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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10 - K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [FEE REQUIRED]
For the fiscal period ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [ NO FEE REQUIRED]
For the transition period ___________ to ____________.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10 - K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [FEE REQUIRED]
For the fiscal period ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period ___________ to ____________.
Commission File Number 0-19175
OPENROUTE NETWORKS, INC.
(Exact name of registrant as specified in its charter)
Massachusetts 04-2531856
(State or other jurisdiction of (I.R.S. Employer Identification Number)
Incorporation or organization)
Nine Technology Drive, Westborough, MA 01581
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (508) 898-2800
Securities registered pursuant to Section 12 (b) of the Act:
None
Securities registered pursuant to Section 12 (g) of the Act:
COMMON STOCK, $.01 PAR VALUE
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to
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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 Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of the Registrant's voting stock held by
non-affiliates of the Registrant as of March 16, 1999: $36,726,027 (without
admitting that any person whose shares are not included in determining such
value is an affiliate).
Indicate the number of shares outstanding of each of the Registrant's classes of
common stock as of the latest practicable date. Shares of Common Stock
outstanding as of March 16, 1999: 15,421,906.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Annual Report to Shareholders for the Company's
fiscal year ended December 31, 1998 (the "1998 Annual Report") are incorporated
by reference into Parts II and IV of this Report and portions of the
Registrant's Proxy Statement for its 1999 Annual Meeting of Shareholders to be
held on May 26, 1999 (the "1999 Proxy Statement") are incorporated by reference
into Part III of this Report. With the exception of those portions of the 1998
Annual Report and 1999 Proxy Statement expressly incorporated in this Report by
reference, such documents shall not be deemed filed as part of this Report.
The Registrant's Report on Form 8-K filed January 20, 1999 and the Registrant's
Report on Form 8-K/A filed February 24, 1999 are incorporated by reference into
Part II, Item 9 of this Report.
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PART I
ITEM 1. GENERAL BUSINESS
COMPANY OVERVIEW
OpenROUTE Networks, Inc. ("OpenROUTE" or "the Company") is a pioneer in the data
communications industry. OpenROUTE has distinguished itself as a leader in
networking and in particular, in developing networking connectivity solutions
that focus exclusively on the Internet's edge. For more than 18 years the
Company has shipped network connectivity products that have helped companies
grow and prosper through deploying network-centric computing. Historically, the
Company's local area networking (LAN) products have provided connectivity
solutions in more than 70 percent of the Fortune 100 companies. Leveraging this
expertise in mission-critical network solutions, OpenROUTE aggressively delivers
this same quality of product and service for Internet connectivity. The Company
is committed to providing solutions that make the Internet a more
cost-effective, secure and comfortable place to grow a business. The Company's
comprehensive line of products and solutions is designed to meet the needs of
Internet Service Providers (ISPs) and corporate enterprises.
The Company was incorporated in Massachusetts in January 1974 as Proteon
Associates, Inc. The Company changed its name to Proteon, Inc. in July 1983. In
January 1997, the Company announced the formation of a new wholly owned
subsidiary named OpenROUTE Networks, Inc. (OpenROUTE Networks). This new
subsidiary was incorporated in the state of Delaware. In June of 1998, the
Company known as Proteon, Inc. formally recognized its Internet focus by
changing the Company's name from Proteon, Inc. to OpenROUTE Networks, Inc. In
conjunction with this change, OpenROUTE Networks changed its name to Proteon,
Inc. OpenROUTE continues the tradition of innovation and engineering in an
effort to open new opportunities for business on the Internet. OpenROUTE's
executive offices are located at Nine Technology Drive, Westborough,
Massachusetts, 01581, and the Company's telephone number at that location is
(508) 898-2800. The Company's testing and final-assembly facilities are located
at the same address.
OpenROUTE's data networking products and services combine cost effectiveness
with ease of operation, interoperability, network security, reliability and
performance. The Company's customers include Global 1000 multinationals, ISPs as
well as corporations looking to the Internet to grow their business.
Specifically, OpenROUTE provides solutions that complement and optimize the edge
of the network.
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SIGNIFICANT EXECUTIVE APPOINTMENTS AND CHANGES
During the second half of 1998, the Company initiated a program to significantly
strengthen its senior management staff. The Company believes this series of
appointments will enhance its position in the marketplace, allow for better
management of the Company's financial operations and further strengthen its
sales and marketing operations.
Mr. Bryan R. Holley was appointed President and Chief Executive Officer on July
7, 1998. Prior to joining the Company, Holley was President and Chief Executive
Officer of ITK Telecommunications Inc. from 1997 to 1998. He previously held
several key executive positions including President of Riverbend Press from 1995
to 1997 and Senior Vice President of Summagraphics Corporation from 1993 to
1995. Prior roles include executive roles at Telebit Corporation, Interlan Inc.
and Tandy Corporation.
Mr. Steven T. Shedd is Vice President, Finance, Chief Financial Officer,
Treasurer and Clerk, appointed in July 1997. Prior to joining OpenROUTE, Shedd
served as the Vice President and Chief Financial Officer of Zoom Telephonics
beginning in 1996. In 1995, Mr. Shedd was the Vice President and Chief Financial
Officer for Versyss, Inc. From 1992 to 1995 Shedd served as Vice President and
Chief Financial Officer of TSI Corporation.
Mr. Robert A. Koch is Vice President, Engineering, Product Planning and
Management for the Company, a position he has held since October 1997. Koch
joined the Company in August 1993 as Product Marketing Director and held that
position until April 1997. From April 1997 until October 1997, Koch served as
Vice President of Product Planning for the Company.
Mr. Thomas Aucella was appointed as Vice President of Sales, Asia/Pacific in
October of 1998, to direct and manage the Company's Asia Pacific Operations.
Prior to joining the Company, Aucella held the position of Vice President of
Asia/Pacific sales for Software.com from 1996 to 1998. From 1991 until 1996,
Aucella directed international business development for Bay Networks. Aucella
has established operations in Asia for a number of leading companies including
Microcom and Motorola.
Mr. Richard E. Sterry was appointed in September 1998 as Vice President,
Marketing. Prior to joining the Company, Sterry held executive marketing
positions with networking and communications companies including Netaccess from
1996 to 1998, Computervision Corporation in 1995 and Intelligence At Large in
1994. Sterry has also held executive positions at Extension Technology, Avatar,
Microcom and Prime Computer.
Mr. Bruce MacAloney was appointed in January 1998 as Vice President, Sales,
America's and Europe. Prior to joining the Company, MacAloney served as Vice
President, Sales for GigaNet, Inc. beginning in 1996. He held a senior executive
position with Racor from 1994 until 1996. MacAloney has also held executive
positions with a number of key companies in the industry including Standard
Microsystems, Artel Communications and Interlan.
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NETWORKING INDUSTRY & THE INTERNET
The data communications industry continues to undergo a fundamental shift away
from hierarchical single-vendor systems to open, peer-to-peer communications
networks and information management tools that provide users with greater
computing power and access to information. The peer-to-peer evolution has
created an increased demand for client/server based applications. The first
impact of client/server based networks is the increasing demand for inexpensive,
easy to use, remote access routers. Remote offices can now access corporate
databases while running local application programs. In addition the Internet
Protocol (IP) and Web interface have been adopted by corporations and have
resulted in wide-scale deployment of intranets, Virtual Private Networks (VPNs)
and e-commerce solutions. This revolution has been the platform for wide-scale
capital investments across infrastructure, systems, applications and services
spectrum, and has increased data traffic by 300% annually. The Internet is not
new at OpenROUTE - it has long been the Company's focus. One of the Internet's
original architects currently serves on the Company's Board of Directors along
with other recognized networking pioneers. OpenROUTE's combination of proven
innovation, expertise and Internet focus works to position the Company as a
leader in providing Internet solutions.
1998 OPENING THE INTERNET FOR BUSINESS
During 1998, the Company continued to develop and market solutions designed to
open the Internet for business. Specifically, the Company has continued to be a
pioneer in the Internet Access arena. Focusing exclusively on the customer
premise equipment (CPE) "edge" of the Internet, OpenROUTE has continued to raise
the price/performance bar. The Company's flagship GTX1000 modular router
continues to hold a competitive edge in configuration flexibility, performance,
protocol support, ease of use and cost of ownership. In December 1998, the ISP
UUNET/Worldcom began utilizing the GTX1000 in its mission critical services. In
the critical area of networking security, business with OpenROUTE's partner
PSINet grew with its continued rollout of the Company's GT60 series Internet
routers using OpenROUTE's firewall support. In December 1998, PSINet selected
OpenROUTE to introduce a new high speed (HSSI) service for their clients. During
1998, the Company introduced the GT900 and GTX1500, a new class of router that
the Company believes is an industry stand out. The GTX1500 redefines
price/performance leadership in the secure networking area providing
hardware-based authentication, encryption and full data compression while
running at full wire speed with multiple T1/E1 links. This feature rich, high
performing router is competitively priced. The Company will continue its
innovative development in its next generation of hardware and software solutions
to address the evolving needs of business Internet users into the next
millennium.
OPEN STANDARDS
OpenROUTE has long been committed to open, standards-based, product offerings.
The Company believes that developing products that offer multi-vendor
interoperability achieved through leadership in, and adherence to, open
networking standards will continue to expand market opportunities in the future.
OpenROUTE believes that the Company contributes significant technical expertise
to the development, promulgation and adoption of key industry standards.
From a historical perspective, the Company co-authored both the Simple Network
Management Protocol (SNMP) network management standard and the Open Shortest
Path First (OSPF) internetwork routing standard. The Company has also developed
and shipped an extension to OSPF known as Multicast. OpenROUTE continues to be
an active member of the OSPF Interoperability Group, an industry consortium
formed to ensure interoperability and further the acceptance of this
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important standard. The Company has also continued to execute another high-level
standards activity as it has aggressively marketed its Data Link Switching
(DLSw) technology. DLSw technology, an industry standard, allows the Company's
routers to encapsulate System Network Architecture (SNA) traffic in IP, thus
eliminating the need to have separate backbone networks for SNA and LAN traffic.
The implementation of DLSw technology in its routing products continues to give
the Company opportunities in larger, headquarters site operations.
INTERNETWORKING SOFTWARE LICENSING WITH OPENROUTE
OpenROUTE's world class internetworking software suite is the foundation of the
Company's high performance internetworking solutions. All of OpenROUTE's
internetworking products ship with this software technology. The Company has
been developing this software suite for approximately 13 years. In the later
half of 1994, OpenROUTE began licensing this software. At that time, the Company
completed two major internetworking software-licensing agreements. These
agreements were reached with IBM and Digital Equipment Corporation, two of the
world's largest information technology providers. The Company has also licensed
its OpenROUTE software to Motorola's Information Systems Group (ISG) and TELDAT,
S.A., a leading European networking product vendor headquartered in Madrid,
Spain. In late 1997, the Company announced that it had licensed a subset of
OpenROUTE software to Ascend Communications.
OPENROUTE DEVELOPMENT
The Company continues to invest heavily in its research and development
operation. Over the past year, resources were used to enhance OpenROUTE's
products in four key areas: advanced security, wide area connectivity modules,
GTX modular router and next generation platforms. The Company's primary product
line, the GT and GTX series, was significantly enhanced in the following areas:
(1) extension of Virtual Private Networking (VPNs) and secure network services
to include encryption and authentication for RSA Rivert Control Four
(RC4), Data Encryption Standard (DES), Triple-DES, Message Digest Five
(MD5) and Secure Hash Algorithm-One (SHA-1), simplified address management
and translation with the delivery of Double Network Address Translation
(NAT) and Dynamic Host Configuration Protocol (DHCP) services;
(2) the industry's first in class, integrated high performance security
accelerator to offload computer intensive activity associated with data
encryption, data compression and session authentication - dramatically
improving performance and maximizing wide area circuit utilization;
(3) a line of low cost, high performance trusted premise routers engineered to
address the needs of cable, wireless and xDSL service providers;
(4) an array of popular wide area networking service interface cards;
Considered revolutionary, these cards integrate services that have been
previously available only as separate external devices. These popular
network termination and circuit management cards include Digital Data
Services 56/64kb CSU/DSU, T1/E1 CSU/DSU with Fractional services, 56kbps
modem and multiple 10BaseT Ethernet interfaces; and
(5) a high capacity 45mb High Speed Serial Interface (HSSI) router for high
demand applications used by ISPs and Network Service Providers.
OpenROUTE's software suite was dramatically enhanced with the release of
OpenROUTE 3.1 and OpenROUTE 3.2. These new software versions consisted of key
solutions including:
(1) An Hyper Text Transfer Protocol (HTTP) server and Browser-based
configuration system that allows users to easily configure OpenROUTE
routers with either Microsoft Explorer or Netscape Navigator;
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(2) Network optimization features such as "packet tagging" were added to
OpenROUTE's Traffic Control Services (TCS) to better manage costly WAN
connections and increase traffic priority associated with Internet and
Intranet-based networks; and
(3) The ability to service IBM SNA customers by updating the Company's award
winning DLSw solutions.
In addition, during 1998 the Company entered into an agreement with Merlot
Communications, Inc. ("Merlot") This technology transfer agreement allows for
incorporation of both hardware and software into Merlot's converged solutions
for small to medium size businesses. The goal is to combine OpenROUTE's
expertise in secure Internet access with Merlot's innovative LAN and voice
technology, to assist Competitive Local Exchange Carriers (CLECs) to provide
truly integrated voice, video and data services from the edge of the carrier's
network to the desktop.
Development also continued during 1998 on the OpenROUTE router used by the
United States Navy to outfit certain aspects of its fleet and battle groups. The
OpenROUTE router provides entrusted high speed data communication service
between various mobile locations and ships in the fleet.
BUSINESS PARTNERING
The Company continues to focus on business partnerships with ISPs. The Company
believes that ISPs offer a solid path of wide-scale distribution for GT and GTX
products. As ISPs have evolved around the world, their equipment needs have
paralleled this process. In many cases where ISPs are connecting businesses to
the Internet or Intranet, the installation of an Internet access router is a
necessity. By solidifying its presence with ISPs on a global basis, the Company
believes it can expand its distribution and increase the potential to grow its
business. During 1998, the Company established a relationship with
UUNET/Worldcom and continued its relationship with PSINet. The Company's
strategy is to increase the number of ISPs that carry OpenROUTE's products.
During 1998, the Company signed premier Value Added Reseller (VAR) agreements
with Atrion Communications Resources, Inc., Westron Communications and Synergy
Networks, each of whom actively market GT and GTX products in domestic markets.
OpenROUTE is targeting major sales in markets such as government, financial
services, health care, education, publishing, manufacturing, insurance,
professional services, libraries and entertainment through its VAR partners.
MARKETING
The Company's marketing and distribution strategy is to continue to cultivate
relationships with ISPs, VARs and Original Equipment Manufacturers (OEMs). The
Company believes that its high performance, scalable architecture, and the
ability to support emerging access technologies along with proven
interoperability will contribute to continued success in these arenas.
Specifically, the Company's products combine performance with the encryption,
authentication and tunneling capabilities needed to design a cost-effective VPN.
These VPNs represent a "virtually" untapped market. The Company believes that it
has the expertise, products and pricing strategy needed for growth in this new
arena.
The Company's marketing programs throughout the second half of 1998 and going
forward in 1999 focus on ISP and corporate awareness through public relations,
electronic advertising mediums such as the Internet, limited print advertising,
cooperative direct mail campaigns and national industry trade shows. These
activities are intended to enhance awareness of the Company and its products and
generate sales leads for the Company's field sales force and the resellers. The
Company plans
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to launch a new web-site along with a coordinated series of collateral material
designed to educate as well as support their marketing efforts.
FIELD SALES FORCE
The Company's field sales force is primarily responsible for providing sales
support and training to the Company's systems integrators, OEMs, ISPs, VARs and
telecommunications carriers. The field sales force has a number of offices in
the United States and international offices in Lockington Derby, England,
Singapore, Toronto, Paris and Hong Kong. The Company also has strong
sales associations in Tokyo and Beijing.
SYSTEMS INTEGRATORS AND OEMs
OpenROUTE sells a large number of units through systems integrators and OEMs.
These organizations typically have technical expertise and an installed customer
base in either telecommunications or computer communications, and are
experienced in the sale and support of complex networking solutions. In 1998,
the Company increased its shipments through telecommunications providers who
install CPE.
VARs
The Company also sells its complete product line through VARs, which include
Premier Access Partners and smaller regional VARs in markets around the world.
Many of these VARs are selected for their capability to sell to and service
small to medium-sized organizations, as well as for their expertise in vertical
industries or technologies. The Company's VARs also include a number of large
national and regional resellers including Atrion Communications Resources Inc.,
Westron Communications and Synergy Networks.
INTERNATIONAL SALES
The Company's products are currently marketed, sold and serviced internationally
by over 30 distributors, VARs and OEMs. These resellers generally have
non-exclusive agreements applying to a countrywide territory. International
sales accounted for approximately 30.9% percent of net sales in 1998.
BACKLOG
Because of the generally short cycle between order and shipment (typically less
than 45 days) and occasional customer-initiated changes in delivery schedules,
the Company does not believe its backlog as of any particular date is
necessarily indicative of future sales levels.
CUSTOMER SUPPORT AND SERVICE
The Company's customer service organization provides a comprehensive suite of
service and support programs for resellers and end-users. The underlying
philosophy of the Company is to provide end-users with alternatives for
acquiring services for their networking requirements. Users can contract
directly with the Company for service. Additionally, OpenROUTE offers multiple
maintenance contract options designed to match the servicing capabilities and
needs of the customer. The service offerings consist of technical support
(remote and on-site), maintenance contracts, hardware and software upgrades,
product exchange, spares, depot repair and professional services.
In February 1999, the Company signed a support services alliance agreement with
Unisys
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Corporation. This strategic relationship allows OpenROUTE customers to choose
Unisys for on-site support of OpenROUTE products. The program is designed to
augment OpenROUTE's existing programs by providing world-class on-site service
according to defined Service Level Agreements (SLAs).
RESEARCH AND PRODUCT DEVELOPMENT
Management believes the Company's future success depends in large part upon
timely enhancement of existing products and the development of new products that
not only maintain technological excellence, but also improve the capabilities,
efficiency and cost-effectiveness of the end-users' data communications
networks. The Company is developing new products to improve price/performance
ratios, enhance its network management capabilities, simplify ease of use,
enhance network security and ensure interoperability with other vendors'
standards-based products. The Company is also helping to define and support
emerging industry standards that underlay the use of new technological
capabilities. The Company is currently participating in a variety of Internet
Engineering Task Force working groups.
In 1998, 1997 and 1996, the Company's research and product development
expenditures were $4,610,000, $5,987,000 and $9,353,000, respectively. All of
the Company's expenditures for hardware and software research and development
costs have been expensed as incurred.
MANUFACTURING
The Company's manufacturing operations consist of systems level integration and
testing. The Company has strategic relationships with U.S. Assemblies of
Taunton, Massachusetts, ("U.S. Assemblies") a major subcontract manufacturer
with access to cost-effective, high volume manufacturing, distribution and
repair capability worldwide, and since October 1998, with Venture Manufacturing
Ltd. of Singapore ("Venture Manufacturing"). U.S. Assemblies manufactures the
Company's board assemblies for its router, hub and adapter card product lines
and specific, turnkey manufacturing for a number of OpenROUTE products. When
fully operational in 1999, Venture Manufacturing will provide OpenROUTE with
services similar to U.S. Assemblies.
The Company believes that in the event of an interruption in manufacturing by
either of its subcontractors (U.S. Assemblies or Venture Manufacturing) it will
be able to shift its production needs to the unaffected facility as necessary,
and continue to meet its expected demand. Both U.S. Assemblies and Venture
Manufacturing operate a number of other plants within the United States and
Asia.
OpenROUTE performs some final assembly and testing of its intelligent hubs and
routers at its Westborough, Massachusetts facility. A repair depot and logistics
operation is also located at its Westborough facility, coordinating global
service requirements for all products.
The Token Ring chipsets used in the Company's 4/16 Mbps adapters are currently
manufactured by Texas Instruments. The Company has an agreement with Texas
Instruments under which it believes it will be able to obtain adequate supplies
of these chipsets in a timely manner to meet customer demand. However, the
reduction or interruption in supply or a significant price increase could
adversely affect the Company's operating results. The Reduced Instruction Set
Computer ("RISC") processor presently used in the Company's CNX 600 and CNX 500
bridging routers is available solely from Advanced Micro Devices, Inc. ("AMD").
The Company believes, however, that other available RISC processors could be
substituted for the AMD chip, if necessary, with some product modifications.
Certain logic semiconductors, signal processors and subassembly components used
in the Company's products are also available only from limited
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sources. The Company has not experienced any significant problems in obtaining
required supplies of such limited source components and believes that
alternative sources could be developed quickly. However, such shortages could
result in production delays that might adversely affect the Company's business.
The Company's line of GTX and GT Business Series products incorporates
microprocessors supplied by Motorola. The Company is not aware of any shortages
of chips from Motorola, and believes that supplies will be adequate for the
coming year.
OpenROUTE continues to have OEM arrangements with manufacturers for some of its
Token Ring product offerings. The Company does not feel these arrangements
jeopardize the quality of the products the Company is shipping. In most cases,
if supply from one vendor was interrupted or made scarce, the Company could find
a comparable source for the affected product with limited delays in shipment.
COMPETITION
The data communications, networking and computer industries are highly
competitive and characterized by rapidly changing technology and evolving
industry standards. These advances result in frequent new product introductions,
increased capabilities and improvements in the relative price/performance of
networking products. The Company competes with several companies having greater
research and development, marketing and financial resources, manufacturing
capability, customer support organizations and name recognition than those of
OpenROUTE.
INTERNET ACCESS MARKET COMPETITION
In its newer GTX and GT Business Series product lines, the Company manufactures
routers that connect users on the network edge. The Company believes that major
competitors in this market segment include Lucent, Nortel, Netopia Systems,
Cisco Systems, 3COM, Ascend Communications, Xyplex, ACC and Ramp Networks, among
others.
INTELLECTUAL PROPERTY RIGHTS
The Company was granted a patent on February 18, 1992, for its Token Ring
synchronization technology, commonly referred to as JitterBuster. On July 21,
1992 the Company was granted a patent for Token Ring Equalizer. Each of these
patents has a life of 17 years from the date of grant. In September 1997 the
Company applied for a U.S. patent for its GTX modular Internet access router.
Currently, OpenROUTE relies principally upon a combination of contractual
rights, trade secrets and copyright laws to establish and protect its
proprietary rights in its products. The Company believes that because of the
rapid pace of technological change in the data communications and computer
industries, the legal protection for its products is a less significant factor
in the Company's success than the knowledge, ability and experience of the
Company's employees, the frequency of product enhancements and the timeliness
and quality of support services provided by the Company.
Certain technology used in the Company's products is licensed by the Company
from third parties, generally on a non-exclusive basis. These license agreements
generally require the Company to pay royalties (certain of these license
agreements include minimum royalty requirements) and to fulfill confidentiality
obligations in order to maintain the licenses. One of the Company's license
agreements is an exclusive license for a portion of the software incorporated in
the Company's bridging routers. In order to maintain the exclusivity of this
license, the Company must make minimum annual royalty or other payments in
addition to those required to maintain the license. The sum of these payments
for each year is relatively insignificant to the Company. The maximum
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royalties payable under this license are limited in accordance with a formula.
Generally, if the Company does not pay minimum royalties or make other minimum
payments each year under this license, the license may be terminated. Absent a
breach of this license agreement by the Company, the license may be continued
indefinitely at the Company's option. The termination of this license would have
a material adverse effect on the Company's operations because the technology
licensed under this agreement is included in the software incorporated into the
Company's bridging router products, which provide a significant portion of the
Company's revenues.
RISK FACTORS
TECHNOLOGICAL CHANGE, NEW PRODUCTS AND INDUSTRY STANDARDS
OpenROUTE is positioning itself as a company focused on the edge of the
Internet. OpenROUTE views the network access market as having two lines of
business, Internet access and local access. Its current strategy is based upon
concentration on the Internet access market segment.
The market for the Company's products is characterized by rapidly changing
technology, new product introductions and multiplicity of current and evolving
industry standards. Accordingly, the Company believes that its future success
will depend on its continuing ability to enhance and expand its existing
products and to develop or private label other manufacturer's technology and
introduce in a timely fashion new products which incorporate new technologies,
conform to standards and achieve market acceptance.
There can be no assurance that the Company's strategy is the correct one under
the circumstances; that the Company has correctly assessed trends in the
marketplace; that the Company will be able to develop, market, support or secure
external supplies of, such products successfully; or that the Company will be
able to respond effectively to technological changes, new product announcements
by others or new industry standards.
MANUFACTURING AND SUPPLY; DEPENDENCE ON SUPPLIERS
The Company's manufacturing operations consist of systems level integration and
testing. The Company has strategic relationships with U.S. Assemblies of
Taunton, Massachusetts, a major subcontract manufacturer with access to
cost-effective, high volume manufacturing, distribution and repair capability
worldwide, and since October 1998 with Venture Manufacturing. U.S. Assemblies
manufactures the Company's board assemblies for its router, hub and adapter card
product lines and specific, turnkey manufacturing for a number of OpenROUTE
products. When fully operational in 1999, Venture Manufacturing will provide
OpenROUTE with services similar to U.S. Assemblies.
The Company believes that in the event of an interruption in manufacturing by
either of its subcontractors (U.S. Assemblies or Venture Manufacturing) it will
be able to shift its production needs to the unaffected facility as necessary
and continue to meet its expected demand. Both U.S. Assemblies and Venture
Manufacturing operate a number of other plants within the United States and
Asia.
OpenROUTE performs some final assembly and testing of its intelligent hubs and
routers at its Westborough, Massachusetts facility. A repair depot and logistics
operation is also located at its Westborough facility, coordinating global
service requirements for all products.
The Token Ring chipsets used in the Company's 4/16 Mbps adapters are currently
manufactured by Texas Instruments. The Company has an agreement with Texas
Instruments under which it believes it will be able to obtain adequate supplies
of these chipsets in a timely manner to meet customer
<PAGE> 12
demand. However, the reduction or interruption in supply or a significant price
increase could adversely affect the Company's operating results. The RISC
processor presently used in the Company's CNX 600 and CNX 500 bridging routers
is available solely from AMD. The Company believes, however, that other
available RISC processors could be substituted for the AMD chip, if necessary,
with some product modifications. Certain logic semiconductors, signal processors
and subassembly components used in the Company's products are also available
only from limited sources. The Company has not experienced any significant
problems in obtaining required supplies of such limited source components and
believes that alternative sources could be developed quickly. However, such
shortages could result in production delays that might adversely affect the
Company's business. The Company's line of GTX and GT Business Series products
incorporates microprocessors supplied by Motorola. The Company is not aware of
any shortages of chips from Motorola, and believes that supplies will be
adequate for the coming year.
OpenROUTE continues to have OEM arrangements with manufacturers for some of its
Token Ring product offerings. The Company does not feel these arrangements
jeopardize the quality of the products the Company is shipping. In most cases,
if supply from one vendor was interrupted or made scarce, the Company could find
a comparable source for the affected product with limited delays in shipment.
The inability to obtain sufficient sole or limited source components as
required, or to develop alternative sources if and as required in the future,
could result in delays or reductions in product shipments which would adversely
affect the Company's operation results. There can be no assurance that, in the
event of interruptions in contract manufacturing, supplies of components from
sole or limited sources or supplies of units from OEM vendors or similar
occurrences, the Company could find and engage suitable alternatives in a timely
manner. Such interruptions or the inability of OpenROUTE to counteract them
successfully could have an adverse effect on the Company's business, operations
and finances.
INTELLECTUAL PROPERTY
Currently, OpenROUTE relies principally upon a combination of contractual
rights, trade secrets and copyright laws to establish and protect proprietary
aspects of its products. The Company believes that, because of the rapid pace of
technological change in the data communications and computer industries, legal
protection for its products is a less significant factor in the Company's
success than the knowledge, ability and experience of the Company's employees,
the frequency of product enhancements and the timeliness and quality of support
services provided by the Company. However, should a successful challenge be
mounted against the rights of OpenROUTE in and to its intellectual property, by
allegations of infringement on the rights of other or for any other reason, the
Company's business, operations and finances could be adversely affected. Certain
technology used in the Company's products is licensed by the Company from third
parties. The termination of certain of these licenses would have a material
adverse effect on the Company's operations.
PRODUCT COMPATIBILITY AND COMPETITION
INTERNET ACCESS (ROUTERS)
OpenROUTE expects to participate significantly in the market segment of Internet
access routing by focusing exclusively on the Internet's edge. Specifically, the
Company provides best-of-class edge solutions that complement with the core and
maximize the edge. The Company has enhanced its Internet access capabilities
with the introduction of new products that and expanded its presence in the
Integrated Services Digital Network (ISDN) marketplace.
<PAGE> 13
INTERNETWORKING SOFTWARE
OpenROUTE(TM), OpenROUTE's internetworking software suite, is the foundation of
the Company's high performance Internet access products. All of OpenROUTE's
internetworking products ship with this software technology installed. Also,
OpenROUTE licenses this software to other providers of internetworking products.
As routing technology progresses, the Company may be required to modify its
routing and bridging software to maintain compatibility of its products with
various standards and interoperability with other manufacturers router products.
Failure by the Company to maintain such compatibility, interoperability and
technical competencies could adversely affect the Company's business, operations
and finances.
NETWORK INTERFACE CARD PRODUCTS
The market for Token Ring network interface card products is dominated by IBM,
MADGE and Olicom. While Token Ring networking is an industry standard, OpenROUTE
believes that its ability to address successfully the market for Token Ring
network products is dependent upon the compatibility and interoperability of the
Company's products with products offered by these vendors and upon maintaining
compatibility with the Token Ring standard as it continues to evolve.
LAN ACCESS
The Company continues to sell Token Ring Switches; intelligent hubs that provide
connectivity and management of different network cabling schemes and LAN
topologies; Ethernet hubs, the ProNET/E series, for the workgroup market
segment; Token Ring hubs, the Serial 75 Stackable Hub family for building
networked and extended workgroups; Token Ring adapters for physical connectivity
and Token Ring signaling between a personal computer ("PC") or workstation and
LAN cabling; and muliport cards intended to provide a full range of solution for
the client/server marketplace. The Company also seeks opportunities to leverage
technology through licensing arrangements.
COMPETITION
The data communications, networking and computer industries are highly
competitive and characterized by rapidly changing technology and evolving
industry standards. These advances result in frequent new product introductions,
increased capabilities and improvements in the relative price/performance of
networking products. As a competitor in the networking industry, OpenROUTE
believes one of the keys to success will be making networks more accessible to a
broader base of customers. OpenROUTE is committed to open, standards based
products, innovative solutions to customer requirements for reliable and high
performance networks, a favorable price/performance ratio, ease of installation
and ease of use.
The Company competes with several companies having greater research and
development, marketing and financial resources, manufacturing capability,
customer support organizations and name recognition than those of the Company.
There can be no assurance that the Company will be able to compete successfully
in the future or that competitive pressures will not adversely affect the
Company's business, operations and finances.
RESEARCH AND PRODUCT DEVELOPMENT
Management believes the Company's future success depends in large part upon
timely enhancement of existing products and the development of new products that
not only maintain technological
<PAGE> 14
excellence, but also improve the capabilities, efficiency and cost effectiveness
of the end users' data communication networks. The Company is developing new
products to improve price/performance ratios, enhance its network management
capabilities, simplify ease of use and ensure interoperability with other
vendors' standards based products.
VARIABILITY OF QUARTERLY OPERATING RESULTS
The Company's quarterly operating results may vary significantly depending upon
factors such as the timing of new product announcements and releases by the
Company and its competitors, the timing of significant orders, the mix of
products sold and the mix of distribution channels through which the products
are sold. In addition, substantially all of the Company's sales in each quarter
result from orders booked in that quarter. Consequently, if sales do not close
in any quarter as anticipated, the Company's results of operations for that
quarter would be adversely affected. Further, the Company's expense levels are
based, in part, on its expectations of future sales. If sales levels are below
expectations, operating results may be adversely affected. Also, quarterly
results can be materially affected by the existence and/or the timing of
software licensing revenues.
METHOD OF DISTRIBUTION
The Company sells its products to end users worldwide primarily through an
indirect sales channel comprised of ISPs, OEMs, and VARs. These resellers also
represent other lines of products which are, in some cases, identical or
complementary to, or which compete with, those of the Company. While the Company
attempts to encourage these resellers to focus on its products through marketing
and support programs, there is a risk that these resellers may give higher
priority to products of other suppliers, thereby reducing their efforts devoted
to selling the Company's products. One reseller accounted for approximately 12%,
11% and 14%, of the Company's total net sales in 1998, 1997 and 1996,
respectively, and a second reseller accounted for approximately 10%, 8%, and 14%
of the Company's total net sales in 1998, 1997, and 1996, respectively.
There can be no assurance that the Company has selected appropriate channels of
distribution for its products or that existing resellers will dedicate adequate
resources to sales of the Company's products. Failure to do so could result in
an adverse impact on the Company's business, operations and finances.
LIQUIDITY
Failure of the Company to create and maintain adequate working capital and
liquidity, by sales of equity, obtaining lines of credit or otherwise, could
adversely impact the Company's business, operations and finances.
INTERNATIONAL SALES, REGULATORY STANDARDS AND CURRENCY EXCHANGE
International sales accounted for 30.9%, 35.4% and 38.3% in 1998, 1997 and 1996,
respectively, of the Company's net sales. The decrease in the international
sales as a percentage of the Company's net sales was primarily the result of the
economic crisis in the Asia Pacific region. The Company expects that
international sales to continue to be a significant portion of the Company's
business. Foreign regulatory bodies continue to establish standards different
from those in the United States, and the Company's products are designed
generally to meet those standards. The inability of the Company to design
products in compliance with such foreign standards could have an adverse effect
on the Company's operating results. The Company's international business may be
affected by changes in demand resulting from fluctuation in currency exchange
rates and tariffs and difficulties in obtaining export licenses.
<PAGE> 15
POSSIBLE VOLATILITY OF STOCK PRICE
The Company believes factors such as announcements of new products by the
Company or its competitors and quarterly variations in financial results could
cause the market price of the Company's Common Stock to fluctuate substantially.
In addition, the stock market has experienced volatility which has particularly
affected the market prices for many high technology companies' stock and which
often has been unrelated to the operating performance of such companies. These
market fluctuations may adversely affect the price of the Company's Common
Stock.
CERTAIN CHARTER AND BY LAW PROVISIONS
The Company's Amended and Restated Articles of Organization and By-Laws contain
certain provisions that could have the effect of making it more difficult for a
third party to acquire, or could discourage a third party from attempting to
acquire, control of the Company. Such provisions could limit the price that
certain investors might be willing to pay in the future for shares of the
Company's Common Stock. Certain of such provisions allow the Company to issue
preferred stock with rights senior to those of the Common Stock and impose
various procedural and other requirements which could make it more difficult for
stockholders to effect certain corporate actions.
YEAR 2000
The "Year 2000 Issue" is the result of computer programs that were written using
two digits rather than four to define the applicable year. If computer programs
with date sensitive functions are not Year 2000 compliant, they may recognize a
date using "00" as the Year 1900 rather than the Year 2000. This could result in
a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions or
engage in similar normal business activities.
The Company has initiated a program to review the Year 2000 readiness of its
internal systems, the Company's product line, and of third party suppliers and
vendors. The program consists of: (i) inventory of products and suppliers to
determine systems which may encounter date processing problems; (ii) assessment
of the Year 2000 issues presented; (iii) remediation, if necessary, of products
owned or manufactured by the Company; (iv) testing of systems; and (v)
contingency plans. The program's implementation varies depending upon the
problems or issues encountered, and their resolution.
PRODUCTS MANUFACTURED BY THE COMPANY. The Company's main business since its
formation has consisted primarily of the manufacture and sale of: (i) Remote
Access Routers used to access the Internet; (ii) LAN equipment used to link
together computers and peripheral devices; and (iii) Network Interface Cards
(NIC), which connect computer workstations to a network. The Company has
installed its own proprietary software in all of its manufactured Remote Access
Routers and LANs, and at times has licensed this software to third parties. The
Company's installed proprietary software and the products manufactured and sold
by the Company, do not track or report dates, are not date dependent and are
Year 2000 compliant. The Company's manufactured NIC cards do not contain any
date-dependent functions, and thus also are Year 2000 compliant. Therefore, the
Company does not expect that Year 2000 processing problems will occur in
products sold by the Company, or that Year 2000 product problems would have a
material effect on the Company's business, financial condition or the results of
operations.
INTERNAL BUSINESS SOFTWARE AND SYSTEMS. The Company in 1998 conducted an
inventory of its internal business systems, to determine whether any Year 2000
processing problems
<PAGE> 16
existed in critical equipment or systems. As a result, and as part of a
corporate program intended to reduce cycle time and improve efficiency, the
Company purchased new business operations systems which operate the Company's
financial, administrative, business, manufacturing and customer service
functions. The software vendor has indicated these systems are Year 2000
compliant. The Company completed the installation of these systems in January
1999 and successfully closed the fiscal months of January and February 1999. The
Company has a one year limited warranty on these systems commencing from the
date of delivery, which warranty would expire before January 1, 2000.
The Company also has installed a new telephone system under a long-term lease
which the Company believes to be Year 2000 compliant. However, if testing
demonstrates unexpected Year 2000 problems in these new systems, there would be
no assurance that the Year 2000 problems would not have a material impact on the
Company's internal operations and would not materially impact the Company's
business, financial condition or results of operations.
The Company expended $340,000 in Year 2000 system costs in 1998. Some of these
costs have been capitalized under generally accepted accounting practices. The
Company expects to incur additional expenditures of $175,000 in 1999 related to
Year 2000 equipment purchases and leases, including consulting fees, license
agreements and lease payments.
READINESS OF THIRD PARTY SUPPLIERS AND VENDORS. The Company relies on third
party suppliers, service providers and contractors for critical services,
including utility power and telephone, parts and supplies. In addition, the
Company sells its products to customers, including ISPs and others, which are
highly dependent on computers, and which could be adversely affected by their
own or their suppliers' lack of Year 2000 readiness. The Company has conducted
an inventory of its critical suppliers, service providers and contractors to
determine the extent to which the Company's operations could be affected by
those third parties' failure to remedy their own Year 2000 issues. This exercise
was substantially completed in March 1999. Most of the Company's critical
suppliers, service providers and contractors are also in the high technology
field, thus Year 2000 compliance has received intense attention throughout the
vendors' base. OpenROUTE's major contract manufacturer, U.S. Assemblies, has
recently completed implementation of the Year 2000 compliant version of MAPICS
for their material resource planning purposes.
Following completion of its inventory and assessment of third party readiness,
the Company will determine whether testing, verification or contingency plan
procedures are necessary. The most reasonably likely worst case scenario if
suppliers or customers were not Year 2000 compliant would be interruption in the
Company's ability to manufacture or deliver its products through loss of power,
supply shortages or disruption of delivery systems, or a material decrease in
the sale of products if customers lose substantial business or divert
substantial resources to uncorrected Internet Year 2000 problems. The Year 2000
readiness of outside suppliers or customers is outside the Company's control.
There can be no assurance that the failure of third party suppliers or the
Company's customers to effectively remedy Year 2000 defects would not have a
material adverse impact on the Company's business, results of operations or
financial condition.
The above description contains "forward-looking" statements addressing
uncertainties and future events relating to the Company's Year 2000 issues.
These statements are based on assumptions and predictions which are difficult to
verify and may change over time. The Company expects that future events and
information, if known by the Company, may affect assessment of the Year 2000
issues potentially affecting the Company.
EMPLOYEES
As of December 31, 1998, the Company employed a total of 86 persons, including
38 in sales,
<PAGE> 17
marketing and customer support, 24 in engineering and product development, 9 in
manufacturing and 15 in finance and administration. None of the Company's
employees is represented by a labor union. The Company has experienced no work
stoppages and believes its employee relations are good.
REGISTERED TRADEMARKS
Proteon, OpenROUTE, TokenVIEW and ProNET are registered trademarks and
JitterBuster, CNX 600, CNX 500, CNX 400, DNX 350, RapiDriver, OneVIEW and
OverVIEW are trademarks of OpenROUTE. Ethernet is a registered trademark and XNS
is a trademark of Xerox Corporation. IBM and NetView are registered trademarks
and SNA is a trademark of IBM. Motorola is a trademark of Motorola, Inc.; AMD is
a trademark of Advanced Micro Devices, Inc. AT&T is a trademark of AT&T.
<PAGE> 18
ITEM 2. PROPERTIES
The Company's principal administrative, marketing, manufacturing and product
development facilities are located in one building in Westborough, Massachusetts
and occupied a total of approximately 44,000 square feet as of December 31,
1998. The Company occupies these facilities under a lease agreement that expires
in April 2002. The Company has the option to extend the term of the lease for
two five-year periods commencing on May 1, 2002 and May 1, 2007. In addition,
the Company leases four sales and support offices elsewhere in the United States
and abroad. The Company believes that its existing facilities are adequate for
its current needs.
ITEM 3. LEGAL PROCEEDINGS
OpenROUTE filed a civil complaint against Digital Equipment Corporation and
Cabletron Systems, Inc. (the Defendants) on April 1, 1998 in the Middlesex
Superior Court located in Cambridge, Massachusetts. Docket # 98-01533-F is
assigned to this matter.
In its complaint (as amended), OpenROUTE alleges that Digital Equipment
Corporation breached two separate existing agreements by and between OpenROUTE
and Digital Equipment Corporation, the Source Code Licensing Agreement and the
Hardware and Software Development and Software Distribution Agreement for
Networks Routers, by assigning its rights under both agreements to Cabletron
Systems, Inc. without the required consent of OpenROUTE. In addition, OpenROUTE
alleges unfair and deceptive practices in violation of Massachusetts General
Laws and, as against Cabletron, unjust enrichment for unauthorized receipt and
use of OpenROUTE technology. OpenROUTE seeks monetary damages against Digital
Equipment Corporation.
Digital Equipment Corporation counter-claimed that it had the right to assign
its rights without OpenROUTE's consent, and therefore, the suit should be
dismissed. Cabletron Systems, Inc. cited that it was a good faith purchaser for
value, and as such, the claim against it should also be dismissed.
Court hearings have been held to narrow the issues in the case. To date, the
court has found a breach of contract by Digital Equipment Corporation to exist
as a matter of law. The court has found that Cabletron Systems, Inc. was a good
faith purchaser for value and dismissed the claim against Cabletron Systems,
Inc., however, the court specifically reserved the right for OpenROUTE to amend
its complaint if it discovers any unlawful transfer of intellectual property
apart from the issue of improper assignment of rights under the two agreements.
The case has now proceeded to discovery along with Motions for Reconsideration
being filed by both sides.
It is anticipated that discovery in this matter will take place over the next
six to twelve month period, along with further review by the court taking place
as the case proceeds.
Neither the Company nor any of its subsidiaries is a party to any other material
legal proceedings nor is any property of the Company the subject of any material
legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of stockholders during the fourth quarter of
the fiscal year ended December 31, 1998.
<PAGE> 19
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS
The section entitled "Stock Price History" in the Company's 1998 Annual Report
is incorporated herein by reference and filed as an Exhibit to this Annual
Report on Form 10-K.
ITEM 6. SELECTED FINANCIAL DATA
The table entitled "Selected Consolidated Financial Data" contained in the 1998
Annual Report is incorporated herein by reference. The information set forth in
the table is not necessarily indicative of the results of future operation and
should be read in conjunction with "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and the consolidated financial
statements and related notes thereto and other financial information appearing
elsewhere in the 1998 Annual Report.
ITEM 7. MANAGEMENT'S DISCUSSION
AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The section entitled "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contained in the 1998 Annual Report is
incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Currently, the Company is not exposed to any market risks arising from changes
in interest rates or other market risk sensitive instruments. The current
exposure to market risks arising from changes to foreign currency rate is not
material. Under its current policy, the Company places its investments in highly
rated financial institutions and, by policy, limits the amount of credit
exposure to any one financial institution. Financial instruments, which
potentially subject the Company to concentration of credit risk, are principally
cash and cash equivalents, marketable securities and accounts receivable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The sections entitled "Consolidated Balance Sheets," "Consolidated Statements of
Operations," "Consolidated Statements of Stockholders' Equity," "Consolidated
Statements of Cash Flows," "Notes to Consolidated Financial Statements,"
"Quarterly Financial Data" and "Report of Independent Accountants" contained in
the 1998 Annual Report are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
On January 13, 1999, BDO Seidman, LLP replaced PriceWaterhouse Coopers, LLP as
the Company's independent auditors. The Company filed a Current Report on Form
8-K and a Current Report on Form 8-K/A on January 1, 1999 and February 24, 1999,
respectfully, reporting the Company's change of its independent accounting firm.
The Form 8-K and Form 8-K/A are herein incorporated by reference and filed as
exhibits to this Annual Report on Form 10-K.
<PAGE> 20
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
OF OPENROUTE
The sections entitled "Information Concerning the Board of Directors and the
Executive Officers," "Proposal 1: Election of Directors" and "Section 16(a)
Beneficial Ownership Reporting Compliance" contained in the Company's 1999 Proxy
Statement which the Company intends to file with the Securities and Exchange
Commission on or about April 21, 1999 are incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The sections entitled "Executive Compensation," "Directors' Compensation,"
"Compensation Committee Report on Executive Compensation" and "Performance
Graph" contained in the Company's 1999 Proxy Statement are incorporated herein
by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT
The section entitled "Principal Shareholders" contained in the 1999 Proxy
Statement is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
None.
<PAGE> 21
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT
SCHEDULES AND REPORTS ON FORM 8-K
(a) Financial Statements, Schedules and Exhibits
The financial statements, the schedules and the exhibits listed below are
filed as part of this Report:
1. Financial statements:
Consolidated Balance Sheets as of December 31, 1998 and 1997
Consolidated Statements of Operations for the years ended December 31,
1998, 1997 and 1996
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 1998, 1997 and 1996
Consolidated Statements of Cash Flows for the years ended December 31,
1998, 1997 and 1996
Notes to Consolidated Financial Statements
Reports of Independent Accountants
2. Financial Statement Schedule:
Schedules not listed above are omitted because of the absence of
conditions under which they are required or because the required
information is included in the consolidated financial statements or notes
submitted.
3. Exhibits: See Index to Exhibits on page 26. Each of the following
exhibits described on the index to exhibits is a management contract or
compensatory plan or arrangement: 10.4, 10.5, 10.6, 10.7, 10.8, 10.9,
10.10, 10.11, 10.12, 10.14, 10.15, 10.16, 10.17, 10.19.
(b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K on January 1, 1999, reporting the
Company's change of its independent accounting firm. The Company amended the
Form 8-K by filing a Current Report on Form 8-K/A on February 24, 1999. The Form
8-K and the Form 8-K/A are herein incorporated by reference and filed as
exhibits to this Annual Report on Form 10-K. The Company filed no reports on
Form 8-K with the Securities and Exchange Commission during the last quarter of
the fiscal year ended December 31, 1998.
<PAGE> 22
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, OpenROUTE Networks, Inc. has duly caused this Annual Report on Form
10-K to be signed on its behalf by the undersigned, thereunto duly authorized on
March 31, 1999.
OPENROUTE NETWORKS, INC.
(Registrant)
March 31, 1999 By: /s/ Bryan R. Holley
Bryan R. Holley
President & Chief Executive Officer
(principal executive officer)
Authorized Signatory
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
on the dates indicated.
March 31, 1999 /s/ Steven T. Shedd
Steven T. Shedd
Vice President, Finance and Chief Financial
Officer Treasurer and Clerk
(principal financial officer)
March 31, 1999 /s/ Sally KH Teo
Sally KH Teo
Corporate Controller
(principal accounting officer)
March 31, 1999 /s/ David Clark
David Clark, Director
March 31, 1999 /s/ Robert M. Glorioso
Robert Glorioso, Director
March 31, 1999 /s/ Howard C. Salwen
Howard C. Salwen, Director
<PAGE> 23
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of OpenROUTE Networks, Inc.:
Our audits of the consolidated financial statements referred to in our report
dated February 11, 1998, except as to the segment information for the years
ended December 31, 1997 and 1996 presented in Note 8, for which the date is
March 26, 1999, appearing in the 1998 Annual Report to Shareholders of OpenROUTE
Networks, Inc. (which report and consolidated financial statements are
incorporated by reference in this Annual Report on Form 10-K) also includes an
audit of the financial statement schedules listed in Item 14(a)(2) of this Form
10-K. In our opinion, these financial statement schedules present fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements.
PricewaterhouseCoopers LLP
Boston, Massachusetts
February 11, 1998
<PAGE> 24
3. EXHIBIT INDEX
Exhibit
Number Description
(3.1) Restated Articles of Organization, as amended*(c) (filed as Exhibit
3.1)
(3.2) Articles of Amendment dated June 12, 1998 on the change of name of
the corporation to OpenROUTE Networks, Inc. from Proteon, Inc.
(filed as Exhibit 3.2 to this Form 10-K)
(3.3) By-Laws, as amended and restated, of the Registrant*(a) (filed as
Exhibit 3.3)
(4.1) Article 4 of the Restated Articles of Organization*(c) (See Exhibit
3.1)
(4.2) Form of Common Stock Certificate*(b) (filed as Exhibit 4.2)
(10.1) Manufacturing Services Agreement, dated August 1, 1989 between the
Registrant and Texas Instruments, Inc.*(a) (filed as Exhibit 10.3)
(10.2) Purchase Agreement, dated December 1, 1990 between the Registrant
and Texas Instruments, Inc.*(a) (filed as Exhibit 10.4)
(10.3) Software License Agreement, dated January 1, 1990 between the
Registrant and Noel Chiappa*(a) (filed as Exhibit 10.5)(+)
(10.4) 1991 Restated Stock Option Plan*(d) (filed as Exhibit 19.1)
(10.5) 1988 Nonqualified Stock Option Plan*(a) (filed as Exhibit 10.7)
(10.6) Restated Employee Stock Award Plan*(a) (filed as Exhibit 10.8)
(10.7) Consulting Agreement, dated August 31, 1989 between the Registrant
and David Clark*(a) (filed as Exhibit 10.11)
(10.8) Form of Indemnification Agreement. An Indemnification Agreement was
entered into by and between the Registrant and each of: David Allen,
Steven J. Bielagus, Daniel Capone, Jr., David Clark, Howard C.
Salwen and certain other former directors and executives. Although
the agreements were executed on various dates, each is the same as
the Form of Indemnification Agreement in all material respects and
details, and therefore the individual agreements are not filed
herewith.*(a) (filed as Exhibit 10.17)
(10.9) Executive Compensation Arrangement Not Set Forth in a Formal
Document*(e) (filed as Exhibit 10.26)
(10.10) Consulting Agreement, dated August 25, 1993, between the Registrant
and Howard Salwen*(f) (filed as Exhibit 10.1)
(10.11) Employment Agreement, dated March 18, 1994, between the Registrant
and Steven J. Bielagus*(g) (filed as Exhibit 10.3)
(10.12) Employment Agreement, dated June 27, 1994 between the Registrant and
Daniel J. Capone, Jr.*(h) (filed as Exhibit 10.4)
(10.13) Lease Agreement dated December 19, 1994 between the Registrant and
WCB Twenty Limited Partnership*(i) (filed as Exhibit 10.31)
(10.14) Severance Compensation Agreement dated March 11, 1996 between the
Registrant and William T. Greer* (j) (filed as Exhibit 10.28)
(10.15) Employment Agreement, dated October 16, 1996 between the Registrant
and Robert J. Connaughton, Jr.*(j) (filed as Exhibit 10.29)
(10.16) Severance Compensation Agreement dated October 21, 1996 between the
Registrant and Robert J. Connaughton, Jr.*(j) (filed as Exhibit
10.30)
(10.17) Form of Severance Compensation Agreement. A Severance Compensation
Agreement was entered into by and between the Registrant and each
of: Robert Koch, Steven T. Shedd, Richard J. Arena, Eugene Y.
Chang, Daniel J. Capone, Jr., Steven J. Bielagus, Kenneth Holvaldt
and Jack A. Ritter. Although the agreements were executed on various
dates, each is the same as
<PAGE> 25
the Form of Severance Compensation Agreement in all material
respects and details, and therefore the individual agreements are
not filed herewith.*(k) (filed as Exhibit 10.17)
(10.18) Amendment to Lease Agreement dated December 19, 1994 between
Registrant and WCB Twenty Limited Partnership, dated May 23,
1997*(l) (filed as Exhibit 10.18)
(10.19) Form of Severance Compensation Agreement. A Severance Compensation
Agreement was entered into by and between the Registrant and each
of: Richard E. Sterry and Byran Holley. Although the agreements were
executed September 16, 1998 and July 6, 1998 respectively, each is
the same as the Form of Severance Compensation Agreement in all
material respects and details, and therefore the individual
agreements are not filed herewith. (filed as Exhibit 10.19 to this
Form 10-K)
3. Exhibits (continued)
Exhibit
Number Description
(13) The Annual Report to Stockholders of the Company for the fiscal year
ended December 31, 1998 (except for the pages and information
thereof expressly incorporated by reference in this Form 10-K, the
Annual Report to Shareholders is provided solely for the information
of the Securities and Exchange Commission and is not deemed "filed"
as part of this Form 10-K)
(16) Letter re change in certifying accountants*(m) (filed as Exhibit
16.)
(16) Letter re change in certifying accountants*(n) (filed as Exhibit 16)
(21) Subsidiaries of the Registrant (filed as Exhibit 21 to this Form
10-K)
(23) Consent of PricewaterhouseCoopers, LLP (filed as Exhibit 23 to this
Form 10-K)
(27) Financial Data Schedule(filed as Exhibit 27 to this Form 10-K)
(99) Current Report on Form 8-K dated January 20, 1999 (m), as amended by
Current Report on Form 8-K/A dated February 24, 1999 (n).
All exhibit descriptions followed by an asterisk and a letter in parentheses
were previously filed with the Securities and Exchange Commission as exhibits
to, and are hereby incorporated by reference from, the following documents:
(a) Registrant's Registration Statement on Form S-1 Registration No.
33-40073.
(b) Amendment No. 1 on Form 8 to the Registrant's Registration Statement
on Form 8-A, File No. 0-19175.
(c) Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1991.
(d) Registrant's Quarterly Report on Form 10-Q for the quarter ended
June 27, 1992.
(e) Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1992.
(f) Registrant's Quarterly Report on Form 10-Q for the quarter ended
October 2, 1993.
(g) Registrant's Quarterly Report on Form 10-Q for the quarter ended
April 2, 1994.
(h) Registrant's Quarterly Report on Form 10-Q for the quarter ended
July 2, 1994.
<PAGE> 26
(i) Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1994.
(j) Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1996
(k) Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1997.
(l) Registrant's Annual Report on Form 10-K for the fiscal year ended
December 31, 1998.
(m) Registrant's Current Report on Form 8-K dated January 20, 1999.
(n) Registrant's Current Report on Form 8-K/A dated February 24, 1999.
All exhibit descriptions followed by a (+) indicate documents with respect to
which confidential treatment has been granted.
<PAGE> 1
EX-3.2 ARTICLES OF AMENDMENT DATED JUNE 12, 1998
Articles of Amendment dated June 12, 1998 on the change of name of the
corporation to OpenROUTE Networks, Inc. from Proteon, Inc.
EXHIBIT 3.2
<PAGE> 2
FEDERAL IDENTIFICATION
NO. 04-2531856
The Commonwealth of Massachusetts
William Francis Galvin
Secretary of the Commonwealth
One Ashburton Place, Boston, Massachusetts 02108-1512
ARTICLES OF AMENDMENT
(General Laws, Chapter 156B, Section 72)
We, Daniel J. Capone, Jr., President and Steven T. Shedd, Clerk
of Proteon, Inc.
-----------------------------------------------------------------------------
(Exact name of corporation)
located at 9 Technology Drive, Westborough, MA 01581
---------------------------------------------------------------------
(Street address of corporation in Massachusetts)
certify that these Articles of Amendment affecting articles numbered:
1
- --------------------------------------------------------------------------------
(Number these articles 1, 2, 3, 4, 5 and/or 6 being amended)
of the Articles of Organization were duly adopted at a meeting held on June 10,
1998, by vote of:
13,238,841 shares of common stock of 15,296,857 shares outstanding.
---------- ------------ ----------
(type, class &
series, if any)
shares of of shares outstanding, and
---------- ------------ ----------
(type, class &
series, if any)
shares of of shares outstanding.
---------- ------------ ----------
(type, class &
series, if any)
(1) being at least a majority of each type, class or series outstanding and
entitled to vote thereon:/
VOTED: To change the name of the corporation to
OpenROUTE Networks, Inc.
(1) For amendments adopted pursuant to Chapter 156B, Section 70
(2) For amendments adopted pursuant to Chapter 156B, Section 71
Note: if the space provided under any article or item on this form is
insufficient, additions shall be set forth on one side only of separate 8 1/2
x 11 sheets of paper with a left margin of at least 1 inch. Additions to more
than one article may be made on a single sheet so long as each article
requiring each addition is clearly indicated.
<PAGE> 3
To change the number of shares and the par value (if any) of any type, class or
series of stock which the corporation is authorized to issue, fill in the
following:
The total presently authorized is:
<TABLE>
<CAPTION>
WITHOUT PAR VALUE STOCKS WITH PAR VALUE STOCKS
TYPE NUMBER OF SHARES TYPE NUMBER OF SHARES PAR VALUE
---- ---------------- ---- ---------------- ---------
<S> <C> <C> <C> <C>
Common: Common:
Preferred: Preferred:
</TABLE>
Change the total authorized to:
<TABLE>
<CAPTION>
WITHOUT PAR VALUE STOCKS WITH PAR VALUE STOCKS
TYPE NUMBER OF SHARES TYPE NUMBER OF SHARES PAR VALUE
---- ---------------- ---- ---------------- ---------
<S> <C> <C> <C> <C>
Common: Common:
Preferred: Preferred:
</TABLE>
<PAGE> 4
The foregoing amendment(s) will become effective when these Articles of
Amendments are filed in accordance with General Laws, Chapter 156B, Section 6
unless these articles specify, in accordance with the vote adopting the
amendment, a later effective date not more than thirty days after such filing,
in which event the amendment will become effective on such later date.
Later effective date:
-----------------------------
SIGNED UNDER THE PENALTIES OF PERJURY, this 10th day of June, 1998.
/s/ Daniel J. Capone, Jr.
- -------------------------
Daniel J. Capone, Jr.
President
/s/ Steven T. Shedd
- -------------------------
Steven T. Shedd
Clerk
<PAGE> 5
THE COMMONWEALTH OF MASSACHUSETTS
ARTICLES OF AMENDMENT
(General Laws, Chapter 156B, Section 72)
- --------------------------------------------------------------------------------
I hereby approve the within Articles of Amendment and, the filing fee in the
amount of $100 having been paid, said articles are deemed to have been filed
with me this 12th day of June 1998.
Effective date:
-------------------------------------------
/s/ William Francis Galvin
- -----------------------------
WILLIAM FRANCIS GALVIN
Secretary of the Commonwealth
TO BE FILLED IN BY CORPORATION
Photocopy of document to be sent to:
Anna L. Tully, Esquire
Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C.
One Financial Center, Boston, MA 02111
<PAGE> 1
EX-10.19
FORM OF SERVERANCE COMPENSATION AGREEMENT
EXHIBIT 10.19
SEVERANCE COMPENSATION AGREEMENT
SEVERANCE COMPENSATION AGREEMENT dated as of ___________________ by and between
PROTEON, INC. and/or OpenROUTE Networks, Inc. (the "Company"), a Massachusetts
corporation with its principal offices at Nine Technology Drive, Westboro,
Massachusetts 01581, and ____________________ (the "Executive"), residing at
WHEREAS, the Company's Board of Directors has recognized that the
possibility of a change in control of the Company may cause uncertainty among
the Company's senior management and may result in the departure or distraction
of its senior management to the detriment of the Company and its stockholders;
WHEREAS, the Company's Board of Directors has determined that it is
appropriate to reinforce and encourage the continued attention and dedication of
members of the Company's senior management, including the Executive, to their
duties without distraction arising from the possibility of a change in control
of the Company;
WHEREAS, the Executive desires assurance as to his compensation and
benefits in the event of any change in control of the company;
NOW, THEREFORE, in consideration of the covenants and agreements herein
contained and for other good and valuable consideration, the receipt and
adequacy of which are hereby acknowledged, the Company and the Executive agree
as follows:
1. Term. This Agreement shall terminate, except to the extent that any
obligation of the Company hereunder remains unpaid as of such time, upon the
earliest to occur of:
(a) two (2) years from the date hereof;
(b) the termination of the Executive's employment with the
Company based on (i) the death of the Executive, (ii) the Disability of the
Executive, (iii) termination by the Company for Cause, or (iv) termination by
the Executive other than for Good Reason; and
(c) one year after the date of a Change in Control.
As used in this Agreement the term "Term" shall mean the period beginning on the
date hereof and ending upon the earliest to occur of events specified above.
2. Change in Control. No compensation shall be payable under this Agreement
unless and until there shall have been a Change in Control. As used in this
Agreement, the term "Change in Control" means that any of the following events
has occurred:
(i) any person (as defined in Section 3(a)(9) of the Securities
Exchange Act of 1934, as amended (the "1934 Act)) (or any successor provision),
becomes the beneficial owner (determined in accordance with Rule 13d-3 under the
1934 Act, or any successor provision), directly or indirectly, of more than
fifty percent (50%) of the outstanding Common Stock of the Company, or otherwise
becomes entitled to vote more than fifty percent (50%) of the voting power
entitled to be
<PAGE> 2
cast at elections for directors ("Voting Power") of the Company;
(ii) there shall have been consummated any consolidation or merger of
the Company (A) in which the Company is not the continuing or surviving
corporation unless such merger is with a corporation at least eighty percent
(80%) of the Voting Power of which is held by the Company, or (B) pursuant to
which the holders of the Company's shares of Common Stock immediately prior to
such merger or consolidation are not the holders immediately after such merger
or consolidation of at least a majority of the Voting Power of the entity
resulting from such consolidation or merger;
(iii) there shall have been consummated any sale, lease, exchange or
other transfer (in one transaction or a series of related transactions) of all
or substantially all of the assets of the Company; or
(iv) during any period of two consecutive years, individuals who at the
beginning of such period were members of the Board of Directors of the Company
ceased for any reason to constitute a majority thereof, unless the election, or
the nomination for election by the Company's stockholders, of each new director
was approved by a vote of at least two-thirds of the directors still in office
at the time of such election or nomination who were directors at the beginning
of such Period.
As used in this definition of Change in Control, "Common Stock" means the Common
Stock, or if changed, the capital stock of the Company as it shall be
constituted from time to time entitling the holders thereof to share generally
in the distribution of all assets available for distribution to the Company's
stockholders after the distribution to any holders of capital stock with
preferential rights.
3. Termination Following Change in Control. The Executive shall be entitled to
the compensation provided in Section 4 hereof upon the termination of the
Executive's employment with the Company during the Term of this Agreement and
after a Change in Control unless such termination is as a result of (i) the
Executive's death, (ii) the Executive's Disability, (iii) termination by the
Company for Cause, or (iv) termination by the Executive other than for Good
Reason. As used in this Agreement, the following terms shall have the following
meanings:
(a) the term "Disability" shall mean that as a result of the
Executive's incapacity due to physical or mental illness or physical injury
(excluding illness or injury which was caused by repeated substance abuse by the
Executive), the Executive shall have been absent from his duties with the
Company on a full-time basis (i) for a period of sixty (60) consecutive days or
(ii) for an aggregate of ninety (90) days during any period of twelve (12)
consecutive months;
(b) the term "Cause" shall mean any of (i) the willful and continued
failure by the Executive to perform his duties with the Company, other than any
such willful or continued failure resulting from his incapacity due to physical
or mental illness or physical injury (provided that if such willful and
continued failure resulted from illness or injury which was caused by repeated
substance abuse by the Executive, then the foregoing exception for physical or
mental illness or physical injury shall not be applicable), (ii) the willful or
knowingly reckless engaging by the Executive in misconduct which is materially
injurious to the Company, financially or otherwise, including, without
limitation, willful breach by the Executive of any employment or other agreement
between the Executive and the Company, or (iii) the conviction of the Executive
of a felony by a court of competent jurisdiction. For purposes of the foregoing,
(x) the failure of the Company to achieve desired or projected results shall not
constitute Cause, but Cause shall only mean and include acts and/or omissions by
the Executive which are specified in clauses (i), (ii) and (iii) of the
<PAGE> 3
immediately preceding sentence, and (y) no act or failure to act on the part of
the Executive shall be considered "willful" unless done or admitted to be done
by him not in good faith and without reasonable belief that his action or
omission was in the best interests of the Company. Notwithstanding the first
sentence of this subparagraph (b), the Executive's employment shall not be
deemed to have been terminated for Cause unless (A) reasonable notice shall have
been given to him setting forth in detail the reasons for the Company's
intention to terminate for Cause and, if such termination is pursuant to clause
(i) or (ii) above, only if the Executive has been provided a period of five (5)
business days from receipt of such notice to cease the actions or inactions, and
if he has not done so (B) an opportunity shall have been provided for the
Executive, together with his counsel, to be heard before the Board of Directors
of the Company, and (C) if such termination is pursuant to clause (i) or (ii)
above, delivery shall have been made to the Executive of a Notice of Termination
from the Board of Directors stating that in the good faith opinion of a majority
of the Board of Directors (excluding the Executive) he was guilty of conduct set
forth in clause (i) or (ii) above and specifying the particulars thereof in
detail;
(c) the term "Good Reason" shall mean any of the following (without the
Executive's express written consent):
(i) after a Change in Control, the assignment to the Executive by the
Company of duties inconsistent with the Executive's position, duties,
responsibilities and status with the Company immediately prior to such Change in
Control, or a change in the Executive's titles or offices as in effect
immediately prior to such Change in Control, or any removal of the Executive
from or any failure to reelect the Executive to any of such positions, except in
connection with the termination of his employment for Disability, for Cause, as
a result of the Executive's death or by the Executive other than for Good
Reason:
(ii) after a Change in Control, a reduction by the Company in the
Executive's base salary as in effect on the date hereof or as the same may be
increased from time to time during the Term of this Agreement, or the Company's
failure after a Change in Control to increase (within 12 months of the
Executive's last increase in base salary) the Executive's base salary by an
amount which, on a percentage basis, is not more than two percentage points
below the average percentage increase in base salary effected in the preceding
12 months for all officers of the Company having severance compensation
agreements similar to this Agreement;
(iii)after a Change in Control, any failure by the Company to continue
in effect any benefit plan or arrangement (including, without limitation, the
Company's group life insurance plan, and medical, dental, accident and
disability plans) in which the Executive is participating at the time of a
Change in Control (or any other substitute plans providing the Executive with
substantially similar benefits) (hereinafter referred to as "Benefit Plans"), or
the taking of any action by the Company which would adversely affect the
Executive's participation in or materially reduce the Executive's benefits under
any such Benefit Plan or deprive the Executive of any material fringe benefit
enjoyed by the Executive at the time of a Change in Control;
(iv) after a Change in Control, any failure by the Company to continue
in effect any incentive plan or arrangement (including, without limitation, the
Company's Management Incentive Plan, and the right to receive performance awards
and similar incentive compensation benefits) in which the Executive is
participating at the time of a Change in Control (or any other substitute plans
or arrangements providing him with substantially similar benefits) (hereinafter
referred to as "Incentive Plans") or the taking of any action by the Company
which would adversely affect the Executive's participation in any such Incentive
Plan or reduce the Executive's benefits under any such Incentive Plan, expressed
as a percentage of his base salary, by more than 10 percentage points in any
fiscal
<PAGE> 4
year as compared to the immediately preceding fiscal year;
(v) after a Change in Control, any failure by the Company to continue
in effect any plan or arrangement to receive securities of the Company
(including, without limitation, the Company's 1991 Restated Stock Option Plan
and any other plan or arrangement to receive and exercise stock options, stock
appreciation rights, restricted stock or grants thereof) in which the Executive
is participating at the time of a Change in Control of the Company (or
substitute plans or arrangements providing him with substantially similar
benefits) (hereinafter referred to as "Securities Plans") or the taking of any
action by the Company which would adversely affect the Executive's participation
in or materially reduce the Executive's benefits under any such Securities
Plans;
(vi) after a Change in Control, requirement by the Company of the
Executive's relocation to any place other than the location at which the
Executive performed the Executive's duties prior to a Change in Control, except
for required travel by the Executive on the Company's business to an extent
substantially consistent with the Executive's business travel obligations at the
time of a Change in Control;
(vii) after a Change in Control, any failure by the Company to provide
the Executive with the number of paid vacation days to which the Executive is
entitled at the time of a Change in Control;
(viii) any material breach by the Company of any provision of this
Agreement;
(xi) any failure by the Company to obtain the assumption of this
Agreement by any successor or assign of the Company in accordance with Section 7
hereof: or
(x) any purported termination of the Executive's employment which is
not effected pursuant to a Notice of Termination, and for purposes of this
Agreement, no such purported termination shall be effective.
(d) The term "Notice of Termination" shall mean a written notice which
shall indicate those specific termination provisions in this Agreement relied
upon and which sets forth in reasonable detail the facts and circumstances
claimed to provide a basis for termination of the Executive's employment under
the provision so indicated. For purposes of this Agreement, no such purported
termination by the Company shall be effective without such Notice of
Termination.
e) the term "Date of Termination" shall mean (i) if the Executive's
employment is terminated by the Company for Disability, 30 days after Notice of
Termination is given to the Executive (provided that the Executive shall not
have returned to the performance of the Executive's duties on a full-time basis
during such 30-day period) or (b) if the Executive's employment is terminated by
the Company for any other reason, the date on which a Notice Of Termination is
given; provided that if within 30 days after any Notice of Termination is given
to the Executive by the Company the Executive notifies the Company that a
dispute exists concerning the Termination, the Date of Termination shall be the
date the dispute is finally determined, whether by mutual agreement by the
parties or upon final judgment, order or decree of a court of Competent
jurisdiction (the time for appeal therefrom having expired and no appeal having
been perfected).
4, Severance Compensation
(a) Subject to the provisions of section 4 (b) below, and subject to the
Executive's continuing
<PAGE> 5
compliance with the provisions of Section 6 hereof and the Agreement Regarding
Confidential Information and Intellectual Property attached hereto as Exhibit A,
the compensation and benefits payable to the Executive pursuant to this
Agreement shall be the following (collectively the "Severance Benefits"):
(i} The Company shall pay to the Executive in cash an amount equal to
the Executive's aggregate compensation from the Company for the twelve (12)
months ending upon the Change in Control. Such amount shall be payable by, the
Company in twelve (12) equal monthly installments payable on the first day of
each month commencing with the month following the Executive's Date of
Termination. For purposes of this Section 4(a)(1), the Executive's
"compensation" preceding a Change in Control shall include the Executive's base
salary and any amounts paid or accrued pursuant to any Incentive Plans, but
shall not include any amounts or benefits paid or accrued pursuant to any
Benefit Plans or any Securities Plan nor shall it include the value of any other
fringe benefits,
(ii} Within thirty (30) days following the Date of Termination, the
Company shall pay to the Executive, in a lump sum in cash, any accrued but
unpaid salary, vacation and awards under any Incentive Plans earned but not paid
as of the Date of Termination;
(iii) Effective not later than the Date of Termination, the Company
shall (notwithstanding any contrary provision in any Securities Plan or any
employment agreement) accelerate and make immediately exercisable in full all
unvested options and other rights which the Executive holds under any Securities
Plans as of the Date of Termination, and all such options and rights shall be
exercisable for an exercise period of 60 days following the Date of Termination;
and
(iv) The Company at its own expense shall maintain in full force and
effect for the Executive's continued benefit until the earlier of (i) one (1)
year after the Date of Termination or (ii) the Executive's commencement of
full-time employment with a new employer, medical and dental (but not life
insurance or disability) plans, programs or arrangements in which the Executive
was entitled to participate immediately prior to the Date of Termination,
provided that his continued participation is possible under the general terms
and provisions of such plans and programs. In the event that his participation
in any such plan or program is barred, the Company shall arrange to provide the
Executive with benefits substantially similar to those to which he was entitled
to receive under such plans and programs.
(b) Notwithstanding the foregoing, any Severance Benefits otherwise payable to
the Executive hereunder shall be limited as follows:
(I) No Severance Benefits shall be payable to the Executive under this
Agreement to the extent that the total of such Severance Benefits and any
payments otherwise payable to the Executive by the Company on or after a Change
in Control, which would be deemed under Section 280( of the Internal Revenue
Code of 1986 as amended (the "Code"), to constitute "parachute payments" without
regard to Section 280G(b)(2)(A)(ii), would equal or exceed in their present
value (as determined under Section 280G(d)(4) of the Code and any regulations
thereunder) 300% of the Executive's base amount (as defined in Section 280G (b)
(3) of the Code and regulations thereunder). In the event that the present value
of such payments equals or exceeds such amount, the provisions set forth below
will apply, and Severance Benefits payable to the Executive under this Agreement
will be made only in accordance with this Section 4(b) notwithstanding any other
provision to the contrary in this Agreement.
(ii) Not later than thirty (30) days after the Date of Termination, the
Company will
<PAGE> 6
provide the Executive with a schedule specifying the present value of such
Severance Benefits payable to the Executive under this Agreement (specifying the
Section hereof under which each such payment is to be made) and any other
payments otherwise payable to the Executive by the Company on or after the
Change in Control which, in the Company's opinion, could constitute parachute
payments under Section 280G. No payments under this Agreement shall be made
until after thirty (30) days from the receipt of such schedule by the Executive.
At any time prior to the expiration of said 30-day period, the Executive shall
have the right to select from all or part of any category of payment to be made
under this Agreement those payments to be made to the Executive in an amount the
present value of which (when combined with the present value of any other
payments otherwise payable to the Executive by the Company that may be deemed to
be parachute payments) the Company determines is less than 300% of the
Executive's base amount. If the Executive fails to exercise his right to make a
selection, the selection shall be made by the Company.
(iii) At any time prior to exercising the right to make a selection
under paragraph (ii) of this Section 4(b), the Executive shall have the right to
request that the Company obtain a ruling from the Internal Revenue Service
("Service") as to whether any or all payments listed on the schedule provided
hereunder are, in the view of the Service, parachute payments under section
280G. Such ruling shall be sought made at the Company's expense unless, in the
written opinion of independent counsel for the Company, there is no reasonable
likelihood of obtaining a favorable ruling, in which event such expense shall be
borne by the Executive. If a ruling is sought pursuant to such request, no
Severance Benefit under this Agreement shall be paid to the Executive until
after thirty (30) days from the date the Company provides the Executive with a
copy of such ruling, and the period during which the Executive may exercise his
right to make a selection under paragraph (ii) hereof shall be extended to a
date thirty (30) days from such date. For purposes of this Section 4(b), the
Executive and the Company hereby agree to be bound by the Service's ruling as to
whether payments constitute parachute payments under Section 280G. If the
Service declines, for any reason, to provide the ruling requested, the Company's
determination with respect to what payments constitute parachute payments shall
control, and the period during which the Executive may exercise his right to
make a selection under paragraph (ii) hereof shall be extended to a date thirty
(30) days from the date of the Service's notice indicating that no ruling will
be forthcoming.
(iv) The references to Section 280G herein are specific references to
Section 280G as amended to date. If Section 280G is amended prior to the
expiration or termination of this Agreement, or replaced by a successor statute,
the limitations imposed by this Section 4(b) upon payments to be made to the
Executive under this Agreement shall be deemed modified without further action
of the parties so as to provide only for such limitations that are consistent
with such amendment(s) or successor statute(s), as the case may be. In the event
that Section 280G, or any successor statute, is repealed, this Section 4(b)
shall cease to be effective on the date of such repeal. The parties to this
Agreement recognize that final Treasury Regulations under Section 280G may
affect the amounts that may be paid hereunder and agree that, upon issuance of
such final Regulations, this Agreement may be modified as in good faith deemed
necessary in light of the provisions of such Regulations to achieve the purposes
hereof, and that consent to such modification(s) shall not be unreasonably
withheld
5. No Obligation To Mitigate Damages; No Effect on Other Contractual Rights.
(a) The Executive shall not be required to mitigate damages or the amount of any
payment provided for under this Agreement by seeking other employment or
otherwise, nor shall the amount of any payment provided for under this Agreement
be reduced by any compensation earned by the Executive as the result of
employment by another employer after the Date of Termination, or
<PAGE> 7
otherwise.
(b) The provisions of this Agreement, and any payment provided for hereunder,
shall not reduce any amounts otherwise payable, or in any way diminish the
Executive's existing rights, or rights which would accrue solely as a result of
the passage of time, under any Benefit Plan, Incentive Plan or Securities Plan,
employment agreement or other contract, plan or arrangement.
<PAGE> 8
6. Non-Competition; Confidentiality.
(a) The Executive covenants and agrees that if the Executive shall become
entitled to compensation hereunder as provided in Section 3 hereof, then for a
period of twelve (12) months following the Date of Termination, the Executive
shall not, without the Company's prior written consent, engage, directly or
indirectly, in any work or other activity which is in competition with the
business of the Company in the local area network or internetworking field in
any geographical area in which the Company conducts or is then actively planning
to conduct business at the Date of Termination. By way of example only of the
types of activities prohibited hereby, the Executive shall not: solicit or
accept (or assist any person or entity in soliciting or accepting) any business
in the local area network or internetworking field from any person or entity who
or which was an active account of the Company at the Date of Termination
(b) Contemporaneously with the execution and delivery of this Agreement, the
Executive and the Company shall enter into an Agreement Regarding Confidential
Information and Intellectual Property in the Company's standard form, a copy of
which is attached hereto as Exhibit A.
7 Successors.
(a) The Company will require any successor or assign (whether direct or
indirect, by purchase, merger, consolidation or otherwise) to all or
substantially all of the business and/or assets of the Company, by agreement in
form and substance satisfactory to the Executive, expressly, absolutely and
unconditionally to assume and agree to perform this Agreement in the same manner
and to the same extent that the Company would be required to perform it if no
such succession or assignment had taken place. Any failure of the Company to
obtain such agreement prior to the effectiveness of any such succession or
assignment shall be a material breach of this Agreement and shall entitle the
Executive to terminate the Executive's employment for Good Reason. As used in
this Agreement, "Company" shall mean the Company as hereinbefore defined and any
successor or assign to its business and/or assets as aforesaid which executes
and delivers the agreement provided for in this Section 7 or which otherwise
becomes bound by all the terms and provisions of this Agreement by operation of
law. If at any time during the Term of this Agreement the Executive is employed
by any corporation a majority of the Voting Power of which is then owned by the
Company, directly or indirectly, "Company" as used in Sections 3,4 and 12 hereof
shall in addition include such employer. In such event, the Company agrees that
it shall pay or shall cause such employer to pay any amounts owed to the
Executive pursuant to Section 4 hereof
(b) This Agreement shall inure to the benefit of and be enforceable by the
Executive's personal and legal representatives, executors, administrators,
successors, heirs, distributees, devisees and legatees. If the Executive should
die while any amounts are still payable to him hereunder, all such amounts,
unless otherwise provided herein, shall be paid in accordance with the terms of
this Agreement to the Executive's devisee, legatee, or other designee or, if
there be no such designee, to the Executive's estate.
8. Notice. For purposes of this Agreement, notices and all other communications
provided for in the Agreement shall be in writing and shall be deemed to have
been duly given when delivered in person (including by any commercial courier
service) or three (3) days after mailing by United States certified or
registered mail, return receipt requested, postage prepaid, to a party at his or
its address set forth at the beginning of this Agreement or such other address
as either party may have furnished to the other in writing in accordance
herewith, except that notices of change of address shall be effective only upon
receipt.
<PAGE> 9
9. Miscellaneous. No provisions of this Agreement may be modified, waived or
discharged unless such waiver, modification or discharge is agreed to in writing
signed by the Executive and the Company. No waiver by either party hereto at any
time of any breach by the other party hereto of, or compliance with, any
condition or provision of this Agreement to be performed by such other party
shall be deemed a waiver of similar or dissimilar provisions or conditions at
the same or at any prior or subsequent time. No agreements or representations,
oral or otherwise, express or implied, with respect to the subject matter hereof
have been made by either party which are not set forth expressly in this
Agreement. This Agreement shall be governed by and construed in accordance with
the laws of the Commonwealth of Massachusetts (without regard to conflicts of
laws rules).
10. Validity. The invalidity or unenforceability of any provisions of this
Agreement shall not affect the validity or enforceability of any other provision
of this Agreement, which shall remain in full force and effect
11. Counterparts. This Agreement may be executed in one or more counterparts,
each of which shall be deemed to be an original but all of which together will
constitute one and the same instrument. 12. Legal Fees and Expenses. The Company
shall pay all legal fees and expenses which the Executive may incur as a result
of the Company's contesting the validity, enforceability or the Executive's
interpretation of, or determinations under, this Agreement.
13. Further Assurances. The Company shall do, make, execute and deliver all such
additional and further acts, things, assurances and instruments as the Executive
may reasonably request in order to assure to the Executive his rights hereunder
and to carry into effect the provisions and intent of this Agreement. Without
limiting the generality of the foregoing, the Company shall, upon request of the
Executive, convert any options under any Securities Plan which are "incentive
stock options" into "non-qualified options" and amend outstanding option
agreements in a manner not inconsistent with such Securities Plans
IN WITNESS WHEREOF, the parties have executed this Severance Compensation
Agreement as of the date first above written.
OPENROUTE NETWORKS, INC.
By: ---------------------------------------------
Title: President and Chief Executive Officer
-------------------------------------------------
Executive
<PAGE> 1
EX-13 ANNUAL REPORT
STOCK PRICE HISTORY (unaudited)
The following table sets forth the high and low sales prices of the Company's
Common Stock, which trades under the symbol "OPEN", as Reported on the NASDAQ
Stock Market from January 1, 1997 to December 31, 1998. As of December 31, 1998,
the Company had approximately 507 stockholders of record. The Company has paid
no dividends on its Common Stock and anticipates that it will continue to
reinvest earnings to finance future growth.
<TABLE>
<CAPTION>
For year ended December 31, 1998 High Low
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
First Quarter 1 3/8 1
Second Quarter 1 21/32 1 1/32
Third Quarter 1 7/16 3/4
Fourth Quarter 1 29/32 11/16
</TABLE>
<TABLE>
<CAPTION>
For year ended December 31, 1997 High Low
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
First Quarter 3 11/16 1 5/16
Second Quarter 2 15/16 1 7/16
Third Quarter 2 1/2 1 9/16
Fourth Quarter 3 1/2 1 1/32
</TABLE>
<PAGE> 2
EX-13 (Cont'd) ANNUAL REPORT
SELECTED CONSOLIDATED FINANCIAL DATA
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
- ---------------------------------------------------------------------------------------------------------
Years ended December 31,
(in thousands, except per share data) 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net sales $ 14,326 $ 26,944 $ 45,296 $ 75,323 $ 93,912
Cost of sales 8,596 15,340 25,670 36,664 48,148
- ---------------------------------------------------------------------------------------------------------
Gross profit 5,730 11,604 19,626 38,659 45,764
Operating expenses:
Research and development 4,610 5,987 9,353 8,802 11,162
Selling and marketing 8,018 10,703 15,486 17,903 23,955
General and administrative 5,376 3,870 4,590 4,683 7,065
Restructure costs -- (241) 3,312 -- 6,330
- ---------------------------------------------------------------------------------------------------------
Total operating expenses 18,004 20,319 32,741 31,388 48,512
- ---------------------------------------------------------------------------------------------------------
(Loss) income from operations (12,274) (8,715) (13,115) 7,271 (2,748)
Interest income (expense), net 589 1,052 1,261 1,437 455
Other income -- -- -- -- 1,205
- ---------------------------------------------------------------------------------------------------------
(Loss) income before income taxes (11,685) (7,663) (11,854) 8,708 (1,088)
Provision (benefit) for income taxes 175 184 160 488 251
- ---------------------------------------------------------------------------------------------------------
Net (loss) income ($11,860) ($ 7,847) ($12,014) $ 8,220 ($ 1,339)
- ---------------------------------------------------------------------------------------------------------
Net (loss) income per share -
basic and diluted ($ 0.77) ($ 0.51) ($ 0.77) $ 0.52 ($ 0.09)
Weighted average number of common
shares outstanding- basic and diluted 15,312 15,301 15,630 15,692 14,808
- ---------------------------------------------------------------------------------------------------------
CONSOLIDATED BALANCE SHEET DATA:
Working capital $ 12,436 $ 23,620 $ 30,597 $ 39,006 $ 27,550
Total assets 20,278 33,403 45,571 59,029 56,911
Stockholders' equity 15,151 26,892 35,191 47,323 37,679
</TABLE>
<PAGE> 3
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The following discussion and analysis should be read in conjunction with the
consolidated financial statements and notes thereto.
RESULTS OF OPERATIONS
During 1998 the Company completed its corporate repositioning from the LAN
business environment to the Internet Access marketplace.
LAN revenues declined from 32.4% of total revenue in 1997 to 19.9% of total
revenue in 1998. LAN units shipped was reduced from 73% in 1997 to 31% in 1998
of total units shipped. Internet Access products grew from 50.2 % of
total revenue in 1997 to 52.8% of total revenue in 1998 and reached 71% of the
Company's total revenue in the fourth quarter of 1998. Internet Access product
unit shipments represented 27% of the total units shipped in 1997 and 68% in
1998 reflecting the focus of the Company in the growing Internet Access
marketplace. Overall Internet Access product unit shipments increased by 12.7%
in 1998 from 1997 while LAN unit shipments declined by 80.9%.
NET SALES
Product sales decreased by 53.2% to $10,416,000 in 1998 from $22,248,000 in
1997. This decline reflects the completion of OpenROUTE's planned corporate
repositioning from LAN products to Internet Access products. Although overall
product revenue declined in 1998, Internet Access product unit sales increased
12.7% from 1997. Internet Access product revenue declined by 44.7% in 1998
primarily due to a 75% drop in average selling prices of certain older Corporate
Internet Access products. Average selling prices for the Company's GT Internet
Access products, although declining 25% for the year, remained relatively stable
after the first quarter of 1998. LAN product revenue declined to $2,858,000 in
1998 or by 67.2% from 1997 levels. Software licensing revenue in 1998 increased
to $1,663,000 from $895,000 in 1997 primarily reflecting the revenue produced
from a single software licensing agreement with a major international
telecommunications company. The Company expects that it will continue to have
software licensing revenue in the future, however at varying and uncertain
levels since software licensing revenue is an ancillary component of the
Company's core revenue stream but strategic in its promotion of OpenROUTE
routing technology in the marketplace. Service and other sales in 1998 decreased
by 40.9% to $2,247,000 from $3,801,000 in 1997. This decrease was primarily due
to the reduction in service contracts and upgrade revenue worldwide resulting
from the Company's transition to Internet Access products which require less
support services.
Product sales decreased by 30.9% to $22,248,000 in 1997 from $32,175,000 in
1996. This anticipated decline reflects OpenROUTE's continuing product
transition from LAN products to Internet Access products. Although overall
product revenue declined in 1997, GlobeTrotter product revenue increased 76.5%
from 1996 as a result of increased unit sales. Corporate Enterprise and LAN
product revenue declined in 1997 by 43.3% from 1996 levels. Software licensing
revenue in 1997 decreased by 88.1% to $895,000 from $7,530,000 in 1996
reflecting the declining revenue produced from the IBM and Digital Equipment
software licensing agreements. The Company expects that it will continue to have
software licensing revenue in the future, however at varying and uncertain
levels since software licensing revenue is an ancillary component of the
Company's core revenue stream but strategic in its promotion of OpenROUTE
routing technology in the marketplace. Service and other sales in 1997 decreased
by 32.0% to $3,801,000 from $5,591,000 in 1996. This decrease was primarily due
to the reduction in service contracts and upgrade revenue
<PAGE> 4
worldwide resulting from the Company's transition to Internet Access products
which require less support services.
International sales accounted for approximately 30.9%,35.4%, and 38.3% of net
sales in 1998, 1997, and 1996, respectively.
GROSS PROFIT
Total price gross profit margin decreased in 1998 to 40.0% from 43.1% in 1997.
Gross margin on product revenue decreased to 34.4% in 1998 from 42.8% in 1997
principally due to the drop in the average selling prices of the Company's
Internet Access products and certain inventory write downs. Gross margin on
service and other revenues declined to 21.7% in 1998 from 31.1% in 1997
primarily due to a decline in service revenue. The decline in the service margin
was offset by the highly profitable software licensing margins.
Total gross profit margin decreased slightly in 1997 to 43.1% from 43.3% in
1996. Gross margin on product revenue improved significantly to 42.8% in 1997
from 35.3% in 1996 principally due to the expansion of the GT product line into
a number of higher margin models as well as to reductions in manufacturing
overhead expenses. Gross margin on service and other revenues also increased to
31.1% in 1997 from 23.0% in 1996 primarily due to improved efficiencies in the
customer service area. However, these improvements were not sufficient to offset
the substantial decline in software licensing revenue which is highly
profitable.
RESEARCH AND DEVELOPMENT
The Company considers product development expenditures to be critical to future
revenues. These activities are closely related to product enhancement and new
product development. The Company's strategy also includes joint development
partnerships to bring new technologies and products to market. All of the
Company's research and development costs to date have been expensed as incurred.
Research and development expenses were $4,610,000 or 32.2%, $5,987,000 or 22.2%,
and $9,353,000 or 20.6% of net sales in 1998, 1997 and 1996, respectively. The
decrease in expenses of $1,377,000 in 1998 from 1997 was primarily due to lower
personnel and personnel-related costs. When comparing 1997 to 1996, the decrease
in research and development expenses of $3,366,000 in 1997 from 1996 was
primarily due to lower personnel and personnel-related costs as well as a more
defined focus on the Internet Access products only.
In 1998 the Company continued to focus its efforts on enhancement of existing
products and the development of new products.
Major efforts in 1997 included the continuing development of the GlobeTrotter
series of products with the introduction of several new models during the year.
SELLING AND MARKETING
Selling and marketing expenses were $8,018,000 or 56.0%, $10,703,000 or 39.7%,
and $15,486,000 or 34.2% of net sales in 1998, 1997 and 1996, respectively. The
decrease in expenses in 1998 from 1997 of $2,685,000 was primarily the result of
lower personnel and personnel-related costs including sales commissions due to
the decline in revenues in 1998 from 1997. The Selling and marketing cost
reduction in 1998 as compared to 1997 is also attributable to the Company's
<PAGE> 5
repositioning to focus mainly on the Internet Access products which resulted in
the achievement of marketing cost efficiencies. In 1997 sales and marketing
expenses decreased by $4,783,000 when compared to 1996. This decrease was due
mainly to lower personnel and personnel-related costs.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $5,376,000, $3,870,000, and $4,590,000
in 1998, 1997 and 1996, respectively. The increase in expenses of $1,506,000 in
1998 from 1997 was primarily due to severance payments and accruals that were
made as a result of cost containment measures that were implemented during the
year. Also, additional legal expenses were incurred during 1998 that resulted
from an on-going lawsuit, initiated by OpenROUTE Networks, against two companies
relating to the transfer of OpenROUTE software licensing rights without
OpenROUTE's required consent. When comparing 1997 to 1996, the decrease in
expenses of $720,000 was largely due to lower personnel and personnel-related
costs.
RESTRUCTURING OF OPERATIONS
The Company's management continually reviews methods to reduce the Company's
expense base in response to decreased revenue streams. As a result, the Company
has implemented a series of restructurings, the most recent of which transpired
in 1996. This restructuring of operations was necessary to reestablish the
strategic direction of the Company and better align its operating expenses with
anticipated revenues.
In the fourth quarter of 1996, the Company recorded a $3,312,000 restructuring
charge in connection with its strategic redirection of the Company's business to
the Internet access marketplace. This charge included approximately $410,000 of
severance costs, approximately $785,000 to reduce the Company's occupancy
requirements, approximately $1,922,000 associated with the disposal of fixed
assets, and $195,000 of other costs. During 1996 the cash impact for
restructuring was insignificant and as of December 31, 1996 there was an accrual
of $1,661,000 relating to future spending.
During 1997, the Company incurred cash expenditures in connection with the 1996
restructuring of approximately $495,000 for severance and payroll related costs,
approximately $672,000 as a result of reducing its occupancy costs and $253,000
in other restructuring related costs. Management has determined that all of the
Company's obligations from the 1996 and prior restructurings have been settled.
Accordingly, the Company reversed its remaining restructuring provision of
$241,000 in the third quarter of 1997.
PROVISION FOR INCOME TAXES
In 1998, the Company recorded an income tax provision of $175,000 primarily due
to foreign taxes on income earned outside the United States. The difference
between the effective tax rate and the statutory tax rate for 1998 is mainly due
to net operating loss carryforwards whose future realization is uncertain.
In 1997, the Company recorded an income tax provision of $184,000 primarily due
to foreign taxes on income earned outside the United States. The difference
between the effective tax rate and the statutory tax rate for 1997 is mainly due
to net operating loss carryforwards whose future realization is uncertain.
<PAGE> 6
In 1996, the Company recorded an income tax provision of $160,000, primarily due
to foreign taxes on income earned outside the United States. The difference
between the effective tax rate and the statutory tax rate for 1996 is also due
primarily to net operating loss carryforwards whose future realization is
uncertain.
YEAR 2000
The "Year 2000 Issue" is the result of computer programs that were written using
two digits rather than four to define the applicable year. If computer programs
with date sensitive functions are not Year 2000 compliant, they may recognize a
date using "00" as the Year 1900 rather than the Year 2000. This could result in
a system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions or
engage in similar normal business activities.
The Company has initiated a program to review the Year 2000 readiness of its
internal systems, the Company's product line, and of third party suppliers and
vendors. The program consists of: (i) inventory of products and suppliers to
determine systems which may encounter date processing problems; (ii) assessment
of the Year 2000 issues presented; (iii) remediation, if necessary, of products
owned or manufactured by the Company; (iv) testing of systems; and (v)
contingency plans. The program's implementation varies depending upon the
problems or issues encountered, and their resolution.
PRODUCTS MANUFACTURED BY THE COMPANY. The Company's main business since its
formation has consisted primarily of the manufacture and sale of: (i) Remote
Access Routers used to access the Internet; (ii) Local Area Network (LAN)
equipment used to link together computers and peripheral devices; and (iii)
Network Interface Cards (NIC), which connect computer workstations to a network.
The Company has installed its own proprietary software in all of its
manufactured Remote Access Routers and LANs, and at times has licensed this
software to third parties. The Company's installed proprietary software and the
products manufactured and sold by the Company, now and in the past, do not track
or report dates, are not date dependent, and are Year 2000 compliant. The
Company's manufactured NIC cards do not contain any date-dependent functions,
and thus also are Year 2000 compliant. Therefore, the Company does not expect
that Year 2000 processing problems will occur in products sold by the Company,
or that Year 2000 product problems would have a material effect on the Company's
business, financial condition, or the results of operations.
INTERNAL BUSINESS SOFTWARE AND SYSTEMS. The Company in 1998 conducted an
inventory of its internal business systems, to determine whether any Year 2000
processing problems existed in critical equipment or systems. As a result, and
as part of a corporate program intended to reduce cycle time and improve
efficiency, the Company purchased new business operations systems which operate
the Company's financial, administrative, business, manufacturing, and customer
service functions. The software vendor has indicated these systems are Year 2000
compliant. The Company has completed the installation of this system in January
1999 and has successfully closed the fiscal month of January and February 1999.
The Company has a one year limited warranty on these systems commencing from the
date of delivery, which would expire before January 1, 2000.
The Company also has installed a new telephone system under a long-term lease
which it understands is Year 2000 compliant. However, if testing demonstrates
unexpected Year 2000 problems in these new systems, there would be no assurance
that the Year 2000 problems would not have a material impact on the Company's
internal operations and would not materially impact the Company's business,
<PAGE> 7
financial conditions or results of operations.
The Company expended $340,000 in Year 2000 system costs in 1998. Some of these
costs have been capitalized under generally accepted accounting practices. The
Company expects to incur additional expenditures of $175,000 in 1999 related to
Year 2000 equipment purchases and leases, including consulting fees, license
agreements and lease payments.
READINESS OF THIRD PARTY SUPPLIERS AND VENDORS. The Company relies on third
party suppliers, service providers, and contractors for critical services,
including utility power and telephone, parts and supplies. In addition, the
Company sells its products to customers, including Internet service providers
and others, which are highly dependent on computers, and which could be
adversely affected by their own or their suppliers' lack of Year 2000 readiness.
The Company has conducted an inventory of its critical suppliers, service
providers, and contractors to determine the extent to which the Company's
operations could be affected by those third parties' failure to remedy their own
Year 2000 issues. This exercise was substantially completed in March 1999. Most
of the Company's critical suppliers, service providers, and contractors are also
in the high technology field, thus year 2000 compliance has received intense
attention throughout the vendors' base. OpenRoute's major contract manufacturer,
U.S. Assemblies, has recently completed implementation of the year 2000
compliant version of MAPICS for their Material Resource Planning.
Following completion of its inventory and assessment of third party readiness,
the Company will determine whether testing, verification, or contingency plan
procedures are necessary. The most reasonably likely worst case scenario if
suppliers or customers were not Year 2000 compliant would be interruption in the
Company's ability to manufacture or deliver its products through loss of power,
supply shortages, or disruption of delivery systems, or a material decrease in
the sale of products if customers lose substantial business or divert
substantial resources to uncorrected Internet Year 2000 problems. The Year 2000
readiness of outside suppliers or customers is outside the Company's control.
There can be no assurance that the failure of third party suppliers or the
Company's customers to effectively remedy Year 2000 defects would not have a
material adverse impact on the Company's business, results of operations, or
financial condition.
The above description contains "forward-looking" statements addressing
uncertainties and future events relating to the Company's Year 2000 issues.
These statements are based on assumptions and predictions which are difficult to
verify and may change over time. The Company expects that future events and
information, if known by the Company, may affect assessment of the Year 2000
issues potentially affecting the Company.
NEWLY ISSUED ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivatives Instruments and Hedging Activities" ("SFAS No.
133"). SFAS No. 133 requires companies to recognize all derivatives contracts as
either assets or liabilities in the balance sheet and to measure them at fair
value. If certain conditions are met, a derivative may be specifically
designated as a hedge, the objective of which is to match the timing of gain or
loss recognition on the hedging derivative with the recognition of (i) the
changes in the fair value of the hedged assets or liability or (ii) the earnings
effect of the hedged forecasted transaction. For a derivative not designated as
a hedging instrument, the gain or loss is recognized in income in the period of
change. SFAS No. 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999.
<PAGE> 8
Historically, the Company has not entered into derivative contracts either to
hedge existing risks or for speculative purposes. Accordingly, the Company does
not expect adoption of the new standard to affect its financial statements.
LIQUIDITY AND CAPITAL RESOURCES
During 1998, the Company consumed $12,040,000 of cash from operating activities.
This was due primarily to the net operating loss of $11,860,000, an increase in
inventory of $2,836,000, and a decrease in accounts payable and accrued expenses
of $1,384,000. This was offset by depreciation of $1,191,000 and a decrease in
accounts receivable of $2,323,000. Working capital decreased to $12,436,000 in
1998 from $23,620,000 in 1997.
Investing activities during 1998 generated net proceeds of $8,628,000
principally from the sales of marketable securities.
The Company's management believes that if it achieves its twelve month operating
plan, then current levels of cash, cash equivalent, and marketable securities
will satisfy its expected working capital and capital expenditure requirements
through the next twelve months. If the operating plan is not achieved, it is
likely that it will be necessary to secure alternative forms of financing and
there is no assurance that the financing would be available when needed or, on
terms favorable to the Company. Accordingly, the Company's 1998 Report of
Independent Certified Public Accountants includes a going concern explanatory
paragraph. The Company is in the process of obtaining additional working capital
financing to fund expected future growth.
SAFE HARBOR FOR FORWARD-LOOKING STATEMENTS
The 1998 Annual Report, including the President's Letter and the Management's
Discussion and Analysis of Financial Condition and Results of Operations,
contains forward-looking statements within the meaning of the "safe harbor"
provisions of the Private Securities Litigation Reform Act of 1995. These
forward-looking statements are based on management's current expectations and
involve a number of risks and uncertainties. The Company's future results remain
difficult to predict and may be affected by a number of factors including:
business conditions within the networking industry; timing of orders from and
shipments to major customers; timing of new products introductions; acceptance
of products in the marketplace; increased competition; changes in manufacturing
costs; changes in the mix of product sales and changes in world economic
conditions. Other risk factors are listed from time to time in the required
documents including the Company's Annual Report on Form 10-K, filed with the
Securities and Exchange Commission (SEC).
<PAGE> 9
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------
December 31, 1998 1997
- --------------------------------------------------------------------------------------------------------
(In thousands)
<S> <C> <C>
ASSETS
CURRENT:
Cash and cash equivalents $ 2,024 $ 5,317
Marketable securities (Note 3) 3,128 12,443
Accounts receivable less reserve for doubtful accounts of $1,424,000
and $927,000 at December 31, 1998 and 1997, respectively 3,356 6,224
Inventories (Note 4) 8,546 5,710
Deposits and other assets 509 437
- --------------------------------------------------------------------------------------------------------
Total current assets 17,563 30,131
PROPERTY AND EQUIPMENT, NET (Note 5) 2,715 3,272
- --------------------------------------------------------------------------------------------------------
Total assets $ 20,278 $ 33,403
- --------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 1,449 $ 2,292
Accrued compensation 353 765
Accrued expenses 2,743 2,779
Accrued warranty 582 675
- --------------------------------------------------------------------------------------------------------
Total current liabilities 5,127 6,511
- --------------------------------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES (NOTES 6,7 AND 11)
STOCKHOLDERS' EQUITY: (NOTE 7)
Preferred stock, par value $.01 per share, authorized 7,500,000 shares,
none issued -- --
Common stock, par value $.01 per share, authorized 30,000,000 shares, issued
15,740,305 and 15,669,524 shares at
December 31, 1998 and 1997, respectively 157 157
Capital in excess of par value 49,418 49,347
Accumulated deficit (33,526) (21,666)
Accumulated other comprehensive income 112 110
Less treasury stock, at cost, 390,769 and 407,435 shares
at December 31, 1998 and 1997, respectively (1,010) (1,056)
- --------------------------------------------------------------------------------------------------------
Total stockholders' equity 15,151 26,892
- --------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 20,278 $ 33,403
- --------------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 10
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(NOTE 8)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------
Years ended December 31, 1998 1997 1996
- -------------------------------------------------------------------------------------------------
(In thousands, except per share data)
<S> <C> <C> <C>
SALES:
Product $ 10,416 $ 22,248 $ 32,175
Service and other 2,247 3,801 5,591
Software licensing 1,663 895 7,530
- -------------------------------------------------------------------------------------------------
Net sales 14,326 26,944 45,296
- -------------------------------------------------------------------------------------------------
COST OF SALES:
Product 6,836 12,722 20,825
Service and other 1,760 2,618 4,307
Software licensing -- -- 538
- -------------------------------------------------------------------------------------------------
Cost of sales 8,596 15,340 25,670
- -------------------------------------------------------------------------------------------------
GROSS PROFIT 5,730 11,604 19,626
- -------------------------------------------------------------------------------------------------
OPERATING EXPENSES:
Research and development 4,610 5,987 9,353
Selling and marketing 8,018 10,703 15,486
General and administrative 5,376 3,870 4,590
Restructure costs (Note 9) -- (241) 3,312
- -------------------------------------------------------------------------------------------------
Total operating expenses 18,004 20,319 32,741
- -------------------------------------------------------------------------------------------------
LOSS FROM OPERATIONS (12,274) (8,715) (13,115)
INTEREST INCOME, net of interest expense of $10,000 in 1996 589 1,052 1,261
- -------------------------------------------------------------------------------------------------
LOSS BEFORE PROVISION FOR INCOME TAXES (11,685) (7,663) (11,854)
PROVISION FOR INCOME TAXES (NOTE 10) 175 184 160
- -------------------------------------------------------------------------------------------------
NET LOSS $(11,860) $ (7,847) $(12,014)
- -------------------------------------------------------------------------------------------------
NET LOSS PER SHARE OF COMMON STOCK - BASIC AND DILUTED $ (.77) $ (.51) $ (.77)
- -------------------------------------------------------------------------------------------------
WEIGHTED AVERAGE NUMBER OF COMMON SHARES
OUTSTANDING - BASIC AND DILUTED 15,312 15,301 15,630
- -------------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 11
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Accumulated
Capital in Other
Common Stock Excess of Accumulated Comprehensive
Shares Amount Par Value Deficit Income
- ------------------------------------------------------------------------------------------------------------------------
(In thousands)
<S> <C> <C> <C> <C> <C>
BALANCE, December 31, 1995 15,589 $ 156 $49,141 $(1,805) $118
Issuance of common stock 48 - 151 - -
Repurchase of stock as treasury stock - - - - -
Comprehensive income (loss):
Foreign currency translation - - - - 59
Net loss - - - (12,014) -
- ------------------------------------------------------------------------------------------------------------------------
Total comprehensive loss - - - - -
- ------------------------------------------------------------------------------------------------------------------------
BALANCE, December 31, 1996 15,637 156 49,292 (13,819) 177
Issuance of common stock 33 1 55 - -
Repurchase of stock as treasury stock - - - - -
Comprehensive loss:
Foreign currency translation - - - - (67)
Net loss - - - (7,847) -
- ------------------------------------------------------------------------------------------------------------------------
Total comprehensive loss - - - - -
- ------------------------------------------------------------------------------------------------------------------------
BALANCE, December 31, 1997 15,670 157 49,347 (21,666) 110
Issuance of common stock 70 - 71 - -
Issuance of treasury stock - - - - -
Comprehensive income (loss):
Foreign currency translation - - - - 2
Net loss - - - (11,860) -
- ------------------------------------------------------------------------------------------------------------------------
Total comprehensive loss - - - - -
- ------------------------------------------------------------------------------------------------------------------------
BALANCE, December 31, 1998 15,740 $ 157 $49,418 $(33,526) $112
- ------------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Total
Treasury Stock Stockholders'
Shares Amount Equity
- -------------------------------------------------------------------------------------------
(In thousands)
<S> <C> <C> <C>
BALANCE, December 31, 1995 81 $ (287) $47,323
Issuance of common stock - - 151
Repurchase of stock as treasury stock 130 (328) (328)
Comprehensive income (loss):
Foreign currency translation - - 59
Net loss - - (12,014)
- -------------------------------------------------------------------------------------------
Total comprehensive loss - - (11,955)
- -------------------------------------------------------------------------------------------
BALANCE, December 31, 1996 211 (615) 35,191
Issuance of common stock - - 56
Repurchase of stock as treasury stock 196 (441) (441)
Comprehensive loss:
Foreign currency translation - - (67)
Net loss - - (7,847)
- -------------------------------------------------------------------------------------------
Total comprehensive loss - - (7,914)
- -------------------------------------------------------------------------------------------
BALANCE, December 31, 1997 407 (1,056) 26,892
Issuance of common stock - - 71
Issuance of treasury stock (17) 46 46
Comprehensive income (loss):
Foreign currency translation - - 2
Net loss - - (11,860)
- -------------------------------------------------------------------------------------------
Total comprehensive loss - - (11,858)
- -------------------------------------------------------------------------------------------
BALANCE, December 31, 1998 390 $(1,010) $15,151
- -------------------------------------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 12
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Years ended December 31, 1998 1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
(In thousands)
<S> <C> <C> <C>
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES:
Net loss $(11,860) $ (7,847) $(12,014)
Adjustments to reconcile net loss to net cash used by
operating activities:
Bad debt provision 545 439 -
Inventory provision - - 2,374
Depreciation and amortization 1,191 1,550 3,401
Restructuring cost - - 1,922
Loss (gain) on disposition of fixed assets 53 198 (117)
Changes in operating assets and liabilities:
Accounts receivable 2,323 962 4,513
Inventories (2,836) 3,027 (6,686)
Deposits and other assets (72) 768 372
Accounts payable
and accrued expenses (1,384) (3,869) (1,326)
- ---------------------------------------------------------------------------------------------------------------------------
Net cash used by operating activities (12,040) (4,772) (7,561)
- ---------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from the sale of fixed assets 23 182 117
Capital expenditures (710) (728) (1,600)
Marketable securities sales and maturities 16,980 19,428 15,456
Purchase of marketable securities (7,665) (24,953) (15,511)
- ---------------------------------------------------------------------------------------------------------------------------
Net cash provided (used) by investing activities 8,628 (6,071) (1,538)
- ---------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the issuance of common stock 71 56 151
Proceeds from issuance of treasury stock 46 - -
Purchase of treasury stock - (441) (328)
- ---------------------------------------------------------------------------------------------------------------------------
Net cash provided (used) by financing activities 117 (385) (177)
- ---------------------------------------------------------------------------------------------------------------------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 2 (67) 59
- ---------------------------------------------------------------------------------------------------------------------------
NET DECREASE IN CASH AND CASH EQUIVALENTS (3,293) (11,295) (9,217)
CASH AND CASH EQUIVALENTS, at beginning of year 5,317 16,612 25,829
- ---------------------------------------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS, at end of year $ 2,024 $ 5,317 $ 16,612
- ---------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for:
Income taxes $ 69 $ 230 $ 321
Interest $ - $ - $ 10
Non-cash financing activities:
Note receivable on sale of fixed assets $ 15 $ 120 $ -
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE> 13
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. OPERATIONS AND OpenROUTE Networks, Inc. (formerly Proteon, Inc.)
MANAGEMENTS PLANS and its subsidiaries (the "Company") develop,
market, and support a wide range of networking
products. The Company is engaged principally in
one business segment in the computer networking
industry having two lines of business; (i)
Internet access and (ii) local area network
access. The Company is positioned to focus on the
Internet access market. The Company's principal
geographic markets include the Americas, Europe
and the Far East.
The Company's consolidated financial statements
have been prepared on the basis that it will
continue as a going concern. The Company has
incurred net losses of approximately $11,860,000,
$7,847,000 and $12,014,000 for the years ended
December 31, 1998, 1997 and 1996, respectively.
The Company's current business strategy is focused
on the emerging Internet access market. As such,
success of future operations is subject to a
number of risks. Principal among these risks are
the successful marketing of its products, rapidly
changing technology, reliance on significant
customers, intense competition from substitute
products and significantly larger companies, and
the ability to obtain financing to fund future
operations. The above factors raise substantial
doubt about the Company's ability to continue as a
going concern.
Management's plans include a continued effort to
gain market share and increase its Internet access
product revenues. The Company has also continued
to monitor cost containment and has a plan to
implement further operating expense reductions as
it deems necessary. Additionally, the Company
is pursuing working capital financing to fund
future operating activities. The Company's ability
to continue as a going concern depends on the
success of management's plans, including obtaining
additional funding or establishing strategic
relationships and achieving projected operating
results. The accompanying consolidated financial
statements do not include any adjustments that
might result from the outcome of this uncertainty.
<PAGE> 14
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF
SIGNIFICANT
ACCOUNTING
POLICIES
(Continued)
Principles of The consolidated financial statements
Consolidation include the accounts of OpenROUTE Networks,
Inc. and its subsidiaries. Proteon, Inc.
changed its name to OpenROUTE Networks, Inc.
on June 10, 1998. OpenROUTE Networks, Inc.
was previously the name of a wholly-owned
subsidiary of Proteon, Inc. All intercompany
transactions and balances have been
eliminated in consolidation.
Use of Estimates The preparation of the financial statements
in conformity with generally accepted
accounting principles requires management to
make estimates and assumptions that affect
the reported amounts of assets and
liabilities and disclosure of contingent
assets and liabilities at the date of the
financial statements and the reported
amounts of revenues and expenses during the
reporting period. In particular, the Company
records reserves for estimated product
returns, collectibility of accounts
receivable, estimated inventory obsolescence
and estimated warranty obligations. All
estimates are based upon experience and
actual results could differ from the
estimates and assumptions used by
management.
Revenue The Company recognizes revenue from product
Recognition sales upon shipment of the product. Revenue
from service agreements is recognized
ratably over the term of the agreement.
Revenue from software licensing is
recognized upon performance of milestones
when collectibility is reasonably assured.
Translation of The Company has designated the local
Foreign currency as the functional currency for all
Currencies foreign locations. Accordingly, assets and
liabilities of all foreign subsidiaries
are translated at year-end rates of
exchange, and income statement accounts are
translated at the average rates of exchange
during the year. The resulting translation
adjustments are excluded from net earnings,
and accumulated as a separate component of
stockholders' equity.
Foreign currency transaction gains and
losses are included in results of operations
in the periods in which they occur, and are
immaterial for all periods presented.
Comprehensive In 1998, the Company adopted Statement of
Income (Loss) Financial Accounting Standards ("SFAS") No.
130 "Reporting Comprehensive Income". SFAS
No. 130 establishes rules for the reporting
of comprehensive income (loss) and its
components. Comprehensive income (loss)
consists of net income (loss) and foreign
currency translation adjustments and is
presented in the accompanying consolidated
statements of stockholders' equity. The
adoption of SFAS No. 130 had no impact on
total stockholders' equity. Prior year
financial statements have been reclassified
to conform to the SFAS No. 130 requirements.
<PAGE> 15
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF
SIGNIFICANT
ACCOUNTING
POLICIES
(Continued)
Hedging In June 1998, the Financial Accounting
Activities Standards Board issued SFAS No. 133,
"Accounting for Derivatives Instruments and
Hedging Activities" ("SFAS No. 133"). SFAS
No. 133 requires companies to recognize all
derivatives contracts as either assets or
liabilities in the balance sheet and to
measure them at fair value. If certain
conditions are met, a derivative may be
specifically designated as a hedge, the
objective of which is to match the timing of
gain or loss recognition on the hedging
derivative with the recognition of (i) the
changes in the fair value of the hedged
assets or liability or (ii) the earnings
effect of the hedged forecasted transaction.
For a derivative not designated as a hedging
instrument, the gain or loss is recognized
in income in the period of change. SFAS No.
133 is effective for all fiscal quarters of
fiscal years beginning after June 15, 1999.
Historically, the Company has not entered
into derivative contracts either to hedge
existing risks or for speculative purposes.
Accordingly, the Company does not expect
adoption of the new standard to affect its
financial statements.
Cash Equivalents The Company considers all highly liquid
and Marketable instruments purchased with a maturity of
Securities three months or less to be cash
equivalents. Marketable securities consist
of highly liquid investments with maturities
of more than three months when purchased.
Investments are stated at cost, plus accrued
interest, which approximates fair market
value. In addition, the Company classified
all investments as available-for-sale
securities. Realized gains and losses are
determined on the specific identification
method. The marketable securities portfolio
at December 31, 1998 matures at various
dates through September 8, 1999.
Inventories Inventories are stated at the lower of
cost or market, with cost determined under
the first-in, first-out method.
<PAGE> 16
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF
SIGNIFICANT
ACCOUNTING
POLICIES
(Continued)
Property and Property and equipment are stated at cost.
Equipment Depreciation and amortization of property
and equipment are computed principally using
the straight-line method over the estimated
useful lives of the assets as follows:
<TABLE>
Category Years
--------------------------------------------------
<S> <C>
Machinery and equipment 3-5
Furniture and fixtures 7
Leasehold improvements shorter of lease term or
estimated useful life
</TABLE>
Maintenance and repairs are charged to
expense as incurred. Upon retirement or
sale, the cost of the disposed assets and
the related accumulated depreciation are
removed from the accounts and any resulting
gain or loss is recorded in the consolidated
statements of operations.
Income Deferred tax assets and liabilities reflect
Taxes the net tax effects of temporary differences
between the carrying amounts of assets and
liabilities for financial reporting purposes
and the amounts used for income tax
purposes. A valuation allowance is provided
for the net deferred tax assets if it is
more likely than not that some or all of the
deferred tax assets will not be realized.
Accrued The Company records a liability for future
Warranty warranty costs based upon the relationship
of prior years' sales to actual warranty
costs which approximates expected future
warranty costs.
<PAGE> 17
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF
SIGNIFICANT
ACCOUNTING
POLICIES
(Continued)
Research and Costs incurred in the research and
Development development of software products are
expensed as incurred until the technological
feasibility of the product has been
established. After technological feasibility
is established, any additional costs would
be capitalized. The Company believes the
current process for developing software is
essentially completed concurrently with the
establishment of technological feasibility.
Accordingly, no software development costs
have been capitalized to date.
Concentrations of Financial instruments, which potentially
Credit Risk subject the Company to concentration of
credit risk, are principally cash and cash
equivalents, marketable securities, and
accounts receivable. The Company places its
investments in highly rated financial
institutions and, by policy, limits the
amount of credit exposure to any one
financial institution.
Concentration of credit risk with respect to
accounts receivable is limited to certain
customers with whom the Company makes
substantial sales. Four customers accounted
for approximately 35% of the Company's
outstanding accounts receivable at December
31, 1998 and two customers accounted for
approximately 28% of the Company's
outstanding accounts receivable at December
31, 1997. To reduce credit risk, the Company
performs ongoing credit evaluation, account
monitoring procedures and maintains reserves
for potential losses. These losses have been
within management's expectations.
<PAGE> 18
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF
SIGNIFICANT
ACCOUNTING
POLICIES
(Continued)
Net Loss The Company follows SFAS No. 128 "Earnings per Share".
Per Share Under SFAS No. 128, Basic Earnings Per Share (EPS) excludes
the effect of any dilutive options, warrants or
convertible securities and is computed by dividing the
net income (loss) available to common stockholders by the
weighted average number of common shares outstanding for
the period. Diluted EPS reflects the potential dilution
that could occur if securities or other contracts to
issue common stock were exercised. Diluted EPS is
computed by dividing the net income (loss) available to
common stockholders by the sum of the weighted average
number of common shares and common share equivalents
computed using the average market price for the period
under the treasury stock method.
The following table presents the numerator and the
denominator of the basic and diluted EPS computations
shown on the consolidated statements of operations:
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------
Years ended December 31, 1998 1997 1996
--------------------------------------------------------------------------------------
(In thousands, except per share data)
<S> <C> <C> <C>
Basic and diluted EPS computation:
Numerator:
Net loss $ (11,860) $ (7,847) $ (12,014)
Denominator:
Weighted average common
shares outstanding 15,312 15,301 15,630
--------------------------------------------------------------------------------------
Basic and diluted EPS $ (.77) $ (.51) $ (.77)
--------------------------------------------------------------------------------------
</TABLE>
Outstanding stock options of 2,269,463, 1,758,605 and
1,272,009 as of December 31, 1998, 1997 and 1996,
respectively, were not included in the diluted EPS
computation because their effect would be antidilutive.
<PAGE> 19
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF
SIGNIFICANT
ACCOUNTING
POLICIES
(Continued)
Segment Information In 1998, the Company adopted SFAS No. 131,
"Disclosure about Segments of an Enterprise and
Related Information". SFAS No. 131 established
standards for disclosures regarding products and
services, geographic areas and major customers.
Information for 1997 and 1996 has been restated to
conform with the 1998 presentation (see Note 8).
3. MARKETABLE Marketable securities consists of the following:
SECURITIES
<TABLE>
<CAPTION>
-------------------------------------------------------------
December 31, 1998 1997
-------------------------------------------------------------
(In thousands)
<S> <C> <C>
Fixed income securities $ 3,128 $ 7,074
Repurchase agreements - 263
Certificates of deposit - 1,291
Commercial paper - 2,557
U.S. Government securities - 1,258
-------------------------------------------------------------
$ 3,128 $ 12,443
-------------------------------------------------------------
</TABLE>
4. INVENTORIES Inventories consist of the following:
<TABLE>
<CAPTION>
-------------------------------------------------------------
December 31, 1998 1997
-------------------------------------------------------------
(In thousands)
<S> <C> <C>
Raw materials $2,270 $1,043
Work in process 15 373
Finished goods 6,261 4,294
-------------------------------------------------------------
$8,546 $5,710
-------------------------------------------------------------
</TABLE>
<PAGE> 20
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. PROPERTY AND Property and equipment consist of the following:
EQUIPMENT
<TABLE>
<CAPTION>
------------------------------------------------------------------
December 31, 1998 1997
------------------------------------------------------------------
(In thousands)
<S> <C> <C>
Machinery and equipment $ 11,791 $ 11,492
Furniture and fixtures 593 554
Leasehold improvements 884 1,188
------------------------------------------------------------------
13,268 13,234
Less accumulated depreciation and
amortization 10,553 9,962
------------------------------------------------------------------
Property and equipment, net $ 2,715 $ 3,272
------------------------------------------------------------------
</TABLE>
6. COMMITMENTS AND
CONTINGENCIES
Letter of Credit The Company has an outstanding letter of credit of
approximately $288,000 at December 31, 1998, 1997 and
1996. This letter of credit which matures on April
30, 2002, automatically renews annually on December
31. This letter of credit collateralized the
Company's obligation to a third party for a certain
lease transaction.
<PAGE> 21
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. COMMITMENTS AND
CONTINGENCIES
(Continued)
Operating Leases The Company leases its office and manufacturing
facilities under operating leases expiring at various
dates through 2002. Under certain leases the Company
is obligated to pay taxes, repairs, and other
operating costs. The Company has the option to extend
the term of the lease of its primary office and
manufacturing facility for two five-year periods
commencing on May 1, 2002 and May 1, 2007. Rental
expense amounted to approximately $1,119,000,
$1,128,000, $1,556,000 in 1998, 1997 and 1996,
respectively. At December 31, 1998, future rental
commitments are approximately as follows:
<TABLE>
<CAPTION>
Years ended December 31, Amount
-------------------------------------------
<S> <C>
1999 $ 584,100
2000 547,700
2001 511,100
2002 162,200
-------------------------------------------
$ 1,805,100
-------------------------------------------
</TABLE>
7. CAPITAL STOCK
Common Stock The Company has an Employee Stock Purchase Plan (the
"Purchase Plan") available to most full time
employees. Under this plan, 300,000 shares of common
stock were reserved for issuance. Eligible employees
may designate not more than 5% of their cash
compensation to be deducted each pay period for the
purchase of common stock under the Purchase Plan. The
purchase price of the shares under the plan is equal
to the lower of 85% of the fair market value per
share of the stock on the grant date (first day of
the exercise period) or 85% of the fair market value
on the exercise date (the last day of the exercise
period). The fair market value as of a given date is
determined by averaging the last sales price of the
stock for the ten trading days immediately proceeding
the given date.
<PAGE> 22
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. CAPITAL STOCK
(Continued)
Common Stock
(Continued) The Company sold 66,084, 32,667 and 41,628 shares to
employees in 1998, 1997 and 1996, respectively, under
the Purchase Plan. At December 31, 1998, 186,316
shares remained unissued under the Purchase Plan. No
compensation cost has been recognized for shares
issued under the Purchase Plan in 1998, 1997 and 1996
since the amount was determined not to be material.
Preferred Stock In 1991, the Shareholders approved the authorization
of 7,500,000 shares of preferred stock. The Board of
Directors is authorized, subject to any limitations
prescribed by law, to issue from time to time such
shares of preferred stock in one or more series. Each
such series of preferred stock will have such number
of shares, designations, preferences, voting power,
qualifications, and special or private rights or
privileges as shall be determined by the Board of
Directors, which may include, among others, dividend
rights, voting rights, preemptive and sinking fund
provisions, liquidation preferences, conversion
rights and preemptive rights. No such shares have
been issued to date.
Stock Options The Company's stock option plans generally provide
for the granting to employees of incentive stock
options to purchase shares of common stock at the
fair market value as defined by the plan on the date
of grant and of non-qualified stock options at no
less than 50% of the fair market value as defined by
the plan on the date of the grant. To date, the
Company has never issued non-qualified stock options
at an exercise price less than the fair market value
on the date of the grant.
Generally, options become exercisable at the rate of
25% at the end of each of the first four
anniversaries of the grant. Options generally expire
ten years from the date of grant, or ninety days from
the date of termination of employment. At December
31, 1998, 2,545,083 shares of common stock were
reserved under the plans and 275,620 shares were
available for grant.
<PAGE> 23
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. CAPITAL STOCK
(Continued)
Stock Options
(Continued)
In 1998 and 1996, the Compensation Committee of the
Board of Directors, pursuant to the authority granted
under the Company's 1991 Restated Stock Option Plan,
voted to allow employees of the Company holding
options with exercise prices greater than $1.90 and
$3.625 per share in 1998 and 1996, respectively, to
exchange those options for substitute options having
an option exercise price of $1.90 and $3.625 per
share in 1998 and 1996, respectively.
In February 1998 and in 1996, 799,575 and 707,154
options, respectively, were surrendered by employees
and exchanged for new options at the new option
exercise price and vesting schedule. A summary of the
status of the Company's stock plans as of December
31, 1998, 1997 and 1996, and changes during the years
then ended is presented below:
<TABLE>
<CAPTION>
1998 1997 1996
- ----------------------------------------------------------------------------------------------------------------------------
WEIGHTED- Weighted- Weighted-
AVERAGE Average Average
NUMBER EXERCISE Number Exercise Number Exercise
OF OPTIONS PRICE of Options Price of Options Price
- ----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding, at the
beginning of year 1,758,605 $ 2.70 1,272,009 $ 3.34 1,237,649 $ 5.52
Granted 2,412,501 1.31 1,007,805 2.02 1,245,726 4.11
Exercised (4,687) 1.70 - - (6,712) 4.01
Cancelled (1,896,956) 2.51 (521,209) 3.18 (1,204,654) 6.23
- ----------------------------------------------------------------------------------------------------------------------------
Outstanding, at the
end of year 2,269,463 $ 1.38 1,758,605 $ 2.70 1,272,009 $ 3.34
- ----------------------------------------------------------------------------------------------------------------------------
Options exercisable
at year end 687,978 $ 1.87 685,270 $ 3.41 522,064 $ 3.41
- ----------------------------------------------------------------------------------------------------------------------------
Weighted average
fair value of options
granted during the year 2,412,501 $ 0.51 1,007,805 $ 1.34 1,245,726 $ 2.78
- ----------------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 24
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. CAPITAL STOCK
(Continued)
Stock Option
(Continued)
The following tables summarize information concerning
outstanding and exercisable options at December 31,
1998.
<TABLE>
<CAPTION>
Options Outstanding
--------------------------------------------------------------------------
Weighted-
Average Weighted-
Range of Remaining Average
Exercise Number of Contractual Exercise
Prices Outstanding Life Price
--------------------------------------------------------------------------
<S> <C> <C> <C> <C>
$ .81-$ 1.17 1,264,926 9.5 $ .95
$ 1.23-$ 1.68 238,700 9.2 1.34
$ 1.70-$ 2.10 709,526 9.3 1.91
$ 2.56-$ 3.63 36,311 7.8 2.98
$ 6.00-$ 7.50 20,000 2.4 7.50
--------------------------------------------------------------------------
2,269,463 9.3 $ 1.38
--------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Options Exercisable
--------------------------------------------------------------------------
Weighted-
Average Weighted-
Range of Remaining Average
Exercise Number of Contractual Exercise
Prices Exercisable Life Price
--------------------------------------------------------------------------
<S> <C> <C> <C>
$ .81-$ 1.17 137,890 9.5 $ .93
$ 1.23-$ 1.68 25,075 8.7 1.43
$ 1.70-$ 2.10 494,826 9.4 1.90
$ 2.56-$ 3.63 10,187 7.5 3.12
$ 6.00-$ 7.50 20,000 2.4 7.50
--------------------------------------------------------------------------
687,978 9.2 $ 1.87
--------------------------------------------------------------------------
</TABLE>
<PAGE> 25
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. CAPITAL STOCK
(Continued)
Stock Options SFAS No. 123 "Accounting for Stock-Based
(Continued) Compensation" requires that companies either
recognize compensation expense for grants of stock,
stock options, and other equity instruments based on
fair value, or provide pro forma disclosure of net
income (loss) and net income (loss) per share in the
notes to the financial statements. The Company
adopted the disclosure provisions of SFAS No. 123 and
has applied APB Opinion 25 and related
interpretations in accounting for its plans.
Accordingly, no compensation cost has been recognized
for its stock-based plans in 1998, 1997 and 1996.
The Company's net loss and net loss per share for the
years ended December 31, 1998, 1997 and 1996 would
have increased to the pro forma amounts indicated
below, if compensation cost for stock-based plans
were recorded based on the fair value at grant dates.
<TABLE>
<CAPTION>
1998 1997 1996
--------------------- -------------------- --------------------
LOSS Loss Loss
NET PER Net Per Net Per
LOSS SHARE Loss Share Loss Share
---------- ------ -------- ------ ---------- ------
<S> <C> <C> <C> <C> <C> <C>
As reported $ (11,860) $ (.77) $ (7,847) $ (.51) $ (12,014) $ (.77)
Pro forma $ (12,007) $ (.78) $ (8,140) $ (.53) $ (12,627) $ (.81)
</TABLE>
The fair value of each stock option is estimated on
the date of grant using the Black-Scholes
option-pricing model with the following
weighted-average assumptions: an expected life of six
years, expected volatility of 46% in 1998, 75% in
1997 and 65% in 1996, and no dividends assumed. The
weighted average assumptions for the risk-free
interest rates for 1998, 1997 and 1996 were 5.52%,
6.11% and 6.32%, respectively.
The effects of applying SFAS No. 123 in the above pro
forma disclosure are not indicative of future
amounts. SFAS No. 123 does not apply to awards prior
to 1995, and additional awards in the future years
are anticipated.
<PAGE> 26
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. SEGMENT The Company is engaged principally in one business
INFORMATION segment having two lines of business; (i) Internet
AND SIGNIFICANT access and (ii) local area network access. In 1998, 1997
CUSTOMERS and 1996, net sales to one customer accounted for
approximately 12%, 11% and 14% of the Company's total
net sales, respectively. A second significant customer
accounted for approximately 10%, 8% and 14% of total net
sales in 1998, 1997 and 1996, respectively.
<PAGE> 27
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. SEGMENT The Company does not have an individual country
INFORMATION that contributes to 10% or more of the total
AND SIGNIFICANT operating data. The geographic distribution of
CUSTOMERS (Continued) the Company's operating data is therefore
summarized as follows:
<TABLE>
<CAPTION>
United Asia
States Pacific Europe Total
---------------------------------------------------------------------------------------
(In thousands)
<S> <C> <C> <C> <C>
Year ended December 31, 1998:
Net sales $ 9,894 $ 2,065 $ 2,367 $ 14,326
Loss from operations (10,914) (896) (464) (12,274)
Loss before income taxes (10,325) (896) (464) (11,685)
Total assets 19,698 827 203 20,728
Capital expenditures 673 26 11 710
Depreciation and
amortization 1,104 66 21 1,191
Year ended December 31, 1997:
Net sales $ 17,403 $ 4,182 $ 5,359 $ 26,944
Income (loss) from operations (9,472) (942) 1,699 (8,715)
Income (loss) before income taxes (8,420) (942) 1,699 (7,663)
Total assets 31,101 1,301 1,001 33,403
Capital expenditures 570 144 14 728
Depreciation and
amortization 1,343 49 158 1,550
Year ended December 31, 1996:
Net sales $ 27,941 $ 7,195 $ 10,160 $ 45,296
Income (loss) from operations (13,958) 757 86 (13,115)
Income (loss before income taxes) (12,697) 757 86 (11,854)
Total assets 41,420 2,386 1,765 45,571
Capital expenditures 1,387 137 76 1,600
Depreciation and
amortization 2,853 141 407 3,401
</TABLE>
<PAGE> 28
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. RESTRUCTURING OF
OPERATIONS
During the fourth quarter of 1996, the Company's
management announced a restructuring plan for the
strategic redirection of the Company. The
restructuring principally addressed the move toward
the rapidly growing Internet/Intranet connectivity
marketplace.
As a result of the restructuring, the Company
recorded a $3,312,000 charge in the fourth quarter of
1996. This included a reduction in the Company's work
force of forty-two employees, or approximately 22%,
accounting for approximately $410,000 of severance
costs. The Company incurred a charge of approximately
$785,000 in connection with the substantial reduction
in its occupancy requirements. In addition, the
charge included approximately $1,922,000 for disposal
of fixed assets and approximately $195,000 of other
costs.
During 1997, the Company incurred cash expenditures
relating to the 1996 restructuring of approximately
$495,000 for severance and payroll related costs,
approximately $672,000 as a result of reducing its
occupancy costs and $253,000 in other restructuring
related costs. Management has determined that all of
the Company's obligations from the 1996 and prior
restructurings have been settled. Accordingly, the
Company reversed its remaining restructuring
provision of $241,000 against operating expenses in
the third quarter of 1997.
<PAGE> 29
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. INCOME TAXES The provision for income taxes consists of the
following:
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------
Years ended December 31, 1998 1997 1996
--------------------------------------------------------------------------------------
<S> <C> <C> <C>
Current:
Foreign $ 175 $ 156 $ 215
Federal - - (65)
State - 28 10
--------------------------------------------------------------------------------------
$ 175 $ 184 $ 160
--------------------------------------------------------------------------------------
A reconciliation between the Company's
effective tax rate and the U.S. statutory
rate is as follows:
--------------------------------------------------------------------------------------
Years ended December 31, 1998 1997 1996
--------------------------------------------------------------------------------------
U.S. statutory rate (34.0) % (34.0) % (34.0) %
Foreign tax rate differential 1.5 2.4 .1
Change in valuation allowance 34.0 34.0 35.2
---------------------------------------------------------------------------------------
Effective tax rate 1.5 % 2.4 % 1.3 %
---------------------------------------------------------------------------------------
</TABLE>
<PAGE> 30
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. INCOME TAXES A valuation allowance of $17,841,000 and $13,210,000
(Continued) at December 31, 1998 and 1997, respectively has been
recorded to offset the related net deferred tax
assets due to the uncertainty of realizing the
benefit of these assets. The following is a summary
of the significant components of the Company's
deferred tax assets and liabilities:
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------
December 31, 1998 1997
--------------------------------------------------------------------------------------
(In thousands)
<S> <C> <C>
Deferred tax assets:
Bad debt reserve $ 580 $ 360
Inventory reserves 678 533
Product warranty 270 262
Federal tax benefit of net operating loss
carryforwards 11,256 7,889
State tax benefit of net operating loss
carryforwards 2,301 1,827
Tax credit carryforwards 1,298 912
Alternative minimum tax credit 699 699
Depreciation 76 144
Other items 683 584
--------------------------------------------------------------------------------------
Total deferred tax assets 17,841 13,210
Valuation allowance for deferred tax assets (17,841) (13,210)
--------------------------------------------------------------------------------------
Net deferred tax assets $ - $ -
--------------------------------------------------------------------------------------
</TABLE>
<PAGE> 31
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. INCOME TAXES As of December 31, 1998, the Company had net
(Continued) operating loss carryforwards, subject to review by
the Internal Revenue Service and state taxing
authorities of approximately $33,000,000 and
$48,000,000 for federal and state income tax
purposes, respectively. The federal net operating
losses begin to expire in 2010 and the state net
operating losses began to expire in 1998. Similarly,
research and development credit carryforwards of
approximately $1,298,000 were available on December
31, 1998, expiring at various dates through 2005.
11. RETIREMENT Eligible employees are permitted to contribute to the
SAVINGS PLAN 401(k) Plan through payroll deductions within statutory
limitations and subject to any limitations included in the
401(k) Plan. The Plan provides for the matching
contribution by the Company in an annual amount not to
exceed 2% of a participant's compensation. The Company
contributed approximately $116,000, $128,000 and $185,000
to the plan in 1998, 1997 and 1996, respectively.
12. SELECTED Selected quarterly financial data for the years ended
QUARTERLY December 31, 1998 and 1997 is as follows:
FINANCIAL DATA
(Unaudited)
<TABLE>
<CAPTION>
Basic and
Diluted
Year ended Net Gross Net Net Loss
December 31, 1998 Sales Profit Loss Per Share
--------------------------------------------------------------------------------------
(In thousands, except per share data)
<S> <C> <C> <C> <C>
First Quarter $ 4,188 $ 1,615 $ (2,513) $ (.17)
Second Quarter 4,825 2,093 (3,876) (.25)
Third Quarter 2,168 740 (3,573) (.23)
Fourth Quarter 3,145 1,282 (1,898) (.12)
--------------------------------------------------------------------------------------
$ 14,326 $ 5,730 $ (11,860) $ (.77)
--------------------------------------------------------------------------------------
</TABLE>
<PAGE> 32
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
12. SELECTED QUARTERLY
FINANCIAL DATA
(Unaudited)
(Continued) Basic and
Diluted
Year ended Net Gross Net Net Loss
December 31, 1997 Sales Profit Loss Per Share
-----------------------------------------------------------------------------------
(In thousands, except per share data)
<S> <C> <C> <C> <C>
First Quarter $ 9,125 $ 4,256 $ (313) $ (.02)
Second Quarter 7,748 3,748 (1,133) (.07)
Third Quarter 5,006 1,754 (2,894) (.19)
Fourth Quarter 5,065 1,846 (3,507) (.23)
--------------------------------------------------------------------------------------
$ 26,944 $ 11,604 $ (7,847) $ (.51)
--------------------------------------------------------------------------------------
</TABLE>
The 1997 fourth quarter operating loss reflects
approximately $880,000 or $.06 per share of certain
adjustments and accruals relating to business
operations in the Asia Pacific region, as well as
certain employee incentive programs.
13. VALUATION AND
QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Balance at Balance at
Allowance for Beginning Provision End of
Doubtful Accounts of Period for Bad Debt Write-offs Period
---------------------------- ---------- ------------ ---------- ----------
<S> <C> <C> <C> <C>
Year ended December 31, 1998 $926,608 $496,909 $ 0 $1,423,517
Year ended December 31, 1997 $671,755 $346,833 $ (91,980) $926,608
Year ended December 31, 1996 $889,276 -- $(217,521) $ 671,755
</TABLE>
<PAGE> 33
OPENROUTE NETWORKS, INC.
(FORMERLY PROTEON, INC.)
AND SUBSIDIARIES
- --------------------------------------------------------------------------
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
OpenROUTE Networks, Inc.
Westborough, Massachusetts
We have audited the accompanying consolidated balance sheet of OpenROUTE
Networks, Inc. (Formerly Proteon, Inc.) and subsidiaries as of December 31,
1998, and the related consolidated statements of operations, stockholders'
equity, and cash flows for the year then ended. 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 audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of OpenROUTE Networks,
Inc. and subsidiaries at December 31, 1998, and the results of their operations
and their cash flows for the year then ended, in conformity with generally
accepted accounting principles.
The accompanying 1998 consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
1 to the consolidated financial statements, the Company has incurred significant
losses during each of the three years ended December 31, 1998. The Company's
current business strategy is focused on the emerging Internet access market. As
such, success of future operations is subject to a number of risks. Principal
among these risks are the successful marketing of its Internet access products,
rapidly changing technology, reliance on significant customers, intense
competition from substitute products and significantly larger companies, and the
ability to obtain financing to fund future operations. These factors raise
substantial doubt about the Company's ability to continue as a going concern
until the Company successfully obtains additional funding or establishes
strategic relationships and achieves projected operating results. Management's
plans are also described in Note 1. The accompanying consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
BDO Seidman, LLP
Boston, Massachusetts
February 12, 1999
<PAGE> 34
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors
and Stockholders of OpenROUTE Networks, Inc.:
We have audited the accompanying consolidated balance sheet of OpenROUTE
Networks, Inc. as of December 31, 1997, and the related consolidated statements
of operations, stockholders' equity and cash flows for the years ended December
31, 1997 and 1996. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of OpenROUTE
Networks, Inc. as of December 31, 1997, and the consolidated results of its
operations and its cash flows for the years ended December 31, 1997 and 1996 in
conformity with generally accepted accounting principles.
PricewaterhouseCoopers LLP
Boston, Massachusetts
February 11, 1998, except as to the segment
information for the years ended December 31,
1997 and 1996 presented in Note 8, for which
the date is March 26, 1999.
<PAGE> 1
OpenROUTE Networks, Inc. EXHIBIT 21
Subsidiaries of the registrant:
I. Proteon International Ltd.
Lockington Hall
Derby DE74 2RH
England
Organized under the laws of England
II. Proteon International SARL
2000 route des Lucioles
Les Algorithmes
Bat Aristote A-BP 29
Sophia Antipolis 06901
France
Organized under the laws of France
III. Proteon International GMBH
Falkensteiner Strasse 11
Kelkheim D 65779
Germany
Incorporated under the laws of Germany
IV. OpenROUTE Networks (S) Pte Ltd.
491B River Valley Road #14-03
Valley Point Office Tower
Singapore 248373
Organized under the laws of Singapore
V. Proteon, Inc.
Nine Technology Drive
Westborough, Massachusetts 01581-1799
USA
Incorporated in the Commonwealth of Massachusetts
VI. Proteon Securities Corporation
Nine Technology Drive
Westborough, Massachusetts 01581-1799
USA
Incorporated into the Commonwealth of Massachusetts
VII. Proteon Federal Systems, Inc. (Inactive)
Nine Techology Drive
Westborough, Massachusetts 01581-1799
USA
Incorporated in the Commonwealth of Massachusetts
VIII. Proteon FSC, Inc.
55-11 Curaco Gade
Charlotte Amalie
Virgin Islands 00803
Incorporated in the U.S. Virgin Islands
<PAGE> 2
IX. Proteon Australia PTY
80 Mount Street
Level 8
North Sydney NSW 2060
Australia
Organized under the laws of Australia
<PAGE> 1
EXHIBIT 23
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the registration statements of
OpenROUTE Networks, Inc. on Form S-8 (File No. 333-61545 and File No. 333-31055)
of our reports dated February 11, 1998, except as to the segment information
for the years ended December 31, 1997 and 1996 presented in Note 8, for which
the date is March 26, 1999, on our audits of the consolidated financial
statements and financial statement schedule of OpenROUTE Networks, Inc. as of
December 31, 1997 and 1996, and for the two years ended December 31, 1997 which
reports are included or incorporated by reference in this Annual Report on Form
10-K.
PricewaterhouseCoopers LLP
Boston, Massachusetts
March 31, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<CURRENCY> U. S. DOLLARS
<S> <C> <C> <C>
<PERIOD-TYPE> YEAR YEAR YEAR
<FISCAL-YEAR-END> DEC-31-1996 DEC-31-1997 DEC-31-1998
<PERIOD-START> JAN-01-1996 JAN-01-1997 JAN-01-1998
<PERIOD-END> DEC-31-1996 DEC-31-1997 DEC-31-1998
<EXCHANGE-RATE> 1 1 1
<CASH> 16,612 7,816 2,024
<SECURITIES> 6,918 9,944 3,128
<RECEIVABLES> 7,625 6,224 3,356
<ALLOWANCES> 0 0 0
<INVENTORY> 8,737 5,710 8,546
<CURRENT-ASSETS> 40,977 30,131 17,564
<PP&E> 13,625 13,234 13,267
<DEPRECIATION> 9,031 9,962 10,552
<TOTAL-ASSETS> 45,571 33,403 20,279
<CURRENT-LIABILITIES> 10,380 6,511 1,449
<BONDS> 0 0 0
0 0 0
0 0 0
<COMMON> 49,292 49,347 49,417
<OTHER-SE> (14,101) (22,455) (34,266)
<TOTAL-LIABILITY-AND-EQUITY> 45,571 33,403 20,279
<SALES> 32,175 22,248 10,416
<TOTAL-REVENUES> 45,296 26,944 14,326
<CGS> 20,825 12,722 6,836
<TOTAL-COSTS> 25,670 15,340 8,596
<OTHER-EXPENSES> 32,741 20,319 18,004
<LOSS-PROVISION> 0 0 0
<INTEREST-EXPENSE> (1,261) (1,052) (589)
<INCOME-PRETAX> (11,854) (7,665) (11,685)
<INCOME-TAX> 160 184 175
<INCOME-CONTINUING> (12,014) (7,847) (11,860)
<DISCONTINUED> 0 0 0
<EXTRAORDINARY> 0 0 0
<CHANGES> 0 0 0
<NET-INCOME> (12,014) (7,847) (11,860)
<EPS-PRIMARY> (0.77) (0.51) (0.77)
<EPS-DILUTED> (0.77) (0.51) (0.77)
</TABLE>
