each of the parties hereto.
IN WITNESS WHEREOF, the parties hereto have executed this Amendment
as of the date first set forth above.
FOOTHILL CAPITAL CORPORATION,
a California corporation
By: /s/Thomas Sigurdson
---------------------------------------
Title: Vice President
------------------------------------
SILICON STORAGE TECHNOLOGY, INC.,
a California corporation
By: /s/ Jeffrey L. Garon
---------------------------------------
Title: VP/CFO
------------------------------------
2
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<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONDENSED CONSOLIDATED BALANCE SHEETS AND THE CONDENSED CONSOLIDATED STATEMENTS
OF OPERATIONS FOUND IN THE COMPANY'S FORM 10-K FOR THE YEAR ENDED DECEMBER 31,
1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 23,007
<SECURITIES> 851
<RECEIVABLES> 12,650
<ALLOWANCES> 563
<INVENTORY> 8,297
<CURRENT-ASSETS> 46,857
<PP&E> 19,819
<DEPRECIATION> 12,972
<TOTAL-ASSETS> 56,138
<CURRENT-LIABILITIES> 17,445
<BONDS> 0
0
0
<COMMON> 53,601
<OTHER-SE> (15,571)
<TOTAL-LIABILITY-AND-EQUITY> 56,138
<SALES> 66,875
<TOTAL-REVENUES> 69,411
<CGS> 62,703
<TOTAL-COSTS> 89,112
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 31
<INCOME-PRETAX> (18,159)
<INCOME-TAX> (571)
<INCOME-CONTINUING> (17,588)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (17,588)
<EPS-PRIMARY> (0.77)
<EPS-DILUTED> (0.77)
</TABLE>