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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(MARK ONE)
[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934.
FOR THE FISCAL YEAR ENDED: JULY 31, 1996
OR
[_]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934. [NO FEE REQUIRED]
FOR THE TRANSITION PERIOD FROM
TO
COMMISSION FILE NUMBER: 0-26100
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DISCREET LOGIC INC.
(Exact name of registrant as specified in its charter)
QUEBEC 98-0150790
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5505, BOULEVARD ST. LAURENT, H2T 1S6
SUITE 5200 MONTREAL, QUEBEC,
CANADA
(Zip Code)
(Address of principal executive
offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (514) 272-0525
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON SHARES, WITHOUT PAR VALUE
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such 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 voting stock held by nonaffiliates of the
registrant as of October 23, 1996 (based on the closing price as quoted by
Nasdaq National Market as of such date) was $105,027,379. As of October 23,
1996, 27,803,585 of the registrant's common shares were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive Proxy Statement for the Annual Meeting
of Stockholders to be held on January 9, 1997 to be filed pursuant to
Regulation 14A are incorporated by reference into Part III of this Form 10-K.
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ITEM 1. BUSINESS PART I
OVERVIEW AND RECENT DEVELOPMENTS
Discreet Logic Inc. ("Discreet Logic" or the "Company") develops, assembles,
markets and supports non-linear, on-line, digital systems for creating,
editing and compositing imagery and special effects for film and video. The
Company's systems are utilized by creative professionals for a variety of
applications, including feature films, television programs, commercials, music
videos, interactive game production and live broadcasting. Discreet Logic's
systems have played key roles in the creation of special visual effects for
recent films such as Broken Arrow, Screamers, Forrest Gump, True Lies, and
Joe's Apartment, recent music videos for artists such as Madonna, The Rolling
Stones, and Seal, and television commercials for clients such as Pepsi,
Budweiser, and Nike.
The Company believes that creative professionals in the film and video
industries require systems that can integrate and simplify their work,
enabling them to devote more time to creative activities and less time to
technical tasks. Discreet Logic offers turnkey systems comprised of the
Company's proprietary software utilizing workstations manufactured by Silicon
Graphics, Inc. ("SGI"), scaleable disk arrays and other peripherals. These
systems provide digital solutions for creative professionals to input, create,
manipulate, store and output images in an integrated production environment.
The Company's systems can be linked to enable users to collaborate and manage
data more efficiently. In addition, by utilizing general purpose workstation
technology, the Company's systems integrate more easily with third party
software systems and devices.
Discreet Logic's software and systems are focused towards three markets:
special effects, editing and broadcast. The Company's FLAME system is used to
create, edit and composit special visual effects in an on-line, real-time
environment, providing instant feedback to the creative professional. The
Company's FLINT system contains virtually the same special visual effects
features as FLAME, but runs in a non-real-time environment. The Company's
INFERNO system is an on-line, real-time digital system providing all of the
features of FLAME with increased film resolution and color control. The
Company's FLAME, FLINT and INFERNO systems are resolution independent and
allow users to work on uncompressed images from a variety of media sources in
the full range of resolutions necessary for film and video (including HDTV).
The Company's FIRE system is an uncompressed, on-line, non-linear digital
video editing system with limited special effects capabilities. The Company
first shipped a pre-release commercial version of FIRE in April 1996. The
Company worked closely with the pre-release clients to produce upgrades for
the system during the fourth quarter of fiscal 1996 and the first quarter of
fiscal 1997. The Company expects that full system functionality will be
realized with the next release of FIRE which the company expects to ship in
the fourth calendar quarter of 1996. The Company also expects to commece full
commercial shipments of FIRE in the fourth calendar quarter of 1996. As of
July 31, 1996, the North American list prices for basic FLAME, FLINT, INFERNO
and FIRE systems were $450,000, $100,000, $700,000 and $400,000, respectively.
As of that date, Discreet Logic had an installed base of more than 300 FLAME,
400 FLINT and 35 INFERNO systems at over 400 customer locations worldwide,
including leading production and post-production facilities such as Digital
Domain, Industrial Light and Magic, Rushes/Virgin, 525 Post/Virgin, The Mill
and Western Images. In the broadcast market, the Company is marketing and
further developing VAPOUR, a computer-based, integrated graphics system, which
is used to create computer generated locales, also known as virtual sets, for
news, sports and entertainment programming, and FROST, a set of modeling,
animation and rendering tools for the creation and manipulation of 3D
environments for broadcast companies. The Company sells its systems worldwide
through a direct sales force as well as through distributors.
During the fiscal year ended July 31, 1996, excluding a restructuring charge
of $15,000,000 and its related tax effects, the Company incurred a net loss of
approximately $31,000,000 on revenues of approximately $83,997,000. During the
second half of fiscal 1996, the Company identified a number of difficulties
and developments facing its business, including, (1) softening of market
demand in its core high end visual effects market segment, (2) delays by the
Company in introducing new products aimed at new market segments,
(3) inventory build-up in anticipation of continued high sales in its core
market segment and high growth in its new market segments, (4) expense and
headcount build-up in anticipation of continued high sales in its core market
segment and high growth in new market segments, (5) the disruption caused by
platform changes
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by the Company's key supplier, and (6) greater use of third party financing by
customers. In addition, during the second half of fiscal 1996, several of the
Company's senior executives resigned to pursue other opportunities.
In response to the financial results and other developments facing its
business, the Company developed a restructuring plan during the fourth fiscal
quarter of 1996. The focus of the Company's restructuring plan is to solidify
its senior management team, reduce operating expenses through workforce
reductions and office closings, consolidate research and development
activities in Montreal, the discontinuance of certain product lines, and
restructure its sales force to emphasize indirect sales channels. The Company
began implementation of its restructuring plan in the fourth fiscal quarter of
1996 and expects implementation to continue throughout fiscal 1997. The major
aspects of the restructuring plan are discussed below.
Richard Szalwinski, the Company's founder and Chairman, served as acting
President and CEO from February 1995 and assumed this role officially
effective July 1996 and organized the Company into three areas of executive
responsibility: sales and marketing, products, and finance and administration
(including operations). The Company named Graham Sharp as Senior Vice
President of Sales and Marketing effective July 1996 and Francois Plamondon as
Senior Vice President and Chief Financial Officer effective August 1996. Terry
Higgins, the Company's Senior Vice President of Products remained in charge of
product development.
The Company's restructuring plan includes a 28% reduction, approximately 110
positions, in its workforce, bringing the Company's headcount to a level which
the Company believes is more closely aligned with its current revenues. This
headcount reduction commenced in the fourth quarter of fiscal 1996 and is
expected to be substantially completed by the end of the first quarter of
fiscal 1997. In addition, the Company has consolidated key research and
development functions and personnel into its Montreal headquarters. Included
in this research and development consolidation is the transitioning of the
development of VAPOUR and FROST from Innsbruck, Austria to Montreal. VAPOUR
and FROST are systems which the Company has been marketing and further
developing since the Company obtained these systems in its acquisition of all
of the outstanding shares of Computer-und Serviceverwaltungs AG located in
Innsbruck, Austria ("COSS") and certain assets of IMP Innovative
Medientechnik-und Planungs-GmbH, located in Geltendorf/Kaltenberg, Germany
("IMP") in October 1995. As part of the Company's restructuring plan, the
Company has discontinued the development of the Brughetti products, AIR, PURE,
SLICE and DIPLOMAT. The Company acquired substantially all of the technology
and other assets of the Brughetti Corporation in May 1995 for approximately
CDN$1,000,000 (or approximately $741,000 on the closing date of the
acquisition) in cash. As a result of the Company's consolidation of key
research and development functions, the Company has closed the following
research and development offices: Cambridge, Massachusetts, Connecticut,
London and Innsbruck. The Company expects to close its research and
development office in Paris by the end of December 1996. The Company believes
that the consolidation of personnel and technology will enhance the Company's
ability to share core technologies across the product groups.
In connection with the restructuring plan, the Company has expanded and
expects to further expand the number of distributors selling the Discreet
Logic systems. In addition, most distributors will now be allowed to sell
FLAME, INFERNO and FIRE systems as well as FLINT systems which they previously
distributed.
There can be no assurance that management will be successful in implementing
the restructuring plan or that the Company will not take on further
restructurings or be profitable in the future. Furthermore, the implementation
of the restructuring plan may cause a diversion of management's time and
resources and may result in other unforeseen disruptions and unexpected
expenses.
The Company has been named as a defendant in two class action lawsuits.
Although the Company denies all material allegations of these complaints and
intends to vigorously defend against all claims brought against it, the
ultimate outcome, including amount of possible loss, if any, of litigation
cannot be determined at this time. No provision for any liability that may
result from this litigation has been made in the accompanying Condensed
Consolidated Financial Statements. However, the Company has accrued $2,506,000
as estimated legal fees to defend against these lawsuits. There can be no
assurance that the ultimate outcome of these matters will not have a material
adverse affect on the Company's business and results of operations.
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Discreet Logic's strategy is to maintain and enhance its position as a
leading provider of digital systems by continuing to develop, integrate and
support complete systems that include applications, networking and
communications software, workstations, disk arrays and other peripherals. The
Company seeks to expand the range of creative professionals served by the
Company and, by leveraging its technology base, customer relationships and
existing reputation, to extend its product line to include other aspects of the
content creation process. The Company's goal is to pursue this strategy while
implementing and maintaining the cost containment, product refocus and
efficiency measures outlined in the restructuring plan.
INDUSTRY BACKGROUND
Overview of the Content Creation Process
The content creation process for film and video consists of four stages: pre-
production, production, post-production and distribution.
[CHART APPEARS HERE]
DESCRIPTION OF GRAPHICS
-----------------------
Chart depicting the content creation process in four columns entitled: "Pre-
Production," "Production," "Post-Production" and "Distribution."
4 columns each containing an element of the content creation process:
1. Pre-Production: Project plan, script, storyboard, production plan,
budget.
2. Production: Shoot film or video, 2D, 3D graphics production, audio
elements.
3. Post-Production: Log material, editing, effects sequences, audio post
pressing.
4. Distribution: Feature films, vidoe tapes, broadcasts, multimedia
on-line services.
Pre-production involves the creation of the story or presentation, budgeting,
scripting and storyboarding. Production involves the capture of content by
shooting footage on film or video, recording sound and creating two dimensional
("2D"), three dimensional ("3D") or other elements for special visual effects.
Post-production involves composing content from disparate media (such as still
and moving images and computer generated and other special effects elements)
with sound, and editing and manipulating such media through techniques such as
compositing, layering and touch up. Distribution involves the delivery of the
finished work by, for example, consumer-grade video cassette, professional-
grade video tape or film.
Creation of Imagery and Special Visual Effects and Editing
Filmmakers, animators, advertisers and other creators of entertainment
products must address an increasingly sophisticated audience that is demanding
more stimulating, realistic and engaging entertainment with high visual impact.
During production and post-production, creative professionals enhance the
visual impact of their productions through the use of special visual effects.
[CHART APPEARS HERE]
DESCRIPTION OF GRAPHICS
-----------------------
Chart depicting the special visual effects techniques within the production and
post-production stages of the content creation process. The chart has four
columns entitled: "Pre-Production," "Production," "Post-Production," and
"Distribution." Below the Production and Post-Production columns, the chart
contains a heading entitled "Special Visual Effects Techniques." Below this
heading are four columns containing the following special visual effects
techniques.
Column 1. Titling, Color Correction
Column 2. 3D Imagery, Warping
Column 3. Compositing, Image Stabilization
Column 4. Touch-up, Layering
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Editing is also a critical part of the post-production process. Small
differences in the way edits are performed can make significant differences in
the flow and pace, and even the meaning, of the finished work. Editing
includes the selection and sequencing of scenes from segments that have been
shot, as well as the design and integration of special effects, graphics,
titles and sound tracks.
Special effects can be created and added to a production and the editing of
a piece can be prepared in either an on-line or off-line environment. In an
on-line environment, users work in real-time directly with source material,
manipulating and editing such material and producing a finished product or
effect. In an off-line environment, users perform the same or similar work as
is done on-line, but not in real-time. In editing, the result of an off-line
editing session is an edit decision list ("EDL") for video, or a film cut list
for film, which details the specific edits selected by the editor. The results
of off-line work can be finished off-line or transferred to the on-line
environment for real-time incorporation into the finished product.
Creators of entertainment products traditionally have relied on specialist
production and post-production facilities for the creation, manipulation and
editing of imagery and special visual effects. These facilities consist of
rooms, or suites, of dedicated equipment staffed by several creative and
technical professionals who operate the equipment. In order to remain
competitive, production and post-production companies face intense pressure to
accelerate production schedules, reduce production costs, enhance creativity
and productivity and develop novel, high impact visual images that meet the
requirements of their customers.
Analog To Digital Evolution
Production and post-production professionals have in the past relied on
labor-intensive analog methods and tools to create and manipulate images for
film and video. Though still widely used, analog systems have fundamental
drawbacks. First, analog systems collate video clips sequentially which
requires changing and spooling tapes and frequent cutting and recutting.
Second, to create special visual effects and to edit film, creative
professionals typically must layer and arrange clips visually, label them,
hang them in bins for ready access, and then select, view, cut, layer, splice
and trim segments to create the finished work. These processes often result in
image damage and degradation, affecting the overall visual quality of the
finished work. Third, each special visual effect process--transitional
effects, titling, color correction and 3D imagery--requires separate,
dedicated equipment, as well as dedicated technical personnel to operate the
equipment. The time and money consumed by use of traditional analog equipment
significantly limits the opportunities of production and post-production
professionals to create innovative material.
Advances in workstation processing power, compression technology and data
storage techniques have made the transformation of film and video images from
analog to digital data a viable alternative. With the advent of digital
production and post-production tools, creative professionals became able to
more quickly and easily manipulate images, freeing significant time for more
creative work and accelerating production schedules. Additionally, the
introduction of digital tools allowed creative professionals to produce visual
effects that previously were not possible to achieve. The acceptance of early
digital systems, however, was limited by their complexity and a lack of
affordable hardware platforms.
Evolution Of Digital Solutions
Initially, a few specialist facilities developed proprietary systems for
digitizing 35mm images, producing computer-generated effects and relaying them
back to film. The use of these early, custom-built systems demanded extensive
technical and programming knowledge on the part of users. Descriptive
parameters were defined numerically and entered as typed commands.
Furthermore, users had to perform tasks in a rigid, sequential manner. Because
each process often involved a different database, moving from one process to
another was time consuming and cumbersome. These limitations resulted in
interruptions in the creative process, increased production time and often
required the intermediation of programming technicians between the creative
professional and the end product, all of which limited the viability of these
systems as a production tool.
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Because broadcast and film quality visual representations require
substantial processing power, graphics capability and memory, for many years
affordable hardware platforms did not exist to support digital film and video
applications. As the cost of processing power and data storage declined,
manufacturers introduced proprietary hardware-based systems for the
manipulation of digital images for the general production and post-production
markets. These systems are non-linear, allowing the user to access any image
in memory without having to scroll sequentially through intervening images and
integrate many special effects processes into a single, dedicated system
utilizing proprietary hardware and software. While these systems shorten
production time and allow production and post-production professionals
increased control over the creative process, the Company believes that these
systems have the following shortcomings:
. Integration problems, arising from the lack of compatibility among the
proprietary equipment of different manufacturers;
. Incompatible tool sets, some of which use different formats and
therefore impede the creative process when users move from one program
to another;
. Infrequent upgrades and enhancements, due to long hardware design and
development cycles which can limit the ability of creative professionals
to produce the latest special effects;
. Fixed resolutions, which prevent users from performing the same task at
different resolutions on the same system and result in users having to
purchase different pieces of expensive equipment if they wish to expand
their services; and
. High cost, which reflects the long design, development and manufacturing
cycles of proprietary hardware and the associated labor and maintenance
costs.
During the early 1990s, a generation of powerful general purpose
workstations and peripherals provided the processing power, graphics
capability, memory and disk storage needed to generate, manipulate, store and
output high quality computer generated film and video images without the
shortcomings of specialized proprietary hardware-based systems. The Company
believes that users require systems based upon general-purpose technology to
expand their creative possibilities, increase the flexibility of and their
control over the creative process, and save time and money.
THE DISCREET LOGIC SOLUTION
In response to these industry needs, Discreet Logic provides digital
solutions for creating, editing and compositing imagery and special effects
for film and video. The Company's systems allow creative professionals to
input, create, manipulate, store and output uncompressed visual images in a
faster, easier and more cost-effective manner than traditional analog systems.
In addition, the Company believes its systems address many of the shortcomings
of proprietary hardware-based digital systems while providing
price/performance advantages.
Discreet Logic offers turnkey systems comprised of the Company's proprietary
software utilizing workstations manufactured by SGI, scaleable disk arrays and
other peripherals. The Company's systems provide the speed and operational
flexibility demanded by the professional film and video industries because the
Company has designed its systems to be fully integrated with and to fully
utilize the capabilities of the systems' workstations, disk arrays and other
peripherals. The Company has developed an intuitive, interactive and
integrated environment that enables creative professionals to focus on the
creative process, rather than on the technical aspects of digital image
creation, resulting in more innovative graphics, images and effects. The
Company believes that the use of Discreet Logic systems also results in
shorter production cycles, increased productivity and production cost savings.
The Company's systems offer the following benefits:
. Integrated Systems Solution. Discreet Logic's systems are designed to
enable creative professionals to input, create, manipulate, store and
output uncompressed images in an integrated production environment. The
Company's special effects and editing systems can be linked to enable
users to
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collaborate and manage data more efficiently. For example, users are
able to transfer film or video between Discreet Logic's non-real-time
FLINT system and its real-time FLAME and INFERNO systems and, in the
case of video, its real-time FIRE system. Additionally, the Company's
systems enable Discreet Logic customers to integrate their own
proprietary tools, use third party software and interface to third party
systems and devices.
. Real-Time Capabilities. The Company's FLAME and INFERNO systems enable
users to create high quality special visual effects in real-time while
its FIRE editing system enables users to perform sophisticated on-line
finishing in real-time. FLAME and INFERNO use uncompressed film and
video data and FIRE uses uncompressed video data. All three systems
provide instant and random access to any part of the stored source
material and enable creative professionals in real-time to make multiple
edits, add special visual effects, assemble a master and review the
edited piece. The ability to produce near-instantaneous results is
essential in the on-line process where a customer's client is typically
present and time is typically billed on a per hour basis.
. Resolution Independence. The Company's FLAME, FLINT and INFERNO systems
are designed to produce special visual effects in the full range of
resolutions necessary for film and video (including HDTV). These systems
enable a creative professional to choose to generate high resolution
output for film, lower resolution output for video or to work in mixed
resolutions. By using these Discreet Logic systems, rather than multiple
proprietary hardware-based systems, creative professionals can select
resolutions and achieve greater flexibility and efficiency over the
creative process, saving production time and reducing expenses.
. Ease of Use. Discreet Logic's systems are designed to be intuitive and
easy to use. Most operations within the Company's systems are controlled
through a graphical user interface and a pressure-sensitive stylus. Rows
of consecutive frames are presented visually on the screen in separate
"clips," which mimic the physical look of frames of film. These clips
are part of a database that allows the user quickly to sort through
large amounts of information.
. Systems Upgradeability. The Company's systems are modular and the
Company believes that its modular development approach results in
systems that are more easily upgradeable than proprietary hardware-based
systems which generally involve longer development and implementation
cycles, reflecting the long design, development and manufacturing cycles
of the related proprietary hardware. This upgradeability enables the
Company to more rapidly take advantage of state-of-the-art advances in
general purpose workstation technology thereby enhancing the ability of
creative professionals to produce the latest effects.
. Cost Advantages. The Company believes that its systems offer
price/performance advantages over analog and proprietary hardware-based
digital systems. The Company's systems lower the costs of content
creation by integrating multiple steps of the production process into a
single system, thus eliminating the need to purchase separate systems.
STRATEGY
The Company's strategy is to maintain and enhance its position as a leading
provider of digital systems by continuing to develop, integrate and support
complete systems that include applications, networking and communications
software, workstations, disk arrays and other peripherals. The Company seeks
to expand the range of creative professionals served by the Company and, by
leveraging its technology base, customer relationships and existing
reputation, to extend its product line to include other aspects of the content
creation process. The Company's goal is to pursue this strategy while
implementing and maintaining the cost containment, product refocus and
efficiency measures outlined in the restructuring plan. The Company's strategy
is built around the following key elements:
. Provide Studio Solutions. Discreet Logic's strategy is to offer systems
as a studio solution to integrate and simplify all steps of the content
creation process, enabling creative professionals to
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devote less time to technical aspects, and more time to creative
aspects, of the content creation process. The Company has leveraged its
experience and expertise with its FLAME and FLINT systems in the post-
production and production segments of the market to develop new products
and features as part of a complete digital studio solution. To this end,
the Company has developed INFERNO, an on-line, non-linear, resolution-
independent, uncompressed digital system providing all the features of
FLAME with increased film resolution and color control. The Company has
also developed FIRE, an uncompressed, on-line, non-linear digital video
editing system with limited special effects capabilities. In addition,
the Company is developing FLINT RT, a bundled solution that offers
FLINT's visual effects technology together with a new real-time video
and audio acquisition, storage and playback hardware subsystem, PEBBLES.
In addition, the Company has developed STONE, a scaleable modular
storage solution and is developing WIRE, a networking solution for the
production, post-production and general purpose image storage markets.
. Focus on Complete Systems. The Company's strategy is to continue to
develop, integrate and support complete systems that include
applications, networking and communications software, workstations, disk
arrays and other peripherals. The Company's systems integration
experience and know-how is an important element in a customer's rapid
installation and implementation of the Company's systems. In addition,
the Company provides its customers with a first line point of contact
with respect to all high-end system components with the goal of making
it easier for customers to optimize their use of the Company's systems.
. Maintain Leading Edge Technology. The Company believes that its future
success will be based in part on its ability to continue to provide
state-of-the-art digital solutions to meet the rapidly evolving
requirements of creative professionals. The Company's strategy is to
continue to design systems that are fully integrated with and fully
utilize the capabilities of the platform, disk arrays and other
peripherals comprising the system. By taking advantage of the systems
architecture and features of general purpose workstations, Discreet
Logic believes its modular development approach allows it to bring
innovative technology to market more rapidly than traditional analog or
proprietary hardware-based digital solutions, thereby enabling the
Company to more rapidly take advantage of advances in general purpose
workstation technology as they become available.
. Use Open Platforms. The Company's strategy is to continue to design
systems which can be enhanced and upgraded more quickly than proprietary
hardware-based systems. This upgradeability enables the Company to more
rapidly take advantage of state-of-the-art advances in general purpose
workstation technology thereby enhancing the ability of creative
professionals to produce the latest effects. In addition, the Company's
open systems approach allows its products to run in a multi-vendor
environment in which Discreet Logic's customers can easily integrate
their own proprietary tools, use third party software and interface to
third party systems and devices.
. Offer Scaleable Systems. The Company's strategy is to continue to offer
its systems in a scaleable fashion, providing customers a range of
functionality and flexibility and allowing them to customize the
Company's systems to meet their professional needs and financial
resources. The Company's customers can perform the same operations on-
line or off-line by selecting the desired processing power, storage
solutions and memory, and can upgrade their configuration when and as
their budgets, production deadlines and client base necessitate.
. Invest in Ease-of-Use and Customer-Oriented Product Development. The
Company believes that creative professionals require systems that can
integrate and simplify their work and thus enable them to devote more
time to creative activities, and less time to technical tasks. To gain
acceptance by a broader range of users, the Company plans to continue to
develop features that reduce the time and skill required to fully
utilize the Company's systems. Because the Company's products must be
able to achieve the effects required by its customers, the Company works
closely with its customers to identify and develop new products,
features and functions and regularly releases enhancements and upgrades
to its products.
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. Build Global Presence. The Company's strategy is to continue to build a
worldwide presence in order to address fully its target markets and to
serve customers that operate on an international basis. In fiscal 1994,
1995 and 1996, approximately 26%, 45% and 57%, respectively, of the
Company's sales were outside North America. In fiscal 1996, the Company
opened sales offices in India, Hong Kong and Japan and currently markets
its systems through sales offices located in those markets as well as in
Canada, the United States, the United Kingdom, France, Germany,
Singapore and Brazil and through a network of distributors in 34
countries.
THE DISCREET LOGIC SYSTEMS
Discreet Logic offers turnkey systems comprised of the Company's proprietary
software utilizing workstations manufactured by SGI, scaleable disk arrays and
other peripherals. The Company's systems provide the speed and operational
flexibility demanded by the professional film and video industries because the
Company has designed its systems to be fully integrated with and fully utilize
the capabilities of the systems' components. The Company's systems can be
linked to enable users to collaborate and manage data more efficiently.
The Company's systems are designed to be intuitive and easy to use. The
systems use a consistent interface through which operations are controlled via
on-screen menus (which users can organize to fit their preferences) and a
pressure-sensitive stylus. The Company's systems include a SPARKS developers
kit, which allows customers to seamlessly integrate their own proprietary
software or third party software into the Company's system's environments. The
Company's systems also offer comprehensive image input/output ("I/O")
functions, allowing image or object data to be captured and exchanged between
workstations in a studio environment in a variety of formats, including CCIR-
601, OMF, Wavefront, Softimage, Alias and Kodak Cineon. For sites with
multiple systems, work generated on other platforms can be imported and placed
directly onto the Company's systems local disk array for integration into the
current production. In addition, Discreet Logic image files can be transferred
between local disk arrays. For example, if a user prepares a production on a
FLINT system, the user can transfer video or film data to the FLAME or INFERNO
systems or video data to the FIRE system, for finishing with the client. The
flexible systems architecture can result in different system configurations
and enable clients to differentiate themselves from their competitors by
allowing them to customize their systems.
Special Effects Systems
FLAME
FLAME is a resolution-independent, non-linear, digital system. The system is
used by creative professionals to create, edit and composite special visual
effects in an on-line, real-time environment. Easily integrated into a suite
environment and possessing the power and features necessary to serve as the
core of a fully digitized suite, FLAME is designed to allow the operator to
create desired effects with near instantaneous feedback.
A complete FLAME system includes the FLAME software, an SGI Onyx
workstation, a disk array and various I/O devices. As of July 31, 1996, the
North American list price for a basic four-processor FLAME system was $450,000
and the software only list price was $175,000. The Company began full
commercial shipments of FLAME in January 1993. As of July 31, 1996, the
Company had sold more than 300 FLAME systems installed at over 200 customer
locations worldwide.
FLINT
FLINT, like FLAME, is a resolution-independent, non-linear, digital system
used by creative professionals to create, edit and composite special visual
effects but runs in a non-real-time environment. The FLINT system incorporates
virtually all of FLAME's feature set. The primary difference in the two
systems is the speed of interactivity, processing and I/O. The FLINT system
also can be used as an integrated augmentation to a FLAME system. For example,
effects can be created on a FLINT system and made available to the FLAME
system for real-time client selection, approval and alteration.
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A complete FLINT system includes the FLINT software, an SGI Indigo/2/
workstation, a disk array and various I/O devices. As of July 31, 1996, the
North American list price for a basic FLINT system was approximately $100,000
and the software only list price was approximately $39,900. The Company began
full commercial shipments of FLINT in December 1993. As of July 31, 1996, the
Company had sold more than 400 FLINT systems installed at over 300 customer
locations worldwide.
INFERNO
INFERNO is an on-line, non-linear, resolution-independent, uncompressed
digital system providing all the features of FLAME with increased film
resolution and color control. INFERNO provides up to 12 bits color depth per
channel along with high special image resolution. The system also features
tools for grain and noise management, wire and scratch removal, color
calibration, and enhanced I/O routines. The Company commenced commercial
shipments of INFERNO in October 1995.
A complete INFERNO system includes the INFERNO software, an SGI Onyx
workstation, a disk array and various I/O devices. As of July 31, 1996, the
North American list price for a basic four-processor INFERNO system was
approximately $700,000 and the software only list price was $225,000. As of
July 31, 1996, the Company had sold more than 35 INFERNO systems installed at
over 20 customer locations worldwide.
Special Effects Systems Features
The Company's systems contain the following features, each of which is fully
accessible from within the other features.
. Moving Pictures
Discreet Logic's systems provide three levels of image integration that
can be used depending on the complexity of the task at hand and the
desired speed of interaction and rendering:
Action. Action provides perspective matching, image warping and
advanced animation tools that can be used on a number of layers of an
image simultaneously. Complex image effects may be achieved by dragging
the corners of an image in 3D then setting animation key frames for
shape, translation, rotation, scale, surface color, specularity and
opacity. Transformed images can be interactively lit from multiple
point or spot light sources. For incorporating animated stills and
computer graphics, Action also provides capabilities such as motion
blur and foreground blending to produce believable image integration
effects. Motion blur interpolates objects in 3D space resulting in
realistic motion effects. Action can handle a virtually unlimited
number of layers, each with an associated matte for creating complex 3D
composite effects.
Compositor. Compositor is used for simple 2D composites. Compositor
provides motion animation, shadows, skewing and scaling and motion
tracking.
3D Effects. 3D Effects expands upon Compositor's capabilities and
includes features such as animation in 3D, 3D displacement mapping (the
extrusion of a 2D image based on luminance and chrominance values) and
animatable light sources and camera positions.
. Retouching and Rotoscoping
Paint. Paint offers a large variety of brush shapes, including solid,
air and texture brushes and paint effects, such as smear, wash, shade,
stamp, reveal, file, filter and clone. Custom brushes can also be
created. Paint also allows mattes to be automatically generated,
obtained from an external image sequence or hand painted.
Filter. Filter is used for image softening, sharpening, embossing, edge
enhancement, textural effects and color correction. Filters and paint
effects can be simultaneously applied to a canvas using paint strokes.
New filter styles and effects can be defined easily and added to the
feature's large library of existing filters.
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Graphics. Graphics provides a complete set of geometric and free-form
shapes through which solids can be applied. Multiple shapes can be
positioned, rotated, scaled and edited until the desired result is
achieved. Shapes can be solids, outlines, gradations, soft-edged solids
and wireframe.
Animation. In Animation attributes of graphic shapes (rotation, size,
shape, color, transparency, fuzziness) can be keyframed to create
animated sequences. Full animation editing control is provided through
a graphic timing editor.
. Advanced Image Control
Stabilizer. One of the most time consuming aspects of special visual
effects creation is the removal or matching of motion within a scene.
Stabilizer provides horizontal and vertical stability to jittery or
hand-held footage and compensates for rotational and scaling effects.
The data extracted from Stabilizer can then be imported into Compositor
or Action.
Warper. Warper offers tools for image warping and distortion. The
distortion tool is capable of interactively distorting regions based on
interior and exterior boundaries. By quickly generating keyframes,
Warper allows creative professionals to rotate, scale and translate
(twist, blow up, and stretch) images in 2D.
TimeWarp. TimeWarp allows users to change the time base of a sequence
or add dynamic motion effects. The TimeWarp function also enables an
apparent motion-blur to be defined in variable amounts throughout a
sequence.
Filter. Filter allows the user to design and apply an infinite
variation of looks to images. Users can design special visual effects
by using textures, blurring, embossing and sharpening filters or can
select from a set of procedural filters provided with the system to
take advantage of the processing architecture of the workstation.
. Color Manipulation
Color Corrector. Color Corrector provides a variety of techniques that
can be used for general scene grading and special visual effects. Color
Corrector supports four simultaneous and independent setups, one each
for shadows, midtones, highlight and a master. Color Corrector can be
loaded with foreground, background and matte channels. A creative
professional can use the foreground/background setup as a tool for
sequence matching, or alternatively, can load a matte or use the crop
function to localize the color correction. A color balance tool can be
used to change the color temperature of a scene to match another scene.
. Blue Screen and Compositing
Keyer. Keyer provides a complete set of tools to enable the creative
professional to achieve scene integration. Central to Keyer is its
precise color processing feature. The user can choose between two main
methods of matte extraction: a statistical color method for well lit
scenes or a keyer for use in all other situations. Keyer features full
color suppression and remapping algorithms. The user has a choice of
two compositing algorithms for color screens or black screens. Access
to Color Corrector enables the foreground plate to be integrated with
its new background.
. Editing
SoftClips and SoftEdit. SoftClips and SoftEdit provide resolution-
independent editing and compositing tools for on-line digital post-
production sessions. SoftClips and SoftEdit are fully non-linear,
offering random access to all footage.
Discreet Logic systems offer a number of additional features for special
visual effects editing and conforming material. Discreet Logic systems enable
complex special visual effects editing to be performed quickly through a
simple yet powerful user interface. Clips can be cut, inserted, spliced,
replaced, copied,
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repeated or reversed instantly and played back at any frame rate. Each frame
in a sequence is labeled by timecode, or by an ordinal frame number. The
workspace allows clips and reels of original footage to be locked to avoid
accidental deletion.
Discreet Logic systems read standard EDLs and assemble clips automatically.
The EDL reader can review CMX 340 and OMF files and use this information to
retrieve the appropriate clips from videotape. All clips specified in the list
are loaded into the system in the order in which they appear on videotape,
minimizing tape changes and shuttling. Clips can be loaded with user-defined
tail lengths and can be optionally assembled directly by the system.
Editing System
FIRE
FIRE is an uncompressed, on-line, non-linear digital video editing system
with limited special effects capabilities. FIRE includes a sophisticated
toolset and EditDesk, a gestural, picture based editing interface, which the
Company believes specifically address the new and expanding requirements
needed for on-line finishing. FIRE features a large work environment that
includes a clip library, a timeline and storyboard capabilities; SoftEdits,
which enable editors to make uncommitted transitions that can be modified at
any point in an edit; advanced editing tools with image enhancing capabilities
such as color correction, keying and character generation; special effects
capabilities that bring 2D effects into a 3D world; professional audio
capabilities, including up to 12 tracks of audio with real-time level EQ and
cross-fades for simultaneous audio and video editing; one or two streams of
real-time video option; and industry-standard EDL support. The Company first
shipped a pre-release commercial version of FIRE to clients in April 1996. The
Company worked closely with these clients to produce upgrades for the system
during the fourth quarter of fiscal 1996 and the first quarter of fiscal 1997.
The Company expects that full system functionality will be realized with the
next release of FIRE which the Company expects to ship in the fourth calendar
quarter of 1996. The Company also expects to commence full commercial
shipments of FIRE in the fourth calendar quarter of 1996.
A complete FIRE system includes the FIRE software, an SGI Onyx workstation,
a disk array and various I/O devices. As of July 31, 1996 the North American
list price for a basic four-processor FIRE system was $400,000 and the
software only list price was $175,000.
SYSTEM COMPONENTS
The Workstation
FLAME, INFERNO and FIRE run on SGI Onyx workstations, typically configured
with four or eight processors, and FLINT runs on the SGI Indigo/2/ Impact
workstation. Both hardware platforms are scaleable and upgradeable to fit the
price and performance criteria of the customer. Each system can be connected
to other Discreet Logic systems and to numerous third party software, systems
and devices.
Disk Arrays
A disk array is comprised of a number of disks working cooperatively to
handle high speed data flows. FLAME, INFERNO and FIRE store images on disk
arrays that can be configured to deliver up to 1300 gigabytes of on-line
random access storage, or up to 12 hours of video or one hour of film.
Disk arrays for FLAME and INFERNO can record and playback to and from a
studio's video tape recorders at full resolution, in real time. Each FLAME and
INFERNO disk array can be configured to hold film or video formats
concurrently on the same disk array without degradation of playback and record
performance. Disk arrays for FIRE can record and playback to and from a
studio's video tape recorders at full video resolution in real time and can be
configured to hold video formats concurrently on the same disk
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array without degradation of playback and record performance. A typical FLINT
disk array configuration can record and play up to nine minutes of video or
one minute of film. In order to preview sequences in real- time, FLINT systems
make use of lower resolution proxies. The system allows the user to choose the
resolution and speed of sequence playback within the limits of the platform.
I/O
Third party video tape recorders can be controlled with FLAME, INFERNO, FIRE
and FLINT's stylus and tablet. FLAME, INFERNO and FIRE interface to component
digital video devices using the SGI Sirius board. FLAME, INFERNO and FIRE can
record and play back component digital video in real-time directly to and from
its disk array. I/O edits can be implemented sequentially using the EDL
capabilities of the FLAME, INFERNO and FIRE systems. Other third party
devices, such as film scanners and recorders, can also be used with Discreet
Logic systems for HDTV and film transfers.
FLAME, FLINT, INFERNO and FIRE can record and playback two audio tracks
synchronized with an image effect.
OTHER PRODUCTS AND PRODUCTS UNDER DEVELOPMENT
The Company offers STONE, a disk-based storage system for video and high-
performance film applications, which is targeted at the production, post-
production and general purpose image storage markets. STONE is designed to
allow real-time playback of uncompressed video frames in any order,
efficiently store any mix of resolutions and ensure image integrity by
remaining operational in the event of disk or power supply failure. The
Company commenced full commercial shipments of STONE in April 1995. As of July
31, 1996, the North American list price for a basic STONE disk array was
approximately $63,500.
The Company is continuing its development efforts of WIRE, a high
performance transport system for digital film and video for use with multiple
STONE disk arrays. WIRE will build on the Company's disk technology and is
being designed to provide real-time CCIR-601 instant access to images located
on a disk anywhere within a post-production facility. WIRE is also being
designed to allow the facility to configure its network as a centralized or
distributed network, or both. The Company currently plans to commence
commercial shipments of WIRE in the second half of fiscal 1997.
The Company is developing FLINT RT, a bundled solution that offers FLINT's
visual effects technology in conjunction with a new real-time video and audio
acquisition, storage and playback hardware subsystem, PEBBLES. PEBBLES is an
I/O subsystem that provides the SGI Indigo/2/ workstation with a real-time
video I/O and also relieves pressure on the central processing unit. PEBBLES,
which has disk-based storage space for 25 minutes of uncompressed 525 or 625
line ITU-R-601 resolution video in full 8-bit, 4:4:4 RGB color resolution,
provides the real-time video storage capacity required for a significant
number of effects projects. The Company expects to commence full commercial
shipment of FLINT RT in the second quarter of fiscal 1997.
In September 1995, the Company entered into a strategic partnership with
Sonic Solutions, a developer of audio editing systems. As a result of the
partnership, the Company offers STREAM. When integrated with the Company's
digital image processing systems, STREAM allows audio and images to be
manipulated in real-time at full resolution. STREAM is an audio editing
subsystem offering four I/O channels and 12 tracks of disk playback and is
designed to be integrated with the FLAME, FIRE and INFERNO systems.
As a result of the COSS/IMP acquisition, the Company markets and is further
developing VAPOUR, a computer-based, integrated graphics system, which is used
to create computer generated locales, also known as virtual sets, for news,
sports and entertainment programming and FROST, a set of modeling, animation
and rendering tools for the creation and manipulation of 3D environments for
broadcast companies. VAPOUR and FROST are designed to operate on the SGI Onyx
workstation and allow the user to work completely in
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real-time or through a combination of real-time and post-produced components.
VAPOUR and FROST are based on COSS/IMP PLATFORM technology acquired by the
Company. As part of the Company's restructuring, the Company's Innsbruck,
Austria office has been closed and the development of the VAPOUR and FROST
products has been transitioned to the Company's headquarters in Montreal,
Canada.
There can be no assurance that these new products will be successfully
completed or will achieve market acceptance.
CUSTOMERS
The Company's systems are sold primarily to film and video production, post-
production and broadcast companies. As of July 31, 1996, the Company had an
installed base of more than 300 FLAME, 400 FLINT and 35 INFERNO systems at
over 400 customer locations worldwide. The following table sets forth selected
projects in which the Company's products were used to create special effects:
[CHART APPEARS HERE]
DESCRIPTION OF GRAPHICS
Table describing selected projects in which the Company's products were used
to create special effects. The table contains three columns entitled "Category,"
"Project" and "Customer." The Table contains four rows entitled "Feature Films,"
"Television Series," "Commercials" and "Music Videos."
Across the row entitled Feature Films, the table lists the following
Project/Customer combinations: Joe's Apartment/Blue Sky Productions/MIV/Warner
Bros.; Screamers/Group Images Buzz/Allergo Films; Speed/Video Image (VIFX);
Broken Arrow/Pacific Ocean Post; The Emperor's Shadow/Complete Post; Forest
Gump/Industrial Light & Magic; Batman Forever/CIS-Hollywood/Paramount.
Across the row entitled Television Series, the table lists the following
Project/Customer combinations: Outer Limits/John Gajdecki Visual Effects; Star
Trek: Deep Space Nine/CIS-Hollywood/Paramont; Lois & Clark: The New Adventures
of Superman/525 Post/Virgin.
Across the row entitled Commercials the table lists the following
Project/Customer combinations: Vauxhall Vecta "Millenium"/Lost in Space; Nike
"Good vs. Evil"/The Mill Weiden & Kennedy/Spots; McDonald's "The
Sign"/R/Greenberg Associates/Leo Burnett; Budweiser "World Party Kickoff"/The
Post Group; Panasonic "Big Game"/Design Efx/Dentsu Inc.; Diet Coke "Street
Corners"/Click 3X/Lowe & Partners; Frito-Lay "Apartment"/Click 3X/Lowe &
Partners; AT&T "Paddleball"/Tape House Digital; Puma "Man"/Moving Picture
Company/Saatchi & Saatchi.
Across the row entitled Music Videos the table lists the following
Project/Customer combinations: Rolling Stones "Like a Rolling Stone/Buf
Compagnie; Tori Amos "Caught a lite sneeze"/Cinesite (Europe) Ltd., Tina Turner
"Whatever You Want"/Cinesite (Europe) Ltd.; Seal "Don't Cry"/525 Post/Virgin.
No customer accounted for 10% or more of the Company's total revenues in
fiscal 1994, 1995 or 1996, respectively.
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MARKETING AND SALES
Marketing Strategy. To date, the Company has marketed its systems primarily
to production and post-production companies in the film and video industries.
The Company's principal marketing strategy has been to create awareness of its
systems through appearances at major international computer graphics and
broadcasting tradeshows, such as National Association of Broadcasters ("NAB"),
ACM SIGGRAPH (U.S.), International Broadcasters Convention (IBC) (Europe),
INTERBEE (Japan) and Montreaux (Europe). The Company has supported this
marketing strategy with direct-mail advertising and advertisements in trade
publications. In addition, the Company believes that the high quality of
computer images generated using its products results in significant industry
awareness. With permission from its customers, the Company creates promotional
materials utilizing art work created using the Company's products.
As the Company broadens the markets for its systems, the Company intends to
expand its marketing efforts accordingly. Depending upon the end user market,
the Company may increase the level of advertisement in trade publications and
direct mail advertising or rely upon strategic partners or distributors with
established marketing capabilities within a particular market.
Direct Sales and Distribution. Discreet Logic sells its systems and other
products through its direct sales organization, as well as through
distributors and resellers. The Company markets and sells its systems directly
in North America and in certain European and Pacific Rim countries. Sales
activities in North America are conducted from the Company's Montreal
headquarters, sales offices in Los Angeles and New York and field
representatives based in Boston, San Francisco, Atlanta and Chicago. In fiscal
1996 the Company opened sales offices in India, Hong Kong and Japan. The
Company also markets its systems through sales offices located in the United
Kingdom, France, Germany, Singapore and Brazil. The Company's headquarters and
each of its sales offices have sales and demonstration capabilities. As of
October 1, 1996, the Company employed 28 direct sales people and 24
demonstration artists worldwide.
Historically, the Company used distributors and resellers to sell FLINT in
geographic areas generally not served by the Company's direct sales
organization. The Company has expanded the number of distributors marketing
the Discreet Logic systems from 21 in fiscal 1995 to 48 in fiscal 1996. In
connection with the restructuring plan, the Company expects to further expand
the distribution network and, in addition, most distributors will now be
allowed to sell FLAME, INFERNO and FIRE systems, as well as FLINT systems
which they previously distributed. In the United States, the Company maintains
a direct sales presence in its primary markets including New York, Chicago and
Los Angeles. Elsewhere in the United States, the Company typically sells its
systems through its distribution network which is managed by the Company's
sales representatives. Outside of the United States, the Company maintains a
direct sales presence in its primary markets, including London, Paris, Munich,
Singapore and Tokyo. In other areas outside of the United States, the Company
typically sells its systems through its distribution network which is managed
by the Company's sales representatives. Generally customers purchasing the
Company's software and peripherals from the distributors will also purchase
the SGI workstation hardware from the distributors. The Company provides the
software and systems integration training to its distributors. The Company
currently has distribution relationships with 48 distributors and resellers in
34 countries. In fiscal 1996, direct sales accounted for 87% of revenues and
distributor and reseller sales accounted for 13% of revenues. The Company's
strategy of marketing its systems directly to customers and indirectly through
distributors may result in distribution channel conflicts as the Company's
direct sales efforts may compete with those of its indirect channels.
International Revenues. For fiscal 1994, 1995 and 1996 revenues from
customers outside North America accounted for approximately 26%, 45% and 57%,
respectively, of the Company's total revenues. The Company expects that
revenues from customers outside North America will continue to account for a
substantial portion of its revenues.
Reseller Arrangements. The Company is a master value added reseller ("VAR")
of SGI workstations. There are significant risks associated with this reliance
on SGI and the Company may be impacted by the timing of the development and
release of products by SGI, as was the case during fiscal 1996. In addition,
the Company has faced and may in the future face unforeseen difficulties
associated with adapting the
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Company's products to future SGI products. In May 1994, Discreet Logic entered
into a Value-Added Reseller Agreement with SGI. The agreement grants to the
Company a non-exclusive right to purchase and license certain hardware
products from SGI, including the SGI Onyx workstations and the SGI Indigo/2/
workstation for remarketing by the Company in the United States. Although the
agreement contains no minimum purchase requirements, the volume of systems
purchased from SGI affects the percentage discount received by the Company.
The agreement is subject to annual renewal in May of each year and may be
terminated by SGI for cause. The agreement with SGI has been extended through
January 15, 1997 and the Company has no reason to believe that SGI will not
renew such agreement. The Company also acts as a reseller and systems
integrator of certain peripheral devices used in the Company's systems,
including audio and video I/O cards and electronic tablets. The Company
receives discounts for the purchase price of these products. In fiscal 1994,
1995 and 1996, revenues derived from sales of these products accounted for
approximately 45%, 39% and 34%, respectively, of the Company's total revenues.
SYSTEMS INTEGRATION, SERVICE AND SUPPORT
The Company provides systems integration services, support and training to
customers and distributors. In most cases the Company provides these services
under separately priced arrangements. The Company makes available a wide range
of support services, including on-site and telephone support and in-house and
on-site training in use of the Company's products. In certain markets,
typically outside of the United States, the Company's distributors also
provide such services, support and training and are compensated for such
services directly from the customer. The Company believes that its focus on
customer service provides it with important information about the evolving
needs of its customers. The Company derived revenues of approximately
$1,000,000, $4,770,000 and $11,713,000 from these services in fiscal 1994,
1995 and 1996, respectively.
The Company's customer service organization provides the following services:
Systems Integration. The Company's systems integration personnel assist
customers in the configuration and installation of FLAME, INFERNO and VAPOUR
systems. Because these systems include a multi-processor SGI Onyx workstation,
significant disk array storage capacity and other peripherals, the Company's
system integration experience and know-how is an important element in a
customer's rapid installation and implementation of the Company's systems.
Technical Support. Technical support personnel provide toll-free telephone
assistance to customers and distributors. These personnel diagnose and solve
technical software, hardware and applications problems and assist customers in
the use of the Company's systems and ongoing systems integration issues. In
addition, field engineers provide on-site support, including first line
hardware and peripheral support, to the Company's customers. The Company's
systems are generally sold with a one-year maintenance contract which includes
technical support.
Training. After installation of a system, the Company offers its customers
one week of basic training at the customer's facilities for a fee. The Company
also has established an advanced training program for its customers. Most of
the Company's trainers have production experience.
The Company supports its customers in North and South America from the
Company's Montreal office. Customers in Europe and the Pacific Rim are
supported from the offices of the Company's European subsidiaries and by
distributors, who have received training in the use of the Company's systems.
As of October 1, 1996, the Company employed a total of 41 persons worldwide in
its customer support organization.
RESEARCH AND DEVELOPMENT
The Company's research and product development efforts are focused on the
continued enhancement of the FLAME, FLINT, INFERNO, FIRE, VAPOUR and FROST
systems and the development of new
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products. Discreet Logic employs a modular development approach which it
believes allows it to bring innovative technology to market more rapidly than
traditional analog or proprietary hardware-based digital solutions and enables
it to take advantage of advances in general purpose workstation technology as
they become available. The Company intends to continue to enhance and upgrade
these products on a regular basis.
The Company is currently developing additional products and features based
on its proprietary technology that are intended to expand the Company's
markets. The Company is developing FLINT RT, a bundled solution that offers
FLINT's visual effects technology in conjunction with a new real-time video
and audio acquisition, storage and playback hardware subsystem, PEBBLES. In
addition, the Company is continuing its development efforts of WIRE a high
performance transport system for digital film and video use with multiple
STONE disk arrays.
In fiscal 1994, 1995 and 1996, without taking into account Canadian federal
and provincial research and development tax credits, the Company spent
approximately $1,075,000, $4,582,000 and $17,613,000, respectively, on
research and development, representing 7%, 7% and 21%, respectively, of total
revenues. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Results of Operations." The Company's research and
development staff consisted of 87 persons as of October 1, 1996. As part of
the Company's restructuring plan, the Company has consolidated key research
and development functions and personnel into its Montreal headquarters.
Included in this research and development consolidation is the transitioning
of the development of VAPOUR and FROST from Innsbruck to Montreal. VAPOUR and
FROST are systems the Company markets and has further developed since the
Company obtained these systems in its acquisition of all of the outstanding
shares of COSS and certain assets of IMP in October 1995. As part of the
Company's restructuring plan, the Company has discontinued the development of
the Brughetti products, AIR, PURE, SLICE and DIPLOMAT. The Company acquired
substantially all of the technology and other assets of the Brughetti
Corporation in May 1995. As a result of the Company's consolidation of key
research and development functions, the Company has closed the following
research and development offices: Cambridge, Massachusetts, Connecticut,
London and Innsbruck. The Company expects to close its research and
development office in Paris by the end of December 1996. The Company believes
that the consolidation of personnel and technology will enhance the Company's
ability to share core technologies across the product groups.
There can be no assurance that management will be successful in implementing
the restructuring plan or that the Company will not take on further
restructurings or be profitable in the future. Furthermore, the implementation
of the restructuring plan may cause a diversion of management's time and
resources and may result in other unforeseen disruptions and unexpected
expenses.
The market for the Company's systems is characterized by evolving industry
standards, changing technologies and frequent new product introductions. The
Company believes that its future success will be based in part on its ability
to enhance its existing systems and to introduce new products and features
which meet the evolving requirements of creative professionals. In addition,
as a master VAR of SGI workstations, the Company obtains advance access to SGI
technology which facilitates its efforts to develop compatible systems and to
modify and improve existing products. If the Company were unable to obtain
such advance access, it could have an adverse impact on the Company's business
and results of operations.
PROPRIETARY RIGHTS
The Company's success is dependent upon its proprietary technology. Although
the Company has one patent and has 25 pending patent applications on its
technology, it relies principally on unregistered copyrights and trade
secrets. The Company generally seeks to enter into confidentiality agreements
with its employees and license agreements with its distributors and limit
access to and distribution of its systems, documentation and other proprietary
information. Until recently, substantially all of the Company's systems were
sold without written license agreements. There can be no assurance that the
Company will not be involved in litigation with respect thereto, or that the
outcome of any such litigation might not be more unfavorable to the
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Company as a result of such omissions. Any such litigation could have a
material adverse effect on the Company's business and results of operations.
The Company uses both software and hardware keys with respect to its systems
but otherwise does not copy-protect its systems. It may be possible for
unauthorized third parties to copy the Company's products or to reverse
engineer or obtain and use information that the Company regards as
proprietary. There can be no assurance that the Company's competitors will not
independently develop technologies that are substantially equivalent or
superior to the Company's technologies. In addition, the laws of certain
countries in which the Company's products are or may be distributed do not
protect the Company's products and intellectual rights to the same extent as
the laws of Canada and the United States. As the number of software products
in the industry increases and the functionality of these products further
overlaps, the Company believes that software products generally may
increasingly become the subject of claims that such software products infringe
the rights of others.
Significant and protracted litigation may be necessary to protect the
Company's intellectual property rights, to determine the scope of the
proprietary rights of others or to defend against claims of infringement. The
Company attempts to ensure that its systems and processes do not infringe any
existing proprietary rights of others and is not currently involved in any
litigation with respect to intellectual property rights; however, there can be
no assurance that third-party claims alleging infringements will not be
asserted against the Company in the future. If infringement is alleged, the
Company could be required to discontinue the use of certain software code or
processes, to cease the manufacture, use and sale of infringing products, to
incur significant litigation costs and expenses and to develop non-infringing
technology or to obtain licenses to the alleged infringing technology. There
can be no assurance that the Company would be able to develop alternative
technologies or to obtain such licenses or, if a license were obtainable, that
the terms would be commercially acceptable to the Company. Moreover, although
the Company believes that its systems and technology do not infringe any
existing proprietary rights of others, there may be pending or issued patents
that extend to the Company's products, which, together with the growing use of
patents to protect technology, increase the risk that third parties may assert
infringement claims against the Company in the future. Because the software
development industry is characterized by rapid technological change, the
Company believes that factors such as the technological and creative skills of
its personnel, new product developments, frequent product enhancements, name
recognition and reliable product maintenance are more important to
establishing and maintaining a technology leadership position than the various
legal protections of its technology.
MANUFACTURING AND SUPPLIERS
The Company has historically relied on third party vendors to manufacture
and supply all of the hardware components used in the Company's systems.
Manufacturing at the Company consists of assembly (including disk array
assembly), testing and value-added systems integration. The Company's
manufacturing staff consisted of 9 persons as of October 1, 1996.
The Company's systems currently include workstations manufactured by SGI.
There are significant risks associated with this reliance on SGI and the
Company may be impacted by the timing of the development and release of
products by SGI, as was the case during fiscal 1996. In addition, there may be
unforeseen difficulties associated with adapting the Company's products to
future SGI products. The Company is an authorized master VAR of workstations
manufactured by SGI. The Company's agreement with SGI is subject to annual
renewal in May of each year and termination by SGI for cause. The agreement
with SGI has been extended through January 15, 1997 and the Company has no
reason to believe that SGI will not renew such agreement. In addition,
although the Company has no reason to believe that it will be unable to obtain
sufficient quantities of SGI workstations on a timely basis or that its status
as a master VAR will be changed, there can be no assurance that the Company
will continue to be able to procure such workstations in sufficient quantities
or that SGI will continue to recognize the Company as a master VAR. The
success of the Company also depends, in part, on the continued market
acceptance of SGI workstations, in general, and by the professional film and
video industries, in particular. Although the Company intends to continue to
evaluate new hardware platforms and may adapt its products as technological
advances and market demands
18
<PAGE>
dictate, the Company believes that it will continue to derive substantially
all of its revenue for the foreseeable future from the sale and maintenance of
systems designed to include SGI workstations. As a result, financial, market
and other developments adversely affecting SGI or the sales of workstations or
the introduction or acquisition by SGI of products which are competitive with
those of the Company, could have an adverse effect upon the Company's business
and results of operations.
The Company is dependent on SGI as the Company's sole source for video I/O
cards used in the Company's systems. The Company also purchases electronic
tablets manufactured by Wacom and believes that, while alternative suppliers
are available, there can be no assurance that alternative electronic tablets
would be functionally equivalent or be available on a timely basis or on
similar terms. The Company generally purchases sole source or other components
pursuant to purchase orders placed from time to time in the ordinary course of
business and has no written agreements or guaranteed supply arrangements with
its sole source suppliers. The Company has experienced quality control
problems and supply shortages for sole source components in the past and there
can be no assurance that the Company will not experience significant quality
control problems or supply shortages for these components in the future. The
Company does not maintain an extensive inventory of these components, and an
interruption in supply could have a material adverse effect on the Company's
business and results of operations. Because of the Company's reliance on these
vendors, the Company may also be subject to increases in component costs which
could adversely affect the Company's business and results of operations.
The Company has no significant backlog and does not believe that its backlog
at any particular point in time is indicative of future sales levels.
COMPETITION
The market in which the Company competes is characterized by intense
competition. In the real-time segment of the market the Company's FLAME system
competes with Quantel Limited's ("Quantel") Henry. In certain applications in
the non-real-time segment of the market the Company's FLINT system competes
with Avid Technology, Inc.'s ("Avid") Illusion. The Company's INFERNO system
competes with Quantel's Domino and Eastman Kodak Company's ("Kodak") Cineon.
The Company's FIRE system competes with Quantel's Editbox and Sony's range of
proprietary editing equipment. Many of the Company's current and prospective
competitors, including Quantel, Kodak and Sony, have significantly greater
financial, technical, manufacturing and marketing resources than the Company.
Moreover, these companies may introduce additional products that are
competitive with those of the Company, and there can be no assurance that the
Company's products would compete effectively with such products. In addition,
as personal computers become more powerful, software suppliers may be able to
introduce products for personal computers that would be competitive with the
Company's products in terms of price and performance for professional users.
In June 1994, Microsoft Corporation acquired Softimage Inc. ("Softimage").
In March 1995, Avid announced the acquisition of Parallax Graphic Systems,
Ltd. and Elastic Reality, Inc. In addition, in June 1995, SGI acquired both
Alias Research Inc. and Wavefront Technologies, Inc. Although the Company
believes these acquisitions have not materially affected the Company's
competitive position, there can be no assurance that in the future such
acquisitions will not have a material adverse effect upon the Company's
business or results of operations. In addition, companies in related
industries in the future may enter the Company's markets.
The Company believes that its ability to compete depends on elements both
within and outside its control, including the success and timing of new
product development and introduction by the Company and its competitors,
product performance and price, distribution and customer support. There can be
no assurance that the Company will be able to compete successfully with
respect to these factors. Although the Company believes that it has certain
technological and other advantages over its competitors, maintaining such
advantages will require continued investment by the Company in research and
development, sales and marketing and customer service and support. There can
be no assurance that the Company will have sufficient resources to make such
19
<PAGE>
investments or that the Company will be able to make the technological
advances necessary to maintain such competitive advantages. In addition, as
the Company enters new markets, distribution channels, technical requirements
and levels and bases of competition may be different than those in the
Company's current markets and there can be no assurance that the Company will
be able to compete favorably.
EMPLOYEES
As of October 1, 1996, the Company had 259 full-time employees. Of such
employees 87 were employed in research and development, 74 in sales, 13 in
marketing, 41 in customer support, 9 in manufacturing and 35 in administration
and finance. The Company believes that its future success will depend in large
part upon its ability to attract and retain highly skilled technical,
management and sales and marketing personnel. Moreover, because the
development and marketing of the Company's systems requires knowledge of film
and video production and post-production, key technical personnel must be
proficient in a number of disciplines. Competition for such technical
personnel is intense, and the failure of the Company to hire and retain
talented technical personnel or the loss of one or more key employees could
have an adverse effect on the Company's business and results of operations.
The Company's employees are not represented by a labor union, and the Company
considers its employees relations to be good.
ITEM 2. PROPERTIES
The Company leases approximately 44,859 square feet of space at its
headquarters located in Montreal, Quebec, pursuant to a lease which expires on
January 31, 2003. The current annual base rent under such lease is
approximately CDN$317,000 (or approximately $229,000 at July 31, 1996). As of
July 31, 1996, the Company leased sales offices, research and development
facilities and/or warehouse space in the United States, Brazil, France, the
United Kingdom, Germany, Singapore, India, Hong Kong and Japan, pursuant to
leases which expire from November 1996 through February 2003. The Company's
current aggregate annual rental expense for these additional facilities is
approximately $1,119,000. As part of the Company's restructuring plan, the
Company has closed the following offices: the Company's Cambridge,
Massachusetts sales and research and development office, its Boca Raton,
Florida sales office, its Irish manufacturing and integration center (lease
expired July 1996), and its Connecticut, London and Innsbruck research and
development offices. The Company has relocated its sales office in New York
and expects to close its research and development office in Paris by the end
of December 1996. The Company is currently in the process of either sub-
leasing these offices or negotiating lease buyout penalties.
In August 1995, the Company purchased an approximately 10,000 square foot
office building in London, England for use as a sales facility for
approximately (Pounds)1,148,000 (or approximately $1,788,000). Subsequently,
in September 1995, the Company entered into an agreement to purchase an
approximately 50,000 square foot office building in Montreal, Quebec for
CDN$1,730,000 (or approximately $1,250,000 at July 31, 1996). The carrying
values of the Montreal building and the London building were written down to
their estimated fair market values and the buildings were classified as assets
held for sale.
ITEM 3. LEGAL PROCEEDINGS
On May 29, 1996, a lawsuit entitled Sandra Esner and Jerry Krim, On Behalf
of Themselves and All Others Similarly Situated, vs. [...] Discreet Logic
Inc., et al., Case No. 978584 was filed in the Superior Court of the State of
California, City and County of San Francisco. Named as defendants are the
Company, certain of the Company's former and existing directors, officers, and
affiliates, and certain underwriters and financial analysts. The plaintiffs
purport to represent a class of all persons who purchased the Company's common
stock between September 13, 1995, and May 1, 1996. The complaint alleges
violations of California law through material misrepresentations and
omissions, among other things. The Company believes the allegations in the
complaint are without merit and intends to defend the lawsuit vigorously.
On June 13, 1996, a lawsuit entitled Bruce Friedberg, On Behalf of Himself
and All Others Similarly Situated, vs. Discreet Logic Inc., et al., Civ. No.
96-11232-EFH, was filed in the United States District Court, District of
Massachusetts. Named as defendants are the Company and certain of the
Company's former and existing directors and officers. The plaintiff purports
to represent a class of all persons who purchased the Company's common stock
between November 14, 1995, and February 13, 1996. On October 11, 1996, the
20
<PAGE>
plaintiff filed an amended complaint which asserts substantially the same
factual allegations as the first complaint and proposes the identical class
period. The complaint alleges violations of United States Federal Securities
law through material misrepresentations and omissions. The Company believes
the allegations in the complaint are without merit and intends to defend the
lawsuit vigorously.
Although the Company denies all material allegations of these complaints and
intends to vigorously defend against all claims brought against it, the
ultimate outcome, including amount of possible loss, if any, of litigation
cannot be determined at this time. No provision for any liability that may
result from this litigation has been made in the accompanying Consolidated
Financial Statements, however, the Company has accrued $2,506,000 as estimated
legal fees to defend against these lawsuits. There can be no assurance that
the ultimate outcome of these matters will not have a material adverse affect
on the Company's business and results of operations. See Note 5 to Notes to
the Company's Consolidated Financial Statements.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of the fiscal year ended
July 31, 1996 to a vote of security holders of the Company, through the
solicitation of proxies or otherwise.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's Common Shares are traded on the Nasdaq National Market under
the symbol "DSLGF." Public trading of the Common Shares commenced on June 30,
1995. Prior to that time, there was no public market for the Company's Common
Shares. The following table sets forth the high and low sales prices for the
Common Shares as reported by Nasdaq for the periods indicated:
<TABLE>
<CAPTION>
HIGH LOW
---- ----
<S> <C> <C>
Fiscal 1995:
Fourth quarter (from June 30, 1995)...................... $21 3/16 $15 5/8
Fiscal 1996:
First quarter............................................ $ 29 $ 19
Second quarter........................................... $32 1/4 $17 3/4
Third quarter............................................ $28 1/4 $ 9 3/4
Fourth quarter........................................... $10 1/4 $ 3 7/8
Fiscal 1997:
First quarter (through October 23, 1996)................. $ 8 5/8 $ 3 1/4
</TABLE>
On October 23, 1996, the last reported sale price of the Common Shares on
the Nasdaq National Market was $6.38 per share. As of October 23, 1996, there
were approximately 223 holders of record of the Common Shares and the Company
believes that as of such date there were approximately 7,300 beneficial owners
of the Common Shares, based upon information provided by the Company's
transfer agent.
The Company has never declared or paid cash dividends and does not
anticipate paying any cash dividends on its capital stock in the foreseeable
future. In the event cash dividends are declared or paid, the Company
anticipates that they would be declared and paid in U.S. dollars. Part 1A of
the Quebec Companies Act prohibits the Company from paying dividends that
would prevent it from discharging its liabilities when due or that would bring
the book value of its assets to an amount less than the sum of its liabilities
and its issued and paid-up share capital account. At July 31, 1996, the
Company could not distribute any dividends.
21
<PAGE>
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data should be read in conjunction with,
and are qualified in their entirety by, the Company's consolidated financial
statements, related notes and other financial information included herein.
<TABLE>
<CAPTION>
PERIOD FROM
INCEPTION
(SEPTEMBER
10, 1991) YEAR ENDED JULY 31
TO JULY 31, -----------------------------------
1992 1993 1994 1995 1996
----------- ------- ------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Total revenues............... $ 892 $ 2,609 $15,392 $64,549 $ 83,997
Cost of revenues............. 143 674 8,289 29,609 49,333
----- ------- ------- ------- --------
Gross profit............... 749 1,935 7,103 34,940 34,664
----- ------- ------- ------- --------
Operating expenses:
Research and
development(1)(2).......... 107 281 625 4,037 16,902
Sales and marketing......... 285 1,059 2,785 12,588 26,088
General and administrative
(3)........................ 236 500 1,383 4,855 10,582
Write-off of purchased
research and
development(4)............. -- -- -- -- 8,500
Restructuring expense(5).... -- -- -- -- 15,000
Litigation and related
settlement expense(6)(7)... -- 152 1,366 -- 2,506
----- ------- ------- ------- --------
Total operating expenses... 628 1,992 6,159 21,480 79,578
----- ------- ------- ------- --------
Operating income (loss).... 121 (57) 944 13,460 (44,914)
Total other income (expense).. -- (44) (86) (170) 2,208
----- ------- ------- ------- --------
Income (loss) before income
taxes and minority interest.. 121 (101) 858 13,290 (42,706)
Provision for income taxes.... 7 12 343 5,490 1,435
----- ------- ------- ------- --------
Net income (loss) before
minority interest............ 114 (113) 515 7,800 (44,141)
Minority interest............. -- -- 32 15 --
----- ------- ------- ------- --------
Net income (loss).......... $ 114 $ (113) $ 483 $ 7,785 $(44,141)
===== ======= ======= ======= ========
Net income (loss) per common
share........................ $ .01 $ (.01) $ .02 $ .31 $ (1.64)
===== ======= ======= ======= ========
Weighted average common shares
outstanding.................. 9,868 20,954 23,094 24,886 26,837
===== ======= ======= ======= ========
</TABLE>
<TABLE>
<CAPTION>
JULY 31,
-------------------------------
1993 1994 1995 1996
------ ------ ------- -------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents..................... $ 157 $ 826 $40,987 $21,658
Working capital (deficit)..................... (275) (382) 41,847 24,030
Total assets.................................. 2,539 9,431 76,858 80,148
Total shareholders' equity.................... 431 934 50,124 42,343
</TABLE>
- --------
(1) Research and development expenses are net of Canadian federal and
provincial tax credits of $88,000, $314,000, $450,000, $545,000, and
$711,000 for the period from inception to July 31, 1992, the years ended
July 31, 1993, 1994, 1995 and 1996, respectively. See Note 7 of Notes to
the Company's Consolidated Financial Statements.
(2) In the third fiscal quarter of 1996, the Company charged to operations
$2,500,000 as research and development expense related to its investment
in Series B convertible, voting, preferred shares of, Essential
Communications due to the uncertainty regarding the reliability of the
investment in the preferred shares.
22
<PAGE>
(3) In Fiscal 1996, the Company provided approximately $3,300,000 in reserves
for potentially doubtful accounts receivable, including $830,000 to
reflect certain recourse provisions in and other risks associated with
certain third party financing arrangements. See Note 1(f) of Notes to the
Company's Consolidated Financial Statements. In addition, in the third
quarter of fiscal 1996, the Company reduced the carrying value of a
building purchased in Montreal by CDN$500,000 (approximately $365,000) to
reflect the amount expected to be realized upon its sale.
(4) As part of the Company's acquisition of COSS/IMP in October 1995, the
Company charged to operations $8,500,000 of in-process research and
development.
(5) In the fourth quarter of fiscal 1996, the Company recorded a pre-tax
restructuring charge of $15,000,000. See Note 17 of Notes to the Company's
Consolidated Financial Statements.
(6) The results of operations for fiscal 1993 and 1994 include charges of
$152,000 and $1,366,000, respectively, for litigation and related
settlement expenses in connection with the Company's litigation and
arbitration with Softimage. See Note 5 of Notes to the Company's
Consolidated Financial Statements.
(7) The results of operations for fiscal 1996 includes a charge of $2,506,000
to operations for legal costs associated with defending the class action
lawsuits.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the Consolidated
Financial Statements and Notes thereto included elsewhere herein.
OVERVIEW
Discreet Logic develops, assembles, markets and supports non-linear, on-
line, digital systems for creating, editing and compositing imagery and
special effects for film and video. The Company was incorporated in September
1991 and in late 1991 entered into a business relationship with Animal Logic
Pty. Ltd. to distribute and continue the development of Eddie, a 2D software
product which accounted for substantially all the Company's revenues in fiscal
1992. In December 1992 and January 1993, the Company assigned its rights in
the Eddie product line to Animal Logic Pty. Ltd. and Softimage in conjunction
with the termination of the business relationship.
In July 1992, the Company entered into an assignment agreement with Gary
Tregaskis, the original developer of FLAME, under which Mr. Tregaskis assigned
his rights to FLAME to the Company and became a shareholder of the Company.
The Company began shipping a pre-release commercial version of FLAME in
November 1992 and began full commercial shipments in January 1993. In July
1993, the Company began shipping a pre-release commercial version of FLINT,
and in December 1993 began full commercial shipments. The Company began
shipping a pre-release commercial version of FIRE in April 1996. The Company
expects that full system functionality will be realized with the next release
of FIRE which the Company expects to ship in the fourth calendar quarter of
1996. The Company also expects to commence full commercial shipments of FIRE
in the fourth calendar quarter of 1996. No revenue related to FIRE was
recognized in fiscal 1996. FLAME, FLINT, INFERNO and FIRE are turnkey systems
comprised of the Company's proprietary software utilizing workstations
manufactured by SGI, scaleable disk arrays and other peripherals.
The Company has also targeted the broadcast market and to that end is
marketing and further developing VAPOUR, a computer-based, integrated graphics
system, which is used to create computer generated locales, also known as
virtual sets, for news, sports and entertainment programming and FROST, a set
of modeling, animation and rendering tools for the creation and manipulation
of 3D environments for broadcast companies. The Company began its first
commercial shipments of VAPOUR and FROST in October 1995.
The Company's revenues consist of product revenues (including licensing of
its software and resale of third party hardware) and revenues from maintenance
and other services (including consulting and training). For all periods
presented, the Company has recognized revenue in accordance with Statement of
Position 91-1, entitled "Software Revenue Recognition," issued by the American
Institute of Certified Public Accountants.
23
<PAGE>
In accordance with this statement, in cases where the Company has delivered
hardware and/or software to customers and has insignificant or noncritical
vendor obligations related to these deliveries, the revenue attributable to
such obligations has been deferred until such obligations have been fulfilled.
Recent Developments
During the fiscal year ended July 31, 1996, excluding a restructuring charge
of $15,000,000 and its related tax effects, the Company incurred a net loss of
approximately $31,000,000 on revenues of approximately $83,997,000. During the
second half of fiscal 1996, the Company identified a number of difficulties
and developments facing its business, including, (1) softening of market
demand in its core high end visual effects market segment, (2) delays by the
Company in introducing new products aimed at new market segments, (3)
inventory build-up in anticipation of continued high sales in its core market
segment and high growth in its new market segments, (4) expense and headcount
build-up in anticipation of continued high sales in its core market segment
and high growth in new market segments, (5) the disruption caused by platform
changes by the Company's key supplier, and (6) greater use of third party
financing by customers. In addition, during the second half of fiscal 1996,
several of the Company's senior executives resigned to pursue other
opportunities.
In response to the financial results and other developments facing the
business, the Company developed a restructuring plan during the fourth fiscal
quarter of 1996. The focus of the Company's restructuring plan is to solidify
its senior management team, reduce operating expenses through workforce
reductions and office closings, consolidate research and development
activities in Montreal, the discontinuance of certain product lines, and
restructure its sales force to emphasize indirect sales channels. The Company
began implementation of its restructuring plan in the fourth fiscal quarter of
1996 and expects implementation to continue throughout fiscal 1997. The major
aspects of the restructuring plan are discussed below.
Richard Szalwinski, the Company's founder and Chairman, served as acting
President and CEO from February 1995 and assumed this role officially
effective July 1996 and organized the Company into three areas of executive
responsibility: sales and marketing, products, and finance and administration
(including operations). The Company named Graham Sharp as Senior Vice
President of Sales and Marketing effective July 1996 and Francois Plamondon as
Senior Vice President and Chief Financial Officer effective August 1996. Terry
Higgins, the Company's Senior Vice President of Products remained in charge of
product development.
The Company's restructuring plan includes a 28% reduction, approximately 110
positions, in its workforce, bringing the Company's headcount to a level which
the Company believes is more closely aligned with its current revenues. This
headcount reduction commenced in the fourth quarter of fiscal 1996 and is
expected to be substantially completed by the end of the first quarter of
fiscal 1997. In addition, the Company has consolidated key research and
development functions and personnel into its Montreal headquarters. Included
in this research and development consolidation is the transitioning of the
development of VAPOUR and FROST from Innsbruck, Austria to Montreal. VAPOUR
and FROST are systems which the Company has been marketing and further
developing since the Company obtained these systems in its acquisition of all
of the outstanding shares of COSS and certain assets of IMP in October 1995.
As part of the Company's restructuring plan, the Company has discontinued the
development of the Brughetti products, AIR, PURE, SLICE and DIPLOMAT. The
Company acquired substantially all of the technology and other assets of the
Brughetti Corporation in May 1995 for approximately CDN$1,000,000 (or
approximately $741,000 on the closing date of the acquisition) in cash. As a
result of the Company's consolidation of key research and development
functions, the Company has closed the following research and development
offices: Cambridge, Massachusetts, Connecticut, London and Innsbruck. The
Company expects to close its research and development office in Paris by the
end of December 1996. The Company believes that the consolidation of personnel
and technology will enhance the Company's ability to share core technologies
across the product groups.
In connection with the restructuring plan, the Company has expanded and
expects to further expand the number of distributors selling the Discreet
Logic systems. In addition, most distributors will now be allowed to sell
FLAME, INFERNO and FIRE systems as well as FLINT systems which they previously
distributed.
24
<PAGE>
There can be no assurance that management will be successful in implementing
the restructuring plan or that the Company will not take on further
restructurings or be profitable in the future. Furthermore, the implementation
of the restructuring plan may cause a diversion of management's time and
resources and may result in other unforeseen disruptions and unexpected
expenses.
The Company has been named as a defendant in two class action lawsuits.
Although the Company denies all material allegations of these complaints and
intends to vigorously defend against all claims brought against it, the
ultimate outcome, including amount of possible loss, if any, of litigation
cannot be determined at this time. No provision for any liability that may
result from this litigation has been made in the accompanying Consolidated
Financial Statements, however, the Company has accrued $2,506,000 as estimated
legal fees to defend against these lawsuits. There can be no assurance that
the ultimate outcome of these matters will not have a material adverse affect
on the Company's business and results of operations. See--"Legal Proceedings"
and Note 5 of Notes to the Company's Financial Statements.
Discreet Logic's strategy is to maintain and enhance its position as a
leading provider of digital systems by continuing to develop, integrate and
support complete systems that include applications, networking and
communications software, workstations, disk arrays and other peripherals. The
Company seeks to expand the range of creative professional;s served by the
Company and, by leveraging its technology base, customer relationships and
existing reputation to extend its product line to include other aspects of the
content creation process. The Company's goal is to pursue this strategy while
implementing and maintaining the cost containment, product refocus and
efficiency measures outlined in the restructuring plan.
Recent Acquisitions
On October 24, 1995, the Company acquired all of the outstanding shares of
COSS and certain assets of IMP related to the research, development,
manufacturing, marketing, sale, distribution or procurement of real-time
broadcast animation products, including software. The purchase price for the
shares of COSS was $3,000,000 in cash plus 300,000 Common Shares of the
Company. In addition, the Company agreed to pay an additional $500,000 in cash
as contingent purchase price in the event COSS received orders for and
licensed a certain number of VAPOUR systems by April 1996, as defined. The
purchase price for the IMP assets was $2,000,000 in cash. During fiscal 1996,
the Company paid the contingent purchase price, which was accounted for as an
additional purchase price and allocated to goodwill.
The acquisition was accounted for as a purchase and accordingly the purchase
price and acquisition costs were allocated to the assets acquired which
consisted of approximately $8,500,000 of in process research and development
and charged to operations in the first quarter of fiscal 1996, and
approximately $3,200,000 was allocated to intangible assets, which include
goodwill and acquired technology, and is being amortized on a straight-line
basis over their estimated lives of 5 years.Under the restructuring plan, the
Company has transitioned the technology and the related research and
development operations from Innsbruck, Austria to Montreal, Canada.
Accordingly, the unamortized balance of goodwill of approximately $1.8 million
was charged to restructuring expense.
On April 15, 1996, the Company purchased newly issued Series B convertible,
voting, preferred shares of a privately held company, Essential Communications
Corporation, representing approximately 20% of the voting shares. The
$2,500,000 investment has been expensed in the third fiscal quarter of 1996 as
research and development expense due to the uncertainty regarding the
realizability of the investment in the preferred shares. See Note 15 of Notes
to the Company's Consolidated Financial Statements.
The success of the Company is subject to a number of risks and
uncertainties, including, without limitation, the risk of the Company's
historical dependence on its FLAME and FLINT systems and related maintenance
and support for substantially all of the Company's revenue; the Company's
ability to successfully develop, introduce and gain customer acceptance of
existing and new or enhanced products; the need for the continued development
of the market for the Company's systems; the ability of the Company to expand
its current market to include additional applications and develop new products
for related markets; the presence of competitors with greater financial,
technical, manufacturing, marketing and distribution resources; the risk
25
<PAGE>
that as the Company enters new markets, the distribution channels, technical
requirements and levels and basis of competition may be different from those in
the Company's current markets; the risk that competitive pressures or other
factors, including the Company's ability to enter into new markets, may result
in significant price erosion of the Company's products; the risk of the
Company's reliance on SGI for the workstations included in the Company's
systems including the impact of the timing of the development and release of
SGI products as well as unforeseen difficulties associated with adapting the
Company's products to future SGI products; the Company's dependence on key
management and technical employees; the Company's reliance principally on
unregistered copyrights and trade secrets to protect its intellectual property
the risk that the Company derives a significant portion of its revenues from
foreign sales; the risk that the Company will not be able to implement
successfully its restructuring plan, will need to take on further
restructurings or will not be profitable in the future; the risk that the
Company will not be successful in its defense of the two class action lawsuits
to which it has been named a defendant; the risk of quarterly fluctuations in
the Company's operating results; market price fluctuations due to quarter-to-
quarter variations in the Company's operating results, announcements of
technological innovations or new products by the Company or its competitors and
the historical fluctuations in market prices of technology companies generally;
the risk that the Company's direct sales efforts may compete with those of its
indirect channels; and other risks detailed from time to time in the Company's
filings with the Commission, including this Form 10-K.
Certain matters discussed in, or incorporated by reference into, this Form
10-K are forward looking statements which involve risks and uncertainties. The
forward looking statements in, or incorporated by reference into, this Form 10-
K are made pursuant to the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995. Actual results may differ materially due to a
variety of factors, including, without limitation, the risks, uncertainties on
other information discussed under the heading "Management's Discussion and
Analysis of Financial Condition and Results of Operation--Certain Factors that
May Affect Future Results" and elsewhere in this Form 10-K, as well as in the
Company's other filings with the Commission.
RESULTS OF OPERATIONS
The following table sets forth the percentages of total revenues represented
by certain line items in the statement of operations:
<TABLE>
<CAPTION>
YEAR ENDED
----------------
1994 1995 1996
---- ---- ----
<S> <C> <C> <C>
Total revenues............................................... 100% 100% 100%
Cost of revenues............................................. 54 46 59
--- --- ----
Gross profit............................................... 46 54 41
--- --- ----
Operating expenses:
Research and development................................... 4 6 20
Sales and marketing........................................ 18 19 31
General and administrative................................. 9 8 13
Write-off of purchased research and development............ -- -- 10
Restructuring expense...................................... -- -- 18
Litigation and related settlement expense.................. 9 -- 3
--- --- ----
Total operating expenses................................. 40 33 95
--- --- ----
Operating income (loss).................................. 6 21 (54)
Total other income (expense)................................. (1) 0 3
--- --- ----
Income (loss) before income taxes and minority interest...... 5 21 (51)
Provision for income taxes................................... 2 9 2
--- --- ----
Net income (loss) before minority interest................... 3 12 (53)
Minority interest............................................ 0 0 --
--- --- ----
Net income (loss).......................................... 3% 12% (53)%
=== === ====
</TABLE>
26
<PAGE>
Fiscal years ended July 31, 1996 and July 31, 1995
Total Revenues. Total revenues were $83,997,000 in fiscal 1996, an increase
of 30% from $64,549,000 in fiscal 1995. Despite this increase, total revenues
in fiscal 1996 were significantly below management's expectations, resulting
in an operating loss of $44,914,000 in fiscal 1996 compared to operating
income of $13,460,000 in fiscal 1995. The revenue shortfall was due primarily
to softening of demand in the high end visual effects market segment, delays
by the Company in introducing new products aimed at new market segments, as
well as the announcement by SGI of a new Onyx workstation approximately two
weeks prior to January 31, 1996 which caused the Company to offer substantial
discounts and other favorable terms regarding its then current inventory of
SGI workstations. Revenues in fiscal 1996 were also affected by a decline of
14% in sales of FLAME systems, from $52,147,000 in fiscal 1995 to $44,745,000
in fiscal 1996. The decline in FLAME sales was offset by a 93% increase in
sales of FLINT systems, including software and hardware, from $7,303,000 in
fiscal 1995 to $14,068,000 in fiscal 1996. This continued growth in FLINT
sales is primarily a result of the release of the Indigo/2/ Impact by SGI, the
Company's related release of the upgraded FLINT software, and continued market
penetration. Although FLINT sales increased during fiscal 1996, FLINT revenues
were less than management's expectations, primarily due to the unavailability
of SGI Indigo/2/ Impact texture memory to the Company's distributors which
caused customers to delay purchasing FLINT. In addition, revenues increased in
fiscal 1996 as a result of sales of INFERNO, VAPOUR, and FROST systems and
software, which were not sold in fiscal 1995. Full commercial shipments of
INFERNO systems began in October 1995 (including the recognition in October
1995 of approximately $800,000 of previously deferred revenue of INFERNO
software). The VAPOUR and FROST technology was purchased in the October 1995
acquisition of COSS/IMP. Hardware revenues, consisting primarily of the resale
of SGI workstations and assembly and sale of disk arrays and other
peripherals, constituted 55% and 62% of total revenues fiscal 1996 and 1995,
respectively, of which 34% and 39% of total revenues, respectively, were
attributable to SGI hardware. This decrease was primarily due to a higher
percentage of revenues during fiscal 1996 derived from software only sales,
the recognition of the previously deferred INFERNO software revenue as noted
above, and the increase in support and other revenues as a percentage of total
revenues in fiscal 1996 as discussed below.
Maintenance revenues were $6,483,000 (8% of total revenues) in fiscal 1996,
an increase of 178% from $2,330,000 (4% of total revenue) in fiscal 1995.
Maintenance revenues increased due to the increased installed base of the
Company's FLAME and FLINT systems in fiscal 1996. Other revenues were
$4,829,000 (6% of total revenues) in fiscal 1996, an increase of 98% from
$2,440,000 (4% of total revenue) for the same period in fiscal 1995. Other
revenues for all periods consisted primarily of rentals, systems integration,
and training services provided to customers. This increase was attributable to
increased sales and rentals of the Company's systems in fiscal 1996.
Revenues from customers outside of North America were $47,711,000 in fiscal
1996, an increase of 64% from $29,033,000 in fiscal 1995, and accounted for
approximately 57% of total revenues in fiscal 1996, compared with
approximately 45% in fiscal 1995. During fiscal 1995 and fiscal 1996, the
Company expanded its direct sales force and distribution channels in Europe
and the Pacific Rim at a greater rate than in North America which resulted in
revenues from customers outside of North America increasing at a higher rate
than revenues from customers inside North America. The Company expects that
revenues from customers outside of North America will continue to account for
a substantial portion of its revenues.
Cost of Revenues. Cost of revenues consists primarily of the cost of
hardware sold, cost of hardware service contracts, cost of service personnel
and the facilities, computing, benefits and other administrative costs
allocated to such personnel and the provision for inventory reserves. Cost of
revenues was $49,333,000 in fiscal 1996, as compared to $29,609,000 in fiscal
1995, an increase of 67%. Cost of revenues was 59% and 46% of total revenues
for fiscal 1996 and 1995, respectively. The increase as a percentage of total
revenues was due to fixed costs in cost of revenues being a larger percentage
of revenues in fiscal 1996 due to the Company's increased support, integration
and manufacturing activities in anticipation of higher revenues as well as
increased discounting of the selling price of the Company's products in fiscal
1996 due to competitive pressures. In addition, the Company recorded
$5,345,000 in inventory reserves to reflect estimates of net
27
<PAGE>
realizable value and realized lower margins on SGI workstations in fiscal
1996, primarily as a result of platform changes by SGI. Without the inventory
reserves, cost of revenues in fiscal 1996 would have been 52% of total
revenues.
Research and Development. Research and development expenses consist
primarily of the cost of research and development personnel and the
facilities, computing, benefits and other administrative costs allocated to
such personnel. Expenditures for research and development, after deducting
Canadian federal and provincial tax credits, were $16,902,000 in fiscal 1996,
an increase of 319% from $4,037,000 in fiscal 1995. Research and development
expenses, after deducting tax credits, were 20% and 6% of total revenues for
fiscal 1996 and 1995, respectively. Canadian federal and provincial tax
credits were $711,000 and $545,000 for fiscal 1996 and 1995, respectively. The
increases in expenditures for both periods were due primarily to the hiring of
additional software engineers to develop and enhance the Company's existing
products and to develop new products, as well as an increase in depreciation
due to additional purchases of development equipment required for the
additional personnel. In connection with the investment in Essential
Communications Corporation, the Company expensed $2,500,000 of research and
development expense in its third fiscal quarter of 1996 due to the uncertainty
regarding the realizability of the investment in the preferred shares. Without
the write-off, research and development expenses in fiscal 1996 would have
been 17% of total revenues. See Note 15 to Notes to the Company's Consolidated
Financial Statements. Research and development costs are expensed as incurred.
Software development costs are considered for capitalization once technical
feasibility has been established. The Company has not capitalized any software
development costs to date. Certain research and development expenditures are
incurred substantially in advance of related revenue and in some cases do not
generate revenues. The Company expects that research and development expenses
will decrease in absolute dollars as a result of the restructuring. Should
revenues increase, the Company expects that research and development expenses
will increase from its post-restructuring level.
The Company is entitled to research and development incentives in the form
of income tax credits from the Canadian federal government and from the
Province of Quebec. These income tax credits are earned based upon qualified
Canadian research and development salaries and other qualified research and
development expenditures. The Company also earns income tax credits from the
Canadian federal government based upon qualified research and development
equipment purchases and has recorded such credits as a reduction of the
carrying value of the equipment when such credits are realized. See Note 7 of
Notes to the Company's Consolidated Financial Statements.
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, commissions and related benefits, facilities and administrative
costs allocated to the Company's sales and marketing personnel and tradeshow
expenses. Sales and marketing expenses were $26,088,000 in fiscal 1996, an
increase of 107% from $12,588,000 in fiscal 1995. Sales and marketing expenses
as a percentage of total revenues were 31% and 19% for fiscal 1996 and 1995,
respectively. These increases resulted primarily from the continued expansion
of the Company's direct sales organization, including the opening of domestic
sales offices and foreign subsidiaries, the payment of sales commissions on
increasing sales volumes and increased presence at major tradeshows. The
Company expects that sales and marketing expenses will decrease in absolute
dollars as a result of the restructuring. Should revenues increase, the
Company expects that sales and marketing expenses will increase from its post-
restructuring level.
General and Administrative. General and administrative expenses include the
costs of finance and accounting, human resources, facilities, corporate
information systems, legal and other administrative functions of the Company
and reserves for doubtful uncollectible accounts receivable. General and
administrative expenses were $10,582,000 in fiscal 1996, an increase of 118%
from $4,855,000 in fiscal 1995. General and administrative expenses as a
percentage of total revenues were 13% and 8% for fiscal 1996 and 1995,
respectively. These increases resulted from hiring several senior executive
officers, as well as additional finance, accounting and administrative
personnel. The increase also reflected general salary increases, increased
occupancy expenses as the Company hired additional staff and increased
professional fees and insurance premiums associated with the growth of the
Company's infrastructure. In addition, the Company provided approximately
$3,300,000 in reserves for potentially doubtful accounts receivable in fiscal
1996, including
28
<PAGE>
$830,000 to reflect certain recourse provisions in and other risks associated
with certain third party financing arrangements implemented in the third and
fourth fiscal 1996 quarters. See Note 1(f) of Notes to the Company's
Consolidated Financial Statements. Also, in its third quarter of fiscal 1996,
the Company reduced the carrying value of a building purchased in Montreal by
CDN$500,000 (approximately $365,000) to reflect the amount expected to be
realized upon sale. The Company expects that general and administrative
expenses will decrease in absolute dollars as a result of the restructuring.
Should revenues increase, the Company expects that general and administrative
expenses will increase from its post-restructuring level.
Charge for Purchased Research and Development. In connection with the
COSS/IMP acquisition, the Company expensed $8,500,000 of in process research
and development. This write-off represented approximately 10% of total
revenues for fiscal 1996. See Note 15 of Notes to the Company's Consolidated
Financial Statements.
Restructuring Expense. In the fourth quarter of fiscal 1996, the Company
recorded a restructuring expense of $15,000,000, representing approximately
18% of total revenues for the fiscal 1996. The focus of the Company's
restructuring plan is to solidify its senior management team, reduce operating
expenses through workforce reductions and office closings, consolidate
research and development activities in Montreal, the discontinuance of certain
product lines, and restructure its sales force to emphasize indirect sales
channels. The Company began implementation of its restructuring plan in the
fourth fiscal quarter of 1996 and expects implementation to continue
throughout fiscal 1997. See Note 17 to Notes of the Company's Consolidated
Financial Statements.
Litigation. In the three months ended July 31, 1996, the Company provided a
$2,506,000 litigation reserve for legal costs associated with defending the
class action lawsuits. See Note 5 of Notes to the Company's Consolidated
Financial Statements.
Other Income (Expense). Other Income (Expense) primarily consists of foreign
currency gains and losses and interest income.
Provision for Income Taxes. The Company's provision for income taxes for
fiscal 1996 was $1,435,000 compared to $5,490,000 for fiscal 1995. The
provision/benefit for all periods was based on the Canadian federal statutory
rate of 38% and reflects the impact of various tax credits, the effect of not
utilizing foreign subsidiaries' tax losses and the effect of the foreign
taxes. In fiscal 1996, the Company has $27,460,000 of foreign net cumulative
operating loss carryforwards which may be available to reduce further income
tax liabilities in those jurisdictions. The tax benefits of those tax
carryforwards have not been recognized due to the uncertainty of realizing the
future tax benefit. See Note 11 of Notes to the Company's Consolidated
Financial Statements.
Fiscal years ended July 31, 1995 and July 31, 1994
Total Revenues. Total revenues were $64,549,000 in fiscal 1995, an increase
of 319% from $15,392,000 in fiscal 1994. Revenues from the sale of FLAME
systems, including hardware and software, were $52,147,000 in fiscal 1995, an
increase of 305% from $12,883,000 in fiscal 1994. The increase in FLAME system
revenues during this period was primarily due to increased acceptance of FLAME
in the marketplace and expansion of the Company's marketing and distribution
activities. Revenues from the sale of FLINT systems, including hardware and
software, were $7,303,000 in fiscal 1995, an increase of 384% from $1,509,000
in fiscal 1994. Full commercial shipments of FLINT systems began in December
1993. Revenues from other software products were $329,000 in fiscal 1995.
These products were not sold in fiscal 1994 and are not expected to generate
significant revenues in the future. Hardware revenues, consisting primarily of
the resale of SGI workstations and assembly and sale of disk arrays and other
peripherals, constituted 62% and 63% of total revenues in fiscal 1995 and
1994, respectively, of which 39% and 45% of total revenues, respectively, were
attributable to SGI hardware. This decrease was primarily due to an increase
in software list prices in May 1995 combined with a higher percentage of
revenues during the quarter ended July 31, 1995, derived from software only
sales.
29
<PAGE>
Maintenance revenues were $2,330,000 in fiscal 1995 (4% of total revenues),
compared to $485,000 in fiscal 1994 (3% of total revenues), an increase of
380%. Other revenues were $2,440,000 in fiscal 1995, an increase of 374% from
$515,000 in fiscal 1994. Other revenues for fiscal 1995 and 1994 consisted
primarily of systems integration and training services provided to customers.
These increases were attributable to increased sales of the Company's FLAME and
FLINT systems, primarily due to increased market acceptance of FLAME and the
commencement of full commercial shipments of FLINT in December 1993.
Revenues from customers outside of North America were $29,033,000 in fiscal
1995, an increase of 617% from $4,048,000 in fiscal 1994, and accounted for
approximately 45% of total revenues in fiscal 1995, compared with approximately
26% in fiscal 1994. The increase in revenues from customers outside North
America was attributable to increased sales of the Company's FLAME and FLINT
systems. In the first half of fiscal 1995, the Company expanded its direct
sales force and distribution channels in Europe and the Pacific Rim which
resulted in revenues from customers outside of North America increasing at a
significantly higher rate than revenues from customers inside North America.
Cost of Revenues. Cost of revenues was $29,609,000 for fiscal 1995 as
compared to $8,289,000 for fiscal 1994, an increase of 257%. Cost of revenues
was 46% and 54% of total revenues for fiscal 1995 and 1994, respectively. The
decrease as a percentage of total revenues resulted from higher margins on SGI
workstations as the Company was able to take advantage of pricing discounts as
a master VAR and a higher percentage of total revenues from customers outside
of North America where the Company has a lower associated cost of revenues.
Research and Development. Expenditures for research and development, after
deducting Canadian federal and provincial tax credits discussed below, were
$4,037,000 for fiscal 1995, an increase of 546% from $625,000 for fiscal 1994.
The Company has recorded $545,000 and $450,000 of such tax credits revenues for
fiscal 1995 and 1994, respectively, as a reduction of research and development
expenses. The increase was due primarily to the hiring of additional software
engineers to develop and enhance the Company's existing products and to develop
new products, as well as an increase in depreciation due to additional
purchases of development equipment required for the additional personnel.
Research and development expenses, after deducting tax credits, were 6% and 4%
of total revenues for fiscal 1995 and 1994, respectively.
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, commissions and related benefits, facilities and administrative costs
allocated to the Company's sales and marketing personnel and tradeshow
expenses. Sales and marketing expenses were $12,588,000 for fiscal 1995, an
increase of 352% from $2,785,000 for fiscal 1994. The increase resulted
primarily from the continued expansion of the Company's direct sales
organization including the opening of domestic sales offices and foreign
subsidiaries, the payment of sales commissions on increasing sales volumes and
increased presence at major tradeshows. Sales and marketing expenses as a
percentage of total revenues were 19% and 18% for fiscal 1995 and 1994,
respectively.
General and Administrative. General and administrative expenses include the
costs of finance and accounting, human resources, facilities, corporate
information systems and other administrative functions of the Company. General
and administrative expenses were $4,855,000 for fiscal 1995, an increase of
251% from $1,383,000 for fiscal 1994. The increase resulted from hiring a new
President and Chief Executive Officer and a Vice President and Chief Financial
Officer, as well as additional finance, accounting and administrative
personnel, as the Company's sales increased. The increase also reflected
general salary increases, increased occupancy expenses as the Company hired
additional staff and increased professional fees and insurance premiums
associated with the growth of the Company's infrastructure. General and
administrative expenses as a percentage of total revenues were 8% and 9% for
fiscal 1995 and 1994, respectively.
Minority Interest. The minority interest for fiscal 1995 and 1994 represented
the 25% minority interest in Discreet Logic (UK) Limited, which interest was
purchased by the Company on February 28, 1995.
Provision for Income Taxes. The Company's provision for income taxes for
fiscal 1995 and 1994 was $5,490,000 and $343,000, respectively. The provision
for both years was based on the Canadian federal statutory rate of 38% and
reflects the impact of various tax credits and foreign taxes. See Note 11 of
Notes to the Company's Consolidated Financial Statements.
30
<PAGE>
QUARTERLY RESULTS OF OPERATIONS
The following tables set forth certain quarterly financial data for each of
the eight most recent quarters in the period ended July 31, 1996, together
with such data as a percentage of total revenues. The quarterly information
presented is unaudited. In the opinion of management, the unaudited quarterly
information has been prepared on the same basis as the annual audited
consolidated financial statements and includes all adjustments (consisting
only of normal recurring adjustments) necessary for a fair presentation of the
information for the periods presented. Operating results for any quarter are
not necessarily indicative of results for any future period.
<TABLE>
<CAPTION>
QUARTER ENDED
-----------------------------------------------------------------------------------------
OCTOBER 31, JANUARY 31, APRIL 30, JULY 31, OCTOBER 31, JANUARY 31, APRIL 30, JULY 31,
1994 1995 1995 1995 1995 1996 1996 1996
----------- ----------- --------- -------- ----------- ----------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Total revenues.......... $ 11,016 $ 13,734 $ 17,579 $ 22,219 $ 25,044 $ 25,225 $ 14,677 $ 19,052
Cost of revenues........ 5,521 6,099 8,189 9,800 10,564 13,752 12,008 13,009
-------- -------- -------- -------- -------- -------- --------- ---------
Gross profit.......... 5,495 7,635 9,390 12,419 14,480 11,473 2,669 6,043
-------- -------- -------- -------- -------- -------- --------- ---------
Operating expenses:
Research and
development........... 553 755 1,086 1,643 2,371 3,522 6,567 4,442
Sales and marketing.... 1,326 2,961 3,346 4,955 5,433 6,153 7,224 7,278
General and
administrative........ 1,036 877 1,308 1,633 1,542 2,022 4,016 3,002
Write-off of purchased
research and
development........... -- -- -- -- 8,500 -- -- --
Restructuring expense.. -- -- -- -- -- -- -- 15,000
Litigation and Related
Settlement Expenses... -- -- -- -- -- -- -- 2,506
-------- -------- -------- -------- -------- -------- --------- ---------
Total operating
expenses............. 2,915 4,593 5,740 8,231 17,846 11,697 17,807 (32,228)
-------- -------- -------- -------- -------- -------- --------- ---------
Operating income
(loss)............... 2,580 3,042 3,650 4,188 (3,366) (224) (15,138) (26,185)
-------- -------- -------- -------- -------- -------- --------- ---------
Total other income
(expense).............. (25) 94 (191) (48) 275 1,495 (1,334) 1,771
-------- -------- -------- -------- -------- -------- --------- ---------
Income (loss) before
income taxes and
minority interest...... 2,555 3,136 3,459 4,140 (3,091) 1,271 (16,472) (24,414)
Provision (benefit) for
income taxes........... 1,073 1,317 1,453 1,647 2,117 496 (1,363) 186
-------- -------- -------- -------- -------- -------- --------- ---------
Net income (loss) before
minority interest...... 1,482 1,819 2,006 2,493 (5,208) 775 (15,109) (24,600)
Minority interest....... 2 13 0 -- -- -- -- --
-------- -------- -------- -------- -------- -------- --------- ---------
Net income (loss)..... $ 1,480 $ 1,806 $ 2,006 $ 2,493 $ (5,208) $ 775 $ (15,109) $ (24,600)
======== ======== ======== ======== ======== ======== ========= =========
</TABLE>
<TABLE>
<CAPTION>
QUARTER ENDED
-------------------------------------------------------------------------------------
OCTOBER 31, JANUARY 31, APRIL 30, JULY 31, OCTOBER 31, JANUARY 31, APRIL 30, JULY 31,
1994 1995 1995 1995 1995 1996 1996 1996
----------- ----------- --------- -------- ----------- ----------- --------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Total revenues.......... 100% 100% 100% 100% 100% 100% 100% 100%
Cost of revenues........ 50 44 47 44 42 55 82 68
--- --- --- --- --- --- ---- ----
Gross profit.......... 50 56 53 56 58 45 18 32
--- --- --- --- --- --- ---- ----
Operating expenses:
Research and
development........... 5 6 6 7 9 14 45 23
Sales and marketing.... 12 22 19 23 22 24 49 38
General and
administrative........ 10 6 8 7 6 8 27 16
Write-off of purchased
research and
development .......... -- -- -- -- 34 -- -- --
--- --- --- --- --- --- ---- ----
Restructuring expense.. -- -- -- -- -- -- -- 79
Litigation and Related
Settlement Expenses... -- -- -- -- -- -- -- 13
--- --- --- --- --- --- ---- ----
Total operating
expenses............. 27 34 33 37 71 46 121 169
--- --- --- --- --- --- ---- ----
Operating income
(loss)............... 23 22 20 19 (13) (1) (103) (137)
--- --- --- --- --- --- ---- ----
Total other income
(expense).............. 0 0 (1) 0 1 6 (9) 9
--- --- --- --- --- --- ---- ----
Income (loss) before
income taxes and
minority interest...... 23 22 19 18 (12) 5 (112) (128)
Provision (benefit) for
income taxes........... 10 9 8 7 9 2 (9) 1
--- --- --- --- --- --- ---- ----
Net income (loss) before
minority interest...... 13 13 11 11 (21) 3 (103) (129)
Minority interest....... 0 0 0 -- -- -- -- --
--- --- --- --- --- --- ---- ----
Net income (loss)..... 13% 13% 1% 11% (21)% 3% (103)% (129)%
=== === === === === === ==== ====
</TABLE>
31
<PAGE>
The Company's revenues and operating results are subject to quarterly and
other fluctuations. A limited number of FLAME systems sales may account for a
substantial percentage of the Company's quarterly revenue because of the high
average sales price of such systems and the timing of purchase orders. The
Company has generally experienced, and in the future believes that it should
experience greater revenues, during its third and fourth fiscal quarters
following the completion of NAB, which is typically held in April. The
Company's expense levels are based, in part, on its expectations of future
revenues. Therefore, if revenue levels are below expectations, particularly
following NAB, the Company's operating results are likely to be adversely
affected. In addition, the timing of revenue is influenced by a number of
other factors, including: the timing of individual orders and shipments, other
industry trade shows, seasonal customer buying patterns, changes in customer
buying patterns in response to platform changes and changes in product
development and sales and marketing expenditures. Because the Company's
operating expenses are based on anticipated revenue levels and a high
percentage of the Company's expenses are relatively fixed in the short term,
variations in the timing of recognition of revenue could cause significant
fluctuations in operating results from quarter to quarter and may result in
unanticipated quarterly earnings shortfalls or losses. The Company believes
that quarter to quarter comparisons of its financial results are not
necessarily meaningful and should not be relied upon as an indication of
future performance.
LIQUIDITY AND CAPITAL RESOURCES
The Company has funded its operations to date primarily through cash flow
from operations (including deferred revenue and customer deposits), borrowings
under its demand line of credit, capital leases, the private and public sales
of equity securities, and the receipt of research and development tax credits
from the Canadian federal government and the Province of Quebec. As of July
31, 1996, the Company had cash of approximately $21,658,000. The Company has a
revolving demand line of credit with a bank under which the Company may borrow
up to CDN$3,600,000 (approximately $2,619,000 at July 31, 1996). Advances
under the line are based on 75-90% of accounts receivable balances and 60% of
Canadian federal and provincial research and development grants. The line
accrues interest monthly at prime (6.25% at July 31, 1996) plus 1%.
Additionally, the Company has a CDN$600,000 (or approximately $436,000 at July
31, 1996) demand leasing facility. The line and leasing facility are secured
by essentially all assets of the Company. As additional security, the Company
assigned to the bank its insurance on all the Company's assets, its insurance
on the lives of its key executives and its Canadian federal and provincial
research and development tax credits receivable. The Company is required to
maintain certain financial ratios, including minimum levels of working
capital, debt service coverage and equity to assets ratios. As of July 31,
1996, there were no amounts were outstanding under the line of credit or the
demand leasing facility. The Company is in breach of certain financial
covenants and does not plan to obtain a waiver; therefore these credit
facilities are not available.
The Company's operating activities, including research and development tax
credits, used cash of $24,425,000 in fiscal 1996 and provided cash of
$8,304,000 and $934,000 in fiscal 1995 and 1994, respectively. The principal
uses of cash in fiscal 1996 were the funding of the operating loss, the
increase in accounts receivable, the increase in inventory and an income tax
receivable compared to an income tax payable at the end of fiscal 1995.
Accounts receivable increased during fiscal 1996 as a result of the Company
extending favorable payment terms (i.e. reduced initial deposits and longer
than normal payment terms) in January to existing customers with timely
payment histories as an enticement to purchase the current SGI Onyx
workstation. Due to competitive pressures, the Company offered customers more
favorable payment terms in the form of lower initial deposits than in prior
fiscal years. Inventory increased during fiscal 1996, as a result of the
Company's purchase of inventory to meet anticipated sales in the fiscal
quarter ended April 30, 1996. Net cash provided in fiscal 1995 and 1994 was
composed primarily of net income plus depreciation and amortization and
increases in customer deposits, deferred revenue and accounts payable.
Deferred revenue represents amounts received from customers for post contract
customer support, software upgrades and computer hardware and software in
advance of revenue recognition by the Company. Deferred revenue will fluctuate
based upon the level of sales as well as the timing of the shipment of
software product upgrades and hardware.
The Company's investing activities used cash of $24,223,000, $6,754,000 and
$169,000 in fiscal 1996, 1995 and 1994 respectively. The principal uses of
cash in fiscal 1996 was for the acquisition of COSS/IMP
32
<PAGE>
(approximately $5,545,000), the purchase of land and an office building in
London, England ((Pounds)1,148,000, or approximately $1,788,000), the purchase
of land and an office building in Montreal, Quebec for CDN$1,730,000 (or
approximately $1,250,000) and the purchase of computer equipment and software,
general office equipment, leasehold improvements and furniture and fixtures
used in the operation of the Company's business. The principal uses of cash in
fiscal 1995 and 1994 were the purchase of computer equipment and software and
general office equipment used in the operation of the Company's business, and
in 1995, leasehold improvements and furniture and fixtures.
Financing activities provided cash of $30,310,000 and $38,319,000 in fiscal
1996 and 1995, respectively. In fiscal 1996, cash provided by financing
activities was primarily from proceeds from the issuance of approximately
971,000 common shares in a secondary public offering which was completed in
December 1995, proceeds from the repayment of subscriptions receivable, and
proceeds from common stock option exercises. In fiscal 1995, cash provided by
financing activities was primarily from the receipt of the net proceeds of the
Company's initial public offering. Cash used by financing activities for the
year ended July 31, 1994 was $52,000, primarily due to payments of capital
lease obligations.
The Company incurred $15,871,000 and $6,239,000 of capital expenditures
during fiscal 1996 and 1995 respectively, consisting primarily of computer
equipment, software and general office equipment and leasehold improvements.
In August 1995, the Company purchased an office building and related land in
London, England. The Company incurred (Pounds)715,000 (or approximately
$1,114,000) in capital expenditures in fiscal 1996 for the refitting of the
London property and expects to incur approximately (Pounds)725,000 (or
approximately $1,129,000 as of July 31, 1996) of such costs in fiscal 1997. In
fiscal 1996, the Company purchased an office building in Montreal, Quebec. The
carrying values of the Montreal building and the London building were written
down to their estimated fair market values and the buildings were classified
as assets held for sale. As of July 31, 1996, the Company did not have any
material commitments for capital expenditures.
The Company's ability to meet its future liquidity requirements is dependent
upon its ability to operate profitably, or in the absence thereof, to obtain
additional financings. The Company is undergoing a restructuring intended to
decrease future operating expenses, however there can be no assurance that the
Company will not have to take further restructurings or be profitable in the
future. Should the Company need to secure additional financing to meet its
future liquidity requirements, there can be no assurance that the Company will
be able to secure such financing, or that such financing, if available, will
be on terms favorable to the Company. Subject to the factors discussed below
in Certain Factors That May Affect Future Results, the Company believes that,
with its current levels of working capital together with funds generated from
operations, it has adequate sources of cash to meet its operations and capital
expenditure requirements through fiscal 1997.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
Information provided by the Company from time to time including statements
in this Form 10-K which are not historical facts, are so-called forward-
looking statements, and are made pursuant to the safe harbor provisions of the
Private Securities Litigation Reform Act of 1995 and releases of the
Securities and Exchange Commission. In particular, statements contained in the
Management's Discussion and Analysis of Financial Condition and Results of
Operations which are not historical facts (including, but not limited to, the
implementation of the restructuring plan, the portion of revenues from
customers outside North America, decreases in the actual dollar amount of
research and development, sales and marketing and general and administrative
expenses and statements regarding the adequacy of cash to meet operations),
"Business--Overview and Recent Developments," "--Other Products and Products
Under Development," "--Marketing and Sales," "--Proprietary Rights," "--
Manufacturers and Suppliers," "--Competition," "--Employees" and "Legal
Proceedings" which are not historical facts may constitute forward-looking
statements. The Company's actual future results may differ significantly from
those stated in any forward-looking statements. Factors that may cause such
differences include, but are not limited to, the factors discussed below, and
the other risks
33
<PAGE>
discussed in this section and elsewhere in this Form 10-K, as well as from
time to time in the Company's other filings with Securities and Exchange
Commission.
The Company's future results are subject to substantial risks and
uncertainties. The Company has derived substantially all of its historical
revenue from sales of FLAME and FLINT systems and related maintenance and
support services. The Company's future financial performance will depend in
part on the successful development, introduction and customer acceptance of
its existing and new or enhanced products. In addition, in order for the
Company to achieve sustained growth, the market for the Company's systems must
continue to develop and the Company must expand this market to include
additional applications within the film and video industries and develop new
products for use in related markets. There can be no assurance that the
Company will be successful in marketing its existing or any new or enhanced
products. The market in which the Company competes is characterized by intense
competition and many of the Company's current and prospective competitors have
significantly greater financial, technical, manufacturing and marketing
resources than the Company. These companies may introduce additional products
that are competitive with those of the Company, and there can be no assurance
that the Company's products would compete effectively with such products. In
addition, as the Company enters new markets, distribution channels, technical
requirements and levels and basis of competition may be different from those
in the Company's current markets and there can be no assurance that the
Company will be able to compete financially. Furthermore, competitive
pressures or other factors, including the Company's entry into new markets,
may result in significant price erosion that could have a material adverse
effect on the Company's business and results of operations.
The Company's systems currently include workstations manufactured by SGI.
There are significant risks associated with this reliance on SGI and the
Company may be impacted by the timing of the development and release of
products by SGI, as was the case during fiscal 1996. In addition, there may be
unforeseen difficulties associated with adapting the Company's products to
future SGI products. To date, the Company has depended to a significant extent
upon a number of key management and technical employees and the Company's
ability to manage its operations will require it to continue to recruit and
retain senior management personnel and to motivate and effectively manage its
employee base. The loss of the services of one or more of these key employees
could have a material adverse effect on the Company's business and results of
operations. The Company relies principally on unregistered copyrights and
trade secrets to protect its intellectual property. Any invalidation of the
Company's intellectual property rights or lengthy and expensive defense of
those rights could have a material adverse effect on the Company. The Company
derives a significant portion of its total revenues from foreign sales.
Foreign sales are subject to significant risks, including unexpected legal,
tax and exchange rates changes and other barriers. In addition, foreign
customers may have longer payment cycles and the protection of intellectual
property in foreign countries may be more difficult to enforce. The Company
currently markets its systems through its direct sales organization and
through distributors. This marketing strategy may result in distribution
channel conflicts as Company's direct sales efforts may compete with those of
its indirect channels. There can be no assurance that these factors will not
have a material adverse effect on the Company's future international sales and
consequently, on the Company's business and results of operations.
The Company is in the process implementing a restructuring plan. There can
be no assurance that the Company will be successful in implementing the
restructuring plan or that the Company will not take on further restructurings
or be profitable in the future. Furthermore, the implementation of the
restructuring plan may cause a diversion of management's time and resources
and may result in other unforeseen disruptions and unexpected expenses.
As discussed in Note 5 to the accompanying Consolidated Financial
Statements, the Company has been named as a defendant in two class action
lawsuits. Although the Company denies all material allegations of these
complaints and intends to vigorously defend against all claims brought against
it, the ultimate outcome, including amount of possible loss, if any, of
litigation cannot be determined at this time. No provision for any liability
that may result from this litigation has been made in the accompanying
Consolidated Financial
34
<PAGE>
Statements, however, the Company has accrued $2,506,000 as estimated legal fees
to defend against these lawsuits. There can be no assurance that the ultimate
outcome of these matters will not have a material adverse affect on the
Company's business and results of operations.
The market price of the Company's common shares could be subject to
significant fluctuations in response to quarter-to-quarter variations in the
Company's operating results, announcements of technological innovations or new
products by the Company or its competitors and other events or factors. In
addition, the stock market in recent years has experienced extreme price and
volume fluctuations that have particularly affected the market prices of many
technology companies. These fluctuations, as well as general economic and
market conditions, may materially and adversely affect the market price of the
Company's common shares.
ITEM 8.FINANCIAL STATEMENTS AND SCHEDULES
The Company's Financial Statements and Schedules, together with the auditors'
reports thereon, appear at pages F-1 through F-24 and S-1 through S-2,
respectively, of this Form 10-K.
ITEM 9. DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.DIRECTORS AND OFFICERS OF THE REGISTRANT
Information concerning the directors of the Registrant is hereby incorporated
by reference from the information contained under the heading "Election of
Directors" in the Registrant's definitive proxy statement of the Registrant's
1996 Annual Meeting of Stockholders which will be filed with the Commission
within 120 days after the close of the fiscal year (the "Definitive Proxy
Statement").
Certain information concerning directors and executive officers of the
Registrant is hereby incorporated by reference to the information contained
under the heading "Occupations of Directors and Executive Officers" in the
Registrant's Definitive Proxy Statement.
ITEM 11.EXECUTIVE COMPENSATION
Information concerning executive compensation is hereby incorporated by
reference to the information contained under the heading "Compensation and
Other Information Concerning Directors and Officers" in the Definitive Proxy
Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information concerning security ownership of certain beneficial owners and
management is hereby incorporated by reference to the information contained
under the heading "Management and Principal Holders of Voting Securities" in
the Definitive Proxy Statement.
ITEM 13.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information concerning certain relationships and related transactions is
hereby incorporated by reference to the information contained under the heading
"Certain Relationships and Related Transactions" in the Definitive Proxy
Statement.
35
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS AND SCHEDULES AND REPORTS ON FORM 8-K
(A)(1) INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
The following Consolidated Financial Statements of the Registrant are filed
as part of this report:
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
DISCREET LOGIC INC. AND SUBSIDIARIES
Report of Arthur Andersen & Cie......................................... F-2
Consolidated Balance Sheets............................................. F-3
Consolidated Statements of Operations................................... F-4
Consolidated Statements of Shareholders' Equity......................... F-5
Consolidated Statements of Cash Flows................................... F-6
Notes to Consolidated Financial Statements.............................. F-7
(A)(2) INDEX TO FINANCIAL STATEMENT SCHEDULES
The following Financial Statement Schedules of the Registrant are filed
as part of this report:
Report of Arthur Andersen & Cie......................................... S-1
Schedule II--Valuation and Qualifying Accounts.......................... S-2
</TABLE>
Schedules not listed above have been omitted because the information
required to be set forth therein is not applicable or is shown in the
accompanying Consolidated Financial Statements or notes thereto.
(A)(3) INDEX TO EXHIBITS
See attached Index to Exhibits on pages X-1 through X-3 of this Form 10-K.
(B) REPORTS ON FORM 8-K
Not applicable.
36
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED
ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
Discreet Logic Inc.
Date: October 29, 1996 By: _________________________________
RICHARD J. SZALWINSKI CHIEF
EXECUTIVE OFFICER
POWER OF ATTORNEY AND SIGNATURES
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Richard J. Szalwinski and Francois Plamondon,
jointly and severally, his attorney-in-fact, each with the power of
substitution, for him in any and all capacities, to sign any amendments to
this Report on Form 10-K and to file same, with exhibits thereto and other
documents in connection therewith, with the Securities and Exchange
Commission, hereby ratifying and confirming all that each of said attorneys-
in-fact, or his substitute or substitutes, may do or cause to be done by
virtue hereof.
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 IN THE CAPACITIES AND ON THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <S> <C>
/s/ Richard J. Szalwinski Chief Executive Officer, October 29, 1996
- -------------------------------------- Chairman of the Board
RICHARD J. SZALWINSKI of Directors (Principal
Executive Officer)
/s/ Francois Plamondon
- -------------------------------------- Vice President, Chief October 29, 1996
FRANCOIS PLAMONDON Financial Officer,
Treasurer and Secretary
(Principal Financial
and Accounting Officer)
/s/ Thomas Cantwell Director and Authorized October 29, 1996
- -------------------------------------- U.S. Representative
THOMAS CANTWELL
/s/ Gary G. Tregaskis Director October 29, 1996
- --------------------------------------
GARY G. TREGASKIS
/s/ Robert J. Hogan Director October 29, 1996
- --------------------------------------
ROBERT J. HOGAN
/s/ Brian P. Drummond Director October 29, 1996
- --------------------------------------
BRIAN P. DRUMMOND
/s/ Perry M. Simon Director October 29, 1996
- --------------------------------------
PERRY M. SIMON
</TABLE>
37
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
DISCREET LOGIC INC. AND SUBSIDIARIES
Report of Arthur Andersen & Cie.......................................... F-2
Consolidated Balance Sheets.............................................. F-3
Consolidated Statements of Operations.................................... F-4
Consolidated Statements of Shareholders' Equity.......................... F-5
Consolidated Statements of Cash Flows.................................... F-6
Notes to Consolidated Financial Statements............................... F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT CHARTERED ACCOUNTANTS
To Discreet Logic Inc.:
We have audited the consolidated balance sheets of Discreet Logic Inc. (a
Quebec corporation) and subsidiaries at July 31, 1995 and 1996 and the related
consolidated statements of operations, shareholders' equity and cash flows for
each of the three years in the period ended July 31, 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 in Canada, which are in substantial agreement with those in the
United States of America. 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 consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Discreet Logic Inc. and subsidiaries as at July 31, 1995 and 1996 and the
results of their operations and their cash flows for each of the three years
in the period ended July 31, 1996, in accordance with generally accepted
accounting principles in the United States of America.
Arthur Andersen & Cie
Chartered Accountants
Montreal, Canada
September 13, 1996
F-2
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN U.S. DOLLARS)
<TABLE>
<CAPTION>
JULY 31,
------------------------
1995 1996
----------- -----------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents........................... $40,987,081 $21,658,051
Accounts receivable (less reserves for doubtful
accounts of $431,000 and $3,649,000, respectively). 15,019,113 16,073,788
Inventory--
Resale............................................. 6,361,375 11,555,525
Demonstration...................................... 3,200,571 4,273,961
Income taxes receivable............................. -- 3,191,291
Other current assets................................ 1,751,536 3,640,143
----------- -----------
67,319,676 60,392,759
Property and equipment--less accumulated depreciation
and amortization.................................... 6,759,284 10,037,064
Deferred income taxes................................ 2,218,123 4,721,578
Other assets......................................... 561,092 1,139,993
Assets held for resale............................... -- 3,856,348
----------- -----------
$76,858,175 $80,147,742
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable.................................... $15,534,679 $ 9,350,969
Accrued expenses.................................... 2,389,464 19,599,077
Deferred revenue.................................... 3,808,107 4,769,506
Customer deposits................................... 810,807 2,618,061
Due to related parties.............................. 101,313 25,535
Income taxes payable................................ 2,578,994 --
Current portion of obligation under capital leases.. 249,694 --
----------- -----------
25,473,058 36,363,148
----------- -----------
Deferred income taxes................................ 1,260,664 1,441,578
----------- -----------
Commitments and Contingencies (Notes 5, 12 and 17)
Shareholders' Equity:
Preferred shares--no par value
Authorized--unlimited number of shares
Issued and outstanding--none....................... -- --
Common shares--no par value
Authorized--unlimited number of shares
Issued and outstanding--25,166,860 shares at July
31, 1995 and 27,699,426 shares at July 31, 1996... 43,232,545 78,922,914
Retained earnings (deficit)......................... 8,257,782 (35,883,399)
Share subscriptions receivable...................... (1,645,000) --
Cumulative translation adjustment................... 279,126 (696,499)
----------- -----------
Total shareholders' equity........................ 50,124,453 42,343,016
----------- -----------
$76,858,175 $80,147,742
=========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(AMOUNTS IN U.S. DOLLARS)
<TABLE>
<CAPTION>
YEARS ENDED JULY 31,
--------------------------------------
1994 1995 1996
----------- ----------- ------------
<S> <C> <C> <C>
Total revenues......................... $15,391,636 $64,548,611 $ 83,997,447
Cost of revenues....................... 8,288,783 29,608,946 49,333,071
----------- ----------- ------------
Gross profit....................... 7,102,853 34,939,665 34,664,376
----------- ----------- ------------
Operating expenses:
Research and development, net of tax
credits of $450,000, $545,000 and
$711,000, respectively.............. 624,760 4,036,926 16,902,432
Sales and marketing.................. 2,785,148 12,588,110 26,088,163
General and administrative........... 1,383,362 4,854,261 10,581,670
Write-off of purchased research and
development (Note 15)............... -- -- 8,500,000
Restructuring expense (Note 17)...... -- -- 15,000,000
Litigation and related settlement
expenses (Note 5)................... 1,365,513 -- 2,506,203
----------- ----------- ------------
Total operating expenses........... 6,158,783 21,479,297 79,578,468
----------- ----------- ------------
Operating income (loss)............ 944,070 13,460,368 (44,914,092)
----------- ----------- ------------
Other income (expense):
Interest income...................... 14,948 218,976 2,258,705
Interest expense..................... (55,226) (222,103) (229,579)
Foreign currency exchange gain
(loss).............................. (45,494) (167,224) 178,620
----------- ----------- ------------
Total other income (expense)....... (85,772) (170,351) 2,207,746
----------- ----------- ------------
Income (loss) before income taxes and
minority interest................... 858,298 13,290,017 (42,706,346)
Provision for income taxes............. 343,159 5,490,197 1,434,835
----------- ----------- ------------
Net income (loss) before minority
interest............................ 515,139 7,799,820 (44,141,181)
Minority interest...................... 31,653 14,725 --
----------- ----------- ------------
Net income (loss).................... $ 483,486 $ 7,785,095 $(44,141,181)
=========== =========== ============
Net income (loss) per common and common
equivalent share...................... $ .02 $ .31 $ (1.64)
=========== =========== ============
Weighted average common shares
outstanding........................... 23,093,070 24,885,670 26,836,834
=========== =========== ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(AMOUNTS IN U.S. DOLLARS)
<TABLE>
<CAPTION>
RETAINED SHARE CUMULATIVE TOTAL
COMMON EARNINGS SUBSCRIPTIONS TRANSLATION SHAREHOLDERS'
SHARES AMOUNT (DEFICIT) RECEIVABLE ADJUSTMENT EQUITY
---------- ----------- ------------ ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance, July 31, 1993.. 18,520,000 $ 547,910 $ 826 $ (89,730) $ (27,691) $ 431,315
Issuance of common
shares................ 3,200,000 148,148 -- (148,148) -- --
Collection of share
subscriptions
receivable............ -- -- -- 89,730 -- 89,730
Redemption of common
shares................ (544,000) (187) (11,625) -- -- (11,812)
Net income............. -- -- 483,486 -- -- 483,486
Change in cumulative
translation
adjustment............ -- -- -- -- (58,806) (58,806)
---------- ----------- ------------ ----------- --------- ------------
Balance, July 31, 1994.. 21,176,000 695,871 472,687 (148,148) (86,497) 933,913
Issuance of common
shares net of issuance
costs of $4,893,657
and related tax effect
of $1,713,000......... 4,250,788 40,906,450 -- -- -- 40,906,450
Issuance of common
shares in exchange for
minority interest
(Note 2(a))........... 18,000 44,659 -- -- -- 44,659
Exercise of common
stock options......... 1,172,072 1,652,694 -- (1,645,000) -- 7,694
Repurchase of common
shares................ (1,450,000) (67,129) -- 67,129 -- --
Collection of share
subscriptions
receivable............ -- -- -- 81,019 -- 81,019
Net income............. -- -- 7,785,095 -- -- 7,785,095
Change in cumulative
translation
adjustment............ -- -- -- -- 365,623 365,623
---------- ----------- ------------ ----------- --------- ------------
Balance, July 31, 1995.. 25,166,860 43,232,545 8,257,782 (1,645,000) 279,126 50,124,453
Issuance of common
shares net of issuance
costs of $1,988,202
and related tax effect
of $775,399........... 970,920 28,157,527 -- -- -- 28,157,527
Exercise of common
stock options......... 1,244,918 1,230,734 -- -- -- 1,230,734
Issuance of shares
through Employee Stock
Purchase Plan......... 16,728 302,108 -- -- -- 302,108
Issuance of shares to
COSS (Note 15(b))..... 300,000 6,000,000 -- -- -- 6,000,000
Collection of share
subscriptions
receivable............ -- -- -- 1,645,000 -- 1,645,000
Net loss............... -- -- (44,141,181) -- -- (44,141,181)
Change in cumulative
translation
adjustment............ -- -- -- -- (975,625) (975,625)
---------- ----------- ------------ ----------- --------- ------------
Balance, July 31, 1996.. 27,699,426 $78,922,914 $(35,883,399) $ -- $(696,499) $ 42,343,016
========== =========== ============ =========== ========= ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(AMOUNTS IN U.S. DOLLARS)
<TABLE>
<CAPTION>
YEARS ENDED JULY 31,
-------------------------------------
1994 1995 1996
---------- ----------- ------------
<S> <C> <C> <C>
Operating activities:
Net income (loss)...................... $ 483,486 $ 7,785,095 $(44,141,181)
Adjustments to reconcile net income
(loss) to cash provided by operating
activities--
Depreciation and amortization.......... 242,755 1,674,858 6,276,139
Deferred income taxes.................. 102,046 652,512 (2,072,789)
Loss (gain) on sale of fixed assets.... (25,319) (7,080) 31,819
Write off of in process research and
development........................... -- -- 8,500,000
Write off of assets for restructuring.. -- -- 5,510,237
Write off of investment in Essential
Communications, Inc................... -- -- 2,500,000
Increase in minority interest.......... 31,653 14,725 --
Changes in assets and liabilities--
Accounts receivable................... (3,743,276) (10,786,522) (1,100,199)
Inventory............................. (1,434,513) (7,692,451) (6,088,107)
Income taxes receivable............... (176,989) 523,924 (2,718,204)
Other current assets.................. (236,400) (1,326,134) (1,917,776)
Accounts payable...................... 3,533,367 11,388,728 (6,183,710)
Accrued expenses...................... 884,260 1,367,536 16,865,069
Deferred revenue...................... 279,227 2,595,168 961,399
Income taxes payable.................. -- 2,553,153 (2,578,994)
Customer deposits..................... 732,750 (81,883) 1,807,254
Due to related parties................ 261,200 (357,756) (75,778)
---------- ----------- ------------
Net cash provided by (used in)
operating activities................. 934,247 8,303,873 (24,424,821)
---------- ----------- ------------
Investing activities:
Purchase of property and equipment..... (306,476) (6,239,422) (15,870,636)
Proceeds from disposal of property and
equipment............................. 137,207 69,800 212,719
Increase in other assets............... -- (584,794) (519,841)
Cash paid for purchase of Essential
Communications, Inc................... -- -- (2,500,000)
Cash paid for COSS/IMP acquisition and
related costs......................... -- -- (5,544,848)
---------- ----------- ------------
Net cash used in investing activities.. (169,269) (6,754,416) (24,222,606)
---------- ----------- ------------
Financing activities:
Proceeds from the issuance of common
shares, net of issuance costs......... -- 39,193,450 27,382,128
Proceeds from the exercise of stock
options............................... -- 7,694 1,230,734
Proceeds from the employee stock
purchase plan......................... -- -- 302,108
Payment of capital lease obligations... (130,146) (963,500) (249,699)
Proceeds from subscriptions receivable. 89,730 81,019 1,645,000
Redemption of common shares............ (11,812) -- --
---------- ----------- ------------
Net cash provided by (used in)
financing activities.................. (52,228) 38,318,663 30,310,271
---------- ----------- ------------
Foreign exchange effect on cash......... (43,305) 292,516 (991,874)
---------- ----------- ------------
Increase (decrease) in cash and cash
equivalents............................ 669,445 40,160,636 (19,329,030)
Cash and cash equivalents, beginning of
year................................... 157,000 826,445 40,987,081
---------- ----------- ------------
Cash and cash equivalents, end of year.. $ 826,445 $40,987,081 $ 21,658,051
========== =========== ============
Supplemental disclosure of cash flow
information:
Interest paid during the year.......... $ 32,008 $ 203,038 $ 229,610
Income taxes paid during the year...... 18,649 974,569 8,823,579
Supplemental disclosure of noncash
financing and investing activities:
Issuance of common shares in exchange
for subscriptions receivable.......... 148,148 1,645,000 --
Issuance of common shares to COSS...... -- -- 6,000,000
Property and equipment acquired under
capital leases........................ 930,411 416,671 --
Issuance of common shares in exchange
for minority interest................. -- 44,659 --
Reduction of share subscriptions
receivable............................ -- 67,129 --
Deferred tax asset recorded in
connection with share issuance costs.. -- 1,713,000 775,399
---------- ----------- ------------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(AMOUNTS IN U.S. DOLLARS)
(1) OPERATIONS
Discreet Logic Inc. ("the Company") was incorporated under Part 1A of the
Quebec Companies Act on September 10, 1991. The Company and its
subsidiaries develop, assemble, market and support non-linear, on-line,
digital systems for creating, editing and compositing imagery and special
visual effects for film and video. The Company's systems are utilized by
creative professionals, for a variety of applications, including feature
films, television programs, commercials, music videos, interactive game
production and live broadcasting.
Discreet Logic sells its systems and other products through its direct
sales organization, as well as through distributors and resellers. The
Company markets and sells its systems directly in North America and in
certain European and Pacific Rim countries. Sales activities in North
America are conducted from the Company's Montreal headquarters, sales
offices in Los Angeles and New York and field representatives based in
Boston, San Francisco, Atlanta and Chicago. In fiscal 1996 the Company
opened sales offices in India, Hong Kong and Japan. The Company also
markets its systems through sales offices located in the United Kingdom,
France, Germany, Singapore and Brazil and through a network of distributors
in 34 countries.
The success of the Company is subject to a number of risks and
uncertainties, including, without limitation, the risk of the Company's
historical dependence on its FLAME and FLINT systems and related
maintenance and support for substantially all of the Company's revenue; the
Company's ability to successfully develop, introduce and gain customer
acceptance of existing and new or enhanced products; the need for the
continued development of the market for the Company's systems; the ability
of the Company to expand its current market to include additional
applications and develop new products for related markets; the presence of
competitors with greater financial, technical, manufacturing, marketing and
distribution resources; the risk that as the Company enters new markets,
the distribution channels, technical requirements and levels and basis of
competition may be different from those in the Company's current markets;
the risk that competitive pressures or other factors, including the
Company's ability to enter into new markets, may result in significant
price erosion of the Company's products; the risk of the Company's reliance
on SGI for the workstations included in the Company's systems including the
impact of the timing of the development and release of SGI products as well
as unforeseen difficulties associated with adapting the Company's products
to future SGI products; the Company's dependence on key management and
technical employees; the Company's reliance principally on unregistered
copyrights and trade secrets to protect its intellectual property; the risk
that the Company derives a significant portion of its revenues from foreign
sales; the risk that the Company will not be able to implement successfully
its restructuring plan, will need to take on further restructurings or will
not be profitable in the future; the risk that the Company will not be
successful in its defense of the two class action lawsuits to which it has
been named a defendant; the risk of quarterly fluctuations in the Company's
operating results; market price fluctuations due to quarter-to-quarter
variations in the Company's operating results, announcements of
technological innovations or new products by the Company or its competitors
and the historical fluctuations in market prices of technology companies
generally; the risk that the Company's direct sales efforts may compete
with those of its indirect channels; and other risks detailed from time to
time in the Company's filings with the Commission, including this Form
10-K.
The Company believes that with its currrent level of working capital
together with funds generated from operations, it has adequate sources of
cash to meet its operational and capital expenditure requirements through
fiscal 1997.
F-7
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(2) SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements reflect the application
of the following significant accounting policies, as described below and
elsewhere in the notes to Consolidated Financial Statements. These
Consolidated Financial Statements are prepared in accordance with generally
accepted accounting principles in the United States of America, and are
presented in United States dollars ("U.S. dollars").
The preparation of consolidated 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 consolidated financial statements, and the reported amounts of
revenues and expenses during the reporting periods. Actual results could
differ from these estimates.
(A) PRINCIPLES OF CONSOLIDATION AND MINORITY INTEREST
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All subsidiaries are wholly owned as of July 31,
1996. Discreet Logic (UK) Limited was a 75% owned subsidiary until February
28, 1995, at which time, the Company purchased the 25% minority interest in
exchange for 18,000 common shares. All significant intercompany accounts
and transactions have been eliminated upon consolidation.
(B) REVENUE RECOGNITION
The Company recognizes revenue from software licenses, and the related
hardware and peripherals, upon shipment of the products. The Company
recognizes revenue from post contract customer support and other related
services ratably, as the obligations are fulfilled, or when the related
services are performed. Post contract customer support, training,
installation, systems integration and rental services, are performed
primarily under separately priced arrangements under which the Company has
recorded revenues of $1,000,000, $4,770,000 and $11,713,000 for the years
ended July 31, 1994, 1995 and 1996, respectively. In cases where the
Company has delivered hardware and/or software to customers and has
insignificant or noncritical vendor obligations related to these
deliveries, the revenue attributable to such obligations has been deferred
until such obligations have been fulfilled.
(C) NET INCOME (LOSS) PER COMMON SHARE
Net income per common share is computed by dividing net income by the
weighted average number of common and common equivalent shares outstanding
during the year, computed in accordance with the treasury stock method. Net
loss per common share is computed by dividing net loss by the weighted
average number of common shares outstanding during the year. Pursuant to
the requirements of the Securities and Exchange Commission, common shares
issued by the Company during the 12 months immediately preceding the
initial public offering (the 12-month period subsequent to June 1, 1994),
plus options granted during the same period, have been included in the
calculation of weighted average number of common shares using the treasury
stock method at the initial public offering price of $10.50 per share.
(D) RESEARCH AND DEVELOPMENT EXPENSES
The Company charges to operations research and development costs as
incurred and presents such expenses net of income tax credits from the
Canadian federal and Quebec provincial governments (see Note 7). Software
development costs are considered for capitalization when technological
feasibility is
F-8
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
established in accordance with Statement of Financial Accounting Standards
(SFAS) No. 86, Accounting for the Costs of Computer Software to be Sold,
Leased or Otherwise Marketed. The Company sells software in a market that
is subject to rapid technological change, new product introductions and
changing customer needs. Accordingly, the Company has not capitalized
software development costs due to its inability to estimate the useful life
of software under development.
(E) TRANSLATION OF FOREIGN CURRENCIES
The accounts of the Company are translated in accordance with SFAS No. 52,
Foreign Currency Translation. The Company's management has elected to
present these consolidated financial statements in U.S. dollars. The
financial statements of the Company and its subsidiaries are translated
from their functional currency, the Canadian dollar, into the reporting
currency, the U.S. dollar, utilizing the current rate method. Accordingly,
assets and liabilities are translated at exchange rates in effect at the
end of the year, and revenues and expenses are translated at the weighted
average exchange rate during the year. All cumulative translation gains or
losses from the translation into the Company's reporting currency are
included as a separate component of shareholders' equity in the
consolidated balance sheets.
The Company remeasures the financial statements of its foreign subsidiaries
and other foreign currency transactions into Canadian dollars as follows:
monetary assets and liabilities are translated at exchange rates in effect
at year-end, and nonmonetary items are translated at historical exchange
rates; revenues and expenses are translated at the average rate during the
year, except for depreciation and amortization, which are translated at the
same rates as the related assets. Exchange gains and losses arising from
transactions denominated in foreign currencies are included in current
operations. Foreign currency translation gains (losses) from the
remeasurement into the Canadian dollar included in other income (expense)
in the accompanying consolidated statements of operations were $(21,650)
and $4,968 for the years ended July 31, 1994 and 1995, respectively.
Beginning August 1, 1995, the Company changed the functional currency of
its foreign subsidiaries from the Canadian dollar to their respective local
currencies. Accordingly, cumulative translation gain (losses) are included
as a separate component of shareholders' equity in the consolidated balance
sheets. The impact on the consolidated financial statements of the change
of functional currency of the Company's foreign subsidiaries was not
significant. Foreign currency transaction gains (losses) included in other
income (expense) in the accompanying consolidated statements of operations
were, $(23,844), $162,256, and $178,620 for the years ended July 31, 1994,
1995, and 1996, respectively.
(F) CONCENTRATION OF CREDIT RISK
During 1996, the Company entered into a Maximum Liability Agreement with a
leasing company. The agreement provides that the Company is contingently
liable up to a maximum percentage of the remaining principal payments
outstanding related to purchase of the Company's products by customers
financed by said leasing company. The maximum liability is contingent on
certain factors as defined in the agreement. As at July 31, 1996, the
maximum contingent liability is $830,000. The Company accrued the entire
amount of the contingent liability. The expense was charged to general and
administrative expenses.
The Company has no other significant off-balance sheet concentration of
credit risk such as foreign exchange contracts, option contracts or other
foreign hedging arrangements. The Company maintains the majority of cash
balances with three financial institutions and its accounts receivable
credit risk is not concentrated within any geographic area. There were no
accounts receivable from a single customer which exceeded 10 percent of
total accounts receivable as of July 31, 1996.
F-9
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(G) POSTEMPLOYMENT AND POSTRETIREMENT BENEFITS
The Company does not provide postemployment and postretirement benefits.
(H) CASH EQUIVALENTS
Cash equivalents are carried at cost, which approximates market value. Cash
equivalents are short-term, highly liquid investments with original
maturities of less than three months. Cash equivalents consist of
commercial paper and money market mutual funds at July 31, 1995 and 1996.
The Company applied SFAS No. 115, Accounting for Certain Investments in
Debt and Equity Securities.
(I) INVENTORY
Inventory consists of hardware purchased for resale and is valued at the
lower of cost (determined on a first-in, first-out basis) or net realizable
value. Demonstration inventory consists of hardware inventory used by the
Company and potential customers for product demonstrations which will be
subsequently sold. In 1996, the Company recorded an inventory reserve of
$5,345,000 to reflect estimated net realizable value.
(J) PROPERTY AND EQUIPMENT
The Company provides for depreciation and amortization using the straight-
line and declining-balance methods over the estimated useful lives of the
assets as follows:
<TABLE>
<CAPTION>
JULY 31,
ESTIMATED -----------------------
ASSET CLASSIFICATION USEFUL LIFE 1995 1996
-------------------- ------------ ---------- -----------
<S> <C> <C> <C>
Computer equipment and software..... 2-3 Years $5,487,403 $14,095,730
Furniture, fixtures and equipment
under capital leases............... 3-5 Years 459,673 --
Leasehold improvements.............. Shorter of 1,483,109 2,485,751
term of
lease or
useful life
Furniture and fixtures.............. 5 Years 905,981 1,677,067
---------- -----------
8,336,166 18,258,548
Less--Accumulated depreciation and
amortization....................... (1,576,882) (8,221,484)
---------- -----------
$6,759,284 $10,037,064
========== ===========
</TABLE>
(3) OTHER CURRENT ASSETS
Other current assets consist of the following:
<TABLE>
<CAPTION>
JULY 31,
---------------------
1995 1996
---------- ----------
<S> <C> <C>
Prepaid expenses..................................... $1,156,520 $2,206,248
Sales tax receivable................................. 487,210 578,781
Other receivable..................................... 107,806 855,114
---------- ----------
$1,751,536 $3,640,143
========== ==========
</TABLE>
F-10
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(4) ACCRUED EXPENSES
Accrued expenses consist of the following:
<TABLE>
<CAPTION>
JULY 31,
----------------------
1995 1996
---------- -----------
<S> <C> <C>
Payroll and payroll related........................ $ 853,966 $ 2,768,461
Professional fees.................................. 561,055 739,412
Commissions........................................ 454,175 1,967,175
Sales tax and VAT payable.......................... -- 946,917
Accrued restructuring expenses..................... -- 8,634,484
Maximum Liability accrual.......................... -- 830,000
Accrued litigation fees............................ -- 2,506,203
Other.............................................. 520,268 1,206,425
---------- -----------
$2,389,464 $19,599,077
========== ===========
</TABLE>
(5) LITIGATION AND RELATED SETTLEMENT EXPENSES
(A) SECURITIES LITIGATION
On May 29, 1996, a lawsuit entitled Sandra Esner and Jerry Krim, On Behalf
of Themselves and All Others Similarly Situated, vs. [...]Discreet Logic
Inc., et al., case No. 978584, was filed in the Superior Court of the State
of California, City and County of San Francisco. Named as defendants are
the Company, certain of the Company's former and existing directors,
officers, and affiliates, and certain underwriters and financial analysts.
The plaintiffs purport to represent a class of all persons who purchased
the Company's common stock between September 13, 1995, and May 1, 1996. The
complaint alleges violations of California law through material
misrepresentations and omissions, among other things. The Company believes
the allegations in the complaint are without merit and intends to defend
the lawsuit vigorously.
On June 13, 1996, a lawsuit entitled Bruce Friedberg, On Behalf of Himself
and All Others Similarly Situated, vs. Discreet logic Inc., et al., civ.
No. 96-11232-EFH, was filed in the United States District Court, District
of Massachusetts. Named as defendants are the Company and certain of the
Company's former and existing directors and officers. The plaintiff
purports to represent a class of all persons who purchased the Company's
common stock between November 14, 1995, and February 13, 1996. On October
11, 1996, the plaintiff filed an amended complaint which asserts
substantially the same factual allegations as the first complaint and
proposes the identical class period. The complaint alleges violations of
the United States Federal Securities law through material
misrepresentations and omissions. The Company believes the allegations in
the amended complaint are without merit and intends to defend the lawsuit
vigorously.
Although the Company denies all material allegations of these complaints
and intends to vigorously defend against claims brought against it, the
ultimate outcome, including amount of possible loss, if any, of litigation
cannot be determined at this time. No provision for any liability that may
result from this litigation has been taken. However, the Company has
accrued $2,506,000 as estimated legal fees to defend against these
lawsuits. There can be no assurance that the ultimate outcome of these
matters will not have a material adverse effect on the Company's business
and results of operations.
F-11
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(B) SOFTIMAGE INC. LITIGATION
The Company was involved in litigation with SOFTIMAGE, Inc. ("Softimage"),
a company that distributed the Company's products in 1993. The litigation
between the Company and Softimage was based on a dispute over the ownership
of the proprietary rights to a specific software product, FLAME, as well as
upon the termination by the Company, in 1993, of a distributorship
agreement with Softimage. The litigation concerning the termination of the
distribution agreement with Softimage was decided by arbitration in August
1994, and in September 1994, the Company and Softimage reached a settlement
whereby the Company maintained the exclusive rights to FLAME. The Company
was required to make certain payments to Softimage under the arbitration
and the settlement agreements. These payments, in addition to the related
legal and other settlement expenses, are included in litigation and related
settlement expenses in the accompanying consolidated statements of
operations.
In July 1992, the Company entered into an assignment agreement with Gary
Tregaskis ("Tregaskis"), a shareholder of the Company, for the FLAME
software. The Company did not record amounts payable to Tregaskis under
this agreement due to the litigation with Softimage concerning the
ownership of the FLAME software. On February 25, 1994, the Company and
Tregaskis entered into an employment agreement, which replaced all
preceding agreements. In connection with the employment agreement,
Tregaskis assigned all rights, title and interest in the FLAME software,
and the Company agreed to pay Tregaskis a fixed amount plus an amount that
was contingent upon the outcome of the litigation with Softimage. The
Company ultimately agreed to pay Tregaskis $312,500, which is included in
litigation and related settlement expenses for the year ended July 31,
1994. At July 31, 1996, a balance of $25,535 ($101,313 at July 31, 1995)
was due to Tregaskis and is included in due to related parties.
(6) DEMAND LINE OF CREDIT AND LEASING FACILITIES
The Company has a revolving demand line of credit with a bank under which
it can borrow up to CDN$3,600,00 (approximately $2,619,000 at July 31,
1996). Advances under the line are based on75-90% of qualified accounts
receivable balances and 60% of Canadian federal and provincial research and
development grants. The line accrues interest monthly at prime (6.25% at
July 31, 1996) plus 1%. Additionally, the Company has a CDN$600,000
(approximately $436,000 at July 31, 1996) demand leasing facility. The line
and leasing facilities are secured by essentially all assets of the
Company. As additional security, the Company assigned to the bank its
insurance on all the Company's assets, its insurance on the lives of its
key executives and Canadian federal and provincial research and development
tax credits receivable. The Company is required to maintain certain
financial ratios, including minimum levels of working capital, debt service
coverage and equity to asset ratios. At July 31, 1996, there were no
amounts outstanding under the line of credit or the leasing facilities. The
Company is in breach of certain covenants and does not plan to obtain a
waiver; therefore these credit facilities are not available.
(7) CANADIAN FEDERAL AND PROVINCIAL INCOME TAX CREDITS
The Company is entitled to research and development incentives in the form
of income tax credits from the Canadian federal government ("Federal") and
from the Province of Quebec ("Provincial"). Federal income tax credits are
received on qualified Canadian research and development expenditures and
equipment purchases. Provincial income tax credits are received on
qualified research and development salaries in the Province of Quebec. In
fiscal 1994, Federal income tax credits were earned at the rate of 35% of
the first $2,000,000 of qualified expenditures and 20% on the excess for
certain qualified Canadian corporations and at the rate of 20% for all
other corporations. In fiscal 1994, Provincial income tax credits were
earned at the rate of 40% of qualified salaries for certain Canadian
corporations and at the rate of
F-12
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
20% for all other corporations. Income tax credits reduce income taxes
currently payable and to the extent these credits exceed income taxes
currently payable, these tax credits may be received in cash from the
Canadian federal government and the Province of Quebec, subject to various
limitations for Federal tax credits. Beginning in fiscal 1995, the Federal
and Provincial income tax credits were reduced to 20% of qualified research
and development expenditures. Additionally, the Federal credit may be
limited to a credit against income taxes payable.
The Company recorded $450,000, $545,000 and $711,000 of income tax credits
as a reduction of research and development expenses for the years ended
July 31, 1994, 1995 and 1996, respectively. These income tax credits
represent credits earned based on qualifying research and development
expenditures. In addition, the Company recorded $310,000, $690,000 and
$513,000 of income tax credits as a reduction in the carrying value of
property and equipment for the years ended July 31, 1994, 1995 and 1996,
respectively. These income tax credits represent credits earned based on
qualifying property and equipment purchases.
(8) SHAREHOLDERS' EQUITY
(A) INITIAL PUBLIC OFFERING
In July 1995, the Company closed its initial public offering of 4,189,248
Common Shares at $10.50 per share, resulting in proceeds of approximately
$40,803,000 net of issuance costs and their related tax effects.
(B) AMENDED ARTICLES OF INCORPORATION
On October 16, 1995, the Company effected a 2-to-1 share split of its
Common Shares with the additional shares delivered on November 6, 1995 to
holders of record on October 16, 1995. All Common Shares have been adjusted
retroactively to give effect to the split.
On May 15, 1995, the Company amended its Articles of Incorporation to
effect a 2-to-1 split of its Common Shares, to combine and redesignate the
Company's Class B through Class G shares into Common Shares and to create a
class of Preferred Shares. All Common Shares have been adjusted
retroactively to give effect to the split.
On July 14, 1994, the Company amended the characteristics of its capital
shares, which included converting its Class A shares into Common Shares. On
that date, the Company effected a split of its Common Shares on a 40-to-1
basis. All Common Shares have been adjusted retroactively to give effect to
the split.
(C) SECONDARY OFFERING
In December 1995, the Company completed a secondary offering of 970,920
Common Shares at $30.25 per share, resulting in proceeds of approximately
$28,158,000 net of issuance costs and their related tax effects.
(D) PREFERRED SHARES
The Board of Directors is authorized to issue Preferred Shares, in one or
more series, and to fix the rights, dividend rates, conversion rights,
voting rights, terms of redemption (including sinking fund provisions),
redemption price or prices, and the number of shares constituting any
series or the designations of such series, without further vote or action
by the shareholders.
F-13
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(E) SHARE SUBSCRIPTIONS RECEIVABLE
During 1994, certain shareholders issued non-interest bearing notes to the
Company in exchange for Common Shares of the Company. The $148,148 share
subscriptions receivable at July 31, 1994 represents 10-year non-interest
bearing notes expiring March 9, 2004 from both the then and current
Chairman of the Board of Directors and the former president of the Company.
These amounts were either reduced through the shares being repurchased (see
note 8(f)) or repaid in fiscal 1995. On November 11, 1994, the former
President and Chief Executive Officer of the Company issued to the Company
a $1,645,000 note in connection with the exercise of nonqualified stock
options which is included in share subscriptions receivable at July 31,
1995. During the 1996 fiscal year the note was repaid in full together with
interest in the amount of $134,000.
(F) REPURCHASED SHARES
On March 27, 1995, the Company entered into an agreement with a former
president of the Company whereby he returned 1,450,000 Common Shares of the
Company in exchange for a $67,000 reduction in his outstanding share
subscription. This transaction was reflected as a reduction in common
shares and share subscription receivable in the accompanying consolidated
statement of shareholders' equity.
(G) DIVIDENDS
The Company has never declared or paid cash dividends and does not
anticipate paying any cash dividends on its capital stock in the
foreseeable future. In the event cash dividends are declared or paid, the
Company anticipates that they would be declared and paid in U.S. dollars.
Part 1A of the Quebec Companies Act prohibits the Company from paying
dividends that would prevent it from discharging its liabilities when due
or that would bring the book value of its assets to an amount less than the
sum of its liabilities and its issued and paid-up share capital account. At
July 31, 1996, the Company could not distribute any dividends.
(9) STOCK OPTION AND STOCK PURCHASE PLANS
The Company accounts for its stock issuance plans in accordance with
Accounting Principles Board Opinion No. 25 "Accounting for Stock Issued to
Employees". Statement of Financial Accounting Standards No. 123 ("SFAS
123"), Accounting for Stock-Based Compensation, became effective for
financial statements covering periods beginning after December 15, 1995.
This statement establishes financial accounting and reporting standards
based on a fair value concept for stock-based employee compensation plans.
This statement requires an employer that continues to apply the accounting
provisions of APB 25 to disclose pro forma amounts reflecting the
difference between compensation costs, including tax effects that would
have been recognized in the income statement, if the fair value based
method had been used. The Company expects to adopt only the disclosure
requirements of the statement.
(A) RESTRICTED STOCK AND STOCK OPTION PLAN
On June 14, 1994, the Company's Board of Directors approved the
establishment of the 1994 Restricted Stock and Stock Option Plan (the "1994
Plan") for the Company's officers, employees, consultants and directors.
Under the 1994 Plan, the Compensation Committee of the Board of Directors
(the "Compensation Committee") may grant stock options for a maximum of
5,000,000 Common Shares. Under the terms of the 1994 Plan, the purchase
price, which approximates fair market value, and vesting schedule
applicable to each option grant is determined by the Compensation
Committee.
F-14
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(B) 1995 NONEMPLOYEE DIRECTOR STOCK OPTION PLAN
On March 27, 1995, the Company's Board of Directors adopted, and in April
1995, the shareholders approved, the 1995 Nonemployee Director Stock Option
Plan (the "Director Plan"). Under the Director Plan, the Compensation
Committee may grant options to purchase up to 200,000 Common Shares to
nonemployee directors of the Company. The Director Plan authorizes the
grant (a) to each person who becomes a member of the Board of Directors and
who is not an employee, officer or direct and indirect owner of 5% or more
of the Common Shares of the Company (a "Non-Employee Director"), on the
date such person is first elected to the Board of Directors without further
action by the Compensation Committee, of an option to purchase 20,000
Common Shares and (b) to each person receiving an option pursuant to clause
(a) who is a Non-Employee Director on the fifth anniversary of the date
such person was first elected to the Board of Directors, during the term of
the Director Plan, of an option to purchase 15,000 Common Shares, provided
that such person has continuously served as a Non-Employee Director during
such 5-year period. The exercise price will be the fair market value at the
date of grant and the options will expire 10 years from the date of grant.
All options vest in three equal annual installments. As of July 31, 1996,
60,000 options were granted at fair market value under the Director Plan.
(C) 1995 EMPLOYEE STOCK PURCHASE PLAN
On March 27, 1995, the Company's Board of Directors adopted, and in April
1995, the shareholders approved, the 1995 Employee Stock Purchase Plan,
whereby the Company has reserved and may issue to employees up to an
aggregate of 300,000 Common Shares in semiannual offerings over a ten year
period. Common Shares are sold at 85% of fair market value. As of July 31,
1996, 16,728 shares had been issued under the plan.
(D) NON-QUALIFIED STOCK OPTION OUTSIDE THE PLAN
On November 4, 1994, the Company granted, outside the 1994 Plan, a
nonqualified stock option for the purchase of 1,012,308 Common Shares, at a
price of $1.63 per share, which approximated fair market value at date of
grant, to the former President and Chief Executive Officer of the Company.
This option was exercised on November 4, 1994 through the issuance of a
$1,645,000 note (see Note 8(e)).
The following is a summary of all stock option activity:
<TABLE>
<CAPTION>
NUMBER OF PRICE PER
OPTIONS SHARE
---------- ------------
<S> <C> <C>
Outstanding, July 31, 1993....................... -- --
Options granted................................. 1,245,080 $ .05- $.70
Options exercised............................... -- --
Options terminated.............................. -- --
---------- ------------
Outstanding, July 31, 1994....................... 1,245,080 $ .05- $.70
Options granted................................. 3,389,260 $ .05-20.69
Options exercised............................... (1,172,072) $ .05- 1.63
Options terminated.............................. (58,528) $ .05- 1.63
---------- ------------
Outstanding, July 31, 1995....................... 3,403,740 $ .05-$20.69
Options granted................................. 973,000 $5.75- 28.50
Options exercised............................... (1,244,918) $ .05- 6.38
Options terminated.............................. (387,176) $ .05- 24.50
---------- ------------
Outstanding, July 31, 1996....................... 2,744,646 $ .05-$28.50
========== ============
Exercisable, July 31, 1996....................... 513,714 $ .05-$28.50
========== ============
</TABLE>
F-15
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(10) RELATED PARTY TRANSACTIONS
(A) AMOUNTS DUE TO TECHNICAL COMPUTER GRAPHICS, INC. ("TCG")
TCG is a corporation owned by a director and shareholder of the Company and
provides management services and leases certain of its office space to the
Company. The Company believes these transactions were on the same basis
that could have been negotiated with unrelated parties. Management fees and
rent expense paid to TCG were $35,000, $59,000 and $0 for the years ended
July 31, 1994, 1995 and 1996, respectively. At July 31, 1995 and 1996, no
amounts were due to TCG. During fiscal 1996, the Company had sales of
$49,000 to TCG. At July 31, 1996, the full amount of the sale had been
collected.
(B) BOXER SYSTEMS LIMITED ("BOXER")
Boxer is a wholly owned subsidiary of a former minority shareholder of
Discreet Logic (UK) Limited. The Company paid management fees of $83,000 to
Boxer for the year ended July 31, 1994. Additionally, Boxer sold the
Company inventory at cost plus a 10% handling fee. The Company paid $48,000
in handling fees in the year ended July 31, 1994. No such fees were
incurred in the years ended July 31, 1995 and 1996. At July 31, 1995 and
1996, no amounts were due to Boxer.
(C) BEHAVIOUR ENTERTAINMENT INC. ("BEHAVIOUR")
The Company has recorded during fiscal 1996 revenue of $121,000 from
Behaviour, which is a company owned by the Company's Chairman and Chief
Executive Officer and other directors of the Company. At July 31, 1996, the
Company had a trade receivable of $113,000 from Behaviour.
(D) OTHER RELATED PARTY TRANSACTIONS
The Company has recorded revenue of $2,304,000 during fiscal 1996, from a
company with which the Company's Chairman and Chief Executive Officer is
affiliated. At July 31, 1996, the Company had a trade accounts receivable
of $836,000 from such company. The balance is to be collected in six
monthly installments of $139,000.
The Company has recorded revenue of $1,138,000 during fiscal 1996, from a
company with which a member of the Company's board of directors is
affiliated. At July 31, 1996, the full amount of the sale had been
collected.
F-16
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(11) INCOME TAXES
The Company applies the provisions of SFAS No. 109, Accounting for Income
Taxes. Under the provisions of SFAS No. 109, the Company recognizes a
current tax liability or asset for current taxes payable or refundable and
a deferred tax liability or asset for the estimated future tax effects of
temporary differences between the carrying value of assets and liabilities
for financial reporting and their tax basis and carryforwards to the extent
they are realizable.
The components of the deferred tax assets and the deferred tax liabilities
are as follows:
<TABLE>
<CAPTION>
JULY 31,
----------------------
1995 1996
---------- -----------
<S> <C> <C>
Deferred tax assets--
Foreign tax loss carryforwards.................... $ -- $ 6,850,000
Restructuring costs............................... -- 1,400,000
Initial and secondary public offering issuance
costs............................................ 1,713,000 1,740,378
Other temporary differences....................... 505,123 1,581,200
---------- -----------
2,218,123 11,571,578
Less: Valuation allowance -- 6,850,000
---------- -----------
$2,218,123 $ 4,721,578
========== ===========
Deferred tax liabilities--
Difference between book and tax basis of capital
assets........................................... $ 935,715 $ 1,121,514
Federal research and development tax credits...... 324,949 320,064
---------- -----------
$1,260,664 $ 1,441,578
========== ===========
</TABLE>
The Company provides deferred taxes for research and development tax
credits earned in the current year, which are included in taxable income in
the subsequent year. In accordance with Canadian tax laws, stock issuance
costs are deductible over a five year period.
Income (loss) before income taxes and minority interest for the entities
incorporated in the following jurisdictions:
<TABLE>
<CAPTION>
YEARS ENDED JULY 31,
----------------------------------
1994 1995 1996
-------- ----------- ------------
<S> <C> <C> <C>
Canada................................. $493,164 $10,755,706 $ (2,470,805)
United States.......................... 227,406 3,359,166 (12,587,746)
United Kingdom......................... 137,728 (350,429) (5,191,695)
European and Other..................... -- (474,426) (22,456,100)
-------- ----------- ------------
$858,298 $13,290,017 $(42,706,346)
======== =========== ============
</TABLE>
F-17
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
The income tax provision is composed of the following:
<TABLE>
<CAPTION>
YEARS ENDED JULY 31,
-------------------------------
1994 1995 1996
-------- ---------- ----------
<S> <C> <C> <C>
Current--
Federal................................. $209,339 $2,381,427 $2,060,380
Provincial.............................. 3,808 665,254 375,087
Foreign................................. 29,780 1,791,004 1,072,157
-------- ---------- ----------
242,927 4,837,685 3,507,624
-------- ---------- ----------
Deferred--
Federal................................. 11,288 647,247 (1,373,684)
Provincial.............................. 26,996 268,656 (228,379)
Foreign................................. 61,948 (263,391) (470,726)
-------- ---------- ----------
100,232 652,512 (2,072,789)
-------- ---------- ----------
Total provision....................... $343,159 $5,490,197 $1,434,835
======== ========== ==========
</TABLE>
The reconciliation between the Canadian federal statutory income tax rate
and the effective tax rate is as follows:
<TABLE>
<CAPTION>
YEARS ENDED JULY 31,
-----------------------
1994 1995 1996
------ ------ -------
<S> <C> <C> <C>
Provision (benefit) at the Canadian federal
statutory rate................................. 38.0% 38.0% (38.0)%
Foreign taxes................................... 16.7 3.3 17.2
Effect of not utilizing foreign subsidiaries'
tax losses..................................... -- 0.9 16.0
Effect of permanent differences................. -- -- 3.0
Provincial taxes, net of federal tax abatements. (3.0) (1.0) 0.2
Canadian federal incentives for manufacturers
and small business............................. (2.8) (2.8) 0.2
Utilization of net operating losses............. (6.1) -- --
Other items..................................... (2.8) 2.9 4.8
------ ------ -------
Tax provision................................. 40.0% 41.3% 3.4%
====== ====== =======
</TABLE>
The Company has $27,460,000 of cumulative foreign net operating loss
carryforwards which may be available to reduce future income tax
liabilities in those jurisdictions. The loss carryforwards will expire
beginning July 31, 2001.
The Company has recorded a valuation allowance against the tax benefit of
these net operating loss carryforwards because the tax benefits do not meet
the recognition criteria set forth in SFAS 109 because their future
realizability is uncertain.
These net operating loss carryforwards are subject to review and adjustment
by the respective tax authorities and may be limited in certain cases upon
a significant ownership change of the corporation, as defined.
F-18
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(12) COMMITMENTS AND CONTINGENCIES
(A) LEASE COMMITMENTS
The Company has both operating and capital lease commitments for certain
facilities and equipment which expire through February 2003. The following
schedule outlines the future minimum rental payments under these leases at
July 31, 1996:
<TABLE>
<CAPTION>
OPERATING
LEASES
----------
<S> <C>
Year ended July 31,
1997.......................................................... $2,055,388
1998.......................................................... 1,647,307
1999.......................................................... 892,230
2000.......................................................... 730,732
2001 and thereafter........................................... 1,267,205
----------
Total minimum lease payments................................... $6,592,862
==========
</TABLE>
The above commitments include leases for locations which the Company plans
to close under the restructuring plan (see Note 17).
Rental expenses related to the operating leases were approximately
$312,000, $917,000 and $1,348,000, for the years ended July 31, 1994, 1995
and 1996 respectively.
(B) LETTERS OF GUARANTEE
The Company has provided letters of guarantee in the amount of $485,178 as
of July 31, 1996.
(13) FINANCIAL INFORMATION BY GEOGRAPHIC AREA
The Company operates in one industry segment primarily digital image
processing solution systems for creating, editing, and compositing special
visual effects for film and video, including training and other services
incident to these products.
Revenues by geographic destination and as a percentage of total revenues
are as follows:
<TABLE>
<CAPTION>
YEARS ENDED JULY 31,
-----------------------------------
GEOGRAPHIC AREA
BY DESTINATION 1994 1995 1996
---------------- ----------- ----------- -----------
<S> <C> <C> <C>
North America.......................... $11,343,635 $35,515,336 $36,286,073
Europe................................. 2,816,670 20,706,850 35,774,418
Pacific Rim............................ 969,673 6,414,711 8,717,015
Other.................................. 261,658 1,911,714 3,219,941
----------- ----------- -----------
$15,391,636 $64,548,611 $83,997,447
=========== =========== ===========
</TABLE>
F-19
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
<TABLE>
<CAPTION>
YEARS ENDED JULY 31,
----------------------
GEOGRAPHIC AREA
BY DESTINATION 1994 1995 1996
---------------- ------ ------ ------
<S> <C> <C> <C>
North America...................................... 73.7% 55.0% 43.2%
Europe............................................. 18.3 32.1 42.6
Pacific Rim........................................ 6.3 9.9 10.4
Other.............................................. 1.7 3.0 3.8
------ ------ ------
100.0% 100.0% 100.0%
====== ====== ======
</TABLE>
Revenues, net income and identifiable assets for the Company's Canadian,
U.S., U.K., Germany and European and other operations are as follows:
Intercompany transfers between geographic areas are at prices that
approximate arm's length transactions. Expenses incurred in one geographic
area that benefit other areas have been allocated based upon services
utilized.
<TABLE>
<CAPTION>
OTHER
EUROPEAN
COUNTRIES
CANADIAN U.S. U.K. GERMANY AND OTHER ELIMINATIONS CONSOLIDATED
------------ ------------ ----------- ----------- ------------ ------------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
1994--
Revenues.............. $ 3,300,131 $ 10,703,296 $ 1,388,209 $ -- $ -- $ -- $ 15,391,636
Transfers between
geographic locations. 2,505,781 -- -- -- -- (2,505,781) --
------------ ------------ ----------- ----------- ------------ ------------- ------------
Total revenues........ $ 5,805,912 $ 10,703,296 $ 1,388,209 $ -- $ -- $ (2,505,781) $ 15,391,636
============ ============ =========== =========== ============ ============= ============
Net income............ $ 241,733 $ 170,535 $ 71,218 $ -- $ -- $ -- $ 483,486
============ ============ =========== =========== ============ ============= ============
Identifiable assets... $ 4,658,111 $ 4,436,186 $ 1,288,718 $ -- $ -- $ (952,180) $ 9,430,835
============ ============ =========== =========== ============ ============= ============
1995--
Revenues.............. $ 12,878,575 $ 31,794,924 $10,089,329 $ 3,109,867 $ 6,675,916 $ -- $ 64,548,611
Transfers between
geographic locations. 11,747,606 15,902,851 $ -- $ -- $ -- (27,650,457) --
------------ ------------ ----------- ----------- ------------ ------------- ------------
Total revenues........ $ 24,626,181 $ 47,697,775 $10,089,329 $ 3,109,867 $ 6,675,916 $ (27,650,457) $ 64,548,611
============ ============ =========== =========== ============ ============= ============
Net income (loss)..... $ 6,778,399 $ 4,167,891 $ (296,320) $ (17,849) $ (629,786) $ (2,217,240) $ 7,785,095
============ ============ =========== =========== ============ ============= ============
Identifiable assets... $ 58,693,038 $ 20,818,430 $ 9,205,168 $ 2,756,008 $ 4,895,738 $ (19,510,207) $ 76,858,175
============ ============ =========== =========== ============ ============= ============
1996--
Revenues.............. $ 8,339,345 $ 33,090,335 $17,309,369 $12,307,428 $ 12,950,970 $ -- $ 83,997,447
Transfers between
geographic locations. 20,211,614 29,090,504 -- -- 9,007,939 (58,310,057) --
------------ ------------ ----------- ----------- ------------ ------------- ------------
Total revenues........ $ 28,550,959 $ 62,180,839 $17,309,369 $12,307,428 $ 21,958,909 $ (58,310,057) $ 83,997,447
============ ============ =========== =========== ============ ============= ============
Net income (loss)..... $ (1,398,871) $(11,532,447) $(5,210,577) $ (797,282) $(21,937,763) $ (3,264,240) $(44,141,181)
============ ============ =========== =========== ============ ============= ============
Identifiable assets... $103,117,776 $ 48,995,740 $20,411,397 $ 5,937,355 $ 27,620,429 $(125,934,955) $ 80,147,742
============ ============ =========== =========== ============ ============= ============
</TABLE>
Export sales from Canada were $2,695,632, $10,601,744 and $5,788,925 for
the years ended July 31, 1994, 1995 and 1996, respectively. The Barbados
and Asian operations are included in Other European countries and other.
F-20
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
(14) DEPENDENCE ON KEY SUPPLIER
The Company is dependent on Silicon Graphics, Inc. ("SGI") to manufacture
and supply all workstations and certain peripherals used in the Company's
systems. The Company derived 45.0%, 38.6% and 34.2% of total revenues in
the years ended July 31, 1994, 1995 and 1996, respectively, from sales of
SGI workstations and peripherals.
(15) ACQUISITIONS
(A) BRUGHETTI CORPORATION
On May 26, 1995, the Company acquired substantially all the technology and
other assets of Brughetti Corporation ("Brughetti"), a Canadian
corporation. The purchase price was CDN$1,000,000 (or approximately
$741,000) in cash of which CDN$600,000 (or approximately $441,000) was paid
upon closing of the acquisition and CDN$400,000 (or approximately $300,000)
was paid in July 1995. In addition, the Company has agreed to pay up to an
additional $5,500,000 as contingent purchase price payable in cash or
securities of the Company, at the sole option of the Company. The
contingent purchase price is payable in three annual installments,
beginning October 1996, and is based upon a percentage of the amount by
which revenues derived from future sales of products and technologies
purchased from Brughetti exceed certain minimum annual revenues. In the
event that the revenues, as defined, exceed certain minimum annual revenue
levels in fiscal 1996, 1997 and 1998, the contingent consideration payable
would be up to $1,500,000, $2,000,000 and $2,000,000 for fiscal 1996, 1997
and 1998, respectively. If the minimum annual revenue levels for any fiscal
year are not reached, no payments are due for that year, provided, however,
that the second and third payments are subject to upward adjustment in the
event that the initial revenue thresholds are not met but revenue
thresholds related to the subsequent fiscal years are exceeded. In no
event, however, will the contingent consideration payable exceed an
aggregate of $5,500,000. The Company did not meet the minimum revenue
levels for fiscal 1996 and no additional payment is currently due. The
acquisition was accounted for as a purchase and accordingly the initial
purchase price and acquisition costs were allocated to the assets acquired
which consisted of approximately $102,000 of accounts receivable, $105,000
of property and equipment and $534,000 of acquired technology. In addition,
in accordance with APB No. 16, additional consideration paid upon the
achievement of the performance criteria, if any, will be recorded as
additional purchase price at such time, allocated to acquired technology
and amortized over the remaining estimated useful life.
Under the restructuring plan, the Company has discontinued the development
of the Brughetti products. Accordingly, the unamortized value of the
acquired technology was written off.
(B) COSS/IMP
On October 24, 1995, the Company acquired all of the outstanding shares of
Computer-und Serviceverwaltungs AG, located in Innsbruck, Austria ("COSS")
and certain assets of IMP Innovative Medientechnik-und Planungs-GmbH,
located in Geltendorf/Kaltenberg, Germany ("IMP") related to the research,
development, manufacturing, marketing, sale, distribution or procurement of
real-time broadcast animation products, including software. The purchase
price for the shares of COSS was $3,000,000 in cash plus 300,000 Common
Shares of the Company. In addition, the Company agreed to pay an additional
$500,000 in cash as contingent purchase price in the event COSS received
orders for and licensed a certain number of VAPOUR systems by April 1996,
as defined. The purchase price for the IMP assets was $2,000,000 in cash.
During fiscal 1996, the Company paid the contingent purchase price, which
was accounted for as an additional purchase price and allocated to
goodwill.
F-21
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(AMOUNTS IN U.S. DOLLARS)
The acquisition was accounted for as a purchase and accordingly the
purchase price and acquisition costs were allocated to the assets acquired
which consisted of approximately $8,500,000 of in process research and
development and charged to operations in the first quarter of fiscal 1996,
and approximately $3,200,000 was allocated to intangible assets, which
include goodwill and acquired technology, and is being amortized on a
straight-line basis over their estimated lives of 5 years. These
allocations represent the fair values determined by an independent
appraisal. The appraisal incorporated proven valuation procedures and
techniques in determining the fair value of each intangible asset. The
amount allocated to in process research and development relates to projects
that had not yet reached technological feasibility and that, until
completion of the development, had no alternative use. These projects
required substantial high risk development and testing by the Company prior
to reaching technological feasibility.
Under the restructuring plan, the Company has transitioned the technology
and the related research and development operations from Innsbruck, Austria
to Montreal, Canada. Accordingly, the unamortized balance of goodwill of
approximately $1.8 million was charged to restructuring expense.
The following unaudited pro forma information presents the consolidated
results of operations for the year ended July 31, 1995 as if the
acquisitions of Brughetti and COSS/IMP had occurred on August 1, 1994 after
giving effect to certain adjustments, including depreciation, amortization
of acquired assets and in process research and development charges. The pro
forma information does not reflect additional cash consideration, if any
which may be paid upon the occurrence of certain performance criteria. This
pro forma information has been prepared for comparative purposes only and
does not purport to be indicative of what would have occurred had the
acquisitions been made on August 1, 1994 or of results that may occur in
the future.
<TABLE>
<CAPTION>
YEAR ENDED
BRUGHETTI CORPORATION AND COSS/IMP JULY 31,
UNAUDITED PROFORMA INFORMATION 1995
---------------------------------- -----------
<S> <C>
Total Revenues............................................... $67,651,835
Net Loss..................................................... $(1,419,835)
Net Loss per common share.................................... $ (0.06)
</TABLE>
(C) ESSENTIAL COMMUNICATIONS CORPORATION
On April 15, 1996, The Company purchased newly issued Series B convertible,
voting, preferred shares of a privately held company, Essential
Communications Corporation, representing approximately 20% of the voting
shares. The $2,500,000 investment has been charged to operations in fiscal
1996 as research and development expense due to the uncertainty regarding
the realizability of the investment in the preferred shares. Pro forma
presentation has not been included as it is not deemed to be meaningful or
material.
(16) PURCHASE OF LAND AND FACILITIES
In August 1995, the Company purchased land and an office building in
London, England for approximately (Pounds)1,148,000 (or approximately
$1,788,000). Additionally, in September 1995, the Company entered into a
purchase and sale agreement to purchase land and a building in Montreal for
CDN$1,730,000 (or approximately $1,250,000). During fiscal 1996, the
carrying value of the London and Montreal buildings were written down to
their estimated fair market values and these buildings are classified as
assets held for resale.
F-22
<PAGE>
DISCREET LOGIC INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONCLUDED)
(AMOUNTS IN U.S. DOLLARS)
(17) RESTRUCTURING
In the fourth quarter of 1996, the Company recorded a pre-tax restructuring
charge of $15 million to cover the direct costs of restructuring the
Company's operations and to bring operating expenses in line with the
Company's current revenue level. The focus of the Company's restructuring
plan is to solidify its senior management team, reduce operating expenses
through workforce reductions and office closings, consolidate research and
development activities in Montreal, the discontinuance of certain product
lines, and restructure its sales force to emphasize indirect sales
channels. The Company began implementation of its restructuring plan in the
fourth fiscal quarter of 1996 and expects implementation to continue
throughout fiscal 1997. The major aspects of the restructuring plan are
discussed below. There can be no assurance that management will be
successful in implementing the restructuring plan or that the Company will
not take on further restructurings or be profitable in the future.
Furthermore, the implementation of the restructuring plan may cause
diversion of management's time and resources and may result in other
unforeseen disruptions and unexpected expenses.
The restructuring entails the closing and moving of several offices in
North America and Europe. It also includes the termination of approximately
110 positions across all departments and around the world. Of the 110
positions to be terminated, 65 were terminated during the fourth quarter of
1996 at a severance cost of $807,000 of which $582,000 had been paid as at
July 31, 1996. The remaining termination and related benefits will be
substantially completed by the end of the first quarter of fiscal 1997.
The components of the restructuring charge are as follows:
<TABLE>
<S> <C>
Asset Write Down.............................................. $ 6,190,000
Lease Terminations and Leasehold Improvements Reserve......... 4,600,000
Severance..................................................... 2,800,000
Professional Services and Other............................... 1,410,000
-----------
$15,000,000
===========
</TABLE>
The primary component of the asset write down is an amount of $2.2 million
for goodwill and acquired technology. The other components of the write
down are primarily fixed assets which have no future use.
F-23
<PAGE>
REPORT OF INDEPENDENT CHARTERED ACCOUNTANTS
ON SCHEDULE
To Discreet Logic Inc.:
We have audited in accordance with generally accepted auditing standards in
Canada, which are in substantial agreement with those in the United States of
America, the consolidated financial statements of Discreet Logic Inc. and
subsidiaries as of July 31, 1995 and 1996 and the three years in the period
ended July 31, 1996 included in this 10-K. Our audits were made for the
purpose of forming an opinion on the basic financial statements taken as a
whole. The schedule listed in Item 16 is the responsibility of the Company's
management and is presented for the purposes of complying with the Securities
and Exchange Commission's rules and is not part of the basic financial
statements. This schedule has been subjected to the auditing procedures
applied in the audits of the basic financial statements and, in our opinion,
fairly states in all material respects the financial data required to be set
forth therein in relation to the basic financial statements taken as a whole.
Montreal, Canada Arthur Andersen & Cie
September 13, 1996 Chartered Accountants
S-1
<PAGE>
SCHEDULE II
DISCREET LOGIC INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
BALANCE
AT CHARGED TO BALANCE AT
BEGINNING COSTS AND WRITE- END OF
DESCRIPTION OF PERIOD EXPENSES OFFS PERIOD
--------------------------------- --------- ---------- ------- ----------
<S> <C> <C> <C> <C>
ALLOWANCE FOR DOUBTFUL ACCOUNTS
July 31, 1994.................. $ -- $ 118,000 $48,000 $ 70,000
July 31, 1995.................. 70,000 361,000 -- 431,000
July 31, 1996.................. 431,000 3,307,000 89,000 3,649,000
</TABLE>
S-2
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION PAGE
------- ----------- ----
<C> <S> <C>
3.1 Articles of Incorporation, as amended (filed as Exhibit 4.2
to the Company's Registration Statement on Form S-8 (file
No. 33-97400) (the "Registration Statement on Form S-8")
and incorporated herein by reference).
3.2 By-laws (filed as Exhibit 4.3 to the Company's Registration
Statement on Form S-8 and incorporated herein by
reference).
4.1 Specimen Stock Certificate representing the Common Shares
(filed as Exhibit 4.1 to the Company's Registration
Statement on Form S-8 and incorporated herein by
reference).
10.1 Employee Agreement, dated November 4, 1994, by and between
the Company and David N. Macrae (filed as Exhibit 10.1 to
the Company's Registration Statement on Form F-1, as
amended (file No. 33-90776) (the "Registration Statement on
Form F-1") and incorporated herein by reference).
10.2 Memorandum of Agreement dated November 4, 1994, by and
between the Company and David N. Macrae (filed as Exhibit
10.2 to the Company's Registration Statement on Form F-1
and incorporated herein by reference).
10.3 Employment Agreement, dated February 25, 1994, by and
between the Company and Gary G. Tregaskis (filed as Exhibit
10.3 to the Company's Registration Statement on Form F-1
and incorporated herein by reference).
*10.4 Employment Agreement, dated June 20, 1996, by and between
the Company and Francois Plamondon.
10.5 Contract of Transaction, dated March 27, 1995, by and
between the Company and certain subsidiaries and Robert J.
Schiller (filed as Exhibit 10.4 to the Company's
Registration Statement on Form F-1 and incorporated herein
by reference).
10.6 Share Cancellation Agreement, dated March 27, 1995, by and
between the Company and Robert J. Schiller (filed as
Exhibit 10.6 to the Company's Registration Statement on
Form F-1 and incorporated herein by reference).
10.7 Memorandum of Agreement, dated March 9, 1994, by and
between the Company and 9002-1585 Quebec Inc. (filed as
Exhibit 10.7 to the Company's Registration Statement on
Form F-1 and incorporated herein by reference).
10.8 Silicon Graphics, Inc. Value-Added Reseller Agreement,
dated May 9, 1994, by and between the Company and Silicon
Graphics, Inc. (filed as Exhibit 10.8 to the Company's
Registration Statement on Form F-1 and incorporated herein
by reference).
10.9 Silicon Graphics, Inc. Value-Added Reseller Agreement
Extension, dated October 4, 1995, by and between the
Company and Silicon Graphics, Inc. (filed as Exhibit 10.8
to the Company's Annual Report on Form 10-K for the fiscal
year ended July 31, 1995 and incorporated herein by
reference).
*10.10 Silicon Graphics, Inc. Value-Added Reseller Agreement
Extension, dated October 16, 1996, by and between the
Company and Silicon Graphics, Inc.
10.11 Credit and Leasing Facility Agreement, dated May 17, 1994,
by and between the Company and Banque Nationale de Paris
(Canada) (filed as Exhibit 10.10 to the Company's
Registration Statement on Form F-1 and incorporated herein
by reference).
</TABLE>
X-1
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION PAGE
------- ----------- ----
<C> <S> <C>
10.12 Amendment to Credit and Leasing Facility, dated May 17,
1995, by and between the Company and Banque Nationale de
Paris (Canada) (filed as Exhibit 10.10(a) to the Company's
Registration Statement on Form F-1 and incorporated herein
by reference).
10.13 Security Agreement, dated July 8, 1994, by and between
Discreet Logic-USA Inc. and Banque Nationale de Paris
(filed as Exhibit 10.11 to the Company's Registration
Statement on Form F-1 and incorporated herein by
reference).
10.14 Guaranty Agreement, dated July 8, 1994, by and between
Discreet Logic-USA Inc. and Banque Nationale de Paris
(filed as Exhibit 10.12 to the Company's Registration
Statement on Form F-1 and incorporated herein by
reference).
10.15 Lease Agreement, dated March 1, 1994, by and between the
Company and Peck Building Reg'd as amended through December
1994 (filed as Exhibit 10.13 to the Company's Registration
Statement on Form F-1 and incorporated herein by
reference).
10.16 Lease Agreement, dated December 1994, by and between the
Company and Rizika Realty Trust (filed as Exhibit 10.14 to
the Company's Registration Statement on Form F-1 and
incorporated herein by reference).
10.17 Land Transfer Agreement, dated August 25, 1995, by and
between the Company and Safeland PLC (filed as Exhibit
10.15 to the Company's Annual Report on Form 10-K for the
fiscal year ended July 31, 1995 and incorporated herein by
reference).
10.18 Amended and Restated 1994 Restricted Stock and Stock Option
Plan (filed as Exhibit 10.15 to the Company's Registration
Statement on Form F-1 and incorporated herein by
reference).
10.19 1995 Employee Stock Purchase Plan (filed as Exhibit 4.6 to
the Company's Registration Statement on Form S-8 and
incorporated herein by reference).
10.20 1995 Non-Employee Director Stock Option Plan (filed as
Exhibit 10.17 to the Company's Registration Statement on
Form F-1 and incorporated herein by reference).
10.21 Asset Purchase Agreement by and between the Brughetti
Corporation and Discreet Logic (Barbados) Inc. dated as of
May 17, 1995 (filed as Exhibit 10.18 to the Company's
Registration Statement on Form F-1 and incorporated herein
by reference).
10.22 Share Purchase Agreement by and between Discreet Logic GmbH
and the several sellers named therein dated as of October
24, 1995 (filed as Exhibit 10.20 to the Company's Annual
Report on Form 10-K for the fiscal year ended July 31, 1995
and incorporated herein by reference).
10.23 Asset Purchase Agreement by and between IMP Innovative
Medientechnik-und Planungs--GmbH and Discreet Logic
(Barbados) Inc. dated as of October 24, 1995 (filed as
Exhibit 10.21 to the Company's Annual Report on Form 10-K
and incorporated herein by reference).
10.24 Subscription and Stock Restriction Agreement by and among
Discreet Logic GmbH, the Company and the several
stockholders named therein dated as of October 24, 1995
(filed as Exhibit 10.22 to the Company's Annual Report on
Form 10-K and incorporated herein by reference).
</TABLE>
X-2
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION PAGE
------- ----------- ----
<C> <S> <C>
**10.25 Maximum Liability Agreement, dated April 17, 1996, by and
among Discreet Logic USA, Inc., the Company and the
Terminal Marketing Company, Inc.
*21.1 Subsidiaries of the Company.
*23.1 Consent of Arthur Andersen & Cie
*24.1 Power of Attorney (included on the signature page of this
Form 10-K).
*27 Financial Data Schedule.
</TABLE>
- --------
* Filed herewith.
** Confidential Treatment Requested.
X-3
<PAGE>
EXHIBIT 10.4
June 20, 1996
Mr. Francois Plamondon
6300 Northcrest Place
Montreal, Quebec
H3S 2W3
Dear Francois,
Discreet Logic Inc. ("Discreet") is pleased to offer you employment upon the
terms and conditions set out below.
1. Duties and Responsibilities
---------------------------
Discreet hereby agrees to engage your services as Vice-President, Chief
Financial Officer, Treasurer and Secretary of Discreet. In such capacity, you
shall report directly to the Chief Executive Officer of Discreet or such other
person as may be designated by Discreet from time to time and you shall be
accountable to both the latter and the board of directors of Discreet.
By your acceptance hereof, you agree to devote all of your working time,
attention and skill to Discreet and to make every effort necessary to promote
the success of Discreet's business and perform adequately the duties that are
assigned to you as of the Date of Commencement (as defined below).
You further agree that you may not pursue any activities which could be
detrimental to Discreet's interests.
2. Compensation
------------
Discreet shall pay you a base annual salary (the "Salary") of Cdn. $200,000 as
of the Date of Commencement. The Salary shall be reviewed annually by Discreet
in accordance with its applicable internal policies in effect from time to time.
You shall furthermore be eligible for an annual target bonus at the sole
discretion of the compensation committee of the board of directors of Discreet
based on the achievement by Discreet, on a consolidated basis, of the budgets
and forecasts approved by the board of directors from time to time, which annual
bonus shall not exceed Cdn. $70,000. Notwithstanding the foregoing, in the
event that the budgets and forecasts approved by the board of directors from
time to time are not met, the board of directors of Discreet shall have the
right, at its sole discretion, to approve the payment of a bonus not to exceed
Cdn. $70,000 if the board of
<PAGE>
-2-
directors is of the view that your performance was outstanding and the failure
to meet the budgets and forecasts was not attributable to factors within your
control. This annual bonus, if any, shall be determined and paid annually.
3. Reimbursement
-------------
Discreet will reimburse you, upon presentation of appropriate receipts or other
evidence thereof, all expenses and fees reasonably incurred by you in the
exercise of your functions hereunder the whole provided that such expenses and
fees were incurred in direct relation to the accomplishment of your duties
hereunder, the whole in accordance with the policy of Discreet then in effect as
modified from time to time at the sole discretion of the board of directors of
Discreet.
4. Stock Options
-------------
Discreet will grant you (the "Initial Grant") no later than two weeks following
the Date of Commencement an option to purchase 300,000 common shares in the
share capital of Discreet pursuant to the "Amended and Restated 1994 Restricted
Stock and Stock Option Plan" of Discreet (the "Plan"). The exercise price of
each option will be an amount equal to the "Fair Market Value" of the optioned
shares (as determined in accordance with the provisions of the Plan) as at the
date on which the Initial Grant shall be approved by the board of directors of
Discreet (the "Date of Initial Grant"). Your options pursuant to the Plan will
vest as follows:
<TABLE>
<CAPTION>
Number of Shares Date of Vesting
---------------- ---------------
<S> <C>
150,000 Date of 2nd anniversary of Date of Initial Grant
an additional 75,000 Date of 3rd anniversary of Date of Initial Grant
an additional 75,000 Date of 4th anniversary of Date of Initial Grant
</TABLE>
The Initial Grant shall be subject to you executing the standard form Stock
Option Agreement as required by the Plan.
In the event of a reorganization as defined in the Plan, then (i) all of your
options to purchase common shares in the share capital of Discreet pursuant to
the Initial Grant shall become immediately vested, or (ii) if the board of
directors of Discreet elects, in accordance with the Plan, not to accelerate the
vesting of the options to purchase common shares granted pursuant to the Plan,
you shall receive in substitution for all of your outstanding options to
purchase common shares of Discreet, whether vested or not, such securities
(excluding options) of Discreet or of any amalgamated, merged, consolidated or
otherwise reorganized corporation or, only in the event of an amalgamation of
Discreet with one of its subsidiaries, options of the amalgamated company, all
of which securities or options shall be of equivalent value and liquidity.
<PAGE>
-3-
5. Duration and Termination
------------------------
This agreement is for an indeterminate term commencing on August 1, 1996 (the
"Date of Commencement").
This agreement may be terminated, except for continuing obligations hereunder as
at any such termination, in any of the following eventualities and with the
following consequences:
(a) at any time, for Cause, on simple notice from Discreet to you the whole
without any other notice or any pay in lieu of notice or any indemnity
whatsoever from Discreet to you, and any further claims or recourse by you
against Discreet or its affiliates in respect of such termination;
(b) upon three (3) months notice in writing from you to Discreet, specifying
your intention to resign, in which event Discreet shall only be obliged to
pay you your remuneration hereunder for such remaining part of the period
specified in your notice, and Discreet shall have no further obligations
hereunder in the event of your resignation, it being understood that you
shall not benefit, after your resignation, from any additional vesting of
your options to purchase common shares referred to herein; or
(c) upon written notice from Discreet to you in the event of termination of
your employment without Cause, in which event Discreet shall pay you an
indemnity in lieu of notice in a lump sum equal to twelve (12) months of
your Salary at the time of termination, and Discreet shall have no further
obligations hereunder in the event of such termination of your employment,
and you shall have no further claims or recourse against Discreet or any of
its affiliates in respect of such termination. Notwithstanding any
provision herein to the contrary, if your employment with Discreet is
terminated without Cause after the first anniversary date of the Date of
Commencement, then the options to purchase common shares of Discreet which
would have vested next as set forth above shall immediately vest.
"Cause" shall mean cause for dismissal without either notice or payment in lieu
of notice for reasons of fraud, embezzlement, gross negligence, wilful and
careless disregard or gross dereliction of duty, incapacity or refusal to
perform employment functions due to drug use or alcohol addiction, conviction of
a felony, serious breach of duty not corrected within thirty (30) days of notice
to that effect and discriminatory practices governed by statute.
6. Benefit Plans and Vacation
--------------------------
You shall have the right to participate to all benefit programs and/or plans
granted to senior employees of Discreet, the whole in accordance with the actual
programs or plans that Discreet may institute from time to time. You shall be
granted a minimum of four (4) weeks of annual vacation for each whole calendar
year of this agreement.
<PAGE>
-4-
7. Non-Competition
---------------
Without the prior written approval of Discreet, you agree not, during your
employment with Discreet and for a subsequent period of twelve (12) months
thereafter, on your own behalf or on behalf of any other person, whether
directly or indirectly, in any capacity whatsoever alone, or through or in
connection with any person, carry on or be engaged in or do consulting work for
or have any financial or other interest in or be otherwise commercially involved
in any endeavor, activity or business in all or part of the Territory (as
hereinafter defined) which is in competition with the Business (as hereinafter
defined) or which provides similar competitive services. Notwithstanding any
provision herein to the contrary, including paragraph 5(c), in the event of a
termination of your employment without Cause, if you decide to, directly or
indirectly, in any capacity to carry on or be engaged in or do consulting work
for or have a financial or other interest in or be otherwise commercially
involved in any endeavor, activity or business which is in competition with the
Business or which provides similar competitive services before the expiration of
the aforesaid twelve (12) month period, you shall cease to be bound by the
provisions of this paragraph 7 provided that Discreet shall have no further
obligation to pay you (or you shall reimburse) any severance set forth in
paragraph 5(c) in respect of any period commencing on the date you agree to so
compete with the Business or be involved in a business which provides similar
competitive services.
"Territory" shall mean worldwide.
"Business" shall mean the business now and heretofore conducted by Discreet, its
subsidiaries and its affiliates provided that such affiliate is in a business
similar or related to the business of Discreet and its subsidiaries.
8. Confidentiality and Non-Disclosure
----------------------------------
You hereby expressly covenant and agree that you shall not, during and for a
period of ten years following termination of your employment with Discreet,
disclose any Confidential Information (as hereinafter defined) to any person
other than such persons as expressly approved by Discreet nor use any
Confidential Information for your own benefit, or for the benefit of any other
person, or for any purpose other than within the scope of your employment by
Discreet.
"Confidential Information" shall mean confidential, secret or proprietary
information of Discreet or related to the Business, whether recorded or not,
howsoever received or generated by Discreet or you from, through or relating to
Discreet or the Business and in whatever from (whether oral, written, machine
readable or otherwise) which pertains to Discreet, its affiliates, its
subsidiaries or the Business. "Confidential Information" shall not include
information which (i) is in the public domain, without any fault or violation of
this agreement on your part, (ii) is generally disclosed by Discreet without any
restriction to third parties, (iii) is properly within your legitimate
possession prior to its disclosure hereunder and without any obligation of
confidences attaching thereto, (iv) after disclosure, is lawfully received by
you from another person who is lawfully in possession of such Confidential
Information and such other person was
<PAGE>
-5-
not restricted from disclosing the said information to you and (v) you are
legally compelled to divulge by order of a governmental agency or a court of
competent jurisdiction.
9. Professional Expenses
---------------------
Discreet shall reimburse you all reasonable expenses incurred by yourself on
account of continuing education and annual fees which are necessary in order for
you to maintain your professional status as a chartered accountant in the
Province of Quebec.
10. Property
--------
Confidential Information and the documents, works, instruments, media or other
embodiments of or containing Confidential Information shall remain the property
of Discreet and be returned to Discreet upon request, or, at the latest,
immediately upon any termination of your employment.
11. General Provisions
------------------
This agreement shall be governed, interpreted and construed by and in accordance
with the laws of the Province of Quebec and the laws of Canada applicable
therein.
This offer of employment is subject to receipt of satisfactory references.
You hereby acknowledge having received a copy of the Plan.
The parties acknowledge that they have requested and are satisfied that this
agreement and all related documents be drawn up in the English language; les
parties aux presentes reconnaissent qu'ils ont exigees que la presente
convention et touts documents qui s'y rattachent soient rediges en langue
anglaise et s'en declarent satisfaites.
If you wish to accept this position, please sign and return a signed copy to us.
We are delighted to have you join us.
/s/ Richard J. Szalwinski
Richard J. Szalwinski
ACCEPTED at Montreal, Quebec, on this 21 day of June 1996.
/s/ Francois Plamondon
Francois Plamondon
<PAGE>
-6-
MANULIFE POLICY #GH48047
CONVERSION PRIVILEGE
An insured employee may convert his life insurance to an individual policy of
life insurance, without evidence of insurability, if his insurance terminates
because:
1. his employment is terminated; or
2. his classification changes to class of employees not eligible for
insurance under this policy.
The maximum amount of insurance which can be converted will be the lesser of:
1. an amount of $200,000, or
2. The amount of insurance in force at the time the employee's insurance
terminates, less any amount for which the employee becomes eligible under
any other group policy within 31 days after his insurance terminates.
The individual policy will be issued subject to the following terms:
1. (a) the employee must make written application satisfactory to Manulife
and pay the first premium within 31 days after the insurance
terminates. This is called the Conversion period;
(b) the individual policy will be effective on the 32nd day after the
insurance terminates; and
(c) the individual policy cannot be more than the amount the employee is
entitled to convert; and
(d) if the employee elects to convert a lesser amount than that which he
is entitled to convert, the individual policy cannot be less than
the current minimum for which Manulife will issue the policy.
2. The employee may apply for any one of the following individual policies:
(a) a contract of term insurance to age 65;
(b) any permanent plan of insurance then being issued by Manulife; or
(c) a contract of term insurance for a period of one year; which may be
converted to one of the policies specified in (a) or (b), at any
time during the one year term.
<PAGE>
-7-
3. The premium for the individual policy will be Manulife's then current
rates. The rates will be based on:
(a) the employee's attained age on the effective date of the individual
policy;
(b) the class of risk to which the employee belongs; and
(c) the amount and type of individual policy selected.
On receipt of due proof that an employee has died during the Conversion Period,
Manulife will pay the life insurance Benefit which the employee was entitled to
convert under the group policy. Any premium paid for the individual policy will
be refunded.
<PAGE>
EXHIBIT 10.10
Silicon Graphics
Computer Systems
October 16, 1996
Mr. Richard J. Szalwinski
Chairman and CEO
Discreet Logic
5505, boul. St. Laurent, bureau 5200
Montreal (Quebec) Canada H2T 1S6
Re: Extension of Value Added Reseller Agreement terms and conditions;
Agreement No. 12-11-441
Dear Richard:
This letter shall serve to extend discount and payment terms of the Value Added
Reseller Agreement ("Agreement"), and the Amendment thereto, between Silicon
Graphics, Inc. ("SGI") and Discreet Logic Inc. ("Discreet"). This extension
shall be effective as of October 15, 1996, and continue until and including
January 15, 1997.
All other terms and conditions in the above referenced Agreement and Amendment
shall apply to purchases made by Discreet during the term of this extension.
During the term of this extension, SGI shall present to Discreet a new contract
proposal for Discreet's review and execution.
Please indicate your acceptance of the above referenced extension by signing
where noted below. If you have any questions, please do not hesitate to
contact me.
Very truly yours Acknowledged and agreed:
/s/ Erna Arnesen
Erna Arnesen By: /s/ Richard J. Szalwinski
Director, Global Channel Development ---------------------------
(415) 933-5910 Name: Richard J. Szalwinski
---------------------------
Title: Chairman and CEO
---------------------------
Date:
---------------------------
cc: Cathy Lawson (SGI)
Jacquelyn L. Rider (SGI)
<PAGE>
EXHIBIT 10.25
- CONFIDENITAL TREATMENT-
BRACKETED MATERIAL HAS BEEN OMITTED AND FILED
SEPARATELY WITH THE SECURITIES AND EXHCANGE COMMISSION
The Terminal Marketing Company, Inc.
5 Waverly Court
New City, NY 10956
Discreet Logic USA, Inc.
Boston, MA 02110
RE: MAXIMUM LIABILITY AGREEMENT
April 17, 1996
Gentlemen:
To induce The Terminal Marketing Company, Inc. ("Terminal") to finance
purchases by customers ("Customers") of Discreet Logic USA, Inc. ("DL") of [*]
of equipment and software from DL or its affiliates (or equipment manufactured
by others, with the prior written consent of DL) (the "Equipment"), whether by
finance lease, note and security agreement, conditional sales contract or other
chattel paper between Terminal and Customer (herein referred to as "Paper") DL
agrees to refer to Terminal all Customers requesting financing and Discreet
Logic, Inc. ("DLI") agrees to guaranty Terminal against loss under Paper up to
maximum cumulative aggregate liability of [*] over the term of this Agreement
(the "Maximum Liability") as determined pursuant to this Agreement according to
the provisions set forth below. Whenever referred to in this Agreement
"Remaining Maximum Liability" shall mean [*] of the outstanding principal amount
of leases financed by Terminal under the terms of this Agreement, subject to the
Maximum Liability and to Section 5 below. The Remaining Maximum Liability shall
be decreased by [*] of all principal payments made by any customer of Terminal
and is further increased or decreased in accordance with the terms of Section 5
below:
1. FINANCING; TERM
---------------
(a) In consideration of Terminal extending financings to Customers, DL
shall refer to Terminal, all Customers requesting financing. Until Terminal has
advanced [*] to Customers, Terminal agrees to consider such financing requests
and to use its best efforts to offer each Customer a commercially reasonable
financing program within twenty-one (21) days of such Customer's application
therefor, but Terminal shall have the right to reject any Customer's application
if in Terminal's sole and absolute discretion the Customer's financial condition
or credit standing does not warrant the extension of credit.
Terminal shall use reasonable commercial credit procedures, as agreed
by Terminal and DL, in evaluating each lease application. DL may refer to any
other provider of
- --------------------------
* Certain confidential information has been omitted and filed separately with
the Securities and Exchange Commission pursuant to a request for
Confidential Treatment.
<PAGE>
-2-
financing any Customer who has not been offered by Terminal a commercially
reasonable financing program within twenty-one (21) days of such Customer's
application therefor. The inclusion of any Customer Paper under this agreement
shall be subject to DL's prior written approval. Before such approval shall be
given, Terminal shall require of such Customer, as one of the conditions of
providing the Customer with financing, that Customer obtain insurance coverage
for the cost of replacing the financed Equipment with an insurer authorized to
do business in the state in which the Customer does business and the Equipment
will be located, covering Terminal against loss from all risks.
(b) If Terminal shall provide any Customer with financing under the program
established by this Agreement (the "Program"), DL shall not ship the applicable
Equipment to such Customer until Terminal has advised DL that Terminal has
satisfactorily filed UCC-1 financing statements against the Customer and taken
all other steps required by Terminal with respect to perfecting its security
interest in the Equipment, including all other documentation, and a written
acknowledgment from DL that such financing is provided to Customer by Terminal
under the Program.
(c) Terminal shall provide DL with copies of the Customer's lease financing
documents and latest financial statements once financing has been approved by
Terminal.
(d) The term of this Agreement shall be one (1) year, renewable
automatically for additional one (1) year periods. Notwithstanding the
foregoing, either DL, DLI or Terminal may terminate the obligations set forth in
Section 1 (a) above on 30 days written notice. Upon the giving of such notice,
no additional Paper shall be added to the program described herein, but all of
the other provisions hereof shall continue as applicable to the Paper then
included in the Program.
2. OBLIGATION TO REPURCHASE PAPER BRING CURRENT THE ACCOUNT
--------------------------------------------------------
(a) If a Customer has been in default under an item of Paper for sixty (60)
days, then Terminal may give notice to DL of such default and the nature of the
default and demand that DL purchase the Paper. Within fifteen (I 5) days after
the date such notice was received, DL shall give notice to Terminal advising
that it elects to either (i) repurchase the Paper as demanded by Terminal or
(ii) temporarily defer the purchase by bringing, and keeping the Customer's
account with Terminal current as provided below.
(b) If DL elects to purchase the Paper, then DL shall tender payment of the
purchase price for the Paper within five (5) days of the end of the said fifteen
(15) day period at which time Terminal shall deliver to DL those items set forth
in Section 2(f).
(c) If DL elects to keep the Customer's account with Terminal current
rather than purchase the Paper, then DL shall (i) pay to Terminal within five
(5) days of the end of said fifteen (15) day period all arrears (including late
charges) then due under the Paper and (ii) thereafter continue to timely pay to
Terminal all payments due from the Customer under the Paper on their respective
due dates until the earlier of (x) an account being more than 120 days late, at
which time DL shall purchase the Paper (except as provided below in this Section
2(c)),
<PAGE>
-3-
(y) the expiration of the term of the lease or other financing agreement
between Terminal and the Customer (the "Lease"), provided that all payments
under the Lease have been paid or (z) the liquidation of the Equipment subject
to the Lease. As used in this Agreement "liquidation" of Equipment shall mean
the repossession and sale or other disposition of the Equipment. After DL has
made any such payment to bring, the Customer's account with Terminal current,
then Terminal will forward to DL any payment subsequently made by, on behalf of
or for the account of the Customer in respect of such default. Notwithstanding
the first sentence of this Section 2(c), if the Equipment has been repossessed
by Terminal pursuant to Section 3(b) of this Agreement, but not yet liquidated,
DL shall have three (3) months within which either to remarket (in accordance
with Section 4) and liquidate the Equipment or to purchase the Paper from
Terminal. Terminal shall provide DL on a regular basis, but no less frequently
than monthly, with an aging status of all Customers and their accounts. Subject
to Section 7, any loss to Terminal created by liquidation of the Equipment prior
to purchase of the Paper by DL shall be paid by DL to Terminal in accordance
with Section 5 of this Agreement.
(d) During the term of each Lease or upon expiration thereof, Terminal will
use its best efforts to collect and to forward to DL any outstanding payment
from the Customer to reimburse DL for any payment made by DL to keep the
Customer's account with Terminal current. Any payments made by DL and remaining
unreimbursed by the Customer shall be added to amounts due from the Customer to
DL at the end of the Lease. Terminal shall either collect such amounts from the
Customer or, upon DL's purchase of the Paper, assign the Paper to DL together
with the Equipment and Terminal's perfected first security interest in such
Equipment, as provided in Section 2(f).
(e) The purchase price of any item of Paper purchased by DL hereunder shall
be Terminal's Book Value for such item of Paper on the date of such purchase,
which shall mean the then remaining monthly payments due under the item of Paper
less unearned interest calculated according to the Rule of 78's provided that DL
has kept the Customer's account with Terminal current as provided in Section
2(c). If not, then accrued but unpaid interest will be added to the purchase
price (after deducting from the purchase price all payments from the Customer
and any guarantors or insurers of the Paper or the Equipment) plus Terminal's
Repossession Expenses, if any, as defined below. Notwithstanding any provision
hereof, in no event shall the aggregate purchase price paid by DL for all Paper
purchased by DL under the Program, net of Net Proceeds (as defined in Section
5(d)), exceed the Maximum Liability.
(f) Upon the purchase by DL of any item of Paper from Terminal hereunder,
Terminal shall assign and convey to DL all Terminal's right, title and interest
in the Paper and the applicable Equipment (including all rights to receive
payments from Customers, guarantors, insurers or others) on an "as is, where is"
basis. Terminal shall assign and convey to DL at the time of purchase by DL a
valid and perfected first security interest in such Equipment except that
Terminal shall not be required to convey to DL a valid and perfected first
security interest in such Equipment if DL shipped such Equipment without first
having received the advice from Terminal approving shipment referred to in
Section 1(b). Terminal shall, however transfer such security as it does have to
DL. Terminal shall not be required to convey to DL a valid and perfected first
security interest in such equipment if the first security interest has been
impaired
<PAGE>
-4-
by the movement of equipment by a customer without notice to Terminal. Terminal
shall, however, transfer such security as it does have to DL. Terminal shall
have the obligation to refile or amend UCC-1 Financing Statements in the event
it has been advised that the Equipment has been moved to another location. The
lease shall provide that the Customer shall notify, Terminal if the Equipment is
to be or has been moved to another location.
(g) Paper shall be substantially in the form attached hereto or as
otherwise approved by DL.
3. REPOSSESSION
------------
(a) If DL elects to purchase the Paper pursuant to Section 2(b), then
Terminal shall use its best efforts to obtain legal title to the Equipment and
make the Equipment legally available for physical repossession by DL, all at
Terminal's cost and expense. Upon obtaining legal title to any Equipment, and
making the Equipment legally available for physical repossession by DL, Terminal
shall promptly provide notice thereof to DL. Thereupon DL, as Terminal's agent
and at Terminal's cost and expense, shall take physical possession of the
Equipment, and remove, insure and transport the Equipment to DL's facility.
Thereafter DL shall undertake its remarketing obligations set forth in Section 4
below.
(b) If DL elects to keep the Customer's account with Terminal current
pursuant to Section 2(c), then until such time as DL has purchased the Paper,
Terminal shall use its best efforts to collect payments due from the Customer
and to obtain legal title to the Equipment and make the Equipment legally
available for physical repossession by DL, and notify DL thereof, all as set
forth in Section 3(a) above. Such efforts by Terminal shall include normal
collection practices, including service of demands and other communication upon
the Customer. Terminal's obligation to use its best efforts to repossess the
Equipment is qualified to the extent that Terminal shall not be required to
incur expenses with respect to such repossession if the equipment is destroyed
or missing or if Terminal reasonably determines that upon liquidation, the
proceeds of liquidation will not exceed the cost of repossession and
liquidation. In such event, Terminal shall advise DL of its decision and if DL
agrees, Terminal need take no further steps with respect to repossession and DL
shall continue to be obliged to repurchase the Paper at the end of the 120 day
period referred to in Section 2(c) above. In addition, if DL disagrees with
Terminal's determination not to take further steps towards repossession of the
Equipment, DL may repurchase the Paper. If the Equipment is destroyed, missing
or rendered unsaleable by any cause covered by the relevant insurance policy
Terminal shall make a claim under such policy. Any monies received in respect
of such claims shall be paid to DL up to an amount equal to the total of all
payments made by DL to Terminal under this Agreement relating to the destroyed,
missing or damaged Equipment; all such monies in excess of such amount shall be
divided equally between Terminal and DL.
As used herein, "Terminal's Repossession Expenses" shall mean (i)
reasonable attorney fees incurred by Terminal in obtaining legal title to any
Equipment and making the Equipment legally available for physical repossession
by DL under the Paper as a result of the Customer's default, and (ii) expenses
reasonably incurred by DL in taking physical possession of
<PAGE>
-5-
the Equipment and removing, insuring and transporting the Equipment to DL's
facility. After delivery of the Equipment to DL's facility, DL shall undertake
its remarketing obligation set forth in Section 4 below. Terminal shall notify
DL of the commencement of any action to enforce its rights under any Paper and
the legal counsel selected to prosecute such action. If DL objects to any such
counsel, it shall have the right to purchase the applicable Paper.
4. REMARKETING.
-----------
After Terminal obtains possession or the legal right to possession of the
Equipment subject to any defaulted or expired Lease, DL shall forthwith, at its
cost and expense, store, insure, repaid, refurbish (but not improve or upgrade
beyond its original condition) and liquidate the Equipment at public or private
sale on an "as is, where is" basis at the best bona fide price and terms
available, which shall be subject to the prior approval of Terminal, which
approval Terminal shall not unreasonably withhold or delay. DL shall not be
required to incur any such expenses with respect to remarketing if DL reasonably
determines that upon liquidation, the proceeds of liquidation will not exceed
the cost of remarketing and liquidation. If the liquidation occurs prior to DL
purchasing the Paper, then DL shall act as Terminal's agent in effecting such
liquidation but only after Terminal has given proper notice of liquidation to
the Customer and otherwise complied with the provisions of the Uniform
Commercial Code. At Terminal's option, Terminal may participate in the conduct
of such liquidation (prior to DL's purchase) to ensure legal compliance.
Subject to Section 5, there shall be no fee or commission for liquidating
the Equipment. DL shall use its best efforts to sell the Equipment, such
efforts to be substantially similar to the promotional and sales efforts given
by it to the sale of its other used equipment available for sale. In the event
that DL does not liquidate any item of Equipment within three (3) months of the
commencement of its remarketing efforts with respect thereto, then DL shall,
upon Terminal's request, deliver such Equipment to Terminal, and Terminal shall
thereafter use its best efforts as DL's agent to liquidate the Equipment.
5. COMPUTATION OF LOSS, ADJUSTMENT OF REMAINING MAXIMUM LIABILITY AND REFUND
-------------------------------------------------------------------------
(a) DL's remaining Maximum Liability on the date hereof is Zero. DL's
remaining Maximum Liability shall be increased by [*] of the principal amount
(invoiced cost of Equipment) financed in connection with any Paper created by
Terminal pursuant to this agreement after the date hereof, including financings
of [*] provided that DL's Remaining Maximum Liability is reduced pursuant to
Sections 5(b), (c), (d), (e) and (f).
(b) As used herein, "Principal Payments" shall mean that portion of the
payments made by Customer, DL, DLI, or other person to Terminal under an item of
Paper, which is applied in reduction of principal under the Paper after
application to accrued interest (calculated according to the Rule of 78s), late
charges or other sums owing under the Paper. All Principal Payments
- --------------------------
* Certain confidential information has been omitted and filed separately with
the Securities and Exchange Commission pursuant to a request for
Confidential Treatment.
<PAGE>
-6-
received by Terminal with respect to any Paper which is not in default shall
reduce DL's Remaining Maximum Liability by [*] of such payment. If any Paper
shall be in default, DL shall not receive any credit against the Remaining
Maximum Liability for payments with respect to such Paper until the liquidation
of the Equipment covered by such Paper.
(c) Upon the completion of the liquidation of the Equipment covered by any
item of Paper, DL's Remaining Maximum Liability shall be reduced by the amount
of all payments made by DL to bring and keep current such Paper. This reduction
for payments made by DL, if any, shall be in addition to credits applicable
under Sections (d) or (e) below.
(d) If Equipment is liquidated after purchase of the applicable Paper by
DL, then the amount of DL's Remaining Maximum Liability shall be reduced by the
excess, if any, of the purchase price paid by DL to Terminal for such Paper
above the net proceeds (net of DL's remarketing expenses incurred with respect
to such liquidation, up to a maximum of [*] of the proceeds of any such
liquidation) (the "Net Proceeds") obtained by DL or Terminal, as applicable,
upon liquidation of the Equipment. If, on the other hand, the Net Proceeds
exceed the purchase price paid by DL, then such excess, less only any surplus
the Customer may be entitled to as a matter of law shall be divided equally and
one-half shall be paid to each of Terminal and DL.
(e) If Equipment is liquidated without DL having purchased the applicable
Paper, then Terminal's loss shall be the amount of the excess if any, of (i) the
sum of Terminal's then Book Value plus Terminal's Repossession Expenses for such
Equipment over (ii) the Net Proceeds received by Terminal from DL's liquidation
of the Equipment. Subject to Section 7, DL shall pay to Terminal the amount of
Terminal's said loss up to the amount of the Remaining Maximum Liability within
five (5) days after the liquidation along with the liquidation proceeds, and
Terminal shall assign and convey to DL all Terminal's right, title and interest
in the Paper and the applicable Equipment (including all rights to receive
payments from Customers, guarantors, insurers or others) on an "as is, where is"
basis. Upon payment thereof, the Remaining Maximum Liability shall be reduced
by the amount of Terminal's loss paid by DL to Terminal. If, on the other hand,
the Net Proceeds received by Terminal from the liquidation of such Equipment
exceed the sum of Terminal's Book Value plus Terminal's Repossession Expenses
for such Equipment, then such excess, less only any surplus the Customer may be
entitled to as a matter of law, shall be divided equally and one-half shall be
paid to each of Terminal and DL.
(f) In the event that legal possession of the Equipment cannot be made by
Terminal and DL is required to purchase the Paper, then DL's Remaining Maximum
Liability will be reduced by the amount paid by DL to repurchase the Paper.
- --------------------------
* Certain confidential information has been omitted and filed separately with
the Securities and Exchange Commission pursuant to a request for
Confidential Treatment.
<PAGE>
-7-
6. GUARANTEE.
---------
Upon the purchase of any items of Paper by DL or upon DL's payment of
Terminal's loss computed pursuant to Section 5(e), Terminal shall assign to DL
all of Terminal's right under guarantees, insurance policies and other documents
related to such Paper. All amounts received by DL from guarantors of Paper
purchased by DL shall be added to the Remaining Maximum Liability upon the
liquidation of such Paper, whether such amounts were received prior to or after
DL's purchase of the Paper.
7. EXHAUSTION OF REMAINING LIABILITY.
---------------------------------
(a) Notwithstanding any other provision of this Agreement, it is expressly
agreed and acknowledged by Terminal and DL that DL shall have no liability or
obligation to make any further payment to Terminal after such time as the
cumulative aggregate of all payment made by DL to Terminal under the Program or
in accordance with this Agreement (for purchase of Paper, payment of Terminal's
loss, payment of expenses or otherwise) shall be equal to the Maximum Liability.
If, upon the completion of any Equipment liquidation, the then
Remaining Maximum Liability is exhausted by the credits resulting from the
computation upon such liquidation, then Terminal shall promptly refund to DL the
amounts which, had the Remaining Maximum Liability not be exhausted, would have
been applied as an additional reduction in the Remaining Maximum Liability
pursuant to Section 5 with respect to the Paper whose Equipment was liquidated.
Terminal shall provide DL with quarterly statements of Remaining Maximum
Liability for the term of this Agreement.
(b) If at the time of the exhaustion of the Remaining Maximum Liability
there is an item of defaulted Paper which has not been liquidated and which DL
has not purchased (and was not required to purchase), then until a new Remaining
Maximum Liability is created, DL shall have no further obligation to keep such
Paper current and all payments made by DL with respect to such Paper shall be
promptly reimbursed by Terminal to DL upon liquidation of the applicable
Equipment (provided there continues to be no Remaining Maximum Liability at the
time of such liquidation).
(c) Upon the exhaustion of the Remaining Maximum Liability, DL shall have
no further obligation with respect to any item of Paper then in default or which
thereafter goes into default under this Agreement until a new Remaining Maximum
Liability is created, except that if at the time the Remaining Maximum Liability
is exhausted there are one or more items of defaulted Paper which DL has
previously purchased from Terminal for which the Equipment has not been
liquidated, then DL shall continue to be responsible for the liquidation of same
and upon such liquidation (provided there continues to be no Remaining Maximum
Liability at the time of such liquidation), the amounts which DL would otherwise
be entitled to as reduction in the Remaining Maximum Liability pursuant to
Section 5 shall be paid to DL by Terminal promptly after such computation.
<PAGE>
-8-
(d) It is recognized that the references above in subsections 7(b) and (c)
to a "new" Remaining Maximum Liability are not intended to increase DL's Maximum
Liability above [*] or to increase the Remaining Maximum Liability above the
amount to which it is reduced pursuant to Sections 5(b), (c), (d), (e) and (f)
as a result of payments received by Terminal from any source including DL.
8. PERIODIC REVIEW.
---------------
Terminal agrees to review annually the performance of Customers under the
Paper and, in its sole discretion, to decrease the amount of the then Remaining
Maximum Liability or increase the amount of financing Terminal is prepared to
give to Customers.
9. EXTENSIONS.
----------
Terminal or its assigns shall not, without DL's prior written consent,
grant any Customer extensions of time for payment, moratoria or other
indulgences under the Paper. If DL does not approve, DL has the option to
purchase the Paper.
10. INFORMATION.
-----------
DL and Terminal shall each keep the other fully informed regarding the
status of any repossession or remarketing for which it is responsible, provided
however, that in no event shall any failure by either party to keep the other
party informed, relieve such other party of any liability hereunder.
11. ASSIGNMENT.
----------
Terminal shall have the right to assign Paper issued pursuant to this
Agreement and rights with respect to such Paper under this Agreement in whole or
in part, which rights shall inure to the benefit of such assignee and any
subsequent assignees, provided that any assignee which is a subsidiary or
affiliate of Terminal shall expressly assume in writing Terminal's obligations
under this Agreement. In the event of any such assignment, the references to
"Terminal", "Terminal's Book Value" and the like shall be deemed to refer to
such assignee, its book value and the like. DLI agrees that its acknowledgment
to Terminal that a particular item of Paper constitutes Paper under this
Agreement may be relied upon by an assignee to whom such Paper is ultimately
assigned and such assignee shall have whatever rights and remedies (but, unless
such assignee is a subsidiary or affiliate of Terminal, none of the obligations,
which shall remain with Terminal) that Terminal may have hereunder with respect
to such Paper. DL and DLI shall not assign this Agreement except upon the prior
consent of Terminal; a merger, consolidation or other corporate combination
shall not constitute an assignment by DL provided the assignee or surviving
entity has a credit worthiness equal to or greater DL's and DLI's.
- --------------------------
* Certain confidential information has been omitted and filed separately with
the Securities and Exchange Commission pursuant to a request for
Confidential Treatment.
<PAGE>
-9-
12. THIRD PARTY CHATTEL PAPER.
-------------------------
It is recognized that Terminal may from time to time with the prior written
consent of DL, purchase or refinance chattel paper between third persons and
customers by which such third persons have purchased or financed DL Equipment
from DL. Such third party chattel paper, when purchased by Terminal, shall
constitute Paper under this Agreement for all purposes with the same effect as
if such chattel paper was directly between Terminal and Customers and shall be
included within the [*] worth of financing by Terminal described in the
Agreement.
13. FINANCIAL STATEMENTS.
--------------------
Each party shall furnish the other unaudited semi-annual financial
statements within (60) days after the end of the first six months of each fiscal
year and a certified annual Financial Statement within ninety (90) days after
the close of its fiscal year, all of which shall be prepared in accordance with
generally accepted accounting principles. All such financial information shall
be confidential information and will not be disclosed to others by either party
without the consent of the other.
14. MISCELLANEOUS.
-------------
(a) This Agreement constitutes the entire understanding between the parties
and supersedes any prior oral or written representation or agreement. This
Agreement cannot be changed, modified or discharged orally, but only if
consented to in writing signed by the parties hereto.
If any provision of the Agreement, of the application thereof to any
circumstance, shall, for any reason and to any extent, be invalid or
unenforceable, then the remainder of this Agreement and the application of such
provision to other circumstances shall not be affected thereby, but rather,
shall be enforced to the greatest extent permitted by law. All headings of the
Sections of this Agreement have been inserted for convenience of references
only, are not to be considered a part of this agreement and shall in no way
effect the interpretation of any of the provisions of this Agreement.
(b) Failure to insist upon strict compliance with any of the terms,
covenants, or conditions hereof shall not be deemed a waiver of such terms,
covenant or conditions, nor shall any waiver or relinquishment of any right or
power hereunder at any one time or more time be deemed a waiver or
relinquishment of such rights or power at any other time or times.
(c) All notices provided for herein shall be in writing and delivered
personally or by certified mail return receipt requested to the parties at their
addresses set forth above or such other addresses as may be designated by
similar notice. Notice shall be deemed given upon such
- --------------------------
* Certain confidential information has been omitted and filed separately with
the Securities and Exchange Commission pursuant to a request for
Confidential Treatment.
<PAGE>
-10-
personal delivery or upon deposit with the United States Postal Service properly
addressed with the proper postage affixed.
(d) This Agreement shall be interpreted under and governed by the laws of
the State of New York.
Very truly yours,
DISCREET LOGIC USA, INC.
By: /s/ Giovanni Tagliamonti
------------------------
Name: Giovanni Tagliamonti
------------------------
Title: Corporate Controller
------------------------
Date: April 17, 1996
------------------------
DISCREET LOGIC, INC.
By: /s/ Giovanni Tagliamonti
------------------------
Name: Giovanni Tagliamonti
------------------------
Title: Corporate Controller
------------------------
Date: April 17, 1996
------------------------
AGREED: THE TERMINAL MARKETING COMPANY, INC.
By: /s/ Sanford Schneiderman
------------------------
Name: Sanford Schneiderman
------------------------
Title: President
------------------------
Date: April 30, 1996
------------------------
<PAGE>
EXHIBIT 21.1
DISCREET LOGIC INC.
SUBSIDIARIES OF THE COMPANY
State or
Jurisdiction
Name of Incorporation
- ---- ----------------
Bandit Communications, Inc...........................Delaware
Discreet Logic Asia Pte Ltd..........................Republic of Singapore
Discreet Logic (Barbados) Inc........................Barbados
Discreet Logic Europe S.A. ..........................Grand Duchy of Luxembourg
Discreet Logic France R&D S.A.R.L. ..................France
Discreet Logic France E.U.R.L........................France
Discreet Logic International Ltd.....................Ireland
Discreet Logic Investment Corp.......................Delaware
Discreet Logic GmbH..................................Austria
Discreet Logic GmbH..................................Federal Republic of Germany
Discreet Logic KK....................................Japan
Discreet Logic Research Limited......................United Kingdom
Discreet Logic (UK) Limited..........................United Kingdom
Discreet Logic-USA, Inc..............................Delaware
Discreet Logic - USA Research, Inc...................Delaware
<PAGE>
CONSENT OF INDEPENDENT CHARTERED ACCOUNTANTS
As independent chartered accountants, we hereby consent to the incorporation
of our report dated September 13, 1996 as to which the date of Consent is
October 25, 1996, included in this Form 10-K, into the Discreet Logic Inc.'s
previously filed Registration Statement on Form S-8, File No. 39-97400.
/s/ Arthur Andersen & CIE
Montreal, Canada
October 25, 1996
ARTHUR ANDERSEN & CIE
CHARTERED ACCOUNTANTS
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JUL-31-1996
<PERIOD-START> AUG-01-1995
<PERIOD-END> JUL-31-1996
<CASH> 21,658,051
<SECURITIES> 0
<RECEIVABLES> 16,073,788
<ALLOWANCES> 3,649,000
<INVENTORY> 15,829,486
<CURRENT-ASSETS> 61,792,759
<PP&E> 21,182,909
<DEPRECIATION> (8,221,484)
<TOTAL-ASSETS> 80,147,742
<CURRENT-LIABILITIES> 36,363,148
<BONDS> 0
0
0
<COMMON> 78,922,914
<OTHER-SE> (35,883,399)
<TOTAL-LIABILITY-AND-EQUITY> 80,147,742
<SALES> 83,997,447
<TOTAL-REVENUES> 83,997,447
<CGS> 49,333,071
<TOTAL-COSTS> 49,333,071
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 3,307,000
<INTEREST-EXPENSE> 229,579
<INCOME-PRETAX> (42,706,346)
<INCOME-TAX> 1,434,835
<INCOME-CONTINUING> (44,141,181)
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<EXTRAORDINARY> 0
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<NET-INCOME> (44,141,181)
<EPS-PRIMARY> (1.64)
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