1
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON AUGUST 24, 2001
REGISTRATION NO. 333-43144
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
AMENDMENT NO. 6 TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
UNISPHERE NETWORKS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<Table>
DELAWARE 3576 522142617
(STATE OR OTHER JURISDICTION (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
</Table>
------------------------
10 TECHNOLOGY PARK DRIVE
WESTFORD, MASSACHUSETTS 01886
(978) 589-5800
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
------------------------
JAMES A. DOLCE, JR.
PRESIDENT AND CHIEF EXECUTIVE OFFICER
10 TECHNOLOGY PARK DRIVE
WESTFORD, MASSACHUSETTS 01886
(978) 589-5800
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF AGENT FOR SERVICE)
------------------------
COPIES TO:
<Table>
MARK G. BORDEN, ESQ. ALEJANDRO E. CAMACHO, ESQ. JAY K. HACHIGIAN, ESQ.
PHILIP P. ROSSETTI, ESQ. CLIFFORD CHANCE ROGERS & WELLS LLP GUNDERSON DETTMER STOUGH
HALE AND DORR LLP 200 PARK AVENUE VILLENEUVE FRANKLIN & HACHIGIAN,
60 STATE STREET NEW YORK, NEW YORK 10166 LLP
BOSTON, MASSACHUSETTS 02109 TELEPHONE: (212) 878-8000 610 LINCOLN STREET
TELEPHONE: (617) 526-6000 TELECOPY: (212) 878-8375 WALTHAM, MASSACHUSETTS 02451
TELECOPY: (617) 526-5000 TELEPHONE: (781) 890-8800
TELECOPY: (781) 622-1622
</Table>
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after the effective date hereof.
If any of the securities being registered on this form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act,
check the following box. [ ]
If this form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ] ----------
If this form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ] ----------
If this form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ] ----------
If delivery of the prospectus is expected to be made pursuant to Rule 434,
check the following box. [ ]
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING
PURSUANT TO SAID SECTION 8(a), MAY DETERMINE.
- --------------------------------------------------------------------------------
2
The information in this prospectus is not complete and may be changed. We may
not sell these securities until the registration statement filed with the
Securities and Exchange Commission is effective. This preliminary prospectus is
not an offer to sell these securities and it is not soliciting an offer to buy
these securities in any jurisdiction where the offer or sale is not permitted.
SUBJECT TO COMPLETION, DATED AUGUST 24, 2001
8,500,000 Shares
[UNISPHERE NETWORKS LOGO]
Common Stock
------------------
Prior to this offering, there has been no public market for our common
stock. The initial public offering price of the common stock is expected to be
between $11.00 and $13.00 per share. We have applied to list our common stock on
The Nasdaq Stock Market's National Market under the symbol "UNSP".
Siemens Corporation will own approximately 87.5% of our outstanding common
stock upon completion of this offering. Siemens Corporation has owned
substantially all of our outstanding common stock prior to this offering.
The underwriters have an option to purchase a maximum of 1,275,000
additional shares to cover
over-allotments of shares.
INVESTING IN OUR COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" ON PAGE
6.
<Table>
<Caption>
UNDERWRITING PROCEEDS TO
PRICE TO DISCOUNTS AND UNISPHERE
PUBLIC COMMISSIONS NETWORKS
--------------- --------------- ---------------
Per Share............................................ $ $ $
Total................................................ $ $ $
</Table>
Delivery of the shares of common stock will be made on or about
, 2001.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if this
prospectus is truthful or complete. Any representation to the contrary is a
criminal offense.
CREDIT SUISSE FIRST BOSTON
JPMORGAN
UBS WARBURG
The date of this prospectus is , 2001.
3
[GRAPHIC -- INSIDE FRONT COVER]
The heading of the graphic reads "Internet Protocol Infrastructure
Solutions".
To the left of the heading is our logo.
In the top left corner of the page is a box depicting the SMX-2100 Service
Mediation Switch. To the left of this box are four smaller diagrams representing
different access methods to the traditional telephone network. The traditional
telephone network, depicted in the form of a cloud, is then connected on its
right side by a line to the SMX-2100 Service Mediation Switch box. Below and to
the right of the SMX-2100 Service Mediation Switch box is a line depicting the
"internet offload" that is performed by the SMX-2100 Service Mediation Switch.
The phrase "Voice Switching and Service Mediation" runs vertically along the
left side of this illustration.
In the top right corner of the page is a box depicting the SMX-2100 Service
Mediation Switch which is attached on its right side to a smaller box depicting
the SRX-3000 softswitch. To the right of the SMX-2100 Service Mediation Switch
box are four smaller diagrams representing different access methods to the
traditional telephone network. The traditional telephone network is then
connected on its left side by a line to the SMX-2100 Service Mediation Switch
box. Below and to the left of the SMX-2100 Service Mediation Switch box is a
line depicting the "VoIP" that is performed by the SMX-2100 Service Mediation
Switch and the SRX-3000 softswitch.
In the bottom left corner of the page is a box depicting the ERX-700/1400.
To the left of this box are four smaller diagrams representing different
broadband access methods, marked "wireless", "DSL" and "cable network." Above
and to the right of the ERX 700/1400 box is a line depicting the broadband
access connection provided by the ERX 700/1400 to the new public network. The
phrase "Broadband Access" runs vertically along the left side of this
illustration.
In the bottom right corner of the page is a box depicting the ERX-700/1400.
To the right of this box are three smaller diagrams depicting different private
line access methods, marked "T1/E1", "T3/E3" and "Optical (OC3/OC12)". Above and
to the left of the ERX 700/1400 box is a line depicting the private line access
connection provided by the ERX-700/1400 to the new public network. The phrase
"Private Line Access" runs vertically along the right side of this illustration.
At the center of the page, the lines from each of the corner diagrams,
depicting "Internet Offload", "VoIP", "Broadband Access" and "Private Line
Access", meet at the "New Public Network", which is depicted in the form of a
cloud.
4
------------------
TABLE OF CONTENTS
<Table>
<Caption>
PAGE
----
PROSPECTUS SUMMARY.................... 1
RISK FACTORS.......................... 6
SPECIAL NOTE REGARDING FORWARD-
LOOKING STATEMENTS.................. 18
USE OF PROCEEDS....................... 19
DIVIDEND POLICY....................... 19
CAPITALIZATION........................ 20
DILUTION.............................. 21
SELECTED CONSOLIDATED FINANCIAL
DATA................................ 22
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS....................... 24
BUSINESS.............................. 36
</Table>
<Table>
<Caption>
PAGE
----
MANAGEMENT............................ 50
RELATIONSHIPS WITH SIEMENS AND RELATED
PARTY TRANSACTIONS.................. 60
PRINCIPAL STOCKHOLDERS................ 64
DESCRIPTION OF CAPITAL STOCK.......... 66
SHARES ELIGIBLE FOR FUTURE SALE....... 68
UNDERWRITING.......................... 70
NOTICE TO CANADIAN RESIDENTS.......... 73
LEGAL MATTERS......................... 74
EXPERTS............................... 74
WHERE YOU CAN FIND MORE INFORMATION... 74
INDEX TO FINANCIAL STATEMENTS......... F-1
</Table>
------------------
YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS DOCUMENT OR TO
WHICH WE HAVE REFERRED YOU. WE HAVE NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH
INFORMATION THAT IS DIFFERENT. THIS DOCUMENT MAY ONLY BE USED WHERE IT IS LEGAL
TO SELL THESE SECURITIES. THE INFORMATION IN THIS DOCUMENT MAY ONLY BE ACCURATE
ON THE DATE OF THIS DOCUMENT.
DEALER PROSPECTUS DELIVERY OBLIGATION
UNTIL , 2001 (25 DAYS AFTER THE COMMENCEMENT OF THIS
OFFERING), ALL DEALERS THAT EFFECT TRANSACTIONS IN THESE SECURITIES, WHETHER OR
NOT PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS IS IN ADDITION TO THE DEALER'S OBLIGATION TO DELIVER A PROSPECTUS WHEN
ACTING AS AN UNDERWRITER AND WITH RESPECT TO UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
i
5
(THIS PAGE INTENTIONALLY LEFT BLANK)
6
PROSPECTUS SUMMARY
You should read this prospectus summary together with the more detailed
information contained in this prospectus, including the risk factors and
financial statements and the notes to the financial statements.
UNISPHERE NETWORKS, INC.
We provide data and voice networking products to communications service
providers. Our suite of products enables communications service providers to
offer value-added, integrated voice and high-speed data services to business and
residential users. Our target markets include:
- Internet Protocol routing, or IP routing, which consists of the equipment
and software for transporting information packets through the internet;
- broadband access, which involves the connection and management of
subscribers to high-speed internet services; and
- next-generation voice switching, which incorporates the equipment and
software used to transition voice traffic from the traditional
circuit-switched telephone network to new packet-based networks.
Our ERX edge routing products connect and manage large numbers of business
subscribers at the edge of the service providers' network using dedicated
network connections, such as T1/E1, T3/E3, ethernet and optical interfaces. Our
ERX broadband access products connect and manage large numbers of business and
residential subscribers to the internet using broadband, or high-speed, access
technologies, such as digital subscriber line, or DSL, cable, ethernet and
wireless. Our SMX and SRX voice switching products enable traditional and new
voice services to be delivered over packet-based networks. These products,
combined with our Unisphere Management Center network and service management
software, provide integrated solutions that support communications traffic
ranging from basic voice services to value-added, high-speed data services.
The increasing use of services and applications such as virtual private
networks, email, e-commerce, online research, telecommuting and streaming video
has led to dramatic growth in the volume of information transported over the
internet and other packet-based networks. We believe that these packet-based
networks, which transport information in small bundles, or "packets," offer a
more flexible, efficient and cost effective means of delivering services than
traditional circuit-based networks. Communications service providers have
responded by investing significant resources to build packet-based networks.
These packet-based networks expand upon, and we believe ultimately will replace,
the capabilities and functionality of the traditional telephone network. This
evolution of packet-based networks into the new public network requires new
communications equipment that can deliver the high levels of reliability users
require of a public network. We offer high performance, scalable data and voice
hardware and software products that are specifically designed to meet these
requirements.
Our products are used in over 25 countries by over 100 customers, including
leading communications service providers such as Bloomberg, Cable & Wireless,
Deutsche Telekom, Global Crossing, ITC Deltacom, Korea Telecom, Pacific Century
CyberWorks HKT, Portugal Telecom, Time Warner Telecom and XO Communications. We
sell our products primarily through a direct sales force and through value-
added resellers.
Our objective is to be a leading supplier of data and voice networking
products for the new public network that enables service providers to offer
value-added, integrated voice and high-speed data services to business and
residential users. We intend to achieve this objective by:
- leveraging our combined data and voice technology expertise;
- expanding and broadening our customer base;
- expanding our global sales and distribution capabilities;
- continuing to work closely with key customers; and
- broadening our product offerings through internal investment,
partnerships and acquisitions.
1
7
We were incorporated in Delaware in January 1999 as a subsidiary of Siemens
Corporation, which is an indirect wholly owned subsidiary of Siemens AG. We
changed our name to Unisphere Networks, Inc. from Unisphere Solutions, Inc. in
September 2000. We refer to Siemens Corporation, Siemens AG and their affiliates
as Siemens. Our business has been built upon the acquisitions of three
companies. Siemens acquired Argon Networks in March 1999 and Castle Networks and
Redstone Communications in April 1999. We have accounted for these acquisitions
as if we had effectively acquired the three companies. In April 1999, Siemens
contributed a research and development group for voice switching products
located in Boca Raton, Florida to us. In June 1999, Siemens contributed the
stock of Argon, Castle and Redstone to us. In September 1999, we began shipment
of our products for commercial deployment.
Our principal executive offices are located at 10 Technology Park Drive,
Westford, Massachusetts 01886. Our telephone number at that location is (978)
589-5800. Our internet address is www.unispherenetworks.com. The information
contained on, or linked to, our web site is not a part of this prospectus.
Unisphere, Unisphere Networks, ERX, SMX, SRX and the Unisphere logo are our
trademarks. All other trade names referred to in this prospectus are the
property of their respective owners.
2
8
THE OFFERING
<Table>
Common stock offered................................. 8,500,000 shares
Common stock to be outstanding after this offering... 105,028,765 shares
Use of proceeds...................................... For general corporate purposes, including
working capital
Proposed Nasdaq National Market symbol............... UNSP
</Table>
The number of shares of our common stock that will be outstanding upon
completion of this offering is based on shares of our common stock outstanding
as of June 30, 2001, after giving effect to the automatic conversion of the
$67.0 million convertible promissory note to Siemens upon the closing of this
offering into 5,770,663 shares of common stock, assuming a $12.00 per share
conversion price and $2,247,953 of accrued interest; and excludes an aggregate
of 15,505,640 shares of common stock available for issuance upon exercise of
outstanding options at a weighted average exercise price of $10.35 per share.
See "Capitalization."
------------------
Unless indicated otherwise, all information in this prospectus:
- reflects a 1-for-3 reverse stock split of our common stock effected on
April 21, 2000;
- excludes the exercise of the underwriters' over-allotment option;
- excludes the issuance of 5,770,663 shares of our common stock issuable
upon the automatic conversion upon the closing of this offering of a
$67.0 million convertible promissory note issued to Siemens, assuming a
$12.00 per share conversion price and $2,247,953 of accrued interest. The
amount of accrued interest will increase prior to the completion of this
offering.
3
9
SUMMARY FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
We present below summary historical and supplemental data of Unisphere for
the periods and as of the dates indicated.
<Table>
<Caption>
JANUARY 12, 1999 NINE MONTHS ENDED
(INCEPTION) THROUGH JUNE 30,
SEPTEMBER 30, YEAR ENDED ----------------------
1999 SEPTEMBER 30, 2000 2000 2001
UNISPHERE NETWORKS, INC. ------------------- ------------------ --------- ---------
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Net revenues..................................... $ 2,813 $ 49,628 $ 31,998 $ 127,211
Cost of revenues:
Cost of revenues, excluding
stock-based compensation................... 6,485 43,476 32,022 70,356
Stock-based compensation..................... -- 644 51 275
--------- --------- --------- ---------
Total cost of revenues................... 6,485 44,120 32,073 70,631
--------- --------- --------- ---------
Gross profit(loss)....................... (3,672) 5,508 (75) 56,580
Operating expenses:
Research and development(1).................. 68,369 112,451 88,443 71,060
Sales and marketing(1)....................... 20,291 42,874 31,576 39,415
General and administrative(1)................ 13,919 14,736 12,434 9,444
Amortization of intangible assets............ 61,629 127,033 98,996 84,113
Merger-related costs......................... -- -- -- 6,508
Impairment of intangible assets.............. -- 118,810 118,810 --
Purchased in-process research and
development................................ 217,400 -- -- --
Stock-based compensation..................... -- 21,820 2,814 4,509
--------- --------- --------- ---------
Total operating expenses................. 381,608 437,724 353,073 215,049
--------- --------- --------- ---------
Loss from operations..................... (385,280) (432,216) (353,148) (158,469)
Other income (expense)........................... 227 (1,466) (1,654) (4,126)
--------- --------- --------- ---------
Net loss................................. $(385,053) $(433,682) $(354,802) $(162,595)
========= ========= ========= =========
Basic and diluted net loss per share............. $ (4.47) $ (5.02) $ (4.12) $ (1.84)
========= ========= ========= =========
Weighted average shares used in computing basic
and diluted net loss per share................. 86,133 86,399 86,133 88,441
========= ========= ========= =========
</Table>
(1) Excludes non-cash, stock-based compensation expense (income) as follows:
<Table>
<Caption>
NINE MONTHS ENDED
JANUARY 12, 1999 JUNE 30,
(INCEPTION) THROUGH YEAR ENDED ----------------------
SEPTEMBER 30, 1999 SEPTEMBER 30, 2000 2000 2001
------------------- ------------------ --------- ---------
Research and development......................... $ -- $ 9,212 $ 1,639 $ (801)
Sales and marketing.............................. -- 4,753 548 235
General and administrative....................... -- 7,855 627 5,075
--------- --------- --------- ---------
$ -- $ 21,820 $ 2,814 $ 4,509
========= ========= ========= =========
</Table>
<Table>
<Caption>
JUNE 30, 2001
---------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
---------- ----------- ------------
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents.......................... $ 39,192 $ 39,192 $131,182
Working capital (deficit).......................... (66,219) 3,029 95,019
Total assets....................................... 467,662 467,662 559,652
Convertible note and accrued interest to Siemens... 69,248 -- --
Total stockholders' equity......................... 297,988 367,236 459,226
</Table>
The pro forma balance sheet data give effect to the automatic conversion of
the $67.0 million convertible promissory note to Siemens upon the closing of
this offering into 5,770,663 shares of common stock, assuming a conversion price
of $12.00 per share and $2,247,953 of accrued interest.
The pro forma as adjusted balance sheet data give effect to our receipt of
the net proceeds from the sale of 8,500,000 shares of common stock in this
offering at an assumed initial public offering price of $12.00 per share, after
deducting estimated underwriting discounts and commissions and estimated
offering expenses.
4
10
The separate financial data of Redstone and Castle have been derived from
audited financial statements and are presented below because we consider these
companies to be our predecessor business.
<Table>
<Caption>
PERIOD FROM
SEPTEMBER 16, 1997 JANUARY 1, 1999
(INCEPTION) THROUGH YEAR ENDED THROUGH
DECEMBER 31, 1997 DECEMBER 31, 1998 APRIL 27, 1999
------------------- ----------------- ---------------
(RESTATED)
REDSTONE COMMUNICATIONS, INC.
Net revenues....................................... $ -- $ -- $ --
Loss from operations............................... (676) (10,263) (28,618)
Net loss........................................... $(592) $ (9,902) $(28,511)
</Table>
<Table>
<Caption>
PERIOD FROM
OCTOBER 16, 1997 JANUARY 1, 1999
(INCEPTION) THROUGH YEAR ENDED THROUGH
DECEMBER 31, 1997 DECEMBER 31, 1998 APRIL 20, 1999
------------------- ----------------- ---------------
(RESTATED)
CASTLE NETWORKS, INC.
Net revenues....................................... $ -- $ -- $ --
Loss from operations............................... (63) (8,663) (22,390)
Net loss........................................... $ (63) $ (8,386) $(22,289)
</Table>
5
11
RISK FACTORS
Investing in our common stock involves a high degree of risk. You should
consider carefully the following risk factors and all other information
contained in this prospectus before purchasing our common stock.
RISKS RELATED TO OUR FINANCIAL RESULTS
WE HAVE A LIMITED OPERATING HISTORY AND HAVE OPERATED AS A CONSOLIDATED COMPANY
FOR A SHORT PERIOD OF TIME, WHICH WILL MAKE IT DIFFICULT FOR YOU TO PREDICT OUR
FUTURE RESULTS OF OPERATIONS.
We have a limited operating history and have operated as a consolidated
company for a short period of time. We were incorporated in January 1999 as a
subsidiary of Siemens. Siemens acquired Argon Networks in March 1999 and Castle
Networks and Redstone Communications in April 1999, and contributed them to us
in June 1999. In addition, our management team has a limited operating history
together. We did not begin to ship any products for commercial deployment until
September 1999. Due to our limited operating history, it is difficult to predict
our future results of operations.
WE HAVE INCURRED NET LOSSES AND NEGATIVE CASH FLOW SINCE OUR INCEPTION AND WE
EXPECT TO CONTINUE TO INCUR NET LOSSES AND NEGATIVE CASH FLOW FOR THE
FORESEEABLE FUTURE, AND WE MAY NEVER ACHIEVE PROFITABILITY.
We have incurred net losses and negative cash flow for our entire history,
and we expect to continue to incur net losses and negative cash flow for the
foreseeable future. We have incurred and will continue to incur significant
expenses for research and development, sales and marketing, customer support,
developing distribution channels and general and administrative expenses as we
expand our business. We will need to generate higher revenues to achieve
profitability, and we may never be able to achieve or sustain profitability.
OUR REVENUE AND OPERATING RESULTS ARE LIKELY TO FLUCTUATE SIGNIFICANTLY AND AS A
RESULT OUR STOCK PRICE COULD SIGNIFICANTLY DECLINE.
Our quarterly revenue and operating results have fluctuated in the past and
are likely to fluctuate significantly in the future due to a variety of factors,
many of which are beyond our control. If our quarterly or annual operating
results do not meet the expectations of investors or securities analysts, our
common stock price could significantly decline. Some of the factors that could
affect our quarterly or annual revenue and operating results include:
- the timing and size of sales of our products, particularly those products
recently introduced;
- variation in capital spending budgets of communications service
providers;
- our ability to develop, manufacture, introduce, ship and support our
current product lines as well as new products and product enhancements;
- non-cash, variable compensation expense charges applicable to some of our
employee stock options;
- the mix of distribution channels through which our products are sold;
- our ability to control or quickly adjust our fixed expenses, such as
research and development and personnel expenses;
- announcements, new product introductions and reductions in the price of
products offered by our competitors;
- our ability to obtain sufficient supplies of sole or limited source
components for our products; and
- our ability to realize forecasted sales for a particular period.
As a result, a delay in generating or recognizing revenue and controlling
our costs for the reasons set forth above, or for any other reason, could cause
significant variations in our operating results. In addition, as a result of any
of these factors, it is possible that, in the future, our revenue and operating
results will
6
12
fall below the expectations of public market analysts and investors. In this
event, the price of our common stock could significantly decline.
WE MAY NEED ADDITIONAL FINANCING IN THE FUTURE, WHICH MAY NOT BE AVAILABLE, AND
WE MAY BE REQUIRED TO ISSUE ADDITIONAL SECURITIES. ANY ADDITIONAL FINANCING MAY
RESULT IN RESTRICTIONS ON OUR OPERATIONS OR SUBSTANTIAL DILUTION TO OUR
STOCKHOLDERS.
Historically, Siemens has funded our operations as needed. However, after
completion of this offering, Siemens has no obligation to provide us with
additional funds. We will be required to fund our operations independently and
we may need to raise substantial additional funds to:
- support our expansion;
- develop new technologies;
- respond to competitive pressures;
- acquire complementary businesses; or
- respond to unanticipated requirements.
We may try to raise additional funds through public or private financings,
strategic relationships or other arrangements. Additional funding may not be
available on acceptable terms or at all. If adequate funds are not available, we
may be required to curtail significantly or defer one or more of our operating
goals or programs. If we succeed in raising additional funds through the
issuance of equity or convertible securities, the issuance could result in
substantial dilution to existing stockholders. If we raise additional funds
through the issuance of debt securities or preferred stock, these new securities
would have rights, preferences and privileges senior to those of the holders of
our common stock. The terms of these securities could also impose restrictions
on our operations.
RISKS RELATED TO OUR CUSTOMERS
WE DERIVE A SIGNIFICANT PORTION OF OUR REVENUE FROM A LIMITED NUMBER OF
CUSTOMERS AND OUR REVENUE COULD DECLINE SIGNIFICANTLY IF WE LOSE A CUSTOMER OR
IF A CUSTOMER CANCELS OR DELAYS AN ORDER.
Our revenue could decline significantly if we lose a customer, or if a
customer cancels or delays an order. Sales to Siemens, a value-added reseller of
our products, accounted for 30.5% of our net revenues for the nine months ended
June 30, 2001, 41.0% of our net revenues for the fiscal year ended September 30,
2000 and 63.5% of our net revenues for the fiscal year ended September 30, 1999.
Sales to each of Bloomberg and Korea Telecom accounted for greater than 10% of
our net revenues for the nine months ended June 30, 2001. Sales to ITC Deltacom
accounted for greater than 10% of our net revenues for the fiscal year ended
September 30, 2000. We do not have any long-term contracts with any of these
customers, and we do not expect the distribution and other agreements to which
we are a party with Siemens will have a material effect on the revenues
generated by sales to Siemens following the completion of this offering. We
expect to continue to derive a majority of our revenues from a limited number of
customers in the near future.
THE LONG AND VARIABLE SALES AND DEPLOYMENT CYCLES FOR OUR PRODUCTS MAY CAUSE OUR
REVENUE AND OPERATING RESULTS TO VARY SIGNIFICANTLY, WHICH INCREASES THE RISK OF
AN OPERATING LOSS FOR ANY GIVEN FISCAL QUARTER.
Our products have lengthy sales cycles and we may incur substantial sales
and marketing expenses and expend significant management effort without making a
sale. A customer's decision to purchase our products often involves a
significant commitment of its resources and a lengthy product evaluation and
qualification process. In addition, the length of our sales cycles will vary
depending on the type of customer to whom we are selling, the product being sold
and their existing capital equipment levels. Even
7
13
after making the decision to purchase our products, our customers often deploy
our products slowly. Timing of deployment can vary widely and depends on:
- the size of the network deployment;
- the complexity of our customers' network environments;
- our customers' skill sets;
- the hardware and software configuration and customization necessary to
deploy our products; and
- our customers' ability to finance their purchase of our products.
As a result, it is difficult for us to predict the quarter in which our
customers may purchase our products and our revenue and operating results may
vary significantly from quarter to quarter, which increases the risk of an
operating loss for us for any given quarter.
IF OUR PRODUCTS DO NOT INTEROPERATE WITH OUR CUSTOMERS' NETWORKS, ORDERS FOR OUR
PRODUCTS WILL BE DELAYED OR CANCELED AND SUBSTANTIAL PRODUCT RETURNS COULD
OCCUR, WHICH COULD HARM OUR BUSINESS.
Many of our customers require that our products be designed to interoperate
with their existing networks, each of which may have different specifications
and use multiple standards. Our customers' networks may contain multiple
generations of products from different vendors that have been added over time as
their networks have grown and evolved. Our products must interoperate with these
products as well as with future products in order to meet our customers'
requirements. In some cases, we may be required to modify our product designs to
achieve a sale, which may result in a longer sales cycle, increased research and
development expense, and reduced operating margins. If our products do not
interoperate with existing equipment in our customers' networks, installations
could be delayed, orders for our products could be canceled or our products
could be returned. This could harm our business, financial condition and results
of operations.
IF WE FAIL TO DEVELOP AND SELL NEW PRODUCTS THAT MEET THE EVOLVING NEEDS OF OUR
CUSTOMERS, OR IF OUR NEW PRODUCTS OR ENHANCEMENTS FAIL TO ACHIEVE MARKET
ACCEPTANCE, OUR BUSINESS AND RESULTS OF OPERATIONS WOULD BE HARMED.
Our success depends on our ability to anticipate our customers' evolving
needs and to develop and market products that address those needs. We are
currently in the process of developing higher-capacity IP routing and
next-generation voice switching products to meet the growing bandwidth demands
of communications service providers. Our ERX-1440 edge router is in the early
stages of testing and has not yet been commercially deployed. Our ability to
grow sales of our data networking products will depend in part on our ability to
sell successfully our ERX-1440 edge router. Our SMX-2100 Intelligent Gateway and
our SRX-3000 voice switching products are in the early stages of commercial
deployment. Our ability to grow sales of our voice switching products depends in
part on our ability to sell successfully these new products. The timely
development of these products, as well as any additional new or enhanced
products, is a complex and uncertain process. We may experience design,
manufacturing, marketing and other difficulties that could delay or prevent our
development, introduction or marketing of these and other new products and
enhancements. We may not have sufficient resources to anticipate successfully
and accurately technological and market trends, or to manage successfully long
development cycles. The introduction of new or enhanced products also requires
that we manage the transition from older products to these new or enhanced
products in order to minimize disruption in customer ordering patterns. We may
also be required to collaborate with third parties to develop our products and
may not be able to do so on a timely and cost-effective basis, if at all. If we
are not able to develop new products or enhancements to existing products on a
timely and cost-effective basis, or if our new products or enhancements fail to
achieve market acceptance, our ability to continue to sell our products and grow
our business would be harmed.
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CONSOLIDATION OF COMMUNICATIONS SERVICE PROVIDERS AND THEIR POTENTIAL DIFFICULTY
IN ACCESSING FINANCIAL MARKETS MAY CAUSE THEM TO RECONSIDER PURCHASING
DECISIONS, WHICH COULD HARM OUR BUSINESS AND FINANCIAL CONDITION.
Consolidation of our customers and their potential difficulty in accessing
financial markets may cause them to reconsider purchasing decisions or cancel
existing orders. In addition, we may lose valuable relationships with key
personnel of our customers due to budget cuts, layoffs or other disruptions
following or during consolidation. The loss of these relationships could harm
our business and financial condition.
IF WE FAIL TO CAPITALIZE ON OPPORTUNITIES TO WIN CONTRACTS FROM OUR TARGET
CUSTOMERS, WE MAY NOT BE ABLE TO SELL PRODUCTS TO THOSE CUSTOMERS FOR AN
EXTENDED PERIOD OF TIME AND OUR REVENUE COULD DECLINE.
We believe that our customers deploy and upgrade their networks
infrequently and in large increments. As a result, if we fail to win a purchase
contract from a target customer, we may not have an opportunity to sell products
to that customer for an extended period of time. In addition, if we fail to win
contracts from target customers that are at an early stage in their network
design cycle, we may never be able to sell products to these customers because
they may prefer to continue purchasing products from their existing vendor.
Because we rely on a limited number of customers for the majority of our sales,
our failure to capitalize on limited opportunities to win contracts with these
customers would harm our business, financial condition and results of
operations.
RISKS RELATED TO OUR INDUSTRY
THE SLOWDOWN IN THE ECONOMY HAS AFFECTED THE MARKET FOR INFORMATION TECHNOLOGY
PRODUCTS, AND OUR FUTURE FINANCIAL RESULTS WILL DEPEND IN PART UPON WHETHER THIS
SLOWDOWN CONTINUES.
As a result of recent unfavorable economic conditions and reduced capital
spending, demand for our products and services may be harmed. If the current
economic conditions continue or worsen, our business will be harmed.
INTENSE COMPETITION AND CONSOLIDATION IN THE MARKETS IN WHICH WE COMPETE COULD
PREVENT US FROM INCREASING OR SUSTAINING OUR REVENUE AND PREVENT US FROM
ACHIEVING OR SUSTAINING PROFITABILITY.
The market for data and voice networking products is highly competitive. We
compete directly with numerous companies, including Cisco Systems, Juniper
Networks, Lucent Technologies, Nortel Networks, Redback Networks and Sonus
Networks. Our voice switching products also compete to a limited extent with
some traditional voice switching products of Siemens. Many of our current and
potential competitors have longer operating histories, significantly greater
selling and marketing, technical, financial and customer support resources and
broader customer relationships and product offerings than we do. As a result,
these competitors may be able to devote greater resources to the development,
promotion, sale and support of their products. In addition, these companies may
adopt aggressive pricing policies and leverage their customer bases and broader
product offerings to gain market share. We believe that competitive pressures
are likely to result in price reductions and reduced margins, which would harm
our results of operations. Moreover, our competitors may foresee the course of
market developments more accurately than we do and could develop new
technologies that compete with our products or even render our products
obsolete. We may not have sufficient resources to continue to make the
investments or achieve the technological advances necessary to compete
successfully with existing or new competitors.
The markets in which we compete are characterized by increasing
consolidation. We cannot predict how industry consolidation will affect our
competitors and we may not be able to compete successfully in an increasingly
consolidated industry. Additionally, because we may be dependent on strategic
relationships with third parties in our industry, any consolidation involving
these parties could reduce the demand for our products and otherwise harm our
business prospects. Our competitors that have large market capitalizations or
cash reserves are also better positioned than we are to acquire other companies,
including other competitors of ours, thereby obtaining new technologies or
products that may displace our product
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lines. Any of these acquisitions could give our competitors a strategic
advantage that would harm our business, financial condition and results of
operations.
IF USAGE OF THE INTERNET AND OTHER PACKET-BASED NETWORKS DOES NOT CONTINUE TO
GROW AS EXPECTED OR THE MIGRATION OF COMMUNICATIONS SERVICES TO THESE NETWORKS
IS NOT WIDELY ACCEPTED, OUR BUSINESS COULD BE HARMED.
The internet is a packet-based network and packet-based technology may not
be widely accepted as the platform for the new public network. If use of the
internet and other packet-based networks does not grow significantly or the
migration to, and the market acceptance of, these networks as the new public
network does not occur, or occurs more slowly than expected, we may not be able
to sell our products in significant volumes. Many factors beyond our control may
limit the increased use of these networks or delay the migration of
communications services to these networks, including:
- inadequate demand for IP routing, broadband access and next-generation
voice switching from business and residential users;
- the inability of the internet and other packet-based networks to support
the growing performance and reliability demands placed on them;
- the inability of businesses to adequately address security and privacy
concerns of users;
- the development of legislation and regulations related to the internet
and other packet-based networks, as well as the new public network;
- installation, space and power constraints at carrier central offices; and
- evolving industry standards for IP routing, broadband access,
next-generation voice switching and other technologies.
IF WE FAIL TO COMPLY WITH EVOLVING INDUSTRY STANDARDS, SALES OF OUR EXISTING AND
FUTURE PRODUCTS COULD BE HARMED.
Failure of our products to comply, or delays in compliance, with the
various existing, anticipated, and evolving industry regulations and standards
could harm sales of our existing and future products. The markets for our
products are characterized by a significant number of communications regulations
and standards, some of which are evolving as new technologies are deployed. Our
customers often require our products to comply with various standards, including
those promulgated by the:
- Federal Communications Commission;
- American National Standards Institute;
- Institute of Electrical and Electronic Engineers;
- International Telecommunication Union;
- Internet Engineering Task Force;
- Telcordia Technologies; or
- Underwriters Laboratories.
In addition, our key competitors may establish proprietary standards that
they may not make available to us. As a result, our products may not
interoperate with their products. We may also be required to comply with
recommendations of telecommunications authorities in various countries. Our
customers may also require, or we may otherwise deem it necessary or advisable,
that we modify our products to address actual or anticipated changes in the
regulatory environment.
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COMMUNICATIONS SERVICE PROVIDERS ARE SUBJECT TO GOVERNMENT REGULATION, AND
CHANGES IN CURRENT OR FUTURE LAWS OR REGULATIONS THAT NEGATIVELY IMPACT
COMMUNICATIONS SERVICE PROVIDERS COULD HARM OUR BUSINESS.
The jurisdiction of the Federal Communications Commission, or FCC, extends
to the entire communications industry, including communications service
providers. Future FCC regulations affecting the internet, communications service
providers or their service offerings, may harm our business. For example, FCC
regulatory policies that affect the availability of data and internet services
may impede communication service providers' penetration into some markets or
affect the prices that they are able to charge. In addition, domestic and
international regulatory bodies, such as the Federal Trade Commission and the
European Commission, are beginning to adopt standards and regulations for the
internet. These domestic and foreign standards and regulations address various
aspects of internet use, including issues over invasion of privacy, the security
of data transmitted over the internet and taxation of e-commerce. Resulting
standards and regulations could adversely affect the development of e-commerce
and other uses of the internet. This could directly or indirectly harm the
telecommunications industry in which communications service providers operate.
To the extent communications service providers are adversely affected by laws or
regulations regarding their business, products or service offerings, this could
harm our business, financial condition and results of operations.
RISKS ASSOCIATED WITH OUR PRODUCTS
WE DEPEND ON CELESTICA AND PLEXUS TO MANUFACTURE SUBSTANTIALLY ALL OF OUR
PRODUCTS, AND ANY DELAY OR INTERRUPTION IN MANUFACTURING BY THESE CONTRACT
MANUFACTURERS WOULD RESULT IN DELAYED OR REDUCED SHIPMENTS TO OUR CUSTOMERS AND
MAY HARM OUR BUSINESS.
We currently outsource substantially all of our manufacturing to Celestica
Inc., or Celestica, and Plexus Corp., or Plexus. We do not have internal
manufacturing capabilities. Our reliance on Celestica and Plexus involves a
number of risks, including the absence of adequate capacity, the unavailability
of, or interruptions in access to, process technologies and reduced control over
component availability, delivery schedules, manufacturing yields and costs.
Celestica and Plexus also build products for other companies, and they may not
have sufficient quantities of inventory available to fill our orders, or may be
unwilling to allocate their internal resources to fill our orders on a timely
basis. If either Celestica or Plexus is unable or unwilling to continue
manufacturing our products in required volumes and at high quality levels, we
will have to identify, qualify and select acceptable alternative manufacturers,
which could be a timely process. It is possible that an alternate source may not
be available to us when needed or be in a position to satisfy our production
requirements at acceptable prices and quality. If we are required or choose to
change any one or both of our contract manufacturers, our revenue may decline
and our customer relationships may be damaged. Any significant interruption in
manufacturing would reduce our supply of products to our customers, which may
harm our business.
IF WE FAIL TO ACCURATELY PREDICT OUR COMPONENT OR MANUFACTURING REQUIREMENTS, WE
COULD INCUR ADDITIONAL COSTS OR EXPERIENCE MANUFACTURING DELAYS.
We currently provide forecasts of our demand to Celestica, Plexus and our
component suppliers months prior to scheduled delivery of products to our
customers. Lead times for the materials and components that we order vary
significantly and depend on numerous factors, including the specific supplier,
contract terms and demand for a component at a given time. If we overestimate
our component requirements, our contract manufacturer may purchase excess
inventory. For those parts that are unique to our products, we could be required
to pay for these excess parts and recognize related inventory write-down costs.
In the past, we have overestimated our demand for some of our components. If we
underestimate our requirements, our contract manufacturer may have an inadequate
inventory, which could interrupt the manufacturing of our products and result in
delays in shipments and revenue, or could cause us to purchase materials and
components from third parties at higher costs. In the past, we have
underestimated our demand for some of our components.
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WE DEPEND ON SOLE SOURCE AND LIMITED SOURCE SUPPLIERS FOR KEY COMPONENTS, AND IF
WE ARE UNABLE TO OBTAIN THESE COMPONENTS ON A TIMELY BASIS, WE WILL NOT BE ABLE
TO DELIVER OUR PRODUCTS TO OUR CUSTOMERS.
We currently purchase several key components from single or limited
sources, including IBM, Motorola and PMC-Sierra. For example, we have worked
with IBM for over a year to develop several of our key application specific
integrated circuits, or ASICs, which are custom designed to perform a specific
function more rapidly than a general purpose microprocessor. These ASICs are
very complex and IBM is our sole supplier. In the event our sole source or
limited source suppliers cannot supply us in the future with the quantity of key
components that we require, we may not be able to deliver our products to our
customers. We may not be able to develop an alternate source to these suppliers
in a timely manner.
We do not have guaranteed supply arrangements with most of our key
suppliers and we may not be able to obtain necessary supplies in a timely
manner. Financial or other difficulties faced by these suppliers or significant
changes in demand for these components could limit the availability of these
components. In addition, any of our sole-source suppliers could be acquired by,
or enter into exclusive arrangements with, our competitors or stop selling their
products or components to us at acceptable prices, or at all. Any interruption
or delay in the supply of any of these components, or the inability to obtain
these components from alternate sources at acceptable prices and within a
reasonable amount of time, would harm our ability to meet scheduled product
deliveries to our customers and would harm our business, financial condition and
results of operations.
IF OUR PRODUCTS CONTAIN UNDETECTED SOFTWARE OR HARDWARE ERRORS, OUR BUSINESS
COULD BE HARMED.
Our products are highly technical and are designed to be deployed in very
large and complex networks. Because of their nature, our products can only be
fully tested when deployed in networks that generate high amounts of data and/or
voice traffic. Because of our short operating history, not all of our products
have been broadly deployed. For example, our SMX-2100 Intelligent Gateway and
our SRX-3000 Softswitch each became generally available during the third quarter
of fiscal 2001. We have experienced errors in the past in connection with new
and existing products and enhancements. We expect that errors may be found from
time to time in our products after we begin commercial shipments. In addition,
our customers may use our products in conjunction with products from other
vendors. As a result, if problems occur, it may be difficult to identify the
source of these problems. Any defects or errors in our products discovered in
the future, or failures of our customers' networks, whether caused by our
products or another vendor's products, could result in:
- loss of, or delay in, revenue;
- loss of market share;
- loss of customers;
- negative publicity regarding us and our products;
- increased service and warranty costs; and
- legal actions by our customers.
CLAIMS BASED ON ERRORS IN OUR PRODUCTS OR IN PERFORMING PRODUCT RELATED SERVICES
COULD RESULT IN COSTLY LITIGATION AGAINST US.
Because our products are designed to provide critical communications
services, we may be subject to significant liability claims or liquidated
damages pursuant to contracts with our customers. Our insurance may not, or may
not be sufficient to, cover us against these liabilities or may not continue to
be available to us. Liability claims could also require us to spend significant
time and money in litigation. As a result, any of these claims, whether or not
successful, could seriously damage our reputation and harm our business,
financial condition and results of operations.
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RISKS ASSOCIATED WITH OTHER ASPECTS OF OUR BUSINESS
IF WE FAIL TO MANAGE THE GROWTH OF OUR OPERATIONS AND INTEGRATION OF OUR
ACQUISITIONS, OUR FUTURE GROWTH WILL BE LIMITED.
We have rapidly and significantly expanded our operations and expect to
continue to do so. This expansion, together with the integration of Argon
Networks, Castle Networks and Redstone Communications, places or may place a
significant strain on our managerial, operational and financial resources. From
June 30, 1999 to June 30, 2001, we increased the number of our employees from
260 to 798. We are still in the process of integrating managerial and other
personnel. Our rapid growth has placed a significant demand on management and
operational resources. Our management, personnel, systems, procedures, controls
and customer service may be inadequate to support our future operations. To
manage the expected growth of our operations and personnel, we will be required
to:
- improve existing and implement new operational, financial and management
controls, reporting systems and procedures;
- hire, train, motivate and manage our personnel; and
- effectively manage multiple relationships with our customers, suppliers
and other parties.
If we are not able to accomplish the foregoing in an efficient and timely
manner, our business, financial condition and results of operations will be
harmed.
OUR EXECUTIVE OFFICERS AND KEY PERSONNEL ARE CRITICAL TO OUR BUSINESS AND THE
LOSS OF THEIR SERVICES COULD DISRUPT OUR OPERATIONS AND OUR CUSTOMER
RELATIONSHIPS.
Our success depends to a significant degree upon the continued
contributions of the principal members of our management, many of whom would be
difficult to replace. Members of our management have existing relationships with
several communications service providers that are critical to our sales efforts.
The loss of the services of any of our key personnel, particularly senior
management, sales personnel and engineers, could harm our operations and our
customer relationships. We do not have key man life insurance for any of our
executive officers or key personnel.
COMPETITION FOR QUALIFIED PERSONNEL IN OUR INDUSTRY IS INTENSE AND IF WE ARE NOT
SUCCESSFUL IN HIRING AND RETAINING THESE PERSONNEL, OUR ABILITY TO OPERATE AND
GROW OUR BUSINESS MAY BE HARMED.
Competition for qualified personnel in the networking equipment industry is
intense and we may not be successful in hiring and retaining qualified
personnel. Failure to hire qualified personnel could harm the growth of our
business. Our growth and expansion of operations has placed significant demands
on our management, engineering, sales and marketing staff and facilities. We
will need to hire additional personnel in each of these areas to continue to
grow our business. We have experienced, and expect to continue to experience,
difficulty in recruiting and retaining qualified personnel.
WE FACE RISKS ASSOCIATED WITH OUR INTERNATIONAL OPERATIONS THAT COULD HARM OUR
FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
The market for our products is global and we market, sell and service our
products in the United States and internationally. For the nine months ended
June 30, 2001, we derived 57.9% of our net revenues from international sales.
For the fiscal year ended September 30, 2000, we derived 41.2% of our net
revenues from international sales. The majority of our revenue from these
international sales has been derived through sales of our products through
Siemens, primarily to companies in Germany, Hong Kong and Portugal. We intend to
expand substantially our international operations and enter new international
markets. We have a limited management team, and this expansion of direct and
indirect international sales and support channels will require significant
management attention and financial resources.
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We have limited experience in marketing and distributing our products
internationally. In addition, our international operations are subject to other
inherent risks, including:
- difficulties and costs of staffing and managing foreign operations;
- certification requirements and differing regulatory and industry
standards;
- reduced protection for intellectual property rights in some countries;
- fluctuations in currency exchange rates; and
- import or export licensing requirements.
In addition, sales efforts in European countries are subject to seasonal
purchasing patterns typical of European customers, particularly in the summer,
which could harm our operating results. Moreover, our sales efforts in
Asia-Pacific countries are susceptible to recessions that could lead to
increased governmental ownership or regulation of the economy, higher interest
rates, increased barriers to entry, such as higher tariffs and taxes, and
reduced demand for United States manufactured goods.
IF WE MAKE ANY ACQUISITIONS OR STRATEGIC INVESTMENTS, OUR BUSINESS COULD BE
DISRUPTED AND OUR FINANCIAL CONDITION COULD BE HARMED.
Our business has been built upon the acquisition of three companies.
Although we have no current agreements or negotiations underway with respect to
any acquisitions or strategic investments, we may acquire or make investments in
other businesses, products or technologies in the future. Any future
acquisitions or strategic investments may entail numerous risks, including:
- difficulties in assimilating acquired operations, technologies or
products;
- diversion of management's attention from our core business concerns;
- risks of entering markets in which we have no or limited prior
experience;
- substantial dilution of our current stockholders' ownership;
- incurrence of substantial debt;
- incurrence of significant amortization expenses related to goodwill and
other intangible assets; and
- incurrence of significant immediate write-offs.
OUR BUSINESS WILL BE HARMED IF WE ARE UNABLE TO PROTECT OUR INTELLECTUAL
PROPERTY RIGHTS FROM THIRD-PARTY CHALLENGES.
We rely on a combination of patent, copyright, trademark and trade secret
laws and restrictions on disclosure to protect our intellectual property rights.
We also enter into confidentiality or license agreements with our employees,
consultants and corporate partners, and control access to and distribution of
our software, documentation and other proprietary information. Despite our
efforts to protect our proprietary rights, unauthorized parties may attempt to
copy or otherwise obtain and use our products or technology. Monitoring
unauthorized use of our technology is difficult and the steps taken by us may
not prevent unauthorized use of our technology, particularly in foreign
countries where the laws may not protect our proprietary rights as fully as in
the United States.
WE COULD BECOME SUBJECT TO LITIGATION REGARDING INTELLECTUAL PROPERTY RIGHTS,
WHICH COULD SERIOUSLY HARM OUR BUSINESS.
In recent years, there has been significant litigation in the United States
involving patents and other intellectual property rights. We may be a party to
litigation in the future to protect our intellectual property or as a result of
an alleged infringement of others' intellectual property. Claims for alleged
infringement and any resulting lawsuit, if successful, could subject us to
significant liability for damages and invalidation of our proprietary rights.
These lawsuits, regardless of their success, would likely be time-
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consuming and expensive to resolve and would divert management time and
attention. Any potential intellectual property litigation could also force us to
do one or more of the following:
- stop selling, incorporating or using our products that use the challenged
intellectual property;
- obtain from the owner of the infringed intellectual property right a
license to sell or use the relevant technology, the license for which may
not be available on reasonable terms, or at all; or
- redesign those products that use such technology.
If we are forced to take any of the foregoing actions, our business may be
seriously harmed. Our general liability insurance does not cover potential
claims of this type.
NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY MAY NOT BE AVAILABLE TO US OR MAY
BE VERY EXPENSIVE.
We integrate third-party licensed technology with our products, including
signalling system gateway technology of Trillium Digital Systems and software
from Fujitsu Siemens Computers. From time to time we may be required to license
additional technology from third parties to develop new products or product
enhancements. Third-party licenses may not be available or continue to be
available to us on commercially reasonable terms. Our inability to maintain or
re-license any third party licenses required in our current products or to
obtain third-party licenses required to develop new products and product
enhancements, could require us to obtain substitute technology of lower quality
or performance standards or at a greater cost, any of which could seriously harm
our business, financial condition and results of operations.
RISKS RELATED TO OUR RELATIONSHIP WITH SIEMENS
YOU WILL NOT BE ABLE TO CONTROL OUR CORPORATE EVENTS BECAUSE SIEMENS WILL OWN
APPROXIMATELY 87% OF OUR OUTSTANDING COMMON STOCK UPON COMPLETION OF THIS
OFFERING. SIEMENS' MAJORITY OWNERSHIP COULD DISCOURAGE OR PREVENT A POTENTIAL
ACQUIRER FROM OBTAINING CONTROL OF US, WHICH MAY HARM THE MARKET PRICE OF OUR
COMMON STOCK.
Upon completion of this offering, Siemens will beneficially own
approximately 87% of our outstanding common stock, or 86% if the underwriters'
over-allotment option is fully exercised. In each case, we have included
5,770,663 shares of our common stock issuable upon the automatic conversion upon
the closing of this offering of a $67.0 million convertible promissory note
issued to Siemens, assuming a $12.00 per share conversion price and $2,247,953
of accrued interest on this note. Accordingly, Siemens, by virtue of its
majority ownership of our common stock, will have the power, acting alone, to
elect a majority of our board of directors and will have the ability to
determine the outcome of any corporate actions requiring stockholder approval,
regardless of how our other stockholders may vote. Siemens, other than by virtue
of its majority ownership of our common stock, does not have the right to elect
a minimum number of our directors. Under Delaware law and our by-laws, Siemens
may exercise its voting power by written consent, without convening a meeting of
stockholders. Siemens' interests could conflict with the interests of our other
stockholders. Siemens' ownership may have the effect of delaying, deferring or
preventing a change in control of our company or of discouraging a potential
acquirer from attempting to obtain control of us, which could harm the market
price of our common stock.
BECAUSE WE HAVE THREE DIRECTORS WHO ARE ALSO SENIOR EXECUTIVES OF SIEMENS OR
WERE RECENTLY AFFILIATED WITH SIEMENS, SOME OF OUR DIRECTORS MAY FACE CONFLICTS
OF INTEREST.
Three of our directors are also senior executives of Siemens or were
recently affiliated with Siemens. These directors may have conflicts of interest
with respect to matters potentially or actually involving us, such as
acquisitions, financings and other corporate opportunities that may be suitable
for us. These relationships could create, or appear to create, potential
conflicts of interest when directors or officers are faced with decisions that
could have different implications for our company and Siemens.
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WE COMPETE WITH SIEMENS AND WE MAY HAVE POTENTIAL BUSINESS CONFLICTS OF INTEREST
WITH SIEMENS. BECAUSE OF SIEMENS' MAJORITY OWNERSHIP OF OUR COMPANY, WE MAY NOT
RESOLVE THESE CONFLICTS ON THE MOST FAVORABLE TERMS TO US AND OUR BUSINESS MAY
BE HARMED.
Conflicts of interests may arise between Siemens and ourselves in a number
of areas, including:
- business opportunities that may be attractive to both Siemens and us; and
- contractual relationships with Siemens concerning distribution
relationships, technical services, and other matters.
Our SMX and SRX voice switching products compete to a limited extent with
some traditional voice switching products of Siemens. In addition, Siemens is a
value-added reseller of products of our competitors. We may not be able to
resolve any potential conflicts with Siemens and, even if we do, the resolution
may be less favorable than if we were dealing with an unaffiliated party.
We have agreements with Siemens relating to distribution of our products
and other matters and they may be amended or terminated upon agreement between
the parties. While we are controlled by Siemens, Siemens may be able to require
us to terminate these agreements or to agree to amend these agreements. The
amendments may be less favorable to us than the current terms of these
agreements.
ADDITIONAL RISKS THAT MAY AFFECT OUR STOCK PRICE
OUR STOCK PRICE MAY BE VOLATILE AND YOU MAY NOT BE ABLE TO RESELL OUR SHARES AT
OR ABOVE THE PRICE YOU PAID, OR AT ALL.
There has previously not been a public market for our common stock. We
cannot predict the extent to which investor interest in our stock will lead to
the development of a trading market or how liquid that market might become. The
initial public offering price for the shares will be determined by negotiations
between us and the representatives of the underwriters and may not be indicative
of prices that will prevail in the trading market. The trading price of our
common stock could be subject to wide fluctuations in response to factors such
as:
- actual or anticipated variations in quarterly operating results;
- failure to meet analyst predictions and projections;
- changes in market valuations of communications service providers and
equipment companies;
- continued growth of the internet and other packet-based networks;
- new products or services offered by us or our competitors; and
- our sales of common stock or other securities in the future.
In addition, stock markets in general, and The Nasdaq National Market and
technology companies in particular, have experienced extreme price and volume
fluctuations that have often been unrelated or disproportionate to the operating
performance of such companies. These broad market and industry factors may harm
the market price of our common stock, regardless of our actual operating
performance.
In addition, in the past, following periods of volatility in the overall
market and market price of a company's securities, securities class action
litigation has often been instituted against these companies. Such litigation,
if instituted against us, could result in substantial costs and a diversion of
our management's attention and resources, which would harm our business,
financial condition and results of operations.
FUTURE SALES BY EXISTING STOCKHOLDERS AND OPTIONHOLDERS COULD DEPRESS THE MARKET
PRICE OF OUR COMMON STOCK.
Once a trading market develops for our common stock, many of our
stockholders and optionholders will have an opportunity to sell their common
stock for the first time. Siemens is not required under our
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certificate of incorporation or otherwise to own a minimum percentage of our
common stock. Sales of a substantial number of shares of common stock in the
public market after the offering, or the threat that substantial sales might
occur, could cause the market price of our common stock to decrease. These
factors could also make it difficult for us to raise capital by selling
additional equity securities.
YOU WILL INCUR IMMEDIATE DILUTION BECAUSE THE INITIAL PUBLIC OFFERING PRICE OF A
SHARE OF OUR COMMON STOCK WILL EXCEED ITS TANGIBLE BOOK VALUE.
The initial public offering price of our common stock will be substantially
higher than the tangible book value per share of the outstanding common stock
immediately after the completion of this offering. If you purchase common stock
in this offering, you will incur immediate dilution of approximately $10.64 in
the book value per share of the common stock from the price you pay after giving
effect to the issuance of 5,770,663 shares of our common stock issuable upon the
automatic conversion upon the closing of this offering of a $67.0 million
convertible promissory note issued to Siemens, assuming a $12.00 per share
conversion price and $2,247,953 of accrued interest.
OUR MANAGEMENT MAY USE THE PROCEEDS OF THIS OFFERING IN WAYS THAT MAY NOT
INCREASE OUR PROFITABILITY OR OUR MARKET VALUE.
Our management will have considerable discretion in how we use the net
proceeds from this offering, and you will not have the opportunity, as part of
your investment decision, to assess whether the proceeds are being used
appropriately. The net proceeds may be used for corporate purposes that do not
increase our profitability or our market value. Pending application of the
proceeds, they may be placed in investments that do not produce income or that
lose value.
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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements. In some cases, you can
identify forward-looking statements by terminology -- for instance, as may,
will, should, expect, plan, anticipate, believe, estimate, predict, potential or
continue, the negative of these terms, or other comparable terminology. These
statements are only predictions. Actual events or results may differ materially.
In evaluating these statements, you should specifically consider various
factors, including the risks outlined in the risk factors section. These factors
may cause our actual results to differ materially from any forward-looking
statement.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we nor any other person
assumes responsibility for the accuracy and completeness of the forward-looking
statements. We are under no duty to update any of the forward-looking statements
after the date of this prospectus to conform these statements to actual results
or to changes in our expectations.
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USE OF PROCEEDS
We will receive net proceeds of approximately $92.0 million from the sale
of 8,500,000 shares in this offering at an assumed initial public offering price
of $12.00 per share and after deducting estimated underwriting discounts and
commissions and estimated offering expenses. If the underwriters exercise their
over-allotment option in full, our net proceeds will be approximately $106.2
million.
The principal purposes of this offering are to obtain additional capital,
to create a public market for our common stock and to facilitate future access
to public equity markets. As of the date of this prospectus, we have not
allocated the net proceeds of this offering for specific uses. We expect to use
the proceeds for general corporate purposes, including working capital. We may
also use a portion of the net proceeds for acquisitions of businesses, products
and technologies that complement our business. We have no present plans,
commitments, or current negotiations with respect to any acquisitions.
Pending our use of the net proceeds from this offering, we intend to invest
the proceeds in interest-bearing, investment-grade securities.
DIVIDEND POLICY
We have neither declared nor paid any cash dividends on our capital stock.
We presently intend to retain future earnings, if any, to finance the expansion
of our business and do not expect to pay any cash dividends in the foreseeable
future. Payment of future cash dividends, if any, will be at the discretion of
our board of directors after taking into account various factors, including our
financial condition, operating results, current and anticipated cash needs and
plans for expansion.
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25
CAPITALIZATION
The following table sets forth our capitalization as of June 30, 2001:
- on an actual basis;
- on a pro forma basis to give effect to the automatic conversion of the
$67.0 million convertible promissory note to Siemens upon the closing of
this offering into 5,770,663 shares of common stock, assuming a $12.00
per share conversion price and $2,247,953 of accrued interest; and
- on a pro forma as adjusted basis to reflect our receipt of the estimated
net proceeds from our sale of 8,500,000 shares of common stock in this
offering, at an assumed initial public offering price of $12.00 per
share, after deducting the estimated underwriting discounts and
commissions and estimated offering expenses payable by us.
<Table>
<Caption>
JUNE 30, 2001
------------------------------------------------
PRO PRO FORMA
ACTUAL FORMA AS ADJUSTED
------------- ------------- --------------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
Cash and cash equivalents.............................. $ 39,192 $ 39,192 $ 131,182
========== ========== ==========
Convertible note and accrued interest to Siemens....... 69,248 -- --
Stockholders' equity:
Common stock, $.01 par value; 115,360,611 shares
authorized, 90,758,102 shares issued and outstanding,
actual; 295,000,000 shares authorized, 96,528,765
shares issued and outstanding, pro forma; 295,000,000
shares authorized, 105,028,765 shares issued and
outstanding, pro forma as adjusted................... 908 966 1,051
Additional paid-in capital............................. 1,336,447 1,405,637 1,497,542
Accumulated deficit.................................... (981,330) (981,330) (981,330)
Notes receivable from officers......................... (28,323) (28,323) (28,323)
Deferred compensation.................................. (29,601) (29,601) (29,601)
Accumulated other comprehensive income................. (113) (113) (113)
---------- ---------- ----------
Total stockholders' equity........................... 297,988 367,236 459,226
========== ========== ==========
Total capitalization......................... $ 367,236 $ 367,236 $ 459,226
========== ========== ==========
</Table>
The table set forth above excludes:
- 15,505,640 shares of common stock issuable upon exercise of options
outstanding as of June 30, 2001 at a weighted average exercise price of
$10.35 per share; and
- 9,096,929 shares of common stock available for issuance as of June 30,
2001 under our amended and restated 1999 stock incentive plan.
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26
DILUTION
If you invest in our common stock, your interest will be diluted to the
extent of the difference between the public offering price per share of our
common stock and the net tangible book value per share of common stock upon the
completion of this offering.
Our pro forma net tangible book value as of June 30, 2001 was approximately
$51.2 million, or approximately $0.53 per share of common stock. Pro forma net
tangible book value per share represents the amount of our total tangible assets
less total liabilities, divided by the number of shares of common stock
outstanding, after giving effect to the automatic conversion of the $67.0
million convertible promissory note to Siemens upon the closing of this offering
into 5,770,663 shares of common stock, assuming a $12.00 per share conversion
price and $2,247,953 of accrued interest. After giving effect to the sale of
8,500,000 shares of common stock offered by us in this offering at an assumed
initial public offering price of $12.00 per share and after deducting the
estimated underwriting discount and offering expenses payable by us, our pro
forma net tangible book value, as adjusted, as of June 30, 2001 would have been
approximately $143.2 million, or approximately $1.36 per share of common stock.
This represents an immediate increase in pro forma net tangible book value of
$0.83 per share to our existing stockholders and an immediate dilution in pro
forma net tangible book value of $10.64 per share to new investors of common
stock in this offering. If the initial public offering price is higher or lower,
the dilution to the new investors will be greater or less, respectively. The
following table illustrates this per share dilution:
<Table>
Assumed initial public offering price per share............. $12.00
Pro forma net tangible book value per share at June 30,
2001...................................................... $0.53
Increase per share to existing stockholders attributable to
this offering............................................. $0.83
-----
Pro forma net tangible book value per share after this
offering.................................................. $ 1.36
------
Dilution per share to new investors......................... $10.64
======
</Table>
The following table summarizes, as of June 30, 2001, on the pro forma basis
discussed above, the differences between our existing stockholders and new
investors with respect to the number of shares of common stock issued by us, the
total consideration paid and the average price per share paid:
<Table>
<Caption>
SHARES ISSUED TOTAL CONSIDERATION
------------------------- ---------------------------- AVERAGE PRICE
NUMBER PERCENTAGE AMOUNT PERCENTAGE PER SHARE
----------- ---------- -------------- ---------- -------------
Existing stockholders...... 96,528,765 91.9% $1,349,754,837 93.0% $13.98
New investors.............. 8,500,000 8.1% 102,000,000 7.0% $12.00
----------- ----- -------------- -----
Total............ 105,028,765 100.0% $1,451,754,837 100.0%
=========== ===== ============== =====
</Table>
The foregoing discussions and tables exclude:
- 15,505,640 shares of common stock issuable upon exercise of options
outstanding as of June 30, 2001 at a weighted average exercise price of
$10.35 per share; and
- 9,096,929 shares of common stock available for issuance at June 30, 2001
under our amended and restated 1999 stock incentive plan.
To the extent outstanding options are exercised, there will be further
dilution to new investors.
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27
SELECTED CONSOLIDATED FINANCIAL DATA
This information should be read in conjunction with the consolidated
financial statements and related notes included elsewhere in this prospectus and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
The table below sets forth our selected financial data. The consolidated
financial data as of September 30, 1999 and 2000, for the period from January
12, 1999 (date of inception) through September 30, 1999 and for the year ended
September 30, 2000 are derived from our audited consolidated financial
statements included elsewhere in this prospectus. The consolidated financial
data as of June 30, 2001 and for the nine months ended June 30, 2000 and 2001
are derived from our unaudited consolidated financial statements included
elsewhere in this prospectus.
<Table>
<Caption>
UNISPHERE NETWORKS, INC.
(IN THOUSANDS, EXCEPT PER SHARE DATA)
NINE MONTHS ENDED
JANUARY 12, 1999 JUNE 30,
(INCEPTION) THROUGH YEAR ENDED ----------------------
SEPTEMBER 30, 1999 SEPTEMBER 30, 2000 2000 2001
------------------- ------------------ --------- ---------
CONSOLIDATED STATEMENT OF OPERATIONS
DATA:
Net revenues........................... $ 2,813 $ 49,628 $ 31,998 $ 127,211
Cost of revenues:
Cost of revenues, excluding
stock-based compensation......... 6,485 43,476 32,022 70,356
Stock-based compensation........... -- 644 51 275
--------- --------- --------- ---------
Total cost of revenues......... 6,485 44,120 32,073 70,631
--------- --------- --------- ---------
Gross profit (loss)............ (3,672) 5,508 (75) 56,580
Operating expenses:
Research and development(1)........ 68,369 112,451 88,443 71,060
Sales and marketing(1)............. 20,291 42,874 31,576 39,415
General and administrative(1)...... 13,919 14,736 12,434 9,444
Amortization of intangible
assets........................... 61,629 127,033 98,996 84,113
Merger-related costs............... -- -- -- 6,508
Impairment of intangible assets.... -- 118,810 118,810 --
Purchased in-process research and
development...................... 217,400 -- -- --
Stock-based compensation........... -- 21,820 2,814 4,509
--------- --------- --------- ---------
Total operating expenses....... 381,608 437,724 353,073 215,049
--------- --------- --------- ---------
Loss from operations........... (385,280) (432,216) (353,148) (158,469)
Other income (expense)................. 227 (1,466) (1,654) (4,126)
--------- --------- --------- ---------
Net loss....................... $(385,053) $(433,682) $(354,802) $(162,595)
========= ========= ========= =========
Basic and diluted net loss per share... $ (4.47) $ (5.02) $ (4.12) $ (1.84)
========= ========= ========= =========
Weighted average shares used in
computing basic and diluted net loss
per share............................ 86,133 86,399 86,133 88,441
========= ========= ========= =========
</Table>
(1) Excludes non-cash, stock-based compensation expense (income) as follows:
<Table>
<Caption>
NINE MONTHS ENDED
JANUARY 12, 1999 JUNE 30,
(INCEPTION) THROUGH YEAR ENDED ---------------------
SEPTEMBER 30, 1999 SEPTEMBER 30, 2000 2000 2001
------------------- ------------------ -------- ---------
Research and development................ $ -- $ 9,212 $ 1,639 $ (801)
Sales and marketing..................... -- 4,753 548 235
General and administrative.............. -- 7,855 627 5,075
-------- ------- -------- ---------
$ -- $21,820 $ 2,814 $ 4,509
======== ======= ======== =========
</Table>
<Table>
<Caption>
SEPTEMBER 30, 1999 SEPTEMBER 30, 2000 JUNE 30, 2001
------------------ ------------------ --------------
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents....................... $ 9,082 $ 634 $ 39,192
Working capital (deficit)....................... (45,277) (14,013) (66,219)
Total assets.................................... 674,257 471,954 467,662
Convertible note and accrued interest to
Siemens....................................... -- -- 69,248
Total stockholders' equity...................... 614,898 429,663 297,988
</Table>
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The separate financial data of Redstone and Castle have been presented
below because we consider these companies to be our predecessor business.
The table below sets forth selected financial data of Redstone
Communications. The financial data as of December 31, 1997 and 1998 and April
27, 1999, for the period from September 16, 1997 (date of inception) to December
31, 1997, for the year ended December 31, 1998 and for the period from January
1, 1999 to April 27, 1999 are derived from the audited financial statements of
Redstone Communications included elsewhere in this prospectus.
<Table>
<Caption>
REDSTONE COMMUNICATIONS, INC.
(IN THOUSANDS)
PERIOD FROM
SEPTEMBER 16, 1997 JANUARY 1, 1999
(INCEPTION) THROUGH YEAR ENDED THROUGH
DECEMBER 31, 1997 DECEMBER 31, 1998 APRIL 27, 1999
------------------- ----------------- ---------------
(RESTATED)
STATEMENT OF OPERATIONS DATA:
Net revenues.................................... $ -- $ -- $ --
Operating expenses:
Research and development.................... 503 8,767 21,003
Sales and marketing......................... 40 731 6,446
General and administrative.................. 133 765 1,169
------ -------- --------
Total operating expenses................ 676 10,263 28,618
------ -------- --------
Loss from operations.................... (676) (10,263) (28,618)
Other income, net............................... 84 361 107
------ -------- --------
Net loss................................ $ (592) $ (9,902) $(28,511)
====== ======== ========
BALANCE SHEET DATA:
Cash and cash equivalents................... $6,318 $ 10,972 $ 3,969
Working capital............................. 6,185 9,707 2,745
Total assets................................ 6,558 12,506 6,449
Total Stockholders' deficit................. (576) (8,836) (15,136)
</Table>
The table below sets forth selected financial data of Castle Networks. The
financial data as of December 31, 1997 and 1998 and April 20, 1999, for the
period from October 16, 1997 (date of inception) to December 31, 1997, for the
year ended December 31, 1998 and for the period from January 1, 1999 to April
20, 1999 are derived from the audited financial statements of Castle Networks
included elsewhere in this prospectus.
<Table>
<Caption>
CASTLE NETWORKS, INC.
(IN THOUSANDS)
PERIOD FROM
OCTOBER 16, 1997 JANUARY 1, 1999
(INCEPTION) THROUGH YEAR ENDED THROUGH
DECEMBER 31, 1997 DECEMBER 31, 1998 APRIL 20, 1999
------------------- ----------------- ---------------
(RESTATED)
STATEMENT OF OPERATIONS DATA:
Net revenues.................................... $ -- $ -- $ --
Operating expenses:
Research and development.................... 23 6,051 10,154
Sales and marketing......................... 2 1,785 10,072
General and administrative.................. 38 827 2,164
------ -------- --------
Total operating expenses................ 63 8,663 22,390
------ -------- --------
Loss from operations.................... (63) (8,663) (22,390)
Other income, net............................... -- 277 101
------ -------- --------
Net loss................................ $ (63) $ (8,386) $(22,289)
====== ======== ========
BALANCE SHEET DATA:
Cash and cash equivalents................... $ 47 $ 12,218 $ 6,219
Working capital (deficit)................... (70) 11,115 3,660
Total assets................................ 61 13,700 8,249
Total Stockholders' deficit................. (63) (6,506) (12,708)
</Table>
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis in conjunction with
the "Selected Consolidated Financial Data," the consolidated financial
statements and the related notes included elsewhere in this prospectus.
OVERVIEW
We provide data and voice networking products for the new public network.
Our suite of products enables communications service providers to offer
value-added, integrated voice and high-speed data services to business and
residential users. Our IP routing, broadband access and next-generation voice
switching products, combined with our network and service management software,
provide integrated solutions that support communications traffic ranging from
value-added, high-speed data services to basic voice services.
We were incorporated in Delaware in January 1999 as a subsidiary of
Siemens. Our business has been built upon the acquisitions of three companies.
In March 1999, Siemens purchased Argon Networks. In April 1999, Siemens
purchased Castle Networks and Redstone Communications. In June 1999, Siemens
contributed the stock of Argon, Castle and Redstone to us and we have accounted
for the acquisitions and their results of operations from the date of
acquisition as if we had effectively acquired the three companies. All three
companies were development-stage companies engaged in research and development
of next-generation products for the networking industry. In addition, in April
1999, Siemens contributed a research and development group for voice switching
products located in Boca Raton, Florida to us. From our inception through August
1999, we were a development stage company focused on developing our initial
products, recruiting personnel and building our corporate infrastructure, and
therefore had no significant product revenue. In September 1999, we began
shipping our products for commercial deployment and recorded our first
significant product revenue. We emerged from the development stage at that time.
Our cost structure has been largely independent from Siemens since our
inception. We do not expect our cost structure to change significantly as a
result of being required to fund our operations independently after this
offering.
Prior to its acquisition, Argon was exclusively engaged in the development
of a gigabit switch router. Under the terms of the acquisition agreement,
Siemens paid $200.0 million in cash to the holders of Argon securities. We
agreed to assume a retention and performance related payment obligation from
Siemens and we have paid $13.3 million in cash to the employees of Argon for
retention and performance achievements. There are no other retention and
performance payments to be made in connection with this acquisition. Prior to
the acquisition, Argon incurred cumulative net losses of $25.8 million.
Prior to its acquisition, Castle was engaged in the development of voice
switching technology. Under the terms of the acquisition agreement, Siemens paid
$300.0 million in cash to the holders of Castle securities. We agreed to assume
a milestone related payment obligation from Siemens and we have paid $15.0
million in cash to the employees of Castle for these milestone achievements.
There are no other milestone payments to be made in connection with this
acquisition. Prior to the acquisition, Castle incurred cumulative net losses of
$30.7 million.
Prior to its acquisition, Redstone was engaged in the development of an
edge router. Under the terms of the acquisition agreement, Siemens paid $450.0
million in cash to the holders of Redstone securities. We agreed to assume a
milestone related payment obligation from Siemens and we have paid $50.0 million
in cash to the employees of Redstone for these milestone achievements. There are
no other milestone payments to be made in connection with this acquisition.
Prior to the acquisition, Redstone incurred cumulative net losses of $39.0
million.
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The following is a summary of the allocation of the purchase prices for the
acquisitions, in millions:
<Table>
<Caption>
ALLOCATED TO
PURCHASED
IN-PROCESS NET
RESEARCH ALLOCATED TO TANGIBLE TOTAL
ENTITY AND ASSEMBLED ALLOCATED ASSETS PURCHASE
ACQUIRED DATE DEVELOPMENT WORKFORCE TO GOODWILL ACQUIRED PRICE
- -------- ---------- ------------ ------------ ----------- -------- --------
Argon March 1999 $ 36.4 $1.0 $148.1 $14.5 $200.0
Castle April 1999 79.3 0.9 214.3 5.5 300.0
Redstone April 1999 101.7 1.1 342.2 5.0 450.0
------ ---- ------ ----- ------
$217.4 $3.0 $704.6 $25.0 $950.0
====== ==== ====== ===== ======
</Table>
Each of the acquisitions was accounted for using the purchase method of
accounting. The assembled workforce is being amortized on a straight-line basis
over a three year period and goodwill is being amortized on a straight-line
basis over a five year period. The in-process research and development
calculation was based on a discounted cash flow methodology and is discussed in
detail below. During the year ended September 30, 2000, we canceled and
abandoned Argon's original product development effort and we recorded an
impairment charge of $118.8 million for the unamortized goodwill value and a
portion of the unamortized value of the workforce intangible asset.
On October 20, 2000, we entered into an agreement, which was amended on
February 15, 2001, to acquire BroadSoft, Inc. in a stock-for-stock merger. In
connection with the merger agreement, we loaned BroadSoft, Inc. $6.0 million. On
June 22, 2001, the merger agreement was terminated and we established a $6.0
million valuation allowance against the note receivable and expensed
approximately $0.5 million of deferred acquisition costs for the nine months
ended June 30, 2001.
We sell and market our products through a direct sales force and
value-added resellers. To date, our principal value-added reseller has been
Siemens. Customers' decisions to purchase our products for deployment in
commercial networks often involve a significant commitment of resources and a
lengthy evaluation, testing and product qualification process. We believe these
long sales cycles, as well as our expectation that customers will deploy and
upgrade their networks infrequently and in large increments with short lead
times, will cause our revenues and results of operations to vary significantly
and unexpectedly from quarter to quarter.
We recognize revenue from product sales upon shipment, provided that
persuasive evidence of an arrangement exists, the sales price is fixed or
determinable, there are no uncertainties regarding customer acceptance and
collectibility is deemed probable. If uncertainties exist, revenue is recognized
when the uncertainties are resolved. A significant portion of our sales are made
through value-added resellers. Under these arrangements, value-added resellers
do not have a right of return and they purchase products from us after they have
secured a sale to the end-user. Revenue from technical support and maintenance
contracts is recognized ratably over the period of the related agreements.
Revenue from professional services are recognized when the services are
completed.
During fiscal 2000, we recorded $48.6 million in deferred compensation
related to the excess of the fair market value at the time of the grant over the
exercise price of restricted common stock and stock options issued to our
employees and the fair value of stock options issued to non-employees. During
fiscal 2000, we recorded non-cash compensation expense of $10.6 million. During
the nine months ended June 30, 2001, we recorded $1.3 million in deferred
compensation and $11.2 million of non-cash compensation expense. We will record
non-cash compensation expense of $14.2 million in fiscal 2001, $13.2 million in
fiscal 2002, $8.6 million in fiscal 2003, $2.6 million in fiscal 2004 and $0.4
million in fiscal 2005 related to these restricted common stock and stock
options.
In addition, in April 2000, we changed the exercise price of 2,344,000
employee stock options to purchase common stock. At June 30, 2001, stock options
for the purchase of 527,000 shares of common stock had been exercised and stock
options for the purchase of 340,000 shares of common stock had been cancelled.
The remaining stock options will become exercisable for the purchase of
1,477,000 shares of
25
31
common stock over a four-year period. During the nine months ended June 30,
2001, we recorded a reduction of $15.7 million in deferred compensation and we
recorded $6.4 million of non-cash compensation income related to these stock
options. During fiscal 2000, we recorded $22.7 million in deferred compensation
and $11.9 million of non-cash compensation expense related to these stock
options. Deferred compensation amounts are being amortized over the vesting
periods of the applicable options. We cannot estimate the future effect of
stock-based compensation related to employee stock options for which we changed
the exercise price since the determination of variable stock-based compensation
expense (income) is based on the fair market value of our common stock in future
periods.
Throughout our management discussion and analysis, we refer to the period
from January 12, 1999 (date of inception) through September 30, 1999 as the
period ended September 30, 1999.
RESULTS OF OPERATIONS
NINE MONTHS ENDED JUNE 30, 2001 COMPARED TO NINE MONTHS ENDED JUNE 30, 2000
Net Revenues. For the nine months ended June 30, 2001, our net revenues
were $127.2 million compared to $32.0 million for the nine months ended June 30,
2000. Our net revenues result from sales of our ERX edge routers, SMX voice
switching products and related services. Most of the increase was attributable
to sales of our ERX edge routers. For the nine months ended June 30, 2001 and
2000, sales to Siemens, a value-added reseller of our products, accounted for
30.5% and 33.8% of net revenues, respectively. In addition, during the nine
months ended June 30, 2001 and 2000, we had two other customers and one other
customer, respectively, who each accounted for greater than 10% of net revenues.
We anticipate that our sales to Siemens will fluctuate as a percentage of our
net revenues. However, we expect to continue to derive a majority of our
revenues from a limited number of customers in the near future.
Total Cost of Revenues. Total cost of revenues includes payments to our
contract manufacturers, as well as testing functions costs, warranty costs,
other costs related to the delivery of our products to our customers and
stock-based compensation expense. Our cost of revenues was $70.6 million, or
55.5% of net revenues, for the nine months ended June 30, 2001 compared to $32.1
million, or 100% of net revenues, for the nine months ended June 30, 2000,
primarily as a result of decreased material costs and the achievement of
economies of scale. During the nine months ended June 30, 2000, we recorded an
$8.3 million inventory provision relating to excess inventory. We anticipate our
cost of revenues will decrease as a percentage of net revenues in the future as
we continue to achieve economies of scale.
Gross Profit. Our gross profit was $56.6 million, or 44.5% of net
revenues, for the nine months ended June 30, 2001, compared to a gross loss of
$0.1 million, or less than 1.0% of net revenues, for the nine months ended June
30, 2000.
Research and Development Expenses. Research and development expenses
consist primarily of salaries and related personnel costs, independent
contractor costs and prototype costs related to the design, development, testing
and enhancement of our products. We expense our research and development costs
as incurred. Our research and development expenses were $71.1 million for the
nine months ended June 30, 2001 and $88.4 million for the nine months ended June
30, 2000. Excluding milestone and retention payments to employees resulting from
the acquisitions of Argon, Castle and Redstone in an aggregate amount of $23.5
million for the nine months ended June 30, 2000, our research and development
expenses would have been $64.9 million for the nine months ended June 30, 2000.
The increase, excluding milestone and retention payments, was a result of an
increase in personnel, personnel-related expenses and prototype costs. Research
and development is essential to our future success and we expect that research
and development expenses, excluding milestone payments, will increase in
absolute dollars in the future.
Sales and Marketing Expenses. Sales and marketing expenses consist
primarily of salaries and related personnel expenses, commissions, advertising,
tradeshows, promotions, customer evaluations and other marketing expenses. Our
sales and marketing expenses were $39.4 million for the nine months ended June
30, 2001 compared to $31.6 million for the nine months ended June 30, 2000.
Excluding milestone
26
32
and retention payments to employees resulting from the acquisitions of Argon,
Castle and Redstone in an aggregate amount of $1.3 million for the nine months
ended June 30, 2000, our sales and marketing expenses would have been $30.3
million for the nine months ended June 30, 2000. We expect that sales and
marketing expenses will increase in absolute dollars in the future as we hire
additional sales personnel and expand sales offices and distribution channels.
General and Administrative Expenses. General and administrative expenses
consist primarily of salaries and related expenses for executive, finance,
information technology and human resource personnel, recruiting expenses and
professional fees. Our general and administrative expenses decreased to $9.4
million for the nine months ended June 30, 2001 compared to $12.4 million for
the nine months ended June 30, 2000. Excluding milestone and retention payments
to employees resulting from the acquisitions of Argon, Castle and Redstone in an
aggregate amount of $3.0 million for the nine months ended June 30, 2000, our
general and administrative expenses would have been $9.4 million for the nine
months ended June 30, 2000. We expect that general and administrative expenses
will increase in absolute dollars as we add personnel and incur additional costs
related to the growth of our business and our operation as a public company.
Merger-related Costs. On October 20, 2000, we entered into an agreement,
which was amended on February 15, 2001, to acquire BroadSoft, Inc. in a
stock-for-stock merger. In connection with the merger agreement, we loaned
BroadSoft, Inc. $6.0 million. On June 22, 2001, the merger agreement was
terminated and we established a $6.0 million valuation allowance against the
note receivable and expensed $0.5 million of deferred acquisition costs for the
nine months ended June 30, 2001.
Amortization of Intangible Assets. Our intangible assets include goodwill
and workforce resulting from the acquisitions of Argon, Castle and Redstone. Our
amortization of intangible assets was $84.1 million for the nine months ended
June 30, 2001 and $99.0 million for the nine months ended June 30, 2000. The
decrease in amortization is the result of the write down of the unamortized
goodwill during the nine months ended June 30, 2000, as discussed below.
Impairment of Intangible Assets. During the nine months ended June 30,
2000, we canceled and abandoned Argon's original product development effort,
which was the primary business focus at Argon. The cancellation of the project
was due to continuing technology problems, major delays and insufficient
technical features for the competitive marketplace.
As a result of our cancellation of the Argon gigabit switch router, we
performed an impairment review of the goodwill generated from the Argon
acquisition. At the time this impairment review was performed, we determined
that there would be no future cash flows generated from the Argon development
efforts. Accordingly, during the nine months ended June 30, 2000, we recorded an
impairment charge of $118.5 million for the write-down of the remaining
unamortized value of the Argon goodwill.
We also performed an impairment review of the workforce intangible asset
generated from the Argon acquisition. At the time this impairment review was
performed, we determined that there was a partial impairment of this asset,
based on the higher than expected level of employee turnover. Accordingly,
during the nine months ended June 30, 2000, we recorded an impairment charge of
$0.3 million for the write-down of a portion of the unamortized value of the
Argon workforce intangible asset.
Stock-based Compensation Expenses. Stock-based compensation expenses for
the nine months ended June 30, 2001 consist of $9.9 million of amortization of
deferred compensation related to the excess of the fair market value at the time
of grant over the exercise price of stock options issued to our employees over a
four-year vesting period and $1.3 million of amortization of deferred
compensation expense related to stock options issued to non-employees.
Additionally, stock-based compensation expenses consist of amortization of
deferred compensation, related to employee stock options for which we changed
the exercise price. In April 2000, we changed the exercise price of employee
stock options to purchase 2,344,000 shares of common stock. At June 30, 2001,
stock options for the purchase of 527,000 shares of common stock had been
exercised and stock options for the purchase of 340,000 shares of common stock
had been cancelled. The remaining stock options for
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33
the purchase of 1,477,000 shares of common stock will become exercisable over a
four-year period. During the nine months ended June 30, 2001, we recorded $6.4
million of non-cash compensation income related to these stock options. Deferred
compensation amounts are being amortized over the vesting periods of the
applicable stock options. We cannot estimate the future effect of stock-based
compensation related to employee stock options for which we changed the exercise
price since the determination of variable stock-based compensation expense is
based on the fair market value of our common stock in future periods.
Total stock-based compensation expenses increased from $2.9 million for the
nine months ended June 30, 2000 to $4.8 million for the nine months ended June
30, 2001.
Other Income (Expense). Our other income (expense) consists of interest
income, interest expense and other expenses. Our interest income (expense) was
the result of investing excess cash in overnight investment vehicles and the
interest on the notes receivable from officers, offset by interest expense on
the convertible promissory note to Siemens. Our other expense increased to $3.9
million for the nine months ended June 30, 2001 from $2.0 million for the nine
months ended June 30, 2000, primarily as a result of losses on the disposal of
property and equipment.
YEAR ENDED SEPTEMBER 30, 2000 COMPARED TO PERIOD ENDED SEPTEMBER 30, 1999
Net Revenues. For the year ended September 30, 2000, our net revenues were
$49.6 million, resulting from sales of our ERX edge routers, SMX voice switching
products and related services. A majority of the increase was attributable to
sales of our ERX edge routers and the balance to voice switching products and
related services. For the period ended September 30, 1999, our net revenues were
$2.8 million. For the year ended September 30, 2000, sales to Siemens as a
value-added reseller of our products accounted for 41.0% and sales to ITC
DeltaCom accounted for 28.3%, of net revenues. We anticipate that, as our sales
increase, each of these customers will account for a smaller percentage of our
net revenues. However, we expect to continue to derive a majority of our
revenues from a limited number of customers in the near future.
Total Cost of Revenues. Our cost of revenues increased to $44.1 million,
or 88.9% of net revenues, for the year ended September 30, 2000, from $6.5
million for the period ended September 30, 1999. Cost of revenues included
milestone payments of $1.1 million and $0.9 million to employees resulting from
the acquisitions of Castle and Redstone for the year ended September 30, 2000
and period ended September 30, 1999, respectively, and stock-based compensation
expense of $0.6 million for the year ended September 30, 2000. In addition, we
recorded an $8.3 million inventory provision in the year ended September 30,
2000 relating to excess inventory purchased. This inventory provision was a
result of material component purchases for our first generation SMX products
exceeding the amount needed to satisfy the demand for the finished products.
Demand for the first generation finished products was less than originally
forecasted as a result of our customers' anticipation of, and willingness to
wait for, the release of our second generation SMX product which provides
additional features. We anticipate our cost of revenues will decrease as a
percentage of net revenues in the future as we achieve economies of scale.
Gross Profit (Loss). Our gross profit was $5.5 million, or 11.1% of net
revenues, for the year ended September 30, 2000. Our gross loss was $3.7 million
for the period ended September 30, 1999.
Research and Development Expenses. Our research and development expenses
increased to $112.5 million for the year ended September 30, 2000 from $68.4
million for the period ended September 30, 1999. These expenses included
milestone and retention payments of $25.8 million and $34.9 million to employees
resulting from the acquisitions of Argon, Castle and Redstone for the year ended
September 30, 2000 and period ended September 30, 1999, respectively. The
increase was the result of an increase in personnel and personnel-related
expenses, an increase in non-recurring engineering costs and an increase in the
prototype expenses for the development of our products. Research and development
is essential to our future success and we expect that research and development
expenses, excluding milestone payments, will increase in absolute dollars in the
future.
Sales and Marketing Expenses. Our sales and marketing expenses increased
to $42.9 million for the year ended September 30, 2000 from $20.3 million for
the period ended September 30, 1999. These expenses included milestone and
retention payments of $1.3 million and $3.9 million to employees
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resulting from the acquisitions of Argon, Castle and Redstone for the year ended
September 30, 2000 and period ended September 30, 1999, respectively. During the
latter half of fiscal 1999 and the first half of fiscal 2000, we expanded and we
continue to expand our distribution capabilities both domestically and
internationally. This expansion, as well as our initial advertising and
marketing campaign, resulted in a significant increase in our spending. We
expect that sales and marketing expenses, excluding milestone payments, will
increase in absolute dollars in the future as we hire additional sales personnel
and expand sales offices and distribution channels.
General and Administrative Expenses. Our general and administrative
expenses increased to $14.7 million for the year ended September 30, 2000 from
$13.9 million for the period ended September 30, 1999. These expenses included
milestone payments of $3.0 million and $7.4 million to employees resulting from
the acquisitions of Castle and Redstone for the year ended September 30, 2000
and period ended September 30, 1999, respectively. We expect that general and
administrative expenses, excluding milestone payments, will increase in absolute
dollars as we add personnel and incur additional costs related to the growth of
our business and our operation as a public company.
Amortization of Intangible Assets. Our intangible assets include goodwill
and workforce resulting from the acquisitions of Argon, Castle and Redstone. Our
amortization of intangible assets was $127.0 million for the year ended
September 30, 2000 and $61.6 million for the period ended September 30, 1999.
Impairment of Intangible Assets. During the year ended September 30, 2000,
we canceled and abandoned Argon's original product development effort, which was
the primary business focus at Argon. The cancellation of the project was due to
continuing technology problems, major delays and insufficient technical features
for the competitive marketplace.
As a result of our cancellation of the Argon gigabit switch router, we
performed an impairment review of the goodwill generated from the Argon
acquisition. At the time this impairment review was performed, we determined
that there would be no future cash flows generated from the Argon development
efforts. Accordingly, during the year ended September 30, 2000, we recorded an
impairment charge of $118.5 million for the writedown of the remaining
unamortized value of the Argon goodwill.
We also performed an impairment review of the workforce intangible asset
generated from the Argon acquisition. At the time this impairment review was
performed, we determined that there was a partial impairment of this asset,
based on the higher than expected level of employee turnover experienced to
date. Accordingly, during the year ended September 30, 2000, we recorded an
impairment charge of $0.3 million for the writedown of a portion of the
unamortized value of the Argon workforce intangible asset.
Stock-based Compensation Expenses. Stock-based compensation expenses
consist of $9.5 million of amortization of deferred compensation related to the
excess of the fair market value at the time of grant over the exercise price of
restricted common stock and stock options issued to our employees over a four-
year straight-line vesting period and $0.6 million of amortization of
compensation expense related to non-employee stock options.
Additionally, stock-based compensation expenses consist of amortization of
deferred compensation, related to employee stock options for which we changed
the exercise price. In April 2000, we changed the exercise price of employee
stock options to purchase 2,344,000 shares of common stock. At September 30,
2000, stock options for the purchase of 370,000 shares of common stock had been
exercised and stock options for the purchase of 146,000 shares of common stock
had been cancelled. The remaining stock options for the purchase of 1,828,000
shares of common stock will become exercisable over a four-year period. During
the year ended September 30, 2000, we recorded $22.7 million in deferred
compensation and $11.7 million of non-cash compensation expense related to these
stock options. Deferred compensation amounts are being amortized over the
vesting periods of the applicable stock options. We cannot estimate the future
effect of stock-based compensation related to employee stock options for which
we changed the exercise price since the determination of variable stock-based
compensation expense is based on the fair market value of our common stock in
future periods.
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Stock-based compensation expenses increased from zero for the period ended
September 30, 1999 to $21.8 million for the year ended September 30, 2000.
Other Income (Expense). Our other income (expense) consists of interest
income and a loss on the disposal of fixed assets. Our interest income (expense)
was the result of investing excess cash in overnight investment vehicles and the
interest on the notes receivable from officers. Our interest income increased to
$0.7 million for the year ended September 30, 2000 from $0.2 million for the
period ended September 30, 1999. Our disposal of fixed assets related to the
cancellation and abandonment of the Argon gigabit switch router project and from
the consolidation of redundant facilities and functions in the year ended
September 30, 2000. Our loss on the disposal of fixed assets was $2.2 million.
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Quarterly Results of Operations
The following table presents our historical operating results for the three
months ended June 30, 1999, September 30, 1999, December 31, 1999, March 31,
2000, June 30, 2000, September 30, 2000, December 31, 2000, March 31, 2001 and
June 30, 2001. In addition, we have included a table to present the milestone
payments included in the operating results for those periods. The information
for each of these periods is unaudited and has been prepared on the same basis
as the audited consolidated financial statements appearing elsewhere in this
prospectus. We believe that all necessary adjustments, consisting only of normal
recurring adjustments, have been included to present fairly the unaudited
consolidated quarterly results when read in conjunction with our audited
consolidated financial statements and related notes appearing elsewhere in this
prospectus. These operating results are not necessarily indicative of the
results of any future period.
<Table>
<Caption>
FOR THE THREE MONTHS ENDED
-------------------------------------------------------------------------------
JUNE 30, SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30,
1999 1999 1999 2000 2000 2000
--------- ------------- ------------ --------- -------- -------------
(IN THOUSANDS, UNAUDITED)
Net revenues:
Third parties............ $ 391 $ 636 $ 3,142 $ 8,610 $ 9,430 $ 8,103
Related parties.......... 59 1,727 4,338 1,877 4,601 9,527
--------- --------- -------- --------- -------- --------
Net revenues......... 450 2,363 7,480 10,487 14,031 17,630
Cost of revenues:
Cost of revenues,
excluding stock-based
compensation......... 1,556 4,929 5,192 17,470 9,360 11,454
Stock-based
compensation......... -- -- -- -- 51 593
--------- --------- -------- --------- -------- --------
Total cost of
revenues.......... 1,556 4,929 5,192 17,470 9,411 12,047
--------- --------- -------- --------- -------- --------
Gross profit
(loss)............. (1,106) (2,566) 2,288 (6,983) 4,620 5,583
Operating expenses:
Research and
development(1)......... 14,486 52,987 21,812 40,954 25,677 24,008
Sales and marketing(1)... 5,319 14,908 12,094 8,903 10,579 11,298
General and
administrative(1)...... 4,361 9,512 2,795 7,546 2,093 2,302
Amortization of
intangible assets...... 26,149 35,480 35,480 35,480 28,036 28,037
Merger-related costs..... -- -- -- -- -- --
Impairment of intangible
assets................. -- -- -- 118,810 -- --
Purchased in-process
research and
development............ 181,000 -- -- -- -- --
Stock-based
compensation........... -- -- -- -- 2,814 19,006
--------- --------- -------- --------- -------- --------
Total operating
expenses........... 231,315 112,887 72,181 211,693 69,199 84,651
--------- --------- -------- --------- -------- --------
Loss from
operations......... (232,421) (115,453) (69,893) (218,676) (64,579) (79,068)
Other income (expense).... -- -- -- (1,975) -- (189)
Interest income
(expense)................ 148 51 117 120 84 377
--------- --------- -------- --------- -------- --------
Net loss............. $(232,273) $(115,402) $(69,776) $(220,531) $(64,495) $(78,880)
========= ========= ======== ========= ======== ========
<Caption>
FOR THE THREE MONTHS ENDED
-----------------------------------
DECEMBER 31, MARCH 31, JUNE 30,
2000 2001 2001
------------ --------- --------
(IN THOUSANDS, UNAUDITED)
Net revenues:
Third parties............ $ 17,987 $ 30,078 $ 40,368
Related parties.......... 12,075 14,002 12,701
-------- -------- --------
Net revenues......... 30,062 44,080 53,069
Cost of revenues:
Cost of revenues,
excluding stock-based
compensation......... 18,028 24,658 27,670
Stock-based
compensation......... 140 117 18
-------- -------- --------
Total cost of
revenues.......... 18,168 24,775 27,688
-------- -------- --------
Gross profit
(loss)............. 11,894 19,305 25,381
Operating expenses:
Research and
development(1)......... 21,522 24,148 25,390
Sales and marketing(1)... 12,027 12,922 14,466
General and
administrative(1)...... 2,835 3,120 3,489
Amortization of
intangible assets...... 28,037 28,037 28,039
Merger-related costs..... -- -- 6,508
Impairment of intangible
assets................. -- -- --
Purchased in-process
research and
development............ -- -- --
Stock-based
compensation........... 3,722 2,162 (1,375)
-------- -------- --------
Total operating
expenses........... 68,143 70,389 76,517
-------- -------- --------
Loss from
operations......... (56,249) (51,084) (51,136)
Other income (expense).... (32) 64 (3,962)
Interest income
(expense)................ 540 (359) (377)
-------- -------- --------
Net loss............. $(55,741) $(51,379) $(55,475)
======== ======== ========
</Table>
- ---------------------
(1) Excludes non-cash, stock-based compensation expense (income) as follows:
<Table>
<Caption>
Research and
development.............. -- -- -- -- $ 1,639 $ 7,573 $ 1,160
Sales and marketing....... -- -- -- -- 548 4,205 613
General and
administrative........... -- -- -- -- 627 7,228 1,949
--------- --------- -------- --------- -------- -------- --------
-- -- -- -- $ 2,814 $ 19,006 $ 3,722
========= ========= ======== ========= ======== ======== ========
<Caption>
Research and
development.............. $ 552 $ (2,513)
Sales and marketing....... (276) (102)
General and
administrative........... 1,886 1,240
-------- --------
$ 2,162 $ (1,375)
======== ========
</Table>
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The table below reflects the milestone payments included in the expense
classifications above:
<Table>
<Caption>
FOR THE THREE MONTHS ENDED
------------------------------------------------------------------------------
JUNE 30, SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30,
1999 1999 1999 2000 2000 2000
-------- ------------- ------------ --------- -------- -------------
(IN THOUSANDS, UNAUDITED)
Cost of revenues....... $ -- $ 923 $ -- $ 1,051 $ -- $ --
Research and
development.......... 1,070 33,825 3,477 18,118 1,977 2,201
Sales and marketing.... -- 3,919 -- 1,278 -- --
General and
administrative....... -- 7,403 -- 3,031 -- --
------ ------- ------ ------- ------ ------
Total milestone
payments....... $1,070 $46,070 $3,477 $23,478 $1,977 $2,201
====== ======= ====== ======= ====== ======
<Caption>
FOR THE THREE MONTHS ENDED
-----------------------------------
DECEMBER 31, MARCH 31, JUNE 30,
2000 2001 2001
------------ --------- --------
(IN THOUSANDS, UNAUDITED)
Cost of revenues....... $ -- $ -- $ --
Research and
development.......... -- -- --
Sales and marketing.... -- --
General and
administrative....... -- -- --
------ ------ ------
Total milestone
payments....... $ -- $ -- $ --
====== ====== ======
</Table>
Net revenues increased primarily as a result of increased sales and related
services of our ERX edge routers. Sales to Siemens as a value-added reseller of
our products fluctuate from quarter to quarter as a result of the timing of
orders by Siemens' customers.
Cost of revenues increased significantly in the quarter ended March 31,
2000 primarily as a result of recording an $8.3 million inventory provision
relating to excess inventory and a $1.1 million charge for milestone payments as
noted above. In addition, during the quarter ended March 31, 2000, we
significantly increased our customer service headcount to meet anticipated
future demand. These customer service employees were primarily focused on
product education and training.
Research and development expenses decreased in the quarters ended December
31, 2000 and September 30, 2000 due to the timing of engineering material
received and non-recurring engineering charges.
Sales and marketing expenses have fluctuated over the past nine quarters
based on initial investments in new product launches and the opening of new
sales offices. Excluding the milestone payments of $3.9 million in the three
months ended September 30, 1999, our sales and marketing expenses during the
three months ended September 30, 1999 and December 31, 1999 included large
investments in advertising and marketing to promote our company and products.
The investment consisted of an initial advertising and marketing campaign and
the shipment of evaluation units to potential customers. During the three months
ended March 31, 2000, we reduced our advertising and marketing investment after
completion of our initial product launches and marketing campaign.
General and administrative expenses have fluctuated over the past nine
quarters based on our initial investments and organizational changes. During the
three months ended June 30, 1999, we incurred startup costs consisting of
relocation, recruiting and general organization investments that account for our
higher than normal operating expenses. During the three months ended March 31,
2000, we incurred severance costs of approximately $0.9 million related to
management changes.
Our operating expenses are largely based on anticipated organizational
growth and revenue trends. As a result, a delay in generating or recognizing
revenues could cause significant variations in our operating results. We believe
that quarter-to-quarter comparisons of our operating results are not a good
indication of our future performance.
Liquidity and Capital Resources
Historically, Siemens has funded our operations as needed. We expect that
Siemens will continue to fund our operations until the completion of this
offering through various financial instruments. However, after the completion of
this offering, Siemens has no obligation to provide us with additional funds and
we will be required to fund our operations independently. In June 1999, Siemens
contributed the stock of Argon, Castle and Redstone to us and we recorded the
issuance of common stock to Siemens in the amount of $258.4 million and an
additional equity contribution of $691.6 million. In addition, through June 30,
2001, Siemens contributed $284.7 million to us through capital contributions to
fund our operations. In February 2001, we issued an amended and restated
convertible promissory note to Siemens, pursuant to which they have loaned us
$67.0 million. The note accrues interest at 7.25% per year. The principal and
accrued interest are due at the earlier of November 16, 2001 or the closing of
our initial
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public offering. Our obligations under the note may be accelerated if an event
of default occurs under the note. The promissory note will convert into shares
of our common stock at the time of the closing of our initial public offering.
The number of shares to be issued upon such conversion is equal to the sum of
the principal amount of the note plus accrued interest divided by our per share
initial public offering price. Upon the November 16, 2001 due date or any
accelerated due date, if not earlier converted, Siemens has the option to
convert the note at the then fair market value of our common stock.
Net cash used in operating activities was $21.9 million for the nine months
ended June 30, 2001 and $154.3 million for the nine months ended June 30, 2000.
Net cash flows from operating activities include our net loss and increases in
accounts receivable, prepaid expenses and other current assets, inventory, and
the payment of milestone achievements, offset in part by depreciation and
amortization and increases in accounts payable, accrued expenses and deferred
revenue.
Our accounts receivable increased to $8.5 million at June 30, 2001 from
$8.4 million at September 30, 2000 and $3.4 million at September 30, 1999. In
connection with the increase in net revenues and accounts receivable, we
established a sales returns and allowance reserve of $1.1 million and an
allowance for doubtful accounts of $0.8 million during the year ended September
30, 2000 and increased these reserves to $2.5 million and $1.1 million,
respectively, during the nine months ended June 30, 2001. These provisions were
established to account for returns and collection problems that arise in the
ordinary course of business. There have been no material changes in our credit
collection policies nor have we to date experienced any payment delays due to
product disputes.
Net cash used in investing activities was $32.7 million for the nine months
ended June 30, 2001 and $28.3 million for the nine months ended June 30, 2000.
Net cash used for investing activities primarily reflects purchases of property
and equipment, primarily computers and test equipment for product development
and final assembly and test and leasehold improvements for our new facility.
Net cash provided by financing activities was $93.3 million for the nine
months ended June 30, 2001 and $175.2 million for the nine months ended June 30,
2000. Net cash provided by financing activities for these periods was derived
primarily from capital contributions from Siemens, the $67.0 million convertible
promissory note issued to Siemens, and the exercise of stock options by
employees.
We incurred a significant working capital deficit in the nine months ended
June 30, 2001, the year ended September 30, 2000 and in the period ended
September 30, 1999, and we expect to continue to incur negative cash flow for
the foreseeable future. However, we believe that the net proceeds from this
offering, together with the capital or other contributions or financial
instruments obtained from Siemens through the closing of this offering and our
current cash and cash equivalents, will be sufficient to meet our anticipated
cash needs for working capital and capital expenditures for at least 12 months
and, therefore, we do not expect the transition from funding by Siemens to
independent funding following this offering to have a material effect on our
financial condition or results of operations. If our existing resources,
proceeds from this offering and cash generated from operations are insufficient
to satisfy our liquidity requirements, we may seek to sell additional equity or
debt securities. The sale of additional equity or convertible debt securities
could result in additional dilution to our stockholders, and we cannot be
certain that additional financing will be available in amounts or on terms
acceptable to us, if at all. If we are unable to obtain this additional
financing, we may be required to reduce the scope of our planned product
development and sales and marketing efforts, which could harm our business,
financial condition and operating results.
Recently Issued Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Other
Intangible Assets." SFAS 142 addresses financial accounting and reporting for
acquired goodwill and other intangible assets, including how goodwill and other
intangible assets should be accounted for after they have been initially
recognized. SFAS 142 provides that goodwill and intangible assets that have
indefinite useful lives not be amortized but rather be tested at least annually
for impairment; intangible assets with finite useful lives will continue to be
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39
amortized over their useful lives. SFAS 142 also provides specific guidance for
testing goodwill for impairment. We plan to adopt SFAS 142 for the fiscal year
beginning October 1, 2001. We are currently assessing the impact of adopting
SFAS 142 on our financial position and results of operations.
MARKET RISK
We do not currently use derivative financial instruments. We generally
invest our cash equivalents in high-quality credit instruments. We do not expect
any material loss from our cash equivalents and therefore believe that our
potential interest rate exposure is not material.
We do not currently invoice customers in any currency other than the United
States dollar. In addition, we do not currently incur significant expenses
denominated in foreign currencies. Therefore, we believe we are not currently
subject to significant risk as a result of currency fluctuations. As our
business continues to grow and expand into additional foreign countries, we may
incur a higher level of foreign currency denominated expenses and may begin to
transact with customers in certain foreign currencies. We do not have any
derivative hedging instruments as of June 30, 2001, nor do we have any plans to
enter into such derivative instruments. As foreign currency transaction levels
increase, we will evaluate the benefits of entering into hedging activities to
reduce our potential risk from foreign currency fluctuations.
IN PROCESS RESEARCH AND DEVELOPMENT
We allocated $36.4 million to in-process research and development for the
gigabit switch router technology in connection with the Argon acquisition, $79.3
million for the voice switching technology in connection with the Castle
acquisition and $101.7 million for the edge router technology in connection with
the Redstone acquisition. These allocations to in-process research and
development represented the estimated fair value based on risk-adjusted cash
flows related to the incomplete products. At the dates of acquisition, the
development of these projects had not yet reached technological feasibility and
the research and development in progress had no alternative future uses.
Accordingly, we expensed these costs as of the acquisition dates.
We assessed and allocated values to the in-process research and
development. The value assigned to this asset was determined by identifying
significant research projects for which technological feasibility had not been
established, including development, engineering and testing activities
associated with the introduction of these products. At the time of each
acquisition, the acquired companies had not developed any products or technology
and had not generated any revenues. At the time of the acquisitions, the Argon
project was estimated to be 51% complete, the Castle project was estimated to be
65% complete and the Redstone project was estimated to be 76% complete. We
derived the stage of completion factor for each in-process project based on a
comparison of hours and costs invested from project inception through the
acquisition date for each project and estimates of the hours and costs remaining
to achieve technological feasibility for each in-process project. Each project
included some software and hardware components that are considered complex and
unique technology. Argon had completed various hardware platform testing and
certain software; Castle had completed various field trials with its base
system; and Redstone had completed its hardware design. The cumulative research
and development costs at the time of acquisition for each of the acquired
companies were $21.2 million for Argon, $16.2 million for Castle and $30.3
million for Redstone.
The nature of the efforts to develop the acquired in-process technology
into commercially viable products principally related to the completion of all
planning, designing, prototyping, high-volume verification and testing
activities that were necessary to establish that the proposed technologies met
their design specifications, including functional, technical and economic
performance requirements. Anticipated completion dates for the projects in
progress were expected to occur during the year following each acquisition and
we expected to begin generating the economic benefits from each of the acquired
technologies shortly after completion. Funding for such projects would have been
obtained from capital contributions from Siemens.
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40
The value assigned to purchased in-process technology was determined using
the income approach, and included estimating the costs to develop the purchased
in-process technology into commercially viable products, estimating the
resulting net cash flows from the projects and discounting the net cash flows to
their present value. The revenue projections used to value the in-process
research and development were based on estimates of relevant market sizes and
growth factors, expected trends in technology and the nature and expected timing
of new product introductions by us and our competitors.
The rates utilized to discount the net cash flows to their present value
were based on venture capital rates of return. Due to the nature of the
forecasts and the risks associated with the projected growth, profitability and
developmental projects, a discount rate was used for the business enterprise and
for the in-process research and development. The discount rate used was 30% for
Argon, 27% for Castle and 25% for Redstone. We believed these rates were
appropriate because they were commensurate with each acquired company's stage of
development, the uncertainties in the economic estimates described above, the
inherent uncertainty surrounding the successful development of the purchased
in-process technologies, the useful life and the profitability levels of these
technologies and the uncertainty of technological advances that were unknown at
that time.
Argon's technology developments have not met the forecasted assumptions at
the time of the acquisition and therefore, during the second quarter of fiscal
2000, we cancelled the existing development effort of the Argon technology. The
cancellation of the project was due to continuing technology problems, major
delays and insufficient technical features for the competitive marketplace.
As a result of the cancellation of the Argon technology, we performed an
impairment review of the goodwill generated from the Argon acquisition. At the
time this impairment review was performed, it was determined that there would be
no future cash flows generated from the Argon development efforts. Accordingly,
in March 2000, we recorded an impairment charge of $118.5 million for the
writedown of the remaining unamortized value of the Argon goodwill.
Castle's and Redstone's in-process technologies were completed within the
anticipated time schedules for these projects. Initial customer shipments were
made in September 1999. To date, the Castle and Redstone products have not
achieved the financial results forecasted at the time of the acquisitions.
During the fiscal year ended September 30, 2000, actual revenues were
significantly lower than expected revenues as a result of longer than expected
sales cycles with significant prospective customers and additional time required
to build internal sales infrastructure and distribution channels. The lower than
expected revenues and resulting cash flows has not had, nor is expected to have,
any material adverse impact on our results of operations, including the
recoverability of intangible assets.
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BUSINESS
OVERVIEW
We provide data and voice networking products to communications service
providers. Our suite of products enables communications service providers to
offer value-added, integrated voice and high-speed data services to business and
residential users. The markets for our products include IP routing, broadband
access and next-generation voice switching. Our target customers include
established and new domestic and international service providers, cable
operators and wireless and wireline carriers.
Our ERX edge routing products connect and manage large numbers of business
subscribers at the edge of the service provider's network using dedicated
network connections, such as T1/E1, T3/E3, ethernet and optical interfaces. Our
ERX broadband access products connect and manage large numbers of business and
residential subscribers to the internet using any of the broadband, or
high-speed, access technologies, such as digital subscriber line, or DSL, cable,
ethernet and wireless. We believe IP routing and broadband access are essential
for the efficient and reliable delivery of both data and voice traffic over the
internet and other packet-based networks.
Our SMX and SRX voice switching products enable traditional and new voice
services to be delivered over packet-based networks. We believe that
packet-based networks offer a more flexible, efficient and cost effective means
of delivering services than traditional circuit-based networks. Our SMX-2100
Intelligent Gateway converts legacy voice traffic to packet format.
Additionally, our SMX-2100 can be used to divert dial-up internet traffic away
from circuit switches, thereby reducing the service providers' need to invest in
additional circuit switched equipment. Our SRX-3000 Softswitch provides the call
signaling and control function for the SMX-2100. These products, combined with
our Unisphere Management Center network and service management software, provide
integrated solutions that support communications traffic ranging from basic
voice services to value-added, high-speed data services.
We believe the use and functionality of the internet and other packet-based
networks will continue to grow at significant rates. The increasing use of
services and applications such as virtual private networks, email, e-commerce,
online research, telecommuting and streaming video has led to dramatic growth in
the volume of information transported over the internet and other packet-based
networks. Communications service providers have responded by investing
significant resources to build packet-based networks. These packet-based
networks expand upon, and we believe ultimately will replace, the capabilities
and functionality of the traditional telephone network. This evolution into the
new public network requires new communications equipment that can deliver the
high levels of reliability users require of a public network. We offer high
performance, scalable data and voice hardware and software products that are
specifically designed to meet these requirements.
INDUSTRY BACKGROUND
Data Traffic is Growing More Rapidly than Voice Traffic
The internet and other packet-based networks have become an integral
communications medium for many consumers, businesses, students and others. The
increasing use of services and applications such as virtual private networks,
email, e-commerce, online research, telecommuting and streaming and broadcast
video has led to a dramatic growth in the volume of information transported over
the internet and other packet-based networks. The large amount of data traffic
has burdened both the traditional telephone network and the internet and other
packet-based networks. Communications service providers have responded by
investing significant resources to build and expand data networks and increase
bandwidth.
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The Traditional Circuit-Switched Telephone Network is Inefficient
Although the traditional telephone network is highly reliable in
transporting voice traffic, it is inefficient in carrying combined voice and
data traffic. It is a circuit-switched network that delivers voice traffic by
establishing a dedicated path, or circuit, for the duration of each call. A
dedicated circuit is inefficient because it provides substantially more network
capacity than is required to support a voice conversation, particularly during
pauses in a conversation. The inefficiency of the traditional telephone network
is even greater when it is used to carry data traffic, which is characterized by
larger bursts of traffic followed by longer periods of inactivity. The larger
bursts of data traffic often exceed the capacity of the circuit, which can
result in slow performance or a failed connection. The longer periods of
inactivity between bursts of data traffic result in large amounts of unutilized
network capacity on the dedicated circuit and inefficient use of the network
overall.
Packet-Based Networks are More Efficient
Unlike the traditional telephone network, packet-based networks such as the
internet aggregate and transport data from multiple users over shared network
connections. Data traffic is divided into small bundles called packets, which we
believe offer a more flexible, efficient and cost-effective means of delivering
services than traditional circuit-based networks. The aggregation of packets
from multiple users enables communications service providers to better utilize
available network capacity, thereby reducing their equipment and operating
costs. The efficient use of network capacity has become increasingly important
due to the growing number of internet users and the larger variety of
applications and content being downloaded from the internet, including rich web
content such as complex graphics and streaming video and audio. This substantial
growth in data traffic is driving service providers to build large-scale packet
networks in order to provide better service at a lower cost.
The Internet and Other Packet-Based Networks are Evolving Into the New Public
Network
The growing importance of the internet and other packet-based networks and
their efficiency and scalability, coupled with the inefficiency of the
traditional telephone network in transporting data traffic, position
packet-based networks to become the new public network for providing data, voice
and other services. The co-existence of the traditional telephone network and
packet-based networks requires investment in and maintenance of disparate
networks to provide services to a common user. Substantial savings can be
realized by providing these services over a single network. These savings
include the elimination of duplicative or overlapping equipment purchases, the
reduction in network operating costs and the rapid deployment of new services.
Users Increasingly Demand High-Speed Internet Connections
With the increasing importance of the internet, users are demanding
high-speed internet access. Users have traditionally connected to the internet
using dial-up connections over traditional telephone lines. This access method
often causes dropped connections, delays in access and slow performance. Several
minutes are often required to access a multi-media web site and several hours
may be required to transfer or download large files. As a result, users are
demanding higher-speed connections. Business users are connecting to the
internet using dedicated network connections, such as T1/E1, T3/E3, ethernet and
optical interfaces. Smaller businesses and residential users are connecting to
the internet using emerging high-speed internet connections, including DSL,
cable, ethernet and wireless. These high-speed internet connections provide
"always on" availability and eliminate the tedious dial-up process and
uncertainties associated with dial-up connections.
Service Providers Compete by Offering Value-Added Services
As new entrants in the communications service provider industry emerge, the
delivery of high-speed connectivity is becoming intensely competitive. This
competition contributes to the rapid decline in the price of bandwidth that
communications service providers may charge their customers. To offset this
price
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erosion, service providers are offering integrated data and voice services,
which require high-speed internet connections. In addition, service providers
are seeking to retain and grow their user bases and increase their profitability
by offering value-added services such as security, remote data storage and
virtual private data networks over high-speed internet connections.
REQUIREMENTS OF THE NEW PUBLIC NETWORK
We believe that the internet and other packet-based networks will evolve
into a new public network that is capable of delivering mission-critical data
and voice communications and services. This new network must expand upon the
scalability and efficiencies of packet networks in moving data and minimizing
equipment and operating costs. In addition, the new public network must enable
communications service providers to deliver revenue-generating data and voice
services to business and residential users. To meet these requirements,
communications products for the new public network must offer the following
benefits:
Evolutionary Path to the New Public Network. Communications equipment for
the new public network must integrate seamlessly with the traditional telephone
network. Given the substantial investment in the traditional telephone network,
the transition to the new public network will be gradual. The shift to the new
public network must be nondisruptive to users. We believe next-generation
products used in this new environment must first reduce the burden on overloaded
and expensive circuit switches by offloading data traffic onto the new public
network. The continued transport of data and voice traffic between the
circuit-switched and packet networks will allow communications service providers
to migrate to the new public network while maintaining undisrupted service and
revenue streams from existing equipment. Ultimately, next-generation products
must enable service providers to build incremental data and voice traffic
capacity and offer value-added services on the new public network.
Provide Scalability, Performance and Reliability. Communications service
providers' central offices typically support tens or even hundreds of thousands
of data and voice subscriber sessions. The new public network must allow service
providers to increase easily their service offerings and network capacity as
demand increases. As voice traffic is moved onto the new public network, users
will demand from their communications service providers the same quality of
service and functionality that they are accustomed to with the traditional
telephone network. Because communications service providers operate complex
networks and must carry mission-critical traffic, they adhere to internal and
industry reliability requirements.
Reduce Costs Per Connection. To be economically attractive, the new public
network must provide clear advantages over the traditional telephone network to
communications service providers in terms of cost per connection, space occupied
and power consumption.
Support Growth in High-Speed Internet Connections. With the growth in
high-speed internet connections, communications service providers must manage
hundreds of thousands of new user connections and provide high-speed routing of
data to and from the internet. These management and routing functions include
connectivity, provisioning, authentication and accounting. In addition, many
communications service providers require the ability to support dedicated
connections, such as T1/E1, T3/E3, ethernet and optical interfaces, and multiple
types of high-speed internet connections at a single central office location,
including DSL, cable, ethernet and wireless.
Provide New Revenue Generating Services. As competition among
communications service providers continues to escalate, they must differentiate
themselves by offering value-added services that can be offered with high-speed
internet connections. These value-added services help to increase revenue and
profits for communications service providers. In addition, these value-added
services reduce customer turnover by encouraging users to consider the total
cost of replacing multiple services and to evaluate the risk of transitioning
business critical services to a new service provider. As a result, the new
public network must be based on open standard architecture that allows the
development of innovative data and voice services.
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OUR SOLUTION
We develop, market and support data and voice networking products for the
new public network. Our suite of products enables communications service
providers to offer value-added, integrated voice and high-speed data services to
business and residential users. We believe our solutions enable a nondisruptive
migration to the new public network. We design and market next-generation:
- Edge routing products;
- Broadband access products;
- Voice switching products; and
- Network and service management products.
Our products are designed to provide highly reliable, cost efficient,
scalable and flexible network solutions that interoperate with existing network
equipment and shorten the time required to introduce new network features and
services. We believe our products provide the following competitive benefits:
Provide an Evolutionary Migration Path to the New Public Network. Our
products integrate the hardware and software needed to migrate data and voice
traffic from the traditional telephone network to the new public network. This
migration to a packet-based network is performed as a series of steps that
minimize the risk of disrupting service or compromising the performance and
quality users have come to expect from the traditional telephone network. Our
products permit the network to identify where traffic is coming from, which
services are being used and by which customers. With this information,
communications service providers' networks can intelligently match the specific
requirements of the user or application with the network resources needed to
maintain the performance, reliability and service level guarantees required for
individual or business-critical applications.
Our products interoperate with existing routers and switches as well as
with existing software applications such as billing and customer care. This can
preserve the customer's investment and reduce the cost and complexity of product
deployment. Our products provide an advantage to communications service
providers by permitting them to use both circuit-switched and packet-based
networks for both data and voice services, without first requiring that the data
and voice networks be integrated into a single network infrastructure. This
enables service providers to migrate to the new public network with minimal
disruption to users.
Meet the Scalability, Performance and High Reliability Requirements of the
New Public Network. Our modular ERX-1400/700 edge routers and SMX-2100 and
SRX-3000 voice switching products provide a significant advantage to
communications service providers by allowing their networks to scale. Our
products provide service providers with the ability to increase the number of
users, bandwidth or services of a single system as demand increases. Our product
architecture combines software and high-speed microprocessor technology with
ASICs, which enable a superior level of performance for users regardless of the
applications and services being used. Our products are engineered to comply with
rigorous industry standards for reliability and safety. They are designed to be
fully redundant and thereby ensure continuous operations in the event of a
network or component failure. Our ERX-1400/700 edge routers and SMX-2100 and
SRX-3000 voice switching products have all obtained Telcordia Technologies
Network Equipment Building System, or NEBS, certification.
Reduce Cost Per User/Connection. We believe that the price and performance
of our products offer communications service providers a competitive advantage
by reducing their cost per user/connection to deploy data and voice services.
Our products are designed to reduce costs by supporting more users and
connections and by decreasing network complexity through the integration of
multiple systems functions into a single product. For example, our SMX-2100
voice switching product is a less expensive alternative to the traditional
telephone circuit switch, and our ERX edge routers offer a channelized optical
interface that lowers the cost of leased line access. In addition, the modular
design of our edge routers and voice switching products allows service providers
to add incremental revenues by installing new service modules into existing
equipment.
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Support Multiple High-Speed Access Technologies. Our ERX products are
designed to allow simultaneous delivery of high-speed services over dedicated
connections, such as T1/E1, T3/E3, ethernet and optical interfaces, as well as
over DSL, cable, ethernet and wireless connections from a single system. By
delivering multiple high-speed access services from a single system
simultaneously, our products reduce the need to purchase, install and operate
multiple pieces of equipment. In addition to supporting these services, our
products combine routing functionality with subscriber management to provide a
competitive advantage to communications service providers.
Deliver New High-Value Data and Voice Services. The combination of our
software and hardware allows communications service providers to deploy new
high-value data and voice services. Our ERX products support value-added data
services for business-critical applications across the internet, such as virtual
private networks and priority service levels, or IP quality of service.
Additionally, our SMX products enable new voice services such as unified
messaging, which brings voice messaging and electronic mail together into a
single service. Our Unisphere Management Center products employ a graphical
JAVA-based development environment that allows communications service providers
to quickly create or modify new services for deployment. In addition, our
Service Selection Center enables subscribers to customize and activate their
services using standard web browsers.
OUR STRATEGY
Our objective is to be a leading supplier of data and voice networking
products for the new public network that enable communications service providers
to offer value-added, integrated voice and high-speed data services to business
and residential users. Key elements of our strategy include:
Leverage Our Combined Data and Voice Technology Expertise. We intend to
leverage our expertise in both data and voice technologies to offer
comprehensive solutions that enable our customers to deploy and manage
integrated data and voice services. Our highly experienced team of engineers, as
well as our software, ASIC technology and product architectures, are key
elements of our technology expertise. For example, we believe our ERX edge
router was the first to integrate software and ASIC technology to provide wire
speed routing for the edge of the service providers' network. Wire speed routing
means that our products are able to route data packets as quickly as the
connection is able to deliver these packets. We believe our technological
expertise will enable us to be a leading provider of products facilitating next-
generation services across existing and emerging networks.
Expand and Broaden Our Customer Base. We intend to penetrate further our
existing customer base and obtain new customers by leveraging our technological
expertise and by aggressively investing in sales and marketing efforts. We
believe our products offer significant price and performance advantages to
communications service providers deploying advanced data and voice services.
Currently, our products are used by leading communications service providers
such as Bloomberg, Cable & Wireless, Deutsche Telekom, Global Crossing, ITC
Deltacom, Korea Telecom, Pacific Century CyberWorks HKT, Portugal Telecom, Time
Warner Telecom and XO Communications. Our target customers consist of
established and new communications service providers, including long distance
and international telephone companies, internet service providers, cable
operators and carriers that provide services to other carriers.
Expand Global Sales and Distribution Capabilities. We plan to continue to
expand our global presence by increasing the size of our direct sales force and
by opening new domestic and international sales offices. We have offices in each
of three regions: North and South America; Asia and the Pacific; Europe, Middle
East and Africa. In addition, we are adding sales and support representatives at
our headquarters in Massachusetts to support our expanding worldwide direct
sales force. To complement our direct sales force, we have entered into
value-added reseller and other sales and distribution relationships.
Continue to Work Closely with Key Customers. We intend to continue to work
extensively with our customers to enhance our current products and to develop
new products to meet their future requirements. We have developed our products
with significant input from our customers and work with our customers to provide
customized solutions and product enhancements to meet their specific needs. Our
customer
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relationships provide insight into market requirements for new data and voice
services, which is critical to providing timely and innovative solutions to our
current and future customers.
Broaden Our Product Offerings Through Internal Investment, Partnerships and
Acquisitions. Through continued investment in research and development, we
intend to broaden our product offerings and functionality and to expand into
complementary markets. We intend to continue to develop products that address
the competitive demands of communications service providers to enable them to
effectively deploy the new public network. We are in the process of developing
higher-capacity IP routing and voice switching products to meet the growing
bandwidth demands of communications service providers.
We have entered into strategic partnerships and plan to continue to do so
to complement our existing product offerings. For example, we have partnerships
with Hewlett-Packard and Micromuse to establish a broader portfolio of network
management products. In addition, we plan to pursue selective acquisition
opportunities as they may arise to enhance further our product offerings.
PRODUCTS
Our suite of products is designed to enable communications service
providers to offer value-added, high-speed data and integrated voice services to
business and residential users. It consists of our following carrier-class
products:
- ERX-1400 and ERX-700 Edge Routing Switches and our Subscriber Access
Feature Pack Software;
- SMX-2100 Intelligent Gateway;
- SRX-3000 Softswitch; and
- Unisphere Management Center.
ERX-1400 AND ERX-700 EDGE ROUTING SWITCHES WITH SUBSCRIBER ACCESS FEATURE PACK
Our ERX-1400 and ERX-700 Edge Routing Switches are next-generation routing
devices designed to provide the features required at the edge of communications
service providers' networks. Our ERX Edge Routing Switches aggregate thousands
of private line connections over T1/E1, T3/E3, OC3/STM1, OC12/STM4 optical
interfaces, fast ethernet and gigabit ethernet. Unlike conventional routers that
were originally developed for small-scale enterprise applications and are
increasingly inadequate in large-scale service provider networks, our ERX Edge
Routing Switches are specifically designed to accommodate the size and scope of
the new public network. By providing high port density, wire-speed forwarding
performance, carrier-class reliability and support for new value-added services,
our ERX Edge Routing Switches meet the large-scale deployment requirements of
communications service providers. Our ERX edge routers support a full suite of
routing protocols, including MPLS (for both traffic engineering and VPN
creation), BGP-4, IS-IS, OSPF and RIP. Our ERX-1440 is in the early stages of
testing and has not yet been commercially deployed.
With the addition of our optional broadband access software, Subscriber
Access Feature Pack, our ERX edge routers can be placed between digital
subscriber line access multiplexers, or DSLAMs, and internet backbone routers,
providing termination and aggregation for up to 32,000 broadband connections.
This software option is designed to support the rapid deployment of broadband
services while reducing the complexity and cost of subscriber management. Our
software integrates with communications service providers' existing back office
support to provide authentication, authorization and accounting, as well as
service selection and billing support.
Our ERX-1400 is offered in a modular, 14-slot chassis with a switch fabric
that operates at up to 10 Gbps. Our ERX-1440 will be offered in a modular,
14-slot chassis with a switch fabric that operates at up to 40 Gbps. Our ERX
edge routers support a wide range of interface options, including channelized
T1/E1, HSSI, channelized T3, unchannelized T3/E3, OC-3/STM1, channelized
OC-3/STM1 OC-12/STM4, channelized OC-12/STM4, fast ethernet and gigabit
ethernet. Our ERX-700, designed for applications that require mid-range
capacity, has the same features and performance of the ERX-1400 in a more
economical 7-slot chassis. The following illustration depicts the ERX-1400 and
ERX-700.
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INTERNET PROTOCOL ROUTING AND BROADBAND ACCESS
[DIAGRAM - IP ROUTING AND BROADBAND ACCESS
The heading for this diagram reads "Internet Protocol Routing and Broadband
Access".
In the center of the page is a cloud depicting the new packet-based
network.
To the left of the cloud depicting the new packet-based network is a box
depicting the ERX-700/1400. To the left of this box are four smaller diagrams
representing different broadband access methods, marked "wireless", "DSL" and
"cable network", used by small businesses and residential users to access the
new packet-based network. Above and to the right of the ERX 700/1400 box is a
line depicting the broadband access connection provided by the ERX 700/1400 to
the new packet-based network.
To the right of the cloud depicting the new packet-based network is a box
depicting the ERX-700/1400. To the right of this box are three smaller diagrams
depicting different private line access methods, marked "T1/E1", "T3/E3" and
"Optical (OC3/OC12)", used by business users to access the new packet-based
network. Above and to the left of the ERX 700/1400 box is a line depicting the
private line access connection provided by the ERX-700/1400 to the new
packet-based network.]
Key benefits of our ERX Edge Routing Switches include:
High Port Density and Scalability. As demand for internet access
increases, communications service providers must build an infrastructure that
can scale to meet demand and provide value-added services. The lack of available
point-of-presence, or co-location space, however, restricts the number of new
users that can be brought on-line. A single 22.75-inch shelf of our ERX-1400
Edge Routing Switch supports up to 32,000 concurrent connections. Up to three
shelves may be stacked in a standard 7-foot rack, enabling efficient use of
scarce space at a carrier's point of presence facilities. The common hardware
and software architecture of our ERX products enables communications service
providers to scale up from our ERX-700 model to our ERX-1400 model while
preserving their investment as their access requirements grow.
Wire-Speed Performance Under Demanding Traffic Patterns. Our ERX Edge
Routing Switches are designed to provide high performance under a wide range of
operating conditions. Unlike traditional routers, which rely on software running
solely on reduced instruction set computer, or RISC, processors, our ERX
architecture features software which is assisted by custom ASICs in addition to
distributed RISC processors. This architecture provides independent processing
resources for routing, packet forwarding and service delivery. As packets are
processed by the ERX, our custom ASICs are designed to ensure the network
delivers the quality of service demanded by the application or user. At the same
time, RISC processors perform route computation tasks independently. This hybrid
architecture combines RISC and ASIC technologies designed to enable the ERX to
process a large number of small sized packets at wire speed while also remaining
flexible enough to allow new services to be deployed.
Carrier-Class Reliability and Availability. Our ERX Edge Routing Switches
are designed for continuous availability and consistent high performance to
achieve the service levels required by communications service providers as
critical applications are added to packet networks. These design features
include full hardware redundancy, on-line servicing, a distributed DC power
system and front-to-back airflow. Our ERX internet software is based on a high
performance design that allows each program module to have access to dedicated
resources. This design improves stability and reliability by ensuring that the
performance of one program module does not adversely affect others. Our
ERX-1400/700 have achieved telco-grade equipment certification, NEBS, level 3.
Tiered and Value-Added Services. Our ERX Edge Routing Switches enable
service providers to create and offer tiered levels of bandwidth and value-added
services to their subscribers, allowing communications service providers to
attract and retain additional users, increase their revenue per user and
strengthen brand name recognition through differentiated services. Our ERX is
designed to ensure that higher priority traffic is given preferential treatment,
which is critical during periods of network congestion.
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Our ERX edge routing switches support IP virtual private networks,
differentiated service levels and streaming video services, including broadcast
video and/or pay-per-view video services.
SMX-2100 INTELLIGENT GATEWAY AND SRX-3000 SOFTSWITCH
Our SMX-2100 Intelligent Gateway and SRX-3000 Softswitch are
next-generation, voice switching products developed to facilitate the transition
from today's traditional circuit-switched telephone network to more flexible,
efficient and cost-effective packet networks. Their applications include:
- internet call diversion, which redirects dial-up internet traffic away
from traditional circuit switches;
- long distance voice over IP (VoIP) or IP trunking, which involves the
conversion of legacy voice traffic into packet format for transport; and
- local business services, which incorporate a traditional set of local
voice service features, as well as new enhanced services.
Every modem-originated internet session begins with a dial-up call to an
internet service provider. These calls, which often remain active for hours,
place a tremendous strain and cause congestion on the traditional
circuit-switched network, originally designed for short duration voice calls.
This network congestion results in blocked call attempts, or all circuits busy
signals. As a result, service providers are required to purchase and deploy
additional circuit-switched equipment or find ways to redirect this traffic.
Our SMX-2100 Intelligent Gateway offers service providers a more economical
solution by diverting dial-up internet traffic away from expensive circuit
switches, thereby freeing up capacity and reducing the service providers' need
to invest in additional circuit-switched equipment. A single SMX-2100 shelf can
redirect more than 20,000 dial-up internet calls. With the addition of our
optional IP module, our SMX-2100 Intelligent Gateway converts legacy voice
traffic to packet format, thereby enabling local and long distance voice traffic
to be transported over IP-based packet networks. A single SMX-2100 shelf
supports more than 11,500 VoIP channels.
Our SMX-2100 is offered in a modular, 19-slot chassis, which mounts in a
standard 19" or 23" rack. The 19-slot chassis provides 15-slots for a mix of
module types, including 4 port channelized T3, channelized OC3/STM-1 and IP
modules, while the remaining 4 slots are reserved for redundant management
modules.
Our SRX-3000 Softswitch is an open platform that runs on commercially
available hardware and delivers the basic call control functions required in a
voice network, including call signaling and processing, call admission,
authorization and authentication, address translation, usage recording, local
number portability and feature processing.
Our SRX-3000 Softswitch, used in conjunction with our SMX-2100, supports a
basic set of Class-5 features, including caller ID, call waiting and toll free
dialing. We expect to provide additional Class-5 features to communications
service providers in the future. In addition, our SRX-3000 supports industry
standard interfaces and protocols for the development and delivery of both basic
and enhanced voice services. For example, our SRX-3000 supports Session
Initiation Protocol, or SIP, which is rapidly emerging as the standard protocol
for conferencing, telephony, multimedia and other types of communication
sessions on packet-based networks. SIP allows products and services offered by
different vendors to interoperate, providing enhanced services, which are
currently unavailable on the circuit-switched telephone network, on a
simplified, feature-rich IP telephony network. Our SRX-3000 Softswitch became
generally available during the third quarter of fiscal 2001.
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VOICE SWITCHING AND SERVICE MEDIATION PRODUCTS
[DIAGRAM : VOICE SWITCHING AND SERVICE MEDIATION PRODUCTS
The heading for this diagram reads "Voice Switching and Service Mediation
Products".
In the center of the page is a cloud depicting the new public network.
In the top left of the page is a box depicting the SMX-2100 Intelligent
Gateway. Below and to the right of the SMX-2100 Intelligent Gateway box is a
line, marked "VoIP", that connects it to the cloud in the center depicting the
new packet-based network. The SMX-2100 Intelligent Gateway box is attached on
its left side to a smaller box depicting the SRX-3000 Softswitch. A line on the
lower left side of the SMX-2100 Intelligent Gateway box connects it to a cloud
depicting the traditional circuit-switched telephone network. To the left of the
cloud depicting the traditional telephone network are two smaller diagrams
representing different access methods to the traditional circuit-switched
telephone network. A line, marked "Internet Call Diversion", on the lower right
side of the cloud depicting the traditional circuit-switched telephone network
connects it to another box depicting the SMX-2100 Intelligent Gateway placed in
the bottom left of the page. Above and to the right of the SMX-2100 Intelligent
Gateway box is a line that connects it to the cloud in the center depicting the
new packet-based network.
The graphical illustrations on the top and bottom of the right half of the
page mirror the graphical illustrations on the top and bottom of the left half
of the page.]
Key benefits of our SMX-2100 Intelligent Gateway and SRX-3000 Softswitch
include:
High Port Density and Scalability. Our voice switches are high density
carrier class products that deliver increased scalability compared to
traditional circuit switches at a lower cost. A single SMX-2100 can redirect
more than 20,000 dial-up internet callers or support more than 11,500 VoIP
channels.
Carrier-Class Reliability. Our voice switches are based on a distributed
architecture with fully redundant hardware, no single point of failure, and
online servicing and configuration to protect against network failure. Our
SRX-3000 is designed with full hardware and software redundancy and an open
switching platform residing on commercially available NEBS compliant hardware.
Communications service providers can designate a primary and secondary SRX to
control distributed SMX-2100s. In the event that the primary SRX-3000 fails, the
SMX-2100 will automatically transfer control over to the secondary SRX-3000
without disruption to voice calls in process and without a loss of billing
records.
Rapid Deployment of Data and Voice Services. Our SMX-2100 Intelligent
Gateway and SRX-3000 Softswitch enable the rapid deployment of data and voice
services. The typical deployment time for our voice switches is shorter than the
deployment of traditional circuit-based switches.
UNISPHERE MANAGEMENT CENTER
Our Unisphere Management Center products enable communications service
providers to efficiently deliver their services and manage our products. Our
Unisphere Management Center product family consists of the following:
- Service Selection Center. This product provides the ability to create
and manage consumer-oriented broadband telecommunications services
through a web browser. The Service Selection Center allows immediate
selections and modifications of services as well as the ability to
provide services such as bandwidth allocation using a graphical
interface, distributed directory functionality, subscriber management and
service catalog management. Our Service Selection Center product and
options allow the communications service provider to define network wide
policies that
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automatically configure the device and back office applications when new
users and services are activated or added.
- Device Management. The Device Management products provide a graphical
interface to manage our ERX and SMX products from either a local or
remote workstation.
- Integration Packs. Our Unisphere Management Center products integrate
our ERX-1400/700 edge routers with HP Openview Network Node and Micromuse
Netcool.
CUSTOMERS
Our products are used by over 100 customers in over 25 countries. The
following is a representative list of customers for which, as of June 30, 2001,
we have recognized at least $100,000 in revenue from the sale of our products:
<Table>
Beijing Telecom Authority Korea Telecom
Bloomberg Pacific Century CyberWorks HKT
Cable & Wireless Portugal Telecom
Colt Telecom Siemens
Digital United Telecom Malaysia
Global Crossing Time Warner Telecom
ITC Deltacom XO Communications
</Table>
Sales to Siemens, a value-added reseller of our products, accounted for
30.5% of our net revenues for the nine months ended June 30, 2001, 41.0% of our
net revenues for the fiscal year ended September 30, 2000, and 63.5% of our net
revenues for the fiscal year ended September 30, 1999. In addition, sales to,
each of Korea Telecom and Bloomberg accounted for greater than 10% of our net
revenues for the nine months ended June 30, 2001. Sales to ITC Deltacom
accounted for greater than 10% of our net revenues for the fiscal year ended
September 30, 2000. We anticipate that, as our sales increase, each of these
customers will account for a smaller percentage of our net revenues. However, we
expect to continue to derive a majority of our revenues from a limited number of
customers in the near future.
See the notes to consolidated financial statements of Unisphere, included
elsewhere in this prospectus, for geographic information related to net revenues
and assets.
SALES AND MARKETING
We sell and market our products primarily through our direct sales force
and value-added resellers. We may also establish strategic distribution
relationships with other infrastructure equipment manufacturers. Our target
customers include new and established communications service providers,
including long distance and international telephone companies, internet service
providers, cable operators and carriers that provide services to other carriers.
Direct Sales. Our global, direct sales organization is divided into three
regional operations: North and South America; Asia and the Pacific; and Europe,
Middle East and Africa. We have sales offices throughout North and South
America, including San Jose and San Francisco, California; Mississauga and
Vancouver, Canada; Greenwood Village, Colorado; Kansas City, Kansas;
Bridgewater, New Jersey; Newtown, Pennsylvania; Herndon, Virginia; Seattle,
Washington; and Sao Paulo, Brazil. We also have sales offices throughout Asia
and Europe, including regional offices in Beijing, Hong Kong, Madrid, Melbourne,
Munich, New Delhi, Paris, Reading (United Kingdom), Rotterdam, Seoul, Shanghai,
Singapore, Stockholm, Taipei and Tokyo.
Our direct sales account managers are responsible for a market on either a
geographic or named account basis and work as a team with a systems engineer.
Our systems engineers consult with and guide and assist our customers to deploy
our products. Our systems engineers also identify the features that are required
for our products to be successful in specific applications.
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Value-Added Resellers. We have established a strategic distribution
relationship with Siemens. We believe that Siemens has significant customer
relationships in place and offers products that complement ours. Siemens
provides initial support to its customers that purchase our products, including
taking calls in the event that a customer needs product support. Our agreement
with Siemens allows it to distribute our products on a worldwide, non-exclusive
basis with discounts based on the type of product it orders. In addition, we
have a number of country specific value-added resellers. These resellers have
expertise in deploying complex internet infrastructure equipment in their
respective markets and provide the initial support required by customers that
purchase our products.
We have a variety of marketing programs to support the sale and
distribution of our products. These include preparation of sales tools, business
cases, competitive analyses and other marketing collateral, sales training, and
publication of customer deployments, new product information and educational
articles in industry journals. In addition, we are an active participant in
communications standards organizations such as the Internet Engineering Task
Force, the International Telecommunications Union, Optical Internetworking and
International Softswitch Consortium Forum. We also employ direct marketing to
prospective customers and participate in leading industry tradeshows such as
Supercomm and Networld + InterOp.
CUSTOMER SERVICE AND SUPPORT
We are committed to providing our customers with high levels of service and
support and believe customer satisfaction is essential to our sales effort. We
support our products with web based tools, documentation, and training courses
tailored to our customers' various needs and operate our customer support center
located in Westford, Massachusetts. Our sales and network engineering personnel
work closely with customers, third party contractors and others to coordinate
network design, installation services and provide continuous customer support.
Our customer service center gives us the capability to assist our customers
by remotely diagnosing and addressing network problems that may arise. We also
offer professional services to assist our customers in utilizing our products
and Unisphere Management Center software within their network operations
centers. Our customer service and support team provides technical assistance and
support to our customers 24 hours a day, 7 days a week.
RESEARCH AND DEVELOPMENT
Our future success depends on our ability to increase the performance of
our products, to develop and introduce new products and product enhancements and
to effectively respond to our customers' changing needs. Our research and
development team is primarily responsible for, and is currently working on,
meeting these objectives. We have made, and will continue to make, a substantial
investment in research and development. Research and development expenses for
the year ended September 30, 2000 were $112.5 million, including $25.8 million
of development milestone and retention payments. Research and development
expenses for the year ended September 30, 1999 were $68.4 million, including
$34.9 million of development milestone and retention payments. Research and
development expenses were $71.1 million and $88.4 million for the nine months
ended June 30, 2001 and 2000, respectively. In addition to developing our ERX,
SMX and SRX platforms, we are in the process of developing higher-capacity IP
routing and voice switching products to meet the growing bandwidth demands of
communications service providers.
We conduct our research and development at two facilities in the United
States: Westford, Massachusetts and Boca Raton, Florida; and one facility in
Ottawa, Canada.
MANUFACTURING
We maintain only limited in-house manufacturing capability for final system
integration and testing of our products. Our internal manufacturing expertise is
focused on product design for testability, design for manufacturability and the
transfer of products from development to manufacturing.
We have established our contract manufacturing relationships with Celestica
and Plexus based on quality assurance, timeliness of delivery and strengths in
the volume manufacture of our products. Using
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contract manufacturers allows us to reduce our capital expenditures, achieve
purchasing economies of scale and reduce inventory warehousing. Under our
two-year manufacturing and purchase agreement with Celestica, Celestica
manufactures our SMX voice switching products. The Celestica agreement is
automatically renewed for one-year periods unless otherwise terminated. In
November 2000, we entered into a memorandum of understanding with Plexus
pursuant to which Plexus manufactures products for us. The memorandum of
understanding expires on October 15, 2001 and we anticipate it will be
superseded by a manufacturing services agreement, which is currently under
negotiation. We perform final system assembly and testing for our SMX voice
switching products and ERX edge routing products.
We also have a three-year custom sales agreement with IBM pursuant to which
it supplies us with our proprietary ASICs based on our design specifications.
Either party may terminate this agreement if the other party causes a material
breach of this agreement. If IBM terminates this agreement as a result of our
material breach, IBM is entitled to cancel all of our then outstanding purchase
orders. In addition, we may be required to pay all of IBM's procurement costs,
the quoted price applicable for the affected products or delivered services and
any applicable cancellation charges.
COMPETITION
The market for data and voice networking products for the new public
network is intensely competitive, subject to rapid technological changes and
significantly affected by new product introductions and other market activities.
We encounter strong competition from large suppliers, such as Cisco Systems,
Lucent Technologies and Nortel Networks, who offer a broad range of products
across multiple service areas, are substantially larger than we are and have
significantly greater financial, sales, marketing, distribution, technical,
manufacturing and other resources. This makes them better positioned to acquire
other companies, thereby obtaining new technologies or products that may
displace our product lines. We also compete with single product companies which
offer or will offer solutions that compete with one of our product areas. We
compete with Juniper Networks in the IP routing market, Redback Networks in the
broadband access market and Sonus Networks in the next-generation voice
switching market, and several other companies in each of these markets.
The principal competitive factors in these markets include, or are likely
to include:
- product performance and price;
- features and reliability;
- sales and distribution capabilities;
- compliance with industry standards; and
- technical support and service.
INTELLECTUAL PROPERTY
Our success and ability to compete are dependent on our ability to develop
and maintain the proprietary aspects of our technology. We rely on a combination
of patent, trademark, copyright and trade secret laws, employee and third-party
nondisclosure agreements and licensing arrangements to protect our intellectual
property. We have seven patent applications pending in the United States, and
several related non-United States patent applications pending, relating to the
design and operation of our products. Our pending patent applications may not
result in the issuance of any patents. If any patent is issued, it may be
invalidated or circumvented or may otherwise fail to provide us with any
meaningful protection. These legal protections afford only limited protection
for our technology. Moreover, we sell our products in foreign countries,
including China, Japan, Hong Kong and other parts of Southeast Asia, that offer
significantly less protection to our intellectual property than does the United
States. We cannot assure you that others will not develop technologies that are
similar or superior to our technology.
We have incorporated third-party licensed technology into our current
products. From time to time, we may be required to license additional technology
from third parties to develop new products or product enhancements. Third-party
licenses may not be available or continue to be available to us on commercially
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reasonable terms. The inability to maintain or re-license any third-party
licenses required in our current products, or to obtain any new third-party
licenses to develop new products and product enhancements could require us to
obtain substitute technology of lower quality or performance standards or at
greater cost, and delay or prevent us from making these products or
enhancements, any of which could seriously harm the competitiveness of our
products.
We have a license arrangement with Trillium Digital Systems pursuant to
which they have made available to us the programs for the signaling gateways, or
SS7s, used with our SMX-2100 voice switching product. We also use software from
Fujitsu Siemens Computers in our SRX-3000 Softswitch products.
GOVERNMENT REGULATION
There are an increasing number of laws and regulations in the United States
and abroad pertaining to communications and commerce on the internet. In
addition, a number of legislative and regulatory proposals are under
consideration by federal, state, local and foreign governments. Due to the
increasing use of the internet as a medium for communication and commerce, new
laws and regulations may be enacted with respect to the internet and electronic
commerce covering issues such as user privacy, content, quality of products and
services, taxation, intellectual property rights, information security,
enforcement of internet transactions and dispute resolution. These new laws and
regulations could impede the growth of the internet as a medium of commerce and
thereby reduce demand for our products and services or increase our costs of
doing business. Some of these issues are elaborated below.
Privacy Concerns. The Federal Trade Commission, or the FTC, recently
recommended that Congress take legislative action to protect the privacy of
information on the internet and there are bills pending in Congress which, if
enacted into law, could impose privacy standards or authorize the FTC to
implement such standards, creating civil and criminal penalties for violations.
Additionally, the European Union has recently adopted a privacy directive
regarding the collection and transmission of data over IP networks. The European
Union directive generally prohibits transmission of personal information outside
the European Union unless the receiving country has enacted adequate individual
privacy protection laws. The United States and the European Union have
negotiated a data privacy agreement which articulates voluntary data privacy
standards that United States companies will be able to follow to comply with the
European Union directive. Member states of the European Union will also adopt
laws to implement this directive. These regulatory initiatives taken by the
United States and the European Union could impede the expected growth of
internet commerce and IP networks, other commercial uses of the internet and
businesses such as ours that are dependent on the growth of the internet.
Commercial Regulation. There could be new laws and regulations which
affect the enforceability of internet contracts and dispute resolutions
pertaining to them. The European Union has adopted a directive with respect to
protocols to be implemented before an internet contract is effective.
Internet Taxation. Numerous legislative proposals have been made at the
federal, state and local levels, and by various foreign governments, that would
apply existing tax laws to internet transactions or impose additional taxes on
the sale of goods and services over the internet. Although Congress has enacted
a moratorium on new state and local taxes on internet access or e-commerce,
existing state and local laws were expressly excepted from this moratorium.
Legislative or regulatory developments in this area, or other attempts to impose
or collect taxes on internet commerce both in the United States and abroad may
adversely affect the demand for our products and services, our costs of doing
business and our financial results.
Telecommunications Act of 1996. While the Federal Communications
Commission, or the FCC, does not currently regulate service providers which do
not otherwise qualify as "telecommunications providers" under the terms of the
Telecommunications Act of 1996, the FCC recently stated its intention to
consider whether to regulate voice and fax telephony services provided over IP
networks as "telecommunications." The Telecommunications Act of 1996, which
provided for significant deregulation of the United States telecommunications
industry, remains subject to judicial review and additional FCC rulemaking. The
Telecommunications Act of 1996, as well as various initiatives of the FCC to
implement
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its provisions, may adversely impact service providers, which would also
adversely impact the demand for our products and services.
Export. Due to the technology used in our products and services, our
products and services may be subject to the export restrictions of the United
States or other countries. The application of new or existing export constraints
could reduce our access to foreign markets, increase our costs of doing business
and adversely affect the results of our business operations.
EMPLOYEES
As of June 30, 2001, we had a total of 798 employees. Of these employees,
697 were based in the United States and 101 were based internationally. Of the
total, 459 were in research and development, 167 in sales and marketing, 61 in
customer support and professional services, 51 in manufacturing and 60 in
finance and administration. None of our employees is subject to a collective
bargaining agreement and we believe that our relations with our employees are
good.
FACILITIES
We are headquartered in Westford, Massachusetts where we lease 225,000
square feet. The lease for 150,000 square feet commenced in January 2001 and the
lease for 75,000 square feet commenced in March 2001. Both of these leases will
expire ten years from their commencement, with options for extension and
expansion. We also lease approximately 18,000 square feet in Boca Raton, Florida
and approximately 15,000 square feet in Ottawa, Canada. The Boca Raton lease
commenced in August 2000 and expires in July 2005 and the Ottawa lease commenced
in June 2001 and expires in 2010, with an option for extension.
We believe our existing facilities are adequate for our current needs and
that suitable additional office space will be available as needed.
LEGAL PROCEEDINGS
We are not subject to any material legal proceedings.
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MANAGEMENT
EXECUTIVE OFFICERS, DIRECTORS AND KEY EMPLOYEES
Our executive officers, directors and key employees, their ages and their
positions as of July 20, 2001, are as follows:
<Table>
<Caption>
NAME AGE POSITIONS
- ---- --- ---------
Executive Officers and Directors:
James A. Dolce, Jr.(3).................. 39 President, Chief Executive Officer and Director
Jeffrey P. Lindholm..................... 45 Senior Vice President, Global Sales and Service
Mark Nasiff............................. 35 Chief Financial Officer
Evanthia C. Aretakis.................... 42 Vice President and General Manager, Voice Switching
Business Unit
Christopher P. Lawler................... 45 Vice President and General Manager, IP Routing
Business Unit
Kurt A. Melden.......................... 45 Chief Technical Officer
Suzanne M. Zabitchuck................... 45 General Counsel and Secretary
Anthony T. Maher(2)(3).................. 55 Chairman of the Board of Directors
Craig R. Benson(1)...................... 46 Director
Dietrich A. Diehn(2).................... 54 Director
Stephan D. Howaldt...................... 35 Director
Daniel E. Smith(1)(2)................... 51 Director
Key Employees:
Neal L. Oristano........................ 45 Vice President of Sales, Americas
Adam Judd............................... 41 Vice President of Sales, Asia Pacific
Joop van Aard........................... 41 Vice President of Sales, EMEA
Anthony Scarfo.......................... 41 Vice President of Marketing
Carl M. Simone.......................... 43 Vice President, Manufacturing Operations
Ann M. Laporte.......................... 38 Director of Human Resources
</Table>
- ---------------
(1) Member of the audit committee.
(2) Member of the compensation committee.
(3)Member of the nominating committee.
James A. Dolce, Jr. has served as our President and as one of our directors
since January 2000. Mr. Dolce has served as our Chief Executive Officer since
July 2000. From April 1999 to January 2000, Mr. Dolce served as our Vice
President, Data Products Group. From September 1997 to April 1999, Mr. Dolce
served as President of Redstone Communications, which he co-founded. From May
1996 to July 1997, Mr. Dolce served as Vice President and General Manager of the
Remote Access Business Unit of Cascade Communications, a provider of wide area
network switches. From October 1995 to May 1996, Mr. Dolce served as Vice
President of Sales and Marketing for Arris Networks, a networking company, which
he co-founded. From April 1989 to June 1995, Mr. Dolce served as Vice President
of Sales and Marketing for Promptus Communications, a manufacturer of
high-speed, digital network access products, which he also founded. Mr. Dolce is
a member of the board of directors of Akara, a provider of an optical utility
service platform.
Jeffrey P. Lindholm has served as our Senior Vice President, Global Sales
and Service, since January 2001. From June 1999 to January 2001, Mr. Lindholm
served as our Vice President, Worldwide Sales and Support. From October 1998 to
June 1999, Mr. Lindholm served as Vice President of Sales and Customer Service
at Redstone Communications. From January 1998 to October 1998, Mr. Lindholm
served as Vice President of Sales Development at Bay Networks, a manufacturer of
IP-based data communications equipment. From October 1997 to January 1998, Mr.
Lindholm served as Vice President of Worldwide Sales and Service of New Oak
Communications, a manufacturer of access switches. From August 1996 to October
1997, Mr. Lindholm served as Vice President of Sales and Customer Service at
Starburst Communications, a provider of networking software. From October 1988
to August 1996, Mr. Lindholm
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served as Vice President of Worldwide Sales at Wellfleet Communications, a
provider of network communications equipment, and, after its merger with
Synoptics, Bay Networks.
Mark Nasiff has served as our Chief Financial Officer since July 2001. From
January 2001 to July 2001, Mr. Nasiff served as our Vice President, Finance and
Administration. From July 1999 to January 2001, Mr. Nasiff served as our
Corporate Controller. From November 1998 to July 1999, Mr. Nasiff served as the
Corporate Controller of Dragon System, a provider of advanced speech recognition
products. From May 1998 to November 1998, Mr. Nasiff served as a Corporate
Controller of LTX Corporation, a manufacturer of semiconductor test equipment.
From March 1997 to May 1998, Mr. Nasiff served as Vice President of the
Sightcare Division for Sight Resource Corporation, a manufacturer of eyewear and
related products and services. From March 1995 to May 1997, Mr. Nasiff served as
the Operations Manager and, from September 1994 to March 1995, as the Assistant
Controller of Sight Resource Corporation. From August 1988 to September 1994,
Mr. Nasiff served in various capacities, most recently as Audit Manager, at KPMG
LLP, an international public accounting firm.
Evanthia C. Aretakis has served as our Vice President and General Manager,
Voice Switching Business Unit, since January 2001. From August 1998 to January
2001, Ms. Aretakis served as President of the Carrier Division for North America
for Siemens Carrier Networks, a telecommunications company providing voice and
data products and services to carriers in North America. From June 1997 to
August 1998, Ms. Aretakis served as Vice President and General Manager of
Tautron/General Signal Networks, a manufacturer of system solutions for the
performance monitoring and testing of telecommunications networks. From May 1995
to June 1997, Ms. Aretakis served as Vice President and General Manager of the
EWSD (Electronics Worldwide Switch Digital) Business Unit, at Siemens
Stromberg-Carlson.
Christopher P. Lawler has served as our Vice President and General Manager,
IP Routing Business Unit, since January 2001. From April 1999 to January 2001,
Mr. Lawler served as our Vice President of Engineering, Data Products Group.
From October 1997 to April 1999, Mr. Lawler served as Vice President of
Engineering of Redstone Communications, which he co-founded. From January 1994
to October 1997, Mr. Lawler was Director of Engineering for the LAN switching
division of 3COM, a provider of broad-based networking systems and services.
Kurt A. Melden has served as our Chief Technical Officer since April 2000.
From July 1997 to April 2000, Mr. Melden served as Chief Technical Officer and
director of Redstone Communications, which he co-founded. From May 1996 to July
1997, Mr. Melden served as Corporate Fellow and, from July 1991 to May 1996, as
hardware director for Cascade Communications, which he co-founded.
Suzanne M. Zabitchuck has served as our General Counsel since November 1999
and as our Secretary since July 2000. From December 1992 to November 1999, Ms.
Zabitchuck served as Corporate Counsel and Assistant Secretary of Watts
Industries, a valve manufacturing company. From 1988 to 1992, Ms. Zabitchuck
served as Associate General Counsel and Clerk of Stride Rite, a footwear
company. From 1987 to 1988, Ms. Zabitchuck served as Corporate Counsel of Rule
Industries, a marine products and cutting tool company. From 1983 to 1987, Ms.
Zabitchuck served as Senior Corporate Attorney and Assistant Secretary of
Standex International, a diversified manufacturing company.
Anthony T. Maher has served on our board of directors since February 1999
and as chairman of our board of directors since February 2000. Since May 1978,
Mr. Maher has held various executive positions within the Siemens Public
Communication Networks Group of Siemens AG, a network equipment provider,
including as a member of the board of directors from October 1997 to September
1998, Executive Director for Access Networks from October 1995 to September
1997, and Executive Director of Worldwide Product Planning from January 1993 to
September 1995. Mr. Maher is currently a member of the board of directors of
Siemens ICN, a provider of IP solutions for carrier and enterprise networks,
Accelerated Networks, a provider of telecommunications products, Efficient
Networks, a developer of digital subscriber line customer premises equipment,
Floware Wireless Systems, a provider of broadband fixed wireless local access
communications systems, and several private companies.
Craig R. Benson has served on our board of directors since September 2000.
Since July 1999, Mr. Benson has served as a director of Cabletron Systems, a
computer networking company, which he founded. From April 1998 to July 1999, Mr.
Benson served as Chief Executive Officer and President and, from
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1983 to July 1999, as Chief Operating Officer and chairman of the board of
directors of Cabletron Systems.
Dietrich A. Diehn has served on our board of directors since April 1999.
Since October 1998, he has served as Chief Financial Officer of Siemens ICN, a
subsidiary of Siemens Corporation. From October 1997 to September 1998, Mr.
Diehn served as a member of the management board and as Chief Financial Officer
of the Private Communication Systems Group of Siemens AG. From February 1995 to
September 1997, Mr. Diehn served as Chief Financial Officer and Senior Vice
President of Siemens Stromberg Carlson, a telecommunications company.
Dr. Stephan D. Howaldt has served on our board of directors since July
2000. Since March 2001, Dr. Howaldt has served as Chief Executive of Hermes
Focus Asset Management Europe Limited, a London based fund management company
which is majority owned by the Trustees of the British Telecom Pension Scheme.
From April 2000 to February 2001, Dr. Howaldt had been engaged by Siemens AG as
an affiliated member of its mergers and acquisitions group. From February 1994
to April 2000, Dr. Howaldt served as an Executive Director of the Technology
Team and in various other positions within the investment banking advisory group
of UBS Warburg, a division of UBS AG, and its predecessor organizations in
London. During the term of his employment with UBS Warburg, Dr. Howaldt had been
involved with Siemens in arranging the initial public offering of EPCOS AG and
the sale of Siemens Nixdorf Retail and Banking GmbH.
Daniel E. Smith has served on our board of directors since April 1999.
Since October 1998, Mr. Smith has also served as President, Chief Executive
Officer and a director of Sycamore Networks, a developer of voice and data
transport products. From June 1997 to July 1998, Mr. Smith served as a director
and as Executive Vice President and General Manager of the Core Switching
Division at Ascend Communications, a provider of network communications
equipment. From April 1992 to June 1997, Mr. Smith served as President, Chief
Executive Officer and a director of Cascade Communications.
Neal L. Oristano has served as our Vice President of Sales, Americas, since
January 2001. From April 1998 to November 2000, Mr. Oristano served as Vice
President, Worldwide Service Provider Sales for the Broadband Networking Group
of Lucent Technologies, a manufacturer of communications systems, software and
products. From August 1997 to April 1998, Mr. Oristano served as Director of
Global Operations for Cisco Systems, a provider of hardware, software and
services for internet networking. From September 1989 to May 1997, Mr. Oristano
served as the Eastern Region Sales Vice President at Bay Networks, a
manufacturer of IP-based data communications equipment. From September 1986 to
September 1989, Mr. Oristano served as Director of Global Accounts at Digital
Equipment Corporation, a provider of information processing solutions. From
November 1978 to September 1986, Mr. Oristano served as Director of Global
Accounts with AT&T Corporation, a provider of voice, data and video
communications services.
Adam Judd has served as our Vice President of Sales, Asia Pacific, since
June 1999. From September 1998 to June 1999, Mr. Judd served as the Sales and
Marketing Director for the Asia Pacific Carrier Division of Nortel Networks, a
global supplier of networking solutions and services. From 1996 to 1998, Mr.
Judd served as the Asia Pacific Sales Director for the Internet and Telecom
Business Group of Bay Networks, a manufacturer of IP-based data communications
equipment. From 1995 to 1996, Mr. Judd served as the International Sales and OEM
Manager for Xylogics Inc., a provider of network access products.
Joop van Aard has served as our Vice President of Sales for Europe, Middle
East and Africa (EMEA) since July 2001. From March 1999 to June 2001, Mr. van
Aard served as Vice President of Operations and Managing Director of Redback
Networks International BV, a wholly owned subsidiary of Redback Networks. From
October 1998 to March 1999, Mr. van Aard served as Vice President, Data
Networking Systems EMEA of Lucent Technologies. From March 1994 to October 1998,
Mr. van Aard served as Director of the Service Provider line of business of
StrataCom, which was acquired by Cisco Systems. From October 1989 to March 1994,
Mr. van Aard held various positions at Timeplex, a Ascom company, including as
Sales Manager Carriers, EMEA.
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Anthony Scarfo has served as our Vice President of Marketing and Business
Development since June 2001. From April 2001 to June 2001, Mr. Scarfo served as
our Vice President of Sales Development. From June 2000 to April 2001, Mr.
Scarfo served as Vice President, UMTS Service Creation, Wireless Networks Group
for Lucent Technologies. From September 1999 to June 2000, Mr. Scarfo served as
Vice President, Strategic Marketing for Lucent Technologies with a focus on
mobile internet, networked hosted applications (ASP), and optical/new media.
From January 1998 to September 1999, Mr. Scarfo served as Director, Data
Networking products for Lucent Technologies with responsibility for building end
to end solutions in next generation markets for Global Carriers. From June 1982
to January 1998, Mr. Scarfo served in various management positions at AT&T, Bell
Labs and Western Electric, including development, system test, support, product
management, market management, business development and acquisitions and offer
management.
Carl M. Simone has served as our Vice President, Manufacturing Operations
since January 2000. From April 1998 to January 2000, Mr. Simone served as our
Director of Manufacturing. From September 1996 to March 1998, Mr. Simone served
as Senior Manufacturing Manager and, from September 1994 to September 1996, as
Manager of Engineering Services at Cascade Communications.
Ann M. Laporte has served as our Director of Human Resources since June
2000. From July 1999 to June 2000, Ms. Laporte served as our Director of
Compensation, Benefits and Human Resource Information Systems. From December
1997 to June 1999, Ms. Laporte served as Managing Consultant at Executive
Alliance, a human resource consulting firm. From July 1986 to December 1997, Ms.
Laporte held various human resource positions at Digital Equipment Corporation,
a provider of information processing solutions.
Each of our executive officers is elected by, and serves at the discretion
of, the board of directors. There are no family relationships among any of our
directors or executive officers. We currently have three directors who are also
senior executives of Siemens or were recently affiliated with Siemens.
BOARD COMMITTEES
We have established an audit committee, a compensation committee and a
nominating committee.
Audit Committee. The audit committee reviews our internal accounting
procedures and considers and reports to the board of directors with respect to
other auditing and accounting matters, including the selection of our
independent auditors, the scope of annual audits, fees to be paid to our
independent auditors and the performance of our independent auditors. The audit
committee currently consists of Messrs. Benson and Smith.
Compensation Committee. The compensation committee reviews and recommends
to the board of directors the benefits and stock option grants of all employees,
consultants, directors and other individuals compensated by us and the salaries
of our executive officers. The compensation committee also administers our stock
option and other employee benefit plans. The compensation committee currently
consists of Messrs. Diehn, Maher and Smith.
Nominating Committee. The nominating committee conducts searches and
recommends to the board of directors individuals for service as outside members
of our board of directors. Messrs. Dolce and Maher are the directors that
comprise the nominating committee.
DIRECTOR COMPENSATION
We reimburse our directors for all out-of-pocket expenses incurred in the
performance of their duties as directors. During fiscal 2000, we also paid Mr.
Martin C. Clague, our former Chief Executive Officer and a director, and each of
Messrs. Diehn and Maher a cash retainer of $15,000. In fiscal 2000, we granted
Mr. Diehn an option to purchase 40,000 shares of common stock, Dr. Howaldt an
option to purchase 40,000 shares of common stock, Mr. Maher an option to
purchase 60,000 shares of common stock, Mr. Smith an option to purchase 20,000
shares of common stock and Mr. Benson an option to purchase 40,000 shares of
common stock. All such options were granted pursuant to our amended and restated
1999 stock incentive plan. The grant of options to directors is at the
discretion of the board of directors.
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COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
Except as described below, none of our executive officers serves as a
member of the board of directors or compensation committee of any entity that
has one or more executive officers serving as a member of our board of directors
or compensation committee. Mr. Maher, the chairman of our board of directors and
a member of our compensation committee, is a director of a division of Siemens.
Additional information concerning transactions between entities affiliated with
members of the compensation committee and us is included in this prospectus
under the caption "Relationships with Siemens and Related Party Transactions."
EMPLOYMENT AGREEMENTS
James A. Dolce, Jr. In July 2000, we entered into an amended and restated
employment agreement with James A. Dolce, Jr., our President and Chief Executive
Officer. The agreement has a three-year term, subject to earlier termination by
either us or Mr. Dolce. Mr. Dolce is paid an annual base salary of $270,000,
subject to annual review. In addition, Mr. Dolce is entitled to an annual bonus
of up to 40% of his base salary. If we terminate Mr. Dolce's employment without
cause or he resigns for good reason, he is entitled to twelve months' severance
pay and accelerated vesting of all options and shares of our restricted stock
then held by him, as well as twelve months' coverage under our group health and
basic life insurance plans.
In connection with the employment agreement, in August 2000, we sold
2,500,000 shares of restricted common stock to Mr. Dolce at a purchase price of
$10.50 per share. Mr. Dolce paid substantially all of the purchase price for
these shares by delivering a promissory note, in accordance with the original
terms of the award, which matures in January 2003 and bears interest at the
six-month LIBOR index rate plus 50 basis points per annum, which rate was 7.37%
as of the date of the note on August 4, 2000. This rate is recalculated on each
six month anniversary of the date of the note. The promissory note is secured by
the purchased shares and has recourse to the general assets of Mr. Dolce as to
25% of the principal balance and 100% of accrued interest on the note. Interest
paid is not refundable to Mr. Dolce. These shares vest over a three-year period,
8.33% every three months after January 1, 2000.
Jeffrey P. Lindholm. In March 1999, Redstone Communications entered into
an employment agreement with Mr. Lindholm, our Senior Vice President, Global
Sales and Service. The initial term of the agreement continues until March 14,
2001, and is automatically renewable thereafter for successive one-year periods
unless otherwise terminated. Pursuant to the agreement, Mr. Lindholm's initial
annual compensation consisted of a base salary of $140,000. In fiscal 2000, Mr.
Lindholm's base salary was increased to $260,000. If we terminate Mr. Lindholm's
employment without cause, Mr. Lindholm will receive a cash payment equal to 100%
of his then annual base salary as well as twelve months' coverage under our
group health and basic life insurance plans. Mr. Lindholm has also agreed not to
compete with us for a period ending on the later of three years from the date of
this agreement or one year from the termination of Mr. Lindholm's employment.
Evanthia C. Aretakis. In January 2001, we entered into an employment
agreement with Evanthia C. Aretakis, our Vice President and General Manager,
Voice Switching Business Unit. The agreement has an initial two-year term which
is automatically extended for successive one-year periods unless we or Ms.
Aretakis provides notice of termination of employment at least 90 days prior to
the expiration of the then effective term. Ms. Aretakis is paid an annual base
salary of approximately $270,000, subject to annual review. In addition, if we
adopt and implement a bonus plan for our executive officers, Ms. Aretakis will
be eligible to participate in such bonus plan. Pursuant to the employment
agreement, we granted Ms. Aretakis an option to purchase 300,000 shares of
common stock. If we terminate Ms. Aretakis' employment without cause or she
resigns for good reason, she is entitled to six months' severance pay and
accelerated vesting of the lesser of options to purchase 37,500 shares of our
common stock or the unvested options of the above grant held by Ms. Aretakis as
of the date of termination.
Christopher P. Lawler. In March 1999, Redstone Communications entered into
an employment agreement with Mr. Lawler, our Vice President and General Manager,
IP Routing Business Unit. The initial term of the agreement continues until
March 2001, and is automatically renewable thereafter for
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successive one-year periods unless otherwise terminated. Pursuant to the
agreement, Mr. Lawler's base salary in fiscal 2000 was $195,000. If we terminate
Mr. Lawler's employment without cause, Mr. Lawler will receive a cash payment
equal to 100% of his then annual base salary as well as twelve months' coverage
under our group health and basic life insurance plans. Mr. Lawler has also
agreed not to compete with us for a period ending on the later of three years
from the date of this agreement or one year from the termination of Mr. Lawler's
employment.
Kurt A. Melden. In March 1999, Redstone Communications entered into an
employment agreement with Mr. Melden, our Chief Technical Officer. The initial
term of the agreement continues until March 2001, and is automatically renewable
thereafter for successive one-year periods unless otherwise terminated. Pursuant
to the agreement, Mr. Melden's initial annual compensation consisted of a base
salary of $126,000. In fiscal 2000, Mr. Melden's base salary was increased to
$185,000. If we terminate Mr. Melden's employment without cause, Mr. Melden will
receive a cash payment equal to 100% of his then annual base salary as well as
twelve months' coverage under our group health and basic life insurance plans.
Mr. Melden has also agreed not to compete with us for a period ending on the
later of three years from the date of this agreement or one year from the
termination of Mr. Melden's employment.
Thomas M. Burkardt. We have entered into a severance agreement with Mr.
Burkardt in connection with his resignation as Chief Operating Officer and
Executive Vice President as of July 2, 2001. Pursuant to the severance
agreement, Mr. Burkardt will be available as a consultant to us. Mr. Burkardt
will continue to receive his base salary and coverage under our group health
plans until July 1, 2002. In July 2001, in connection with Mr. Burkardt's
resignation and his becoming available to us as a consultant, all unvested
options previously awarded to Mr. Burkardt under the amended and restated 1999
stock incentive plan were cancelled, except for those options which would have
vested on or before April 1, 2002 had Mr. Burkardt remained an employee of ours.
These options are exercisable until October 1, 2002. The vesting of the
restricted common stock granted to Mr. Burkardt ceased as of July 2, 2001. On
July 20, 2001, we exercised our right to repurchase the restricted common stock
with respect to 137,500 shares of such restricted common stock. We paid $10.50
per share by virtue of the cancellation of the outstanding indebtedness owed by
Mr. Burkardt to us under his promissory note of August 2000. Mr. Burkardt has
agreed not to compete with us or to solicit our employees until January 3, 2003.
Martin C. Clague. We have entered into a severance agreement with Mr.
Clague in connection with the termination of his employment as of January 31,
2000. Pursuant to the severance agreement, Mr. Clague received an aggregate of
$647,660 upon leaving the company. Mr. Clague also received a nonstatutory
option award under our amended and restated 1999 stock incentive plan to
purchase 46,666 shares of our common stock at an exercise price of $7.35 per
share. These options vested in April 2000 and were exercisable until February
2001. Mr. Clague also has continued coverage until January 31, 2001 under our
group health plans.
George S. Donahue. We have entered into a severance agreement with Mr.
Donahue in connection with the termination of his employment as of June 1, 2000.
Mr. Donahue received a nonstatutory option award under our 1999 stock incentive
plan to purchase 16,666 shares of our common stock at an exercise price of $9.30
per share. The board of directors cancelled this option award and issued a new
option award in April 2001 to purchase 16,666 shares of our common stock at an
exercise price of $9.90 per share. These options are fully vested and are
exercisable until April 2002.
EXECUTIVE COMPENSATION
The following table sets forth the total compensation paid or accrued for
the fiscal years ended September 30, 2000 and September 30, 1999, as applicable,
for Mr. James A. Dolce, our Chief Executive Officer and President, Mr. Martin C.
Clague, our former Chief Executive Officer and President, and our four other
most highly compensated executive officers who were serving as executive
officers as of September 30, 2000 and September 30, 1999, as the case may be,
and who earned more than $100,000 in
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salary and bonus during the applicable fiscal year. In addition, the following
table sets forth total compensation paid for the fiscal years ended September
30, 2000 and September 30, 1999 for Mr. George S. Donahue, our former Chief
Financial Officer, who earned more than $100,000 in salary and bonus during such
fiscal years. These executive officers may also be referred to as the named
executive officers.
SUMMARY COMPENSATION TABLE
<Table>
<Caption>
LONG TERM
ANNUAL COMPENSATION COMPENSATION
----------------------------------------- -----------------------
RESTRICTED SECURITIES
OTHER ANNUAL STOCK UNDERLYING ALL OTHER
NAME AND PRINCIPAL POSITIONS YEAR SALARY BONUS COMPENSATION AWARDS(1) OPTIONS COMPENSATION
- ---------------------------- ---- -------- -------- ------------ ---------- ---------- ------------
James A. Dolce, Jr.(2)......... 2000 $266,734 -- $ 6,596(3) --(4) -- $9,000,000(5)
Chief Executive Officer and
President
Thomas M. Burkardt(6).......... 2000 266,734 -- 14,580(7) --(8) 533,334 --
Chief Operating Officer and
Vice President
Jeffrey P. Lindholm............ 2000 253,672 -- 6,800(9) --(10) 498,667 1,750,000(11)
Vice President, Worldwide
Sales and Support
Kurt A. Melden................. 2000 151,926 -- -- --(12) -- 8,500,000(13)
Chief Technical Officer
Suzanne M. Zabitchuck.......... 2000 115,233 -- 2,500(14) -- 70,000 --
General Counsel and
Secretary
Martin C. Clague(15)........... 2000 143,847 $183,330 -- -- 46,666 439,992(17)
Chief Executive Officer and 1999 420,000 -- 69,617(16) -- 186,666 --
President
George S. Donahue(18).......... 2000 171,730 -- 26,529(19) -- 16,666 --
Chief Financial Officer 1999 231,000 -- 10,295(20) -- 33,333 --
</Table>
- ---------------
(1) Holders of restricted common stock are entitled to receive any dividends
that may be paid on our common stock.
(2) Mr. Dolce became our President in January 2000 and our Chief Executive
Officer in July 2000.
(3) Consists of an automobile allowance of $4,000 and a payout of $2,596 for
accrued vacation time.
(4) Mr. Dolce purchased 2,500,000 shares of restricted common stock at a
purchase price of $10.50 per share. Based on a fair market value as of
September 30, 2000 of $18.90 per share, the total value of Mr. Dolce's
shares of restricted common stock as of such date was $21,000,000. Mr.
Dolce's shares of restricted common stock vest over a three-year period,
8.33% every three months beginning January 1, 2000.
(5) During the first half of fiscal 2000, we paid Mr. Dolce an aggregate of
$9.0 million in connection with milestone achievements relating to the
acquisition of Redstone.
(6)Mr. Burkardt ceased to be our Chief Operating Officer and Executive Vice
President as of July 2, 2001. Mr. Burkardt will be available to us as a
consultant.
(7) Consists of an automobile allowance of $4,000 and a payout of $10,580 for
accrued vacation time.
(8) Mr. Burkardt purchased 200,000 shares of restricted common stock at a
purchase price of $10.50 per share. Based on a fair market value as of
September 30, 2000 of $18.90 per share, the total value of Mr. Burkardt's
shares of restricted common stock as of such date was $1,680,000. Mr.
Burkhardt's shares of restricted common stock vest over a four-year period,
6.25% every three months beginning January 1, 2000.
(9) Consists of an automobile allowance of $4,800 and a payout of $2,000 for
accrued vacation time.
(10) Mr. Lindholm purchased 143,000 shares of restricted common stock at a
purchase price of $10.50 per share. Based on a fair market value as of
September 30, 2000 of $18.90 per share, the total value of Mr. Lindholm's
shares of restricted common stock as of such date was $1,201,200. Mr.
Lindholm's shares of restricted common stock vest over a four-year period.
As of September 30, 2000, 25,120 of these shares have vested, 55,262 shares
vest at a rate of 6.25% every three months beginning July 27, 2000 and the
remaining 62,618 shares will vest 25% on the first anniversary of January
1, 2000 and 6.25% every three months thereafter.
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(11) During the first half of fiscal 2000, we paid Mr. Lindholm an aggregate of
$1.75 million in connection with milestone achievements relating to the
acquisition of Redstone.
(12) Mr. Melden purchased 378,334 shares of restricted common stock at a
purchase price of $10.50 per share. Based on a fair market value as of
September 30, 2000 of $18.90 per share, the total value of Mr. Melden's
shares of restricted common stock as of such date was $3,178,006. Mr.
Melden's shares of restricted common stock vest over a four-year period. As
of September 30, 2000, 13,542 of these shares have vested, 29,792 shares
vest at a rate of 6.25% every three months beginning July 27, 2000 and the
remaining 335,000 shares will vest 25% on the first anniversary of January
1, 2000 and 6.25% every three months thereafter.
(13) During the first half of fiscal 2000, we paid Mr. Melden an aggregate of
$8.5 million in connection with milestone achievements relating to the
acquisition of Redstone.
(14) Consists of a payout of $2,500 for accrued vacation time.
(15) Mr. Clague ceased to be our Chief Executive Officer and President as of
January 31, 2000.
(16) Consists of payments made to Mr. Clague pursuant to the terms of his
severance agreement.
(17) Consists of a hiring bonus of $60,000, an automobile allowance of $9,000
and flexible credits under our benefit plan of approximately $617.
(18) Mr. Donahue ceased to be our Chief Financial Officer as of June 1, 2000.
(19) Consists of an automobile allowance of $4,800 and a payout of $21,729 for
accrued vacation time.
(20) Consists of an automobile allowance of $7,200 and flexible credits under
our benefit plan of approximately $3,095.
OPTION GRANTS IN LAST FISCAL YEAR
The following table provides information concerning grants of options to
purchase shares of our common stock made during the fiscal year ended September
30, 2000 to our named executive officers. In the fiscal year ended September 30,
2000, we granted options to purchase up to an aggregate of 13,370,326 shares to
our employees, directors and consultants. These options were granted pursuant to
our 1999 stock incentive plan. These options have a maximum term of ten years.
These options generally vest at the rate of 25% of the total number of shares on
the first anniversary of the date of grant and 6.25% every three months
thereafter. Upon our change of control, unexercisable but outstanding options to
purchase shares of our common stock will become exercisable for that number of
shares of common stock for which the option would have become exercisable in the
12 months after the consummation of the change in control event. In addition,
our board of directors has the right, at its discretion, to accelerate the
vesting of unexercisable options at any time, including upon our change of
control.
The potential realizable values are based on an assumption that the price
of our common stock will appreciate from an assumed initial public offering
price of $12.00 per share at the compounded annual rate shown from the date of
grant until the end of the option term. These values do not take into account
amounts required to be paid as income taxes under the Internal Revenue Code and
any applicable state laws or option provisions providing for termination of an
option following termination of employment.
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These amounts are calculated based on the requirements promulgated by the
Securities and Exchange Commission and do not reflect our estimate of future
price growth of shares of our common stock.
OPTION GRANTS IN LAST FISCAL YEAR
<Table>
<Caption>
POTENTIAL REALIZABLE VALUE AT
NUMBER OF PERCENT OF ASSUMED ANNUAL RATES OF STOCK
SECURITIES TOTAL OPTIONS PRICE APPRECIATION FOR OPTION
UNDERLYING GRANTED TO TERM
OPTIONS EMPLOYEES IN EXERCISE OR -----------------------------
NAME GRANTED FISCAL YEAR BASE PRICE EXPIRATION DATE 5% 10%
- ---- ---------- ------------- ----------- --------------- ------------ -------------
James A. Dolce, Jr..... -- -- -- -- -- --
Thomas M. Burkardt..... 533,334 4.0% $10.50 7/28/10 $4,824,932 $10,999,965
Jeffrey P. Lindholm.... 485,334 3.6% 10.50 7/28/10 4,390,688 10,009,970
13,333 0.1% 8.10 11/15/09 152,619 306,991
Kurt A. Melden......... -- -- -- -- -- --
Suzanne M. Zabitchuck.. 53,334 0.4% 10.50 7/28/10 482,499 1,100,009
16,666 0.1% 8.10 11/29/09 190,771 383,733
Martin C. Clague....... 46,666 0.3% 7.35 2/1/01 244,997 272,996
George S. Donahue...... 16,666 0.1% 9.30 6/1/01 54,998 64,997
</Table>
FISCAL YEAR END OPTION VALUES
No options were exercised by any of the named executive officers during
fiscal 2000. The following table sets forth information regarding exercisable
and unexercisable stock options held as of September 30, 2000 by the named
executive officers. There was no public trading market for our common stock as
of September 30, 2000. Accordingly, the value of our options has been calculated
by determining the difference between the exercise price per share and an
assumed initial public offering price of $12.00 per share. During fiscal 2000,
no stock appreciation rights were granted or outstanding.
<Table>
<Caption>
NUMBER OF SHARES VALUE OF UNEXERCISED
UNDERLYING OPTIONS AT IN-THE-MONEY
FISCAL YEAR-END OPTIONS AT FISCAL YEAR-END
---------------------------- ----------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ------------- ----------- -------------
James A. Dolce, Jr......................... 20,834 45,832 $ 96,878 $ 213,119
Thomas M. Burkardt......................... 62,502 537,498 159,380 950,618
Jeffrey P. Lindholm........................ 14,465 517,535 54,511 880,487
Kurt A. Melden............................. 6,771 14,895 31,485 69,262
Suzanne M. Zabitchuck...................... -- 70,000 -- 144,998
Martin C. Clague........................... 46,666 -- 216,997 --
George S. Donahue.......................... 16,666 -- 44,998 --
</Table>
STOCK PLANS
Amended and Restated 1999 Stock Incentive Plan
Our 1999 stock incentive plan was adopted by our board of directors in June
1999 and amended and restated in April 2001. Our amended and restated 1999 stock
incentive plan provides for the initial issuance of up to 29,227,328 shares of
our common stock, to be increased annually by 5% of the outstanding shares of
our common stock, 7,000,000 shares of common stock or such lesser amount as is
determined by our board of directors. The aggregate number of shares of our
common stock that may be issued under the plan is 38,602,559 shares.
Under our amended and restated 1999 stock incentive plan, we are authorized
to grant incentive stock options to our employees and non-statutory stock
options, stock appreciation rights and restricted stock awards to our officers,
directors, employees, consultants and advisors. In general, options granted
pursuant to our amended and restated 1999 stock incentive plan expire ten years
after the original grant date. Upon our change of control, unexercisable but
outstanding options will become exercisable for that number of shares of common
stock for which the option would have become exercisable in the 12 months after
the consummation of the change in control event. In the case of our non-employee
directors, however,
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unexercisable but outstanding options will become exercisable in full upon our
change in control. In addition, our board of directors has the right, at its
discretion, to accelerate the vesting of unexercisable options at any time,
including upon our change of control. Options are not assignable or transferable
except by will or the laws of descent or distribution. These restrictions on
transfer will terminate automatically upon the closing of this offering. As of
June 30, 2001, under our amended and restated 1999 stock incentive plan, an
aggregate of 9,096,929 shares of common stock were available for grant under the
plan and options to purchase a total of 15,505,640 shares of common stock were
outstanding under the plan.
In December 2000, the board of directors voted to accelerate conditionally
the vesting of options to purchase approximately 1,800,000 shares of our common
stock that were granted in July, September and November 1999 under our amended
and restated 1999 stock incentive plan. The acceleration in full of each option
is conditioned on the optionee being actively employed by us (with no
resignation having been tendered or presently contemplated by such optionee) as
of the commencement date of the road show for this offering and the exercise of
the option in full (including the portion of the option which had vested in
accordance with its terms) no earlier than the commencement of the road show and
no later than the day prior to the date that the initial public offering price
of the common stock is finally established by the pricing committee of our board
of directors. We will loan each eligible employee that elects to exercise such
accelerated options (including the portion of the option which had vested in
accordance with its terms) the amount necessary to pay the exercise price of
such option. Each loan will be evidenced by a promissory note issued by the
optionholder to us, which will bear interest at an annual rate of 9% and will
mature on January 1, 2003. The promissory note and accrued interest thereon will
have full recourse to the personal assets of the optionholder. Each employee
will also be required to enter into a pledge agreement pursuant to which the
employee will pledge the shares of common stock acquired upon the exercise of
the accelerated options as security for the loan.
2000 Employee Stock Purchase Plan
Our 2000 employee stock purchase plan was adopted by our board of directors
in July 2000 and was amended in December 2000. Our 2000 employee stock purchase
plan provides for the initial issuance of up to 600,000 shares of our common
stock, to be increased annually by 0.7% of the outstanding shares of our common
stock, or such lesser amount as is determined by our board of directors. The
aggregate number of shares of our common stock that may be issued under the plan
is 5,000,000 shares, or such other number as determined by our board of
directors.
Our 2000 employee stock purchase plan will be administered by the
compensation committee of our board of directors. All of our employees whose
customary employment is for more than 20 hours per week and for more than five
months in a calendar year are eligible to participate in our 2000 employee stock
purchase plan. Employees who would own 5% or more of the total combined voting
power or value of our common stock immediately after the grant of the option to
purchase our common stock are not eligible to participate in our 2000 employee
stock purchase plan. To participate in our 2000 employee stock purchase plan,
other than with respect to the first plan period, an employee must authorize us
to deduct an amount, not less than one percent nor more than 10 percent of a
participant's total compensation, from his or her pay during six month plan
periods. With respect to the first plan period, which will commence on the
effective date of this registration statement, every eligible employee will
automatically become a participant in the 2000 employee stock purchase plan at a
compensation contribution rate of 10 percent. A participant may, at any time
after the effectiveness of the registration statement with respect to the 2000
employee stock purchase plan, elect to have payroll deductions up to such
compensation contribution rate or decline to participate by filing an
appropriate subscription agreement. The exercise price for the option granted in
each payment period is 85% of the lesser of the closing price of our common
stock on the first or last business day of the applicable plan period. During
the first plan period, however, the closing price of our common stock will be
the price at which we are offering shares of our common stock to the public
pursuant to this registration statement. The compensation committee may, in its
discretion, choose an offering period of six months or less for each of the
offerings and choose a different offering period for each offering.
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RELATIONSHIPS WITH SIEMENS AND RELATED PARTY TRANSACTIONS
RELATIONSHIP WITH SIEMENS
As of June 30, 2001, Siemens owned 95.0% of our common stock and will own
87.5% upon the completion of this offering. Siemens has indicated that, as of
the date of this offering, it has no intention to sell shares of our common
stock that it owns, though it may do so in the future.
Since inception, we have been funded by Siemens through capital and other
contributions. In June 1999, Siemens contributed the stock of Argon, Castle and
Redstone to us and we recorded the issuance of common stock to Siemens in the
amount of $258.4 million and an additional equity contribution of $691.6
million. In addition, through June 30, 2001, Siemens contributed $284.7 million
to us through capital contributions to fund our operations. We do not intend to
recast any of these funds provided by Siemens as loans. We expect that Siemens
will continue to fund us through capital and other contributions until the
completion of this offering.
In February 2001, we issued an amended and restated convertible promissory
note to Siemens, pursuant to which they have loaned us $67.0 million. The note
accrues interest at 7.25% per year. The principal and accrued interest is due at
the earlier of November 16, 2001 or the closing of our initial public offering.
Our obligations under the note may be accelerated if an event of default occurs
under the note. The promissory note will convert into shares of our common stock
at the time of the closing of this offering. The number of shares to be issued
upon such conversion is equal to the sum of the principal amount of the note
plus accrued interest divided by our per share initial public offering price.
Assuming a $12.00 per share conversion price and $2,247,953 of accrued interest,
upon the closing of this offering the promissory note will convert into
5,770,663 shares of our common stock. Upon the November 16, 2001 due date or any
accelerated due date, if not earlier converted, Siemens has the option to
convert the note at the then fair market value of our common stock.
Siemens has the power, by virtue of its majority ownership of our common
stock, to elect our entire board of directors and to approve or disapprove any
corporate transactions or other matters submitted to our stockholders for
approval, including the approval of mergers or other significant corporate
transactions.
We have entered into the agreements described below with Siemens for the
purpose of defining various present and prospective arrangements and
transactions between us. These agreements were negotiated between a parent and a
subsidiary and therefore are not the result of negotiations between independent
parties. Siemens and we intend that these agreements and the transactions
provided for in such agreements, taken as a whole, accommodate our and their
interests in a manner that is fair to both of us. However, because of the
complex nature of the various relationships between Siemens, its affiliates and
us and our subsidiaries, we cannot assure you that each of the agreements
described below, or the transactions provided for in the agreements, were
effected on terms at least as favorable to us as we could have obtained from
unaffiliated third parties.
We and our subsidiaries may enter into additional or modified arrangements
and transactions in the future with Siemens and its affiliates. We or our
subsidiaries, or Siemens or its affiliates, as the case may be, will negotiate
the terms of such arrangements and transactions.
The following is a summary of the material arrangements and transactions
between Siemens and us.
SOFTWARE DEVELOPMENT SERVICES AGREEMENTS
In October 1999, we entered into a software development arrangement with
Siemens Canada Limited evidenced in the form of purchase orders. Pursuant to
this arrangement, Siemens Canada Limited provides engineering services to assist
in the development of our ERX edge routing products. It is a month-to-month
arrangement that may be terminated at will. In October 2000, pursuant to the
terms of the purchase order, we did not renew this arrangement.
In May 2000, we entered into a software development services agreement with
Siemens Canada Limited. Pursuant to this agreement, Siemens Canada Limited
provides engineering services to assist in
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the development of some of our Unisphere Management Center products. We own the
intellectual property rights of any developments under this agreement. Either
party may terminate this agreement upon 180 days' prior notice. Pursuant to the
terms of the agreement, in October 2000 we gave notice to terminate this
agreement.
OEM SOFTWARE DISTRIBUTION AGREEMENT FOR DIRX-METADIRECTORY SOFTWARE
In March 2000, we entered into a five year software development and
distribution agreement with Siemens AG. Pursuant to this agreement, Siemens AG
grants us a license to develop and distribute Siemens AG's DirX-Metadirectory
software for use with some of our Unisphere Management Center products and
applications.
VENDOR DISTRIBUTION AGREEMENT
In July 2000, we entered into a master purchase and reseller/distributor
agreement with Siemens AG, ICN Group, Carrier Sales Germany. Pursuant to this
agreement, Siemens receives discounts of between 50% and 60%, depending on the
type and quantity of products purchased, and distributes our ERX edge routing
and Unisphere Management Center products within Germany and upon mutual
agreement to defined customers in other countries. This agreement has a five
year term. Additional products may be added at Siemens' request and based on
terms and conditions to be mutually agreed upon by the parties. This agreement
can be extended to other Siemens divisions. In December 2000, we extended the
agreement to Siemens SAS, ICN Fixed Networks. In addition, this agreement may be
extended to Siemens' affiliates on a global basis on the same terms and
conditions, or similar terms and conditions by mutual agreement of the parties.
TAX SHARING AGREEMENT
We entered into a tax sharing agreement with Siemens Corporation setting
forth our respective obligations and responsibilities with respect to federal,
state and local income taxes for periods in which we are included in the Siemens
Corporation consolidated income tax returns. Under the terms of the tax
agreement, we are required to calculate our income taxes as if we were separate
from Siemens Corporation and pay over to Siemens Corporation the amount of tax
we would have paid had we not been part of the Siemens Corporation tax return.
If any of our tax attributes generated after the date of this offering are
utilized by another member of the Siemens group, Siemens Corporation is required
to reimburse us for benefits from these attributes in the year that we would
have used the attributes had such member of the Siemens Group not used them,
even if that is after we are no longer included in the Siemens Corporation tax
return. Under this agreement, payments received by us after we are no longer
included in the Siemens Corporation tax return will not result in a tax benefit
in our statement of operations. In addition, under this agreement, we will not
receive a tax benefit from our net operating losses incurred prior to this
offering.
The agreement also provides that Siemens Corporation has the right to
prepare and control any tax returns and control and settle any tax audits
relating to periods in which we are included in Siemens Corporation's tax
return. The agreement applies to us and any of our future subsidiaries.
OEM AGREEMENT FOR THE PURCHASE OF SMX PRODUCTS
In December 1998, we entered into a three-year agreement with Siemens ICN.
Pursuant to this agreement, Siemens ICN licenses our SMX-2100 product for use
with Siemens' products and resale to third parties and receives discounts of 50%
on purchases of certain of our SMX products, which may increase or decrease
based on revenue requirements being met and the type of product or configuration
being purchased. This agreement may be renewed by mutual agreement for an
additional two years and may be terminated upon default by a party.
SOFTWARE LICENSE AGREEMENT FOR RTP SOFTWARE
In March 2001, we entered into a two-year agreement with Fujitsu Siemens
Computers. Pursuant to this agreement, Fujitsu Siemens Computers granted us a
license to use its Resiliant Telco Platform, or RTP, software source code for
use with our voice switching products. This agreement automatically extends from
year to year unless both parties mutually agree to terminate the agreement.
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ENGINEERING SERVICES AGREEMENT
In October 2000, we formally entered into an engineering services agreement
with Siemens ICN. Pursuant to this agreement, Siemens ICN provided engineering
services to assist in the development of our SMX-2100 product. Siemens ICN
completed its services under this agreement in July 2000. We own the
intellectual property rights of any developments under this agreement. We
granted Siemens ICN a perpetual license to use, sell and sublicense specific
elements of this intellectual property excluding any intellectual property
related to the SMX-2100 product.
LICENSE-BACK OF VOICE OVER INTERNET PROTOCOL
In April 1999, Siemens ICN transferred to us the assets, employees and the
VoIP intellectual property rights associated with the research and development
group for voice switching products. We granted Siemens ICN a license to use that
intellectual property which was transferred to us and to sublicense the same to
its subsidiaries.
TRANSACTIONS WITH DIRECTORS AND OFFICERS
In fiscal 1999, we granted options to purchase shares of common stock to
Mr. Dolce, our President and Chief Executive Officer, Mr. Burkardt, our Chief
Operating Officer and Executive Vice President, Mr. Lindholm, our Senior Vice
President, Global Sales and Service, and Mr. Melden, our Chief Technical
Officer. Messrs. Dolce and Burkardt each received an option to purchase 66,666
shares of common stock. Mr. Lindholm received an option to purchase 33,333
shares of common stock and Mr. Melden received an option to purchase 21,666
shares of common stock. The exercise price of each of these options is $7.35 per
share. In November 1999, Mr. Lindholm also received an option to purchase 13,333
shares of common stock with an exercise price of $8.10 per share. Each of these
options is exercisable for up to ten years. These options generally vest over a
four-year period, 25% on the first anniversary of the date of grant and 6.25%
every three months thereafter.
During the first half of fiscal 2000, we paid Mr. Dolce an aggregate of
$9.0 million, Mr. Lindholm an aggregate of $1.75 million and Mr. Melden an
aggregate of $8.5 million in connection with milestone achievements relating to
the acquisition of Redstone Communications.
In June and July 2000, we granted options to purchase shares of common
stock to each of Messrs. Burkardt and Lindholm. Mr. Burkardt received options to
purchase 533,334 shares of common stock at an exercise price of $10.50 per
share. Mr. Lindholm received options to purchase 485,334 shares of common stock
at an exercise price of $10.50 per share. Each of these options is exercisable
for up to ten years. These options vest over a four-year period, 25% on the
first anniversary of the stated initial vesting date and 6.25% every three
months thereafter.
In August 2000, we sold restricted common stock to each of Messrs.
Burkardt, Lindholm and Melden. Mr. Burkardt purchased 200,000 shares of
restricted common stock at a purchase price of $10.50 per share. These shares
vest over a four-year period, 6.25% every three months beginning January 1,
2000. Mr. Burkardt paid substantially all of the purchase price for these shares
by delivering a promissory note, in accordance with the original terms of the
award, which matures in January 2004 and bears interest at the six month LIBOR
index rate plus 50 basis points per annum, which rate was 7.4% as of the date of
the note on August 1, 2000. This rate is recalculated on each six month
anniversary of the date of the note. The promissory note is secured by the
purchased shares and has recourse to the general assets of Mr. Burkardt as to
25% of the principal balance and 100% of the accrued interest on the note.
Interest paid is not refundable to Mr. Burkardt. In July 2001, we repurchased
137,500 shares of such restricted common stock from Mr. Burkardt as described
below. Mr. Lindholm purchased 143,000 shares of restricted common stock at a
purchase price of $10.50 per share. Mr. Melden purchased 378,334 shares of
restricted common stock at a purchase price of $10.50 per share. Mr. Lindholm's
and Mr. Melden's shares of restricted common stock vest over a four-year period,
25% on the first anniversary of the stated initial vesting date and 6.25% every
three months thereafter.
With respect to shares of restricted common stock sold to Mr. Dolce in
August 2000, see "Management -- Employment Agreements."
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On December 13, 2000, the board of directors voted to accelerate options to
purchase 66,666 shares of our common stock granted to Mr. Burkardt, our former
Chief Operating Officer and Executive Vice President, provided that Mr. Burkardt
exercised such options on or prior to the date of the initial public offering of
our common stock. In December 2000, Mr. Burkardt elected to exercise such
options. In connection with such exercise, we loaned Mr. Burkardt $489,995 to
pay the exercise price of the accelerated options. The loan is evidenced by a
secured promissory note which bears interest at an annual rate of 9% and matures
on January 1, 2003. The promissory note and accrued interest thereon have full
recourse to Mr. Burkardt's personal assets. Mr. Burkardt has entered into a
pledge agreement pursuant to which he pledged to us the shares of common stock
acquired upon exercise of the accelerated options as security for the loan. We
will enter into similar agreements with other employees that elect to exercise
options which we have agreed to accelerate. In April 2001, Mr. Burkardt repaid
the note and the accrued interest to us.
In July 2001, in connection with Mr. Burkardt's resignation and his
becoming available to us as a consultant, all unvested options previously
awarded to Mr. Burkardt under the amended and restated 1999 stock incentive plan
were cancelled, except for those options which would have vested on or before
April 1, 2002 had Mr. Burkardt remained an employee of ours. These options are
exercisable until October 1, 2002. The vesting of the restricted common stock
granted to Mr. Burkardt ceased as of July 2, 2001. On July 20, 2001, we
exercised our right to repurchase the restricted common stock with respect to
137,500 shares of such restricted common stock. We paid $10.50 per share by
virtue of our cancellation of the balance of the indebtedness owed by Mr.
Burkardt to us under his promissory note of August 2000.
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PRINCIPAL STOCKHOLDERS
The following table sets forth information with respect to the beneficial
ownership of our common stock as of July 15, 2001 and as adjusted to reflect the
sale of the shares of common stock offered by us in this offering, for:
- each person known by us to beneficially own more than 5% of our common
stock;
- each of our directors;
- each of our named executive officers; and
- all of our executive officers and directors as a group, including Messrs.
Burkardt, Clague and Donahue, former executive officers.
Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission. Except as indicated by the footnotes below,
we believe, based on the information furnished to us, that the persons and
entities named in the table below have sole voting and investment power with
respect to all shares of common stock shown as beneficially owned by them,
subject to applicable community property laws. Percentage of outstanding shares
of our common stock prior to completion of this offering is based on 90,760,602
shares of common stock outstanding as of July 15, 2001. Percentage of
outstanding shares of our common stock after completion of this offering is
based on 105,031,265 shares of common stock outstanding, which includes the
8,500,000 shares of common stock offered by us in this offering and 5,770,663
shares of our common stock issuable upon the automatic conversion upon the
closing of this offering of a $67.0 million convertible promissory note issued
to Siemens, assuming a $12.00 per share conversion price and $2,247,953 of
accrued interest as of June 30, 2001. In computing the number of shares of
common stock beneficially owned by a person and the percentage ownership of that
person, shares of common stock subject to options held by that person that are
currently exercisable or exercisable within 60 days of July 15, 2001 are deemed
outstanding. These shares, however, are not deemed outstanding for the purpose
of computing the percentage ownership of any other person or entity. Unless
otherwise indicated, the address of each beneficial owner listed below is c/o
Unisphere Networks, Inc., 10 Technology Park Drive, Westford, Massachusetts
01886.
<Table>
<Caption>
PERCENTAGE OF
SHARES BENEFICIALLY OWNED
NAME OF NUMBER OF SHARES --------------------------------
BENEFICIAL OWNER BENEFICIALLY OWNED BEFORE OFFERING AFTER OFFERING
- ---------------- ------------------ --------------- --------------
5% STOCKHOLDER
Siemens Corporation(1)............................. 86,133,333 95.0% 87.5%
NAMED EXECUTIVE OFFICERS AND DIRECTORS
James A. Dolce, Jr.(2) ............................ 2,537,500 2.8 2.4%
Thomas M. Burkardt(3).............................. 616,667 * *
Evanthia C. Aretakis............................... -- -- --
Christopher P. Lawler(4)........................... 147,292 * *
Jeffrey P. Lindholm(5)............................. 352,012 * *
Kurt A. Melden(6).................................. 390,521 * *
Mark Nasiff(7)..................................... 28,750 * *
Suzanne M. Zabitchuck(8)........................... 26,250 * *
Martin C. Clague(9)................................ 46,666 * *
George S. Donahue(10).............................. 16,666 * *
Craig R. Benson.................................... -- -- --
Dietrich A. Diehn(11).............................. 22,500 * *
Stephan D. Howaldt................................. 12,500 -- --
Anthony T. Maher(12)............................... 33,750 * *
Daniel E. Smith(13)................................ 22,500 * *
All directors and executive officers as a group (15
persons)(14)....................................... 4,253,574 4.7% 4.0%
</Table>
- ---------------
* Indicates beneficial ownership of less than 1% of the outstanding common
stock.
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(1) The address of Siemens Corporation is 153 East 53rd Street, New York, New
York 10022. The board of directors of Siemens Corporation has investment
and voting power with respect to such shares of common stock.
(2) Includes (i) 37,500 shares of common stock subject to options exercisable
within 60 days of July 15, 2001, (ii) 5,007 shares of restricted common
stock held by Mr. Dolce's parents, (iii) 5,007 shares of restricted common
stock held by Mr. Dolce's brother and sister-in-law, (iv) 2,504 shares of
restricted common stock held by Mr. Dolce's brother as trustee under The
Alex Dolce Trust Jeffrey M. Dolce TTEE U/A/D dated 6/1/98 and (v) 2,504
shares of restricted common stock held by Mr. Dolce's brother as trustee
under The Eric Dolce Trust Jeffrey M. Dolce TTEE U/A/D dated 6/1/98. Mr.
Dolce disclaims beneficial ownership of the shares held by these persons
and trusts.
(3) Includes (i) 350,001 shares of common stock subject to options exercisable
within 60 days of July 15, 2001 and (ii) 25,000 shares of restricted common
stock held by Mr. Burkardt as trustee for the Year 2000 Burkardt Family
Grantor Retained Annuity Trust. Mr. Burkardt disclaims beneficial ownership
of the shares held by this trust.
(4) Includes 147,292 shares of common stock subject to options exercisable
within 60 days of July 15, 2001 and 5,832 shares of restricted common stock
held by Mr. Lawler's wife as trustee for the Lawler Irrevocable Children's
Trust dated January 27, 2000. Mr. Lawler disclaims beneficial ownership of
the shares held by this trust.
(5) Includes (i) 209,012 shares of common stock subject to options exercisable
within 60 days of July 15, 2001, (ii) 30,000 shares of restricted common
stock held by Mr. Lindholm's wife as trustee for The Lindholm Grantor
Retained Annuity Trust, (iii) 10,000 shares of restricted common stock held
by Mr. Lindholm's wife as trustee for The Kelsey John Lindholm Gift
Trust - 2000, (iv) 10,000 shares of restricted common stock held by Mr.
Lindholm's wife as trustee for The Paul Edward Lindholm Gift Trust - 2000
and (v) 10,000 shares of restricted common stock held by Mr. Lindholm's
wife as trustee for The Rachel Mae Lindholm Gift Trust - 2000. Mr. Lindholm
disclaims beneficial ownership of the shares held by his wife and these
trusts.
(6) Includes 12,187 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
(7) Consists of 28,750 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
(8) Consists of 26,250 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
(9) Includes 66 shares of common stock subject to options exercisable within 60
days of July 15, 2001.
(10) Consists of 16,666 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
(11) Consists of 22,500 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
(12) Consists of 33,750 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
(13) Consists of 22,500 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
(14) Includes 918,973 shares of common stock subject to options exercisable
within 60 days of July 15, 2001.
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DESCRIPTION OF CAPITAL STOCK
Effective upon the completion of this offering and the filing of our
amended and restated certificate of incorporation, our authorized capital stock
will consist of 295,000,000 shares of common stock, $.01 par value per share,
and 5,000,000 shares of preferred stock, $.01 par value per share.
The following summary description of our capital stock, as of the
completion of this offering, may not contain all the information that is
important to you. You should also refer to the provisions of applicable law and
to our amended and restated certificate of incorporation and amended and
restated by-laws filed as exhibits to the registration statement of which this
prospectus is a part.
COMMON STOCK
As of June 30, 2001, there were 90,758,102 shares of common stock
outstanding and held of record by 269 stockholders. Based upon the number of
shares outstanding as of June 30, 2001 and giving effect to the issuance of the
shares of common stock offered by us in this offering, there will be 105,028,765
shares of common stock outstanding upon the completion of this offering, after
giving effect to the automatic conversion of the $67.0 million convertible
promissory note to Siemens upon the closing of this offering into 5,770,663
shares of common stock, assuming a $12.00 per share conversion price and
$2,247,953 of accrued interest. In addition, as of June 30, 2001, there were
outstanding stock options for the purchase of 15,505,640 shares of common stock.
Holders of our common stock are entitled to one vote per share for each
share held of record on all matters submitted to a vote of stockholders and do
not have cumulative voting rights. Our directors are elected by a plurality of
the votes of the shares of common stock present in person or by proxy at the
meeting. The holders of common stock are entitled to receive ratably such lawful
dividends as may be declared by our board of directors. However, such dividends
are subject to preferences that may be applicable to the holders of any
outstanding shares of preferred stock. In the event of our liquidation,
dissolution or winding up of our affairs, whether voluntarily or involuntarily,
the holders of common stock will be entitled to receive pro rata all of our
remaining assets available for distribution to our stockholders. Any such pro
rata distribution would be subject to the rights of the holders of any
outstanding shares of preferred stock. The common stock has no preemptive,
redemption, conversion or subscription rights. All outstanding shares of our
common stock are fully paid and non-assessable. The shares of common stock to be
issued by us in this offering will be fully paid and non-assessable. The rights,
powers, preferences and privileges of holders of common stock are subject to,
and may be adversely affected by, the rights of the holders of shares of any
series of preferred stock that we may designate and issue in the future. Upon
the completion of this offering, there will be no shares of preferred stock
outstanding.
PREFERRED STOCK
Our board of directors will be authorized, subject to any limitations
prescribed by Delaware law, without further stockholder approval, to issue from
time to time up to an aggregate of 5,000,000 shares of preferred stock, in one
or more series. Each share of preferred stock would be entitled to no more than
one vote per share. Our board of directors is also authorized, subject to the
limitations prescribed by Delaware law, to establish the number of shares to be
included in each series and to fix the voting powers, preferences,
qualifications and special or relative rights or privileges of each series. Our
board of directors is authorized to issue preferred stock with conversion and
other rights and preferences that could adversely affect the other rights of the
holders of common stock.
We have no current plans to issue any preferred stock. However, the
issuance of preferred stock or of rights to purchase preferred stock could have
the effect of making it more difficult for a third party to acquire, or of
discouraging a third party from attempting to acquire, a majority of our
outstanding common stock.
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SECTION 203 OF DELAWARE GENERAL CORPORATION LAW
Our certificate of incorporation contains a provision expressly electing
not to be governed by Section 203 of the Delaware General Corporation Law. In
general, Section 203 restricts some business combinations involving interested
stockholders, defined as any person or entity that is the beneficial owner of at
least 15% of a corporation's voting stock or is an affiliate or associate of the
corporation or the owner of 15% or more of the outstanding voting stock of the
corporation at any time in the past three years, or their affiliates. Because of
such election, Section 203 will not apply to us.
LIMITATION OF LIABILITY AND INDEMNIFICATION
Our certificate of incorporation provides that none of our directors shall
be personally liable to us or to our stockholders for monetary damages for
breach of fiduciary duty as a director, except to the extent that the
elimination or limitation of such liability is not permitted by Delaware General
Corporation Law as it exists or may later be amended.
Our certificate of incorporation further provides for the indemnification
of our directors and officers to the fullest extent permitted by Section 145 of
the Delaware General Corporation Law, including circumstances in which
indemnification is otherwise discretionary.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for our common stock is EquiServe L.P.
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SHARES ELIGIBLE FOR FUTURE SALE
EFFECT OF SALES OF SHARES
Prior to this offering, no public market existed for our common stock, and
we can make no prediction as to the effect, if any, that sales of shares of our
common stock or the availability of shares of our common stock for sale will
have on the market price of the common stock prevailing from time to time.
Nevertheless, sales of substantial amounts of our common stock in the public
market, or the perception that such sales occur, could cause the market price of
our common stock to decrease and could impair our future ability to raise
capital through an offering of our equity securities.
SALE OF RESTRICTED SHARES
Upon completion of this offering, based upon the number of shares
outstanding as of June 30, 2001, we will have an aggregate of 105,028,765 shares
of common stock outstanding, assuming no exercise of the underwriters'
over-allotment option, no exercise of outstanding options, and after giving
effect to the automatic conversion of the $67.0 million convertible promissory
note to Siemens upon the closing of this offering into 5,770,663 shares of
common stock, assuming a $12.00 per share conversion price and $2,247,953 of
accrued interest. Of these outstanding shares, the 8,500,000 shares sold in this
offering will be freely tradable without restriction or further registration
under the Securities Act, except that any shares purchased by our "affiliates,"
as that term is defined in Rule 144 under the Securities Act, generally only may
be sold in compliance with the limitations of Rule 144 described below. All of
the remaining 96,528,765 shares of common stock that will be outstanding
immediately after completion of this offering will be "restricted securities" as
that term is defined under Rule 144. Restricted securities may be sold in the
public market only if they qualify for an exemption from registration under Rule
144, including Rule 144(k), or Rule 701 under the Securities Act. Upon the
180-day expiration of the lock-up agreements described below and subject to the
volume limitations described below, 2,968,447 of these restricted shares will be
immediately available for resale in the public market. A portion of these shares
may be available for sale earlier if released under the terms of the lock-up
agreements described below. In addition, Siemens, upon the 180-day expiration of
its lock-up agreement and subject to the volume limitations described below,
will be able to sell immediately 86,133,333 of its shares of common stock in the
public market.
In general, under Rule 144, commencing 90 days after the date of this
prospectus, a person who has beneficially owned shares of our common stock for
at least one year is entitled to sell within any three-month period a number of
shares that does not exceed the greater of:
- 1% of the number of shares of our common stock then outstanding, which is
expected to be approximately 1,050,288 shares upon completion of this
offering; or
- the average weekly trading volume of our common stock on the Nasdaq
National Market during the four calendar weeks preceding the filing of a
notice on Form 144 with respect to such sale, subject to the restrictions
specified in Rule 144.
Sales under Rule 144 are also subject to manner of sale provisions and
notice requirements and to the availability of current public information about
us.
Under Rule 144(k), a person who is not one of our affiliates at any time
during the three months preceding a sale and who has beneficially owned the
shares proposed to be sold for at least two years is entitled to sell their
shares under Rule 144(k) without complying with the manner of sale, public
information, volume limitation or notice provisions of Rule 144. Therefore,
unless otherwise restricted, Rule 144(k) shares may be sold immediately upon
completion of this offering. Immediately upon completion of this offering, no
outstanding shares would be eligible for sale under Rule 144(k).
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OPTIONS
Rule 701 provides that the shares of common stock acquired upon the
exercise of options outstanding as of June 30, 2001 or pursuant to other rights
granted under our stock plans may be resold (to the extent not subject to a
lock-up agreement) by persons, other than affiliates, beginning 90 days after
the date of this prospectus, subject only to the manner of sale provisions of
Rule 144, and by affiliates under Rule 144, without compliance with its one-year
minimum holding period, subject to certain limitations. As of June 30, 2001,
options to purchase a total of 15,505,640 shares of common stock were
outstanding, 4,849,762 of which options are exercisable.
We intend to file one or more registration statements on Form S-8 under the
Securities Act after the completion of this offering to register up to
29,602,569 shares of common stock which are initially issuable pursuant to our
stock option and stock purchase plans. These registration statements are
expected to become effective upon filing. Shares covered by these registration
statements will thereupon be eligible for sale in the public markets, subject to
the lock-up agreements, to the extent applicable and to Rule 144 limitations
applicable to affiliates.
LOCK-UP AGREEMENTS
Our officers, directors, Siemens and certain of our stockholders and
optionholders have agreed that they will not offer or sell, directly or
indirectly, any shares of common stock that they held at the time of the
offering without the prior written consent of Credit Suisse First Boston
Corporation or our prior written consent, which consent we have agreed will not
be given without the prior written consent of Credit Suisse First Boston
Corporation, for a lock-up period of 180 days from the date of this prospectus.
Up to 25% of the vested shares of our common stock (including shares issued
or issuable upon exercise of options) held by our stockholders (other than
Siemens), employees and optionholders, however, may be released from the 180-day
lock-up period beginning on the later of 91 days from the date of our final
prospectus or the second trading day after the first complete trading day
following the public announcement of our quarterly financial results for the
first quarter ending after the date of our final prospectus. This early release
would be conditioned upon, among other conditions, the price of our common stock
trading at a price that is at least two times the initial public offering price
for 20 of the 30 trading days ending on the last trading day preceding this
early release date.
We have agreed not to sell or otherwise dispose of any shares of common
stock during the 180-day period following the date of the prospectus, except we
may issue and grant options to purchase shares of common stock under our
purchase and option plans. In addition, we would be permitted to issue shares of
common stock in connection with an acquisition of another company if we were to
enter into a definitive agreement prior to the date of this prospectus, provided
that the terms of such issuance provide that the common stock issued to
specified persons in connection with such an acquisition will not be resold
prior to the expiration of the 180-day lock-up period.
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UNDERWRITING
Under the terms and subject to the conditions contained in an underwriting
agreement dated , 2001, we have agreed to sell to the
underwriters named below, for whom Credit Suisse First Boston Corporation, J.P.
Morgan Securities Inc. and UBS Warburg LLC are acting as representatives, the
following respective numbers of shares of common stock:
<Table>
<Caption>
NUMBER
UNDERWRITER OF SHARES
----------- ----------
Credit Suisse First Boston Corporation......................
J.P. Morgan Securities Inc..................................
UBS Warburg LLC.............................................
----------
Total............................................. 8,500,000
==========
</Table>
The underwriting agreement provides that the underwriters are obligated to
purchase all the shares of common stock in the offering if any are purchased,
other than those shares covered by the over-allotment option described below.
The underwriting agreement also provides that if an underwriter defaults the
purchase commitments of non-defaulting underwriters may be increased or the
offering may be terminated.
We have granted to the underwriters a 30-day option to purchase on a pro
rata basis up to 1,275,000 additional shares from us at the initial public
offering price less the underwriting discounts and commissions. The option may
be exercised only to cover any over-allotments of common stock.
The underwriters propose to offer the shares of common stock initially at
the public offering price on the cover page of this prospectus and to selling
group members at that price less a selling concession of $ per share. The
underwriters and selling group members may allow a discount of $ per share
on sales to other broker/dealers. After the initial public offering, the
representatives may change the public offering price and concession and discount
to broker/dealers.
The following table summarizes the compensation and estimated expenses we
will pay:
<Table>
<Caption>
PER SHARE TOTAL
-------------------------------- --------------------------------
WITHOUT WITH WITHOUT WITH
OVER-ALLOTMENT OVER-ALLOTMENT OVER-ALLOTMENT OVER-ALLOTMENT
-------------- -------------- -------------- --------------
Underwriting discounts and
commissions paid by us............. $ $ $ $
Expenses payable by us............... $ $ $ $
</Table>
UBS Warburg Ltd., a subsidiary of UBS AG, has acted as a financial adviser
to Siemens AG in connection with the offering and will receive a customary cash
fee from Siemens AG for its services up to a maximum of $1,500,000. This cash
fee will be in addition to underwriting discounts and commissions payable to UBS
Warburg LLC under the underwriting agreement. UBS Warburg LLC, one of the
representatives of the underwriters, is a subsidiary of UBS AG, and we are a
subsidiary of Siemens Corporation, which is an indirect wholly-owned subsidiary
of Siemens AG.
The underwriters have informed us that they do not expect discretionary
sales to exceed 5% of the shares of common stock being offered.
We have agreed that we will not offer, sell, contract to sell, pledge or
otherwise dispose of, directly or indirectly, or file with the Securities and
Exchange Commission a registration statement under the Securities Act of 1933
relating to, any shares of our common stock or securities convertible into or
exchangeable or exercisable for any shares of our common stock, or publicly
disclose the intention to make any offer, sale, pledge, disposition or filing,
without the prior written consent of Credit Suisse First Boston Corporation for
a period of 180 days after the date of this prospectus, except grants of
employee stock options pursuant to the terms of a plan in effect on the date
hereof, issuances pursuant to the exercise of such options, the exercise of any
other employee stock options outstanding on the date hereof or issuance of
securities in connection with a merger agreement executed prior to the date
hereof.
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Our officers, directors, Siemens Corporation and certain of our
stockholders and optionholders have agreed that they will not offer, sell,
contract to sell, pledge or otherwise dispose of, directly or indirectly, any
shares of our common stock or securities convertible into or exchangeable or
exercisable for any shares of our common stock, enter into a transaction which
would have the same effect, or enter into any swap, hedge or other arrangement
that transfers, in whole or in part, any of the economic consequences of
ownership of our common stock, whether any of these transactions are to be
settled by delivery of our common stock or other securities, in cash or
otherwise, or publicly disclose the intention to make any such offer, sale,
pledge or disposition, or to enter into any transaction, swap, hedge or other
arrangement, without, in each case, the prior written consent of Credit Suisse
First Boston Corporation for a period of 180 days after the date of this
prospectus.
Up to 25% of the vested shares of our common stock (including shares issued
or issuable upon exercise of options) held by our stockholders (other than
Siemens), employees and option holders, however, may be released from the
180-day lock-up period beginning on the later of 91 days from the date of our
final prospectus or the second trading day after the first complete trading day
following the public announcement of our quarterly financial results for the
first quarter ending after the date of our final prospectus. This early release
would be conditioned upon, among other conditions, the price of our common stock
trading at a price that is at least two times the initial public offering price
for 20 of the 30 trading days ending on the last trading day preceding this
early release date.
The underwriters have reserved for sale, at the initial public offering
price, up to 562,000 shares of the common stock for employees, directors and
other persons associated with us who have expressed an interest in purchasing
common stock in the offering. The number of shares available for sale to the
general public in the offering will be reduced to the extent these persons
purchase the reserved shares. Any reserved shares not so purchased will be
offered by the underwriters to the general public on the same terms as the other
shares.
We have agreed to indemnify the underwriters against liabilities under the
Securities Act, or contribute to payments that the underwriters may be required
to make in that respect.
We have applied to list the shares of common stock on The Nasdaq Stock
Market's National Market under the symbol "UNSP".
Before the offering, there has been no public market for our common stock.
The initial public offering price will be determined by negotiation between the
representatives and us. The principal factors to be considered in determining
the public offering price include:
- the information in this prospectus or available to the underwriters;
- the history and the prospects for the industry in which we will complete;
- the ability of our management;
- the prospects for our future earnings;
- the present state of our developments and our current financial
condition;
- the general condition of the securities markets at the time of this
offering; and
- the recent market prices of, and the demand for, publicly traded common
stock of generally comparable companies.
In connection with the offering the underwriters may engage in stabilizing
transactions, over-allotment transactions, syndicate covering transactions and
penalty bids in accordance with Regulation M under the Securities Exchange Act
of 1934.
- Stabilizing transactions permit bids to purchase the underlying security
so long as the stabilizing bids do not exceed a specified maximum.
71
77
- Over-allotment involves sales by the underwriters of shares in excess of
the number of shares the underwriters are obligated to purchase, which
creates a syndicate short position. The short position may be either a
covered short position or a naked short position. In a covered short
position, the number of shares over-allotted by the underwriters is not
greater than the number of shares that they may purchase in the
over-allotment option. In a naked short position, the number of shares
involved is greater than the number of shares in the over-allotment
option. The underwriters may close out any short position by either
exercising their over-allotment option and/or purchasing shares in the
open market.
- Syndicate covering transactions involve purchases of the common stock in
the open market after the distribution has been completed in order to
cover syndicate short positions. In determining the source of shares to
close out the short position, the underwriters will consider, among other
things, the price of shares available for purchase in the open market as
compared to the price at which they may purchase shares through the
over-allotment option. If the underwriters sell more shares than could be
covered by the over-allotment option, a naked short position, the
position can only be closed out by buying shares in the open market. A
naked short position is more likely to be created if the underwriters are
concerned that there could be downward pressure on the price of the
shares in the open market after pricing that could adversely affect
investors who purchase in the offering.
- Penalty bids permit the representatives to reclaim a selling concession
from a syndicate member when the common stock originally sold by the
syndicate member is purchased in a stabilizing or syndicate covering
transaction to cover syndicate short positions.
These stabilizing transactions, syndicate covering transactions and penalty bids
may have the effect of raising or maintaining the market price of our common
stock or preventing or retarding a decline in the market price of the common
stock. As a result, the price of our common stock may be higher than the price
that might otherwise exist in the open market. These transactions may be
effected on The Nasdaq National Market or otherwise and, if commenced, may be
discontinued at any time.
A prospectus in electronic format may be made available on the web sites
maintained by one or more of the underwriters participating in this offering.
The representatives may agree to allocate a number of shares to underwriters for
sale to their online brokerage account holders. Internet distributions will be
allocated by the underwriters that will make internet distributions on the same
basis as other allocations. Credit Suisse First Boston Corporation may effect an
on-line distribution through its affiliate, CSFBdirect, Inc., an on-line broker
dealer, as a selling group member.
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78
NOTICE TO CANADIAN RESIDENTS
RESALE RESTRICTIONS
The distribution of the common stock in Canada is being made only on a
private placement basis exempt from the requirement that we prepare and file a
prospectus with the securities regulatory authorities in each province where
trades of common stock are made. Any resale of the common stock in Canada must
be made under applicable securities laws which will vary depending on the
relevant jurisdiction, and which may require resales to be made under available
statutory exemptions or under a discretionary exemption granted by the
applicable Canadian securities regulatory authority. Purchasers are advised to
seek legal advice prior to any resale of the common stock.
REPRESENTATIONS OF PURCHASERS
By purchasing common stock in Canada and accepting a purchase confirmation
a purchaser is representing to us and the dealer from whom the purchase
confirmation is received that
- the purchaser is entitled under applicable provincial securities laws to
purchase the common stock without the benefit of a prospectus qualified
under those securities laws,
- where required by law, that the purchaser is purchasing as principal and
not as agent, and
- such purchaser has reviewed the text above under Resale Restrictions.
RIGHTS OF ACTION (ONTARIO PURCHASERS)
The securities being offered are those of a foreign issuer and Ontario
purchasers will not receive the contractual right of action prescribed by
Ontario securities law. As a result, Ontario purchasers must rely on other
remedies that may be available, including common law rights of action for
damages or rescission or rights of action under the civil liability provisions
of the U.S. federal securities laws.
ENFORCEMENT OF LEGAL RIGHTS
All of the issuer's directors and officers as well as the experts named
herein may be located outside of Canada and, as a result, it may not be possible
for Canadian purchasers to effect service of process within Canada upon the
issuer or such persons. All or a substantial portion of the assets of the issuer
and such persons may be located outside of Canada and, as a result, it may not
be possible to satisfy a judgment against the issuer or such persons in Canada
or to enforce a judgment obtained in Canadian courts against such issuer or
persons outside of Canada.
NOTICE TO BRITISH COLUMBIA RESIDENTS
A purchaser of common stock to whom the Securities Act (British Columbia)
applies is advised that the purchaser is required to file with the British
Columbia Securities Commission a report within ten days of the sale of any
common stock acquired by the purchaser pursuant to this offering. The report
must be in the form attached to British Columbia Securities Commission Blanket
Order BOR #95/17, a copy of which may be obtained from us. Only one report must
be filed for common stock acquired on the same date and under the same
prospectus exemption.
TAXATION AND ELIGIBILITY FOR INVESTMENT
Canadian purchasers of common stock should consult their own legal and tax
advisors with respect to the tax consequences of an investment in the common
stock in their particular circumstances and about the eligibility of the common
stock for investment by the purchaser under relevant Canadian legislation.
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79
LEGAL MATTERS
The validity of the common stock offered hereby will be passed upon for us
by Hale and Dorr LLP, Boston, Massachusetts. Legal matters for the underwriters
will be passed upon by Gunderson Dettmer Stough Villeneuve Franklin & Hachigian,
LLP, Waltham, Massachusetts.
EXPERTS
The consolidated financial statements and schedule of Unisphere Networks,
Inc. as of September 30, 1999 and 2000 and for the period from January 12, 1999
(date of inception) to September 30, 1999 and for the year ended September 30,
2000, have been included herein and in this registration statement in reliance
upon the reports of KPMG LLP, independent certified public accountants,
appearing elsewhere herein, and upon the authority of said firm as experts in
accounting and auditing.
The financial statements of Redstone Communications, Inc. as of April 27,
1999 and for the period from January 1, 1999 to April 27, 1999 and cumulative
from inception (September 16, 1997) to April 27, 1999, have been included herein
and in this registration statement in reliance upon the report of KPMG LLP,
independent certified public accountants, appearing elsewhere herein, and upon
the authority of said firm as experts in accounting and auditing. The report of
KPMG LLP covering the aforementioned financial statements of Redstone
Communications, Inc. refers to the restatement of the financial statements.
The financial statements of Redstone Communications, Inc. at December 31,
1997 and 1998, and for the period from inception (September 16, 1997) to
December 31, 1997, for the year ended December 31, 1998 and cumulative from
inception through December 31, 1998, included in this prospectus have been so
included in reliance on the report of PricewaterhouseCoopers LLP, independent
accountants, given on the authority of said firm as experts in accounting and
auditing.
The financial statements of Castle Networks, Inc. as of April 20, 1999 and
for the period from January 1, 1999 to April 20, 1999 and cumulative from
inception (October 16, 1997) to April 20, 1999, have been included herein and in
this registration statement in reliance upon the report of KPMG LLP, independent
certified public accountants, appearing elsewhere herein, and upon the authority
of said firm as experts in accounting and auditing. The report of KPMG LLP
covering the aforementioned financial statements of Castle Networks, Inc. refers
to the restatement of the financial statements.
The financial statements of Castle Networks, Inc. at December 31, 1997 and
1998, and for the period from inception (November 18, 1997) to December 31,
1997, for the year ended December 31, 1998 and for the period from inception
(October 16, 1997) to December 31, 1998, included in this prospectus have been
so included in reliance on the report of PricewaterhouseCoopers LLP, independent
accountants, given on the authority of said firm as experts in accounting and
auditing.
The financial statements of Argon Networks, Inc. as of March 31, 1998 and
March 12, 1999, and for the year ended March 31, 1998, for the period from April
1, 1998 to March 12, 1999, and for the period from inception (March 13, 1997) to
March 12, 1999, included in this prospectus and elsewhere in the registration
statement have been audited by Arthur Andersen LLP, independent public
accountants as indicated in their report with respect thereto, and are included
herein in reliance upon the authority of said firm as experts in giving said
report.
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the Securities and Exchange Commission a registration
statement on Form S-1, including the exhibits and schedules to the registration
statement, under the Securities Act with respect to the shares to be sold in
this offering. This prospectus does not contain all the information set forth in
the registration statement. For further information with respect to us and the
shares to be sold in this offering, reference is made to the registration
statement. Statements contained in this prospectus as to the contents of any
contract, agreement or other document referred to, are not necessarily complete,
and in each
74
80
instance reference is made to the copy of each contract, agreement or other
document filed as an exhibit to the registration statement.
You may read and copy all or any portion of the registration statement or
any reports, statements or other information we file at the Commission's public
reference room at Room 1024, Judiciary Plaza, 450 Fifth Street, N.W.,
Washington, D.C. 20549 and at the regional offices of the Commission located at
Seven World Trade Center, 13th Floor, New York, New York 10048 and 500 West
Madison Street, Suite 1400, Chicago, Illinois 60661. You can request copies of
these documents upon payment of a copying fee, by writing to the Commission at
an address listed above. Please call the Commission at 1-800-SEC-0330 for
further information on the operation of the public reference rooms. Our
Commission filings, including the registration statement, will also be available
to you on the Commission's internet site (http://www.sec.gov).
75
81
INDEX TO FINANCIAL STATEMENTS
<Table>
<Caption>
PAGE
----
UNISPHERE NETWORKS, INC.
Independent Auditors' Report.............................. F-3
Consolidated Statements of Operations for the period from
January 12, 1999 (date of inception) through September
30, 1999, for the year ended September 30, 2000 and for
the nine months ended June 30, 2000 and 2001
(unaudited)............................................ F-4
Consolidated Balance Sheets at September 30, 1999 and
2000, and June 30, 2001 (unaudited).................... F-5
Consolidated Statements of Stockholders' Equity for the
period from January 12, 1999 (date of inception)
through September 30, 1999, for the year ended
September 30, 2000 and for the nine months ended June
30, 2001 (unaudited)................................... F-6
Consolidated Statements of Cash Flows for the period from
January 12, 1999 (date of inception) through September
30, 1999, for the year ended September 30, 2000 and for
the nine months ended June 30, 2000 and 2001
(unaudited)............................................ F-7
Notes to Consolidated Financial Statements................ F-8
REDSTONE COMMUNICATIONS, INC.
Independent Auditors' Report.............................. F-23
Statements of Operations for the period from January 1,
1999 to April 27, 1999 (restated) and for the
cumulative period from inception (September 16, 1997)
to April 27, 1999 (restated)........................... F-24
Balance Sheet at April 27, 1999 (restated)................ F-25
Statements of Stockholders' Deficit for the periods from
inception (September 16, 1997) to April 27, 1999
(restated)............................................. F-26
Statements of Cash Flows for the period from January 1,
1999 to April 27, 1999 (restated) and for the
cumulative period from inception (September 16, 1997)
to April 27, 1999 (restated)........................... F-27
Notes to Financial Statements............................. F-28
REDSTONE COMMUNICATIONS, INC.
Report of Independent Accountants......................... F-37
Statements of Operations for the period from inception
(September 16, 1997) to December 31, 1997, the year
ended December 31, 1998, and for the cumulative period
from inception to December 31, 1998.................... F-38
Balance Sheets at December 31, 1997 and 1998.............. F-39
Statements of Stockholders' Equity for the periods from
inception (September 16, 1997) to December 31, 1998.... F-40
Statements of Cash Flows for the period from inception
(September 16, 1997) to December 31, 1997, the year
ended December 31, 1998, and for the cumulative period
from inception to December 31, 1998.................... F-41
Notes to Financial Statements............................. F-42
CASTLE NETWORKS, INC.
Independent Auditors' Report.............................. F-50
Statements of Operations for the period from January 1,
1999 to April 20, 1999 (restated) and for the
cumulative period from inception (October 16, 1997) to
April 20, 1999 (restated).............................. F-51
Balance Sheet at April 20, 1999 (restated)................ F-52
Statements of Stockholders' Deficit for the periods from
inception (October 16, 1997) to April 20, 1999
(restated)............................................. F-53
Statements of Cash Flows for the period from January 1,
1999 to April 20, 1999 (restated) and for the
cumulative period from inception (October 16, 1997) to
April 20, 1999 (restated).............................. F-54
Notes to Financial Statements............................. F-55
</Table>
F-1
82
<Table>
<Caption>
PAGE
----
CASTLE NETWORKS, INC.
Report of Independent Accountants......................... F-65
Statements of Operations for the period from inception
(October 16, 1997) to December 31, 1997, the year ended
December 31, 1998 and for the period from inception
(October 16, 1997) to December 31, 1998................ F-66
Balance Sheets at December 31, 1997 and 1998.............. F-67
Statements of Stockholders' Deficit for the periods from
inception (October 16, 1997) to December 31, 1998...... F-68
Statements of Cash Flows for the period from inception
(October 16, 1997) to December 31, 1997, the year ended
December 31, 1998, and for the period from inception
(October 16, 1997) to December 31, 1998................ F-69
Notes to Financial Statements............................. F-70
ARGON NETWORKS, INC.
Report of Independent Public Accountants.................. F-77
Statement of Operations for the year ended March 31, 1998,
for the period from April 1, 1998 to March 12, 1999 and
for the cumulative period from inception (March 13,
1997) to March 12, 1999................................ F-78
Balance Sheets at March 31, 1998 and March 12, 1999....... F-79
Statements of Redeemable Preferred Stock and Stockholders'
Deficit for the period from inception (March 13, 1997)
to March 12, 1999...................................... F-80
Statements of Cash Flows for the year ended March 31,
1998, for the period from April 1, 1998 to March 12,
1999 and for the cumulative period from inception
(March 13, 1997) to March 12, 1999..................... F-81
Notes to Financial Statements............................. F-82
</Table>
F-2
83
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Unisphere Networks, Inc. and Subsidiaries:
We have audited the accompanying consolidated balance sheets of Unisphere
Networks, Inc. and Subsidiaries (an indirect majority-owned subsidiary of
Siemens AG) as of September 30, 1999 and 2000, and the related consolidated
statements of operations, stockholders' equity and cash flows for the period
from January 12, 1999 (date of inception) to September 30, 1999 and for the year
ended September 30, 2000. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted 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 audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Unisphere
Networks, Inc. and Subsidiaries as of September 30, 1999 and 2000 and the
results of their operations and their cash flows for the period from January 12,
1999 (date of inception) to September 30, 1999 and for the year ended September
30, 2000, in conformity with accounting principles generally accepted in the
United States of America.
/s/ KPMG LLP
Boston, Massachusetts
November 30, 2000
F-3
84
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
CONSOLIDATED STATEMENTS OF OPERATIONS
<Table>
<Caption>
JANUARY 12, 1999
(DATE OF INCEPTION) NINE MONTHS ENDED
THROUGH YEAR ENDED JUNE 30,
SEPTEMBER 30, SEPTEMBER 30, ----------------------
1999 2000 2000 2001
-------------------- -------------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA) (UNAUDITED)
Net revenues:
Third parties....................... $ 1,027 $ 29,285 $ 21,182 $ 88,433
Related parties..................... 1,786 20,343 10,816 38,778
--------- --------- --------- ---------
Net revenues................ 2,813 49,628 31,998 127,211
Cost of revenues:
Cost of revenues, excluding
stock-based compensation......... 6,485 43,476 32,022 70,356
Stock-based compensation............ -- 644 51 275
--------- --------- --------- ---------
Total cost of revenues...... 6,485 44,120 32,073 70,631
--------- --------- --------- ---------
Gross profit (loss)......... (3,672) 5,508 (75) 56,580
Operating expenses:
Research and development(1)......... 68,369 112,451 88,443 71,060
Sales and marketing(1).............. 20,291 42,874 31,576 39,415
General and administrative(1)....... 13,919 14,736 12,434 9,444
Amortization of intangible assets... 61,629 127,033 98,996 84,113
Merger-related costs................ -- -- -- 6,508
Impairment of intangible assets..... -- 118,810 118,810 --
Purchased in-process research and
development...................... 217,400 -- -- --
Stock-based compensation............ -- 21,820 2,814 4,509
--------- --------- --------- ---------
Total operating expenses.... 381,608 437,724 353,073 215,049
--------- --------- --------- ---------
Loss from operations........ (385,280) (432,216) (353,148) (158,469)
Other income (expense):
Other expense....................... -- (2,164) (1,975) (3,930)
Interest income (expense)........... 227 698 321 (196)
--------- --------- --------- ---------
Total other income (expense)..... 227 (1,466) (1,654) (4,126)
--------- --------- --------- ---------
Net loss.................... $(385,053) $(433,682) $(354,802) $(162,595)
========= ========= ========= =========
Basic and diluted net loss per
share............................... $ (4.47) $ (5.02) $ (4.12) $ (1.84)
========= ========= ========= =========
Weighted average shares used in
computing basic and diluted net loss
per share........................... 86,133 86,399 86,133 88,441
========= ========= ========= =========
Pro forma basic and diluted net loss
per share (unaudited) (Note 2(d))... $ (1.78)
=========
Weighted average shares used in
computing pro forma basic and
diluted net loss per share
(unaudited) (Note 2(d))............. 91,496
=========
</Table>
- ------------------------
(1) Excludes non-cash, stock based compensation expense (income) as follows:
<Table>
<Caption>
Research and development................ $ -- $ 9,212 $ 1,639 $ (801)
Sales and marketing..................... -- 4,753 548 235
General and administrative.............. -- 7,855 627 5,075
--------- --------- -------- --------
$ -- $ 21,820 $ 2,814 $ 4,509
========= ========= ======== ========
</Table>
The accompanying notes are an integral part of the consolidated financial
statements.
F-4
85
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
CONSOLIDATED BALANCE SHEETS
<Table>
<Caption>
PRO FORMA
JUNE 30,
SEPTEMBER 30, SEPTEMBER 30, JUNE 30, 2001
1999 2000 2001 (NOTE 2(C))
------------- ------------- ----------- -----------
(UNAUDITED) (UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
ASSETS
Current assets:
Cash and cash equivalents............. $ 9,082 $ 634 $ 39,192 $ 39,192
Accounts receivable, net of allowances
of $0 in 1999, $1,890 in 2000 and
$3,632 in 2001..................... 424 1,424 4,981 4,981
Accounts receivable from related
parties............................ 2,939 6,989 3,554 3,554
Inventories........................... 532 14,359 44,339 44,339
Prepaid expenses and other current
assets............................. 1,105 4,872 11,389 11,389
--------- ---------- ---------- ----------
Total current assets.......... 14,082 28,278 103,455 103,455
Property and equipment, net............. 14,205 34,299 47,082 47,082
Long-term deposit....................... -- 9,250 1,111 1,111
Intangible assets, net.................. 645,970 400,127 316,014 316,014
--------- ---------- ---------- ----------
Total assets.................. $ 674,257 $ 471,954 $ 467,662 $ 467,662
========= ========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable...................... $ 5,764 $ 13,519 $ 33,066 $ 33,066
Accounts payable to related parties... 3,992 1,091 578 578
Accrued milestone payments............ 37,717 -- -- --
Accrued expenses...................... 11,886 19,334 21,736 21,736
Deferred revenue...................... -- 8,347 45,046 45,046
Convertible promissory note and
accrued interest due to related
party.............................. -- -- 69,248 --
--------- ---------- ---------- ----------
Total current liabilities..... 59,359 42,291 169,674 100,426
Stockholders' equity:
Common stock, $.01 par value;
115,360,661 shares authorized;
86,133,333 and 90,284,760 shares
issued and outstanding at September
30, 1999 and 2000, respectively;
90,758,102 shares issued and
outstanding at June 30, 2001;
96,528,765 shares issued and
outstanding at June 30, 2001, pro
forma.............................. 861 903 908 966
Additional paid-in capital............ 999,090 1,324,683 1,336,447 1,405,637
Accumulated deficit................... (385,053) (818,735) (981,330) (981,330)
Notes receivable from officers........ -- (28,323) (28,323) (28,323)
Deferred compensation................. -- (48,865) (29,601) (29,601)
Accumulated other comprehensive
income............................. -- -- (113) (113)
--------- ---------- ---------- ----------
Total stockholders' equity.... 614,898 429,663 297,988 367,236
--------- ---------- ---------- ----------
Total liabilities and
stockholders' equity........ $ 674,257 $ 471,954 $ 467,662 $ 467,662
========= ========== ========== ==========
</Table>
The accompanying notes are an integral part of the consolidated financial
statements.
F-5
86
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<Table>
<Caption>
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
------------------- PAID-IN ACCUMULATED NOTES DEFERRED COMPREHENSIVE
SHARES AMOUNT CAPITAL DEFICIT RECEIVABLE COMPENSATION INCOME
---------- ------ ---------- ----------- ---------- ------------ -------------
(IN THOUSANDS, EXCEPT SHARE DATA)
Issuance of common stock....... 86,133,333 $861 $ 257,540 $ -- $ -- $ -- $ --
Capital contribution from
parent....................... -- -- 741,550 -- -- -- --
Net loss....................... -- -- -- (385,053) -- -- --
---------- ---- ---------- --------- -------- ----------- -----
Balance, September 30, 1999.... 86,133,333 861 999,090 (385,053) -- -- --
Capital contribution from
parent....................... -- -- 212,503 -- -- -- --
Sale of restricted common stock
in exchange for notes........ 2,700,000 27 28,323 -- (28,323) -- --
Sale of restricted common
stock........................ 521,334 5 5,469 -- -- -- --
Issuance of common stock upon
the exercise of stock
options...................... 930,093 10 7,969 -- -- -- --
Deferred compensation on
employee stock grants........ -- -- 70,699 -- -- (70,699) --
Amortization of compensation
expense related to employee
stock grants................. -- -- -- -- -- 21,834 --
Deferred compensation related
to the issuance of stock
options to non-employees..... -- -- 630 -- -- (630) --
Amortization of compensation
expense related to
non-employee stock options... -- -- -- -- -- 630 --
Net loss....................... -- -- -- (433,682) -- -- --
---------- ---- ---------- --------- -------- ----------- -----
Balance, September 30, 2000.... 90,284,760 $903 $1,324,683 $(818,735) $(28,323) $ (48,865) $ --
========== ==== ========== ========= ======== =========== =====
Capital contribution from
parent (unaudited)........... -- -- 22,250 -- -- --
Exercise of stock options in
exchange for notes
(unaudited).................. 66,666 1 489 -- (490) -- --
Repayment of notes receivable
(unaudited).................. -- -- -- -- 490 -- --
Issuance of common stock upon
the exercise of stock options
(unaudited).................. 406,676 4 3,506 -- -- -- --
Deferred compensation on
employee stock grants
(unaudited).................. -- -- (15,740) -- -- 15,740 --
Amortization of compensation
expense related to employee
stock grants (unaudited)..... -- -- -- -- -- 3,524 --
Deferred compensation related
to the issuance of stock
options to non-employees
(unaudited).................. -- -- 1,259 -- -- (1,259) --
Amortization of compensation
expense related to
non-employee stock options
(unaudited).................. -- -- -- -- -- 1,259 --
Foreign currency translation
adjustment (unaudited)....... -- -- -- -- -- -- (113)
Net loss (unaudited)........... -- -- -- (162,595) -- -- --
Comprehensive loss
(unaudited)..................
---------- ---- ---------- --------- -------- ----------- -----
Balance, June 30, 2001
(unaudited).................. 90,758,102 $908 $1,336,447 $(981,330) $(28,323) $ (29,601) $(113)
========== ==== ========== ========= ======== =========== =====
<Caption>
TOTAL
STOCKHOLDERS'
EQUITY
-------------
Issuance of common stock....... $ 258,401
Capital contribution from
parent....................... 741,550
Net loss....................... (385,053)
---------
Balance, September 30, 1999.... 614,898
Capital contribution from
parent....................... 212,503
Sale of restricted common stock
in exchange for notes........ 27
Sale of restricted common
stock........................ 5,474
Issuance of common stock upon
the exercise of stock
options...................... 7,979
Deferred compensation on
employee stock grants........ --
Amortization of compensation
expense related to employee
stock grants................. 21,834
Deferred compensation related
to the issuance of stock
options to non-employees..... --
Amortization of compensation
expense related to
non-employee stock options... 630
Net loss....................... (433,682)
---------
Balance, September 30, 2000.... $ 429,663
=========
Capital contribution from
parent (unaudited)........... 22,250
Exercise of stock options in
exchange for notes
(unaudited).................. --
Repayment of notes receivable
(unaudited).................. 490
Issuance of common stock upon
the exercise of stock options
(unaudited).................. 3,510
Deferred compensation on
employee stock grants
(unaudited).................. --
Amortization of compensation
expense related to employee
stock grants (unaudited)..... 3,524
Deferred compensation related
to the issuance of stock
options to non-employees
(unaudited).................. --
Amortization of compensation
expense related to
non-employee stock options
(unaudited).................. 1,259
Foreign currency translation
adjustment (unaudited)....... (113)
Net loss (unaudited)........... (162,595)
---------
Comprehensive loss
(unaudited).................. (162,708)
---------
Balance, June 30, 2001
(unaudited).................. $ 297,988
=========
</Table>
The accompanying notes are an integral part of the consolidated financial
statements.
F-6
87
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
CONSOLIDATED STATEMENTS OF CASH FLOWS
<Table>
<Caption>
JANUARY 12, 1999 NINE MONTHS
(DATE OF INCEPTION) ENDED
THROUGH YEAR ENDED JUNE 30,
SEPTEMBER 30, SEPTEMBER 30, ---------------------
1999 2000 2000 2001
------------------- --------------- --------- ---------
(IN THOUSANDS) (UNAUDITED)
Cash flows from operating activities:
Net loss............................................ $(385,053) $(433,682) $(354,802) $(162,595)
Adjustments to reconcile net loss to net cash used
in operating activities:
Purchased in-process research and development....... 217,400 -- -- --
Depreciation and amortization....................... 63,810 140,519 107,112 97,987
Amortization of deferred compensation on employee
stock grants...................................... -- 21,834 2,865 3,524
Amortization of deferred compensation on
non-employee stock grants......................... -- 630 -- 1,259
Impairment of intangible assets..................... -- 118,810 118,810 --
Loss on disposal of fixed assets.................... -- 2,164 1,975 4,150
Changes in operating assets and liabilities (net
of acquired balances):
Accounts receivable............................. (232) (1,000) (995) (3,557)
Related party accounts receivable............... (2,939) (4,050) 1,228 3,435
Inventories..................................... 2,286 (13,827) (6,271) (28,120)
Prepaids expenses and other current assets...... (1,471) (3,767) (3,402) (6,517)
Long-term deposit............................... -- (9,250) (9,250) 8,139
Accounts payable................................ 3,213 7,755 11,045 19,547
Related party accounts payable.................. 3,364 (2,901) (696) (513)
Accrued milestone payments...................... 37,717 (37,717) (30,151) --
Accrued expenses................................ 4,898 7,448 7,054 4,650
Deferred revenue................................ -- 8,347 1,140 36,699
--------- --------- --------- ---------
Net cash used in operating activities......... (57,007) (198,687) (154,338) (21,912)
--------- --------- --------- ---------
Cash flows from investing activities:
Purchases of property and equipment................. (8,849) (35,918) (28,444) (33,767)
Proceeds from sale of assets........................ -- 174 174 1,100
--------- --------- --------- ---------
Net cash used in investing activities......... (8,849) (35,744) (28,270) (32,667)
--------- --------- --------- ---------
Cash flows from financing activities:
Capital contributions by parent..................... 49,951 212,503 175,203 22,250
Proceeds from convertible promissory note due to
related party..................................... -- -- -- 67,000
Cash contributed with acquired companies by
parent............................................ 27,054 -- -- --
Repayment of capital lease obligation............... (2,067) -- -- --
Repayment of note receivable from officer........... -- -- -- 490
Proceeds from sales of restricted stock............. -- 5,501 -- --
Proceeds from exercise of stock options............. -- 7,979 -- 3,510
--------- --------- --------- ---------
Net cash provided by financing activities..... 74,938 225,983 175,203 93,250
--------- --------- --------- ---------
Net increase (decrease) in cash and cash
equivalents......................................... 9,082 (8,448) (7,405) 38,671
Effect of exchange rate changes on cash............... -- -- -- (113)
Cash and cash equivalents, beginning of period........ -- 9,082 9,082 634
--------- --------- --------- ---------
Cash and cash equivalents, end of period.............. $ 9,082 $ 634 $ 1,677 $ 39,192
========= ========= ========= =========
Non cash activities:
Common stock issued and additional capital
contribution recorded upon receipt of acquired
companies from parent............................. $ 950,000 $ -- $ -- $ --
========= ========= ========= =========
Increase (decrease) to deferred compensation and
additional paid-in-capital related to stock
options........................................... $ -- $ 71,329 $ -- $ (14,481)
========= ========= ========= =========
Increase to additional paid-in capital and notes
receivable upon the sale of restricted stock and
exercise of stock options in exchange for notes... $ -- $ 28,323 $ -- $ 490
========= ========= ========= =========
</Table>
The accompanying notes are an integral part of the consolidated financial
statements.
F-7
88
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(1) NATURE OF THE BUSINESS
Unisphere Networks, Inc. (the "Company") was incorporated in Delaware on
January 12, 1999 as Unisphere Solutions, Inc. and is an indirect majority-owned
subsidiary of Siemens AG. The Company changed its name from Unisphere Solutions,
Inc. to Unisphere Networks, Inc. in September 2000. The Company develops,
markets and supports data and voice networking products for the delivery of
integrated voice and high speed data services to businesses and residential
users. In March 1999, Siemens purchased Argon Networks, Inc. ("Argon"). In April
1999, Siemens purchased Castle Networks, Inc. ("Castle") and Redstone
Communications, Inc. ("Redstone"). All three companies were development-stage
companies engaged in research and development of next generation products for
the networking industry. In April 1999, Siemens contributed a research and
development group for voice switching products to the Company as an equity
contribution (net assets were equal to zero). In June 1999, Siemens contributed
the stock of Argon, Castle and Redstone to the Company. In accordance with AICPA
Interpretation AIN-APB 16, #39, Transfers and Exchanges Between Companies Under
Common Control, the assets and liabilities of the businesses contributed to
Unisphere were recorded at historical cost. The results of operations of Argon,
Castle and Redstone are included in the consolidated financial statements of the
Company from the respective dates of acquisition. The Company considers Redstone
and Castle to be the predecessor business as these two businesses represent the
primary ongoing business operations of the Company.
Through August 31, 1999, the Company was considered to be in the
development stage and was principally engaged in research and development, and
building its management team. As of September 30, 1999, the Company had begun
shipping product for commercial deployment.
The Company is subject to risks common to technology-based companies
including, but not limited to, the development of new technology, development of
markets and distribution channels, dependence on key personnel, and the ability
to obtain additional capital as needed to meet its product plans. The Company
has a limited operating history and has never achieved profitability. To date
the Company has been funded by Siemens, which has agreed to continue funding the
Company's operations until the successful completion of a public offering.
(2) SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements of the Company reflect
the application of certain significant accounting policies as described below.
(a) Principles of Consolidation
The consolidated financial statements include the accounts of Unisphere
Networks, Inc. and its wholly-owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated.
(b) Unaudited Interim Financial Information
The interim consolidated financial data as of June 30, 2001 and for the
nine months ended June 30, 2000 and 2001 is unaudited; however, in the opinion
of the Company, the interim data includes all adjustments, consisting only of
normal recurring adjustments, necessary for a fair statement of the results for
the interim periods. The results for interim periods are not necessarily
indicative of the results for the entire year.
F-8
89
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
(c) Unaudited Pro Forma Balance Sheet
Under the terms of the Company's convertible promissory note (See Note 12),
the sum of the principal balance of the note and accrued interest thereon will
convert into shares of the Company's common stock at the time of the closing of
an initial public offering, calculated based upon the initial public offering
price. The unaudited pro forma balance sheet reflects the conversion of the
$67,000 convertible promissory note and $2,248 of accrued interest thereon at
June 30, 2001 into 5,771 shares of common stock, as if the conversion had
occurred on June 30, 2001, assuming a conversion price of $12.00 per share.
(d) Unaudited Pro Forma Net Loss Per Share
The unaudited pro forma net loss per share for the nine months ended June
30, 2001 is calculated assuming the automatic conversion of the convertible
promissory note (see Note 12) as if the conversion had occurred on the dates
that the $67,000 was received by the Company, assuming a conversion price of
$12.00 per share.
(e) Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
(f) Inventories
Inventories are stated at the lower of cost (first-in, first-out basis) or
market (net realizable value).
(g) Property and Equipment
Property and equipment is stated at cost and depreciated over the estimated
useful lives of the assets using the straight-line method, based upon the
following asset lives:
<Table>
Computer and telecommunications
equipment 2 to 3 years
Evaluation and service components 6 months to 2 years
Furniture and office equipment 5 years
Shorter of lease term or useful life of
Leasehold improvements asset
</Table>
The cost of significant additions and improvements is capitalized and
depreciated while expenditures for maintenance and repairs are charged to
expense as incurred. Upon retirement or sale, the cost and related accumulated
depreciation of the assets are removed from the accounts and any resulting gain
or loss is reflected in the determination of net income or loss.
(h) Intangible Assets
Intangible assets include goodwill and other intangible assets resulting
from business combinations accounted for using the purchase method of
accounting. Goodwill is amortized on a straight-line basis over five years and
other intangible assets are amortized on a straight-line basis over three years.
(i) Impairment of Long-Lived Assets and Goodwill
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Intangible assets, including goodwill, are reviewed continually to
determine whether events and circumstances warrant revised estimates of useful
life. Recoverability of assets to be held and used is measured by a comparison
of the carrying amount of
F-9
90
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
an asset to future net undiscounted cash flows expected to be generated by the
asset. Recoverability of goodwill is measured by a comparison of the carrying
amount of goodwill to future net undiscounted cash flows expected to be
generated by the business from which the goodwill was generated. If such assets
or goodwill are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets or goodwill
exceeds the related fair value. Estimated fair value is generally based on
either appraised value or measured by discounted estimated future cash flows.
Considerable management judgment is necessary to estimate discounted future cash
flows.
During the second quarter of fiscal 2000, management of the Company
cancelled Argon's original development effort of its gigabit switch router,
which was the primary focus of Argon. The cancellation of the project was due to
continuing technology problems, major delays and insufficient technical features
for the competitive marketplace. The cancellation of this development effort
included discarding and abandoning all software development and substantially
all hardware components.
As a result of the cancellation of the Argon gigabit switch router, the
Company performed an impairment review of the goodwill generated from the Argon
acquisition. At the time this impairment review was performed, it was determined
that there would be no future cash flows generated from the Argon development
concept. Accordingly, the Company recorded an impairment charge of $118,495 for
the writedown of the remaining unamortized value of the Argon goodwill during
the year ended September 30, 2000.
The Company also performed an impairment review of the workforce intangible
asset generated from the Argon acquisition. At the time this impairment review
was performed, it was determined that there was a partial impairment of this
asset, based on the higher than expected level of employee turnover experienced
to date. Accordingly, the Company recorded an impairment charge of $315 for the
writedown of a portion of the unamortized value of the Argon workforce
intangible asset during the year ended September 30, 2000.
(j) Fair Value of Financial Instruments
The carrying amounts of cash, cash equivalents, accounts receivable,
accounts payable and accrued expenses approximate their fair values due to the
short-term nature of these instruments.
(k) Revenue Recognition
Revenue from product sales is recognized upon shipment provided that there
are no uncertainties regarding customer acceptance, persuasive evidence of an
arrangement exists, the sales price is fixed or determinable and collectibility
is deemed probable. If uncertainties exist, revenue is recognized when such
uncertainties are resolved. A significant portion of the Company's sales are
made through value-added resellers, including various Siemens sales entities.
Under these arrangements, value-added resellers do not have a right of return
and they purchase products from the Company after they have secured a sale to an
end-user. The Company recognizes revenue provided there are no uncertainties
regarding customer acceptance and generally ships the product directly to the
end-user. Revenue from professional services is recognized when the services are
completed. Revenue from technical support and maintenance contracts is
recognized ratably over the period of the related agreements.
A provision for sales returns and allowances is recorded at the time of
revenue recognition based on estimated future returns and allowances. In
addition, the Company records a warranty liability for parts and labor on its
products at the time of revenue recognition. Warranty periods are generally one
year from installation date.
F-10
91
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
(l) Research and Development and Software Development Costs
The Company's products are highly technical in nature and require a large
and continuing research and development effort. All research and development
costs are expensed as incurred. Software development costs incurred prior to the
establishment of technological feasibility are charged to expense. Software
development costs incurred subsequent to the establishment of technological
feasibility are capitalized until the product is available for general release
to customers. Amortization is based on the straight-line method over the
remaining estimated life of the product. To date, the period between achieving
technological feasibility and the general availability of the related products
has been short and software development costs qualifying for capitalization have
not been material. Accordingly, the Company has not capitalized any software
development costs.
(m) Advertising Costs
The Company expenses advertising costs in the period in which they are
incurred. Advertising costs for the period ended September 30, 1999 and for the
year ended September 30, 2000 were $736 and $7,493, respectively.
(n) Other Income (Expense)
Other income (expense) consists of interest income, interest expense and
other expenses. The Company recorded $0, $2,164 and $4,150 of losses on disposal
of property and equipment for the period ended September 30, 1999, the year
ended September 30, 2000 and the nine months ended June 30, 2001, respectively.
(o) Income Taxes
Income taxes are accounted for under the asset and liability method. Under
this method, deferred tax assets and liabilities are recognized for the future
tax consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
The Company does not file separate income tax returns, but rather is
included in the consolidated income tax returns of its parent, Siemens
Corporation, a majority-owned subsidiary of Siemens AG. The Company has entered
into a tax sharing agreement with Siemens Corporation. Under this agreement, the
Company will reimburse Siemens Corporation for the Company's federal and state
income tax liability computed as if its tax returns were filed on a stand alone
basis. The Company may use the tax benefits of net operating losses and credits
generated by the Company solely to reduce its liability to Siemens Corporation.
Siemens Corporation is not obligated to reimburse the Company for any tax
benefits in excess of the aggregate liability to Siemens Corporation up to the
date of an initial public offering ("IPO") of the Company's stock. Subsequent to
the date of the IPO, Siemens Corporation will reimburse the Company for any tax
attributes utilized by Siemens Corporation when the Company could have used them
on a separate return basis. The Company is obligated to pay Siemens Corporation
for any adjustment made by a taxing authority in a consolidated tax year, the
benefit of which is subsequently realized by the Company in a non-consolidated
tax year.
F-11
92
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
(p) Net Loss Per Share
Basic net loss per share is computed by dividing the net loss for the
period by the weighted average number of unrestricted common shares outstanding
during the period. Diluted net loss per share is computed by dividing the net
loss for the period by the weighted average number of common and common
equivalent shares outstanding during the period, if dilutive. Common equivalent
shares are composed of restricted common shares and incremental common shares
issuable upon the exercise of stock options. There were no dilutive common
equivalent shares for the period ended September 30, 1999, the year ended
September 30, 2000 and the nine months ended June 30, 2000 and 2001.
At September 30, 1999 and 2000 and June 30, 2000 and 2001, options to
purchase 2,896, 14,139, 10,667 and 15,506 shares of common stock, respectively,
at an average exercise price of $7.35, $9.64, $8.95 and $10.35 per share,
respectively, and restricted common shares of 0, 2,741, 0 and 1,931,
respectively, have not been included in the computation of diluted net loss per
share as their effect would have been anti-dilutive.
(q) Other Comprehensive Income
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" for the period from inception to September
30, 1999. This statement requires that changes in comprehensive income be shown
in a financial statement that is displayed with the same prominence as other
financial statements.
(r) Concentrations of Credit Risk
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of cash equivalents and
receivables. The Company invests its excess cash primarily in deposits with
commercial banks.
(s) Stock-Based Compensation
The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," ("APB No. 25") and complies with the
disclosure provisions of Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" ("SFAS No. 123").
(t) Segment Information
The Company has adopted Statement of Financial Accounting Standards No.
131, "Disclosure about Segments of an Enterprise and Related Information," which
requires companies to report selected information about operating segments, as
well as enterprise-wide disclosures about products, services, geographic areas,
and major customers. The Company has determined that it conducts its operations
in one business segment.
(u) Risks and Uncertainties
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
dates of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from these
estimates.
F-12
93
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
Certain components and parts used in the Company's products are procured
from a single source. The Company obtains some of its parts from one vendor
only, even where multiple sources are available, to maintain quality control and
enhance working relationships with suppliers. These purchases are made on a
purchase order basis. In addition, the majority of the Company's products are
manufactured by a single contract manufacturer. The failure of a supplier or the
contract manufacturer to deliver on schedule could delay or interrupt the
Company's delivery of products and thereby adversely affect the Company's
revenues and profits.
The Company is subject to the rapid technological change inherent in the
networking industry. This change includes new product introduction, changes in
customer requirements and new technologies. The Company works closely with its
customers to understand its customers and the industry requirements. The delay
in product and feature introductions could adversely affect the Company's
revenues and profits.
(3) ACQUISITIONS
On April 27, 1999, Siemens purchased Redstone. Under the terms of the
Agreement, Siemens purchased all outstanding securities of Redstone for $450,000
in cash. The transaction was accounted for as a purchase. In conjunction with
the acquisition, Siemens entered into a Milestone Incentive Compensation Plan
whereby if certain performance criteria and development milestones were
achieved, Siemens would compensate the employees of Redstone with cash
incentives. In June 1999, Siemens contributed the stock of Redstone to the
Company, which has accounted for the acquisition and Redstone's results of
operations from the date of acquisition, as if the Company had effectively
acquired Redstone. During the period ended September 30, 1999 and the year ended
September 30, 2000, the Company expensed $35,000 and $15,000, respectively,
related to the Milestone Incentive Compensation Plan for milestones which had
been achieved as of those dates. No additional milestone payments remain as of
September 30, 2000.
On April 20, 1999, Siemens acquired Castle. Under the terms of the
Agreement, Siemens purchased all outstanding securities of Castle for $300,000
in cash. The transaction was accounted for as a purchase. In conjunction with
the acquisition, Siemens entered into a Milestone Incentive Compensation Plan
whereby if certain performance criteria and development milestones were
achieved, Siemens would compensate the employees of Castle with cash incentives.
In June 1999, Siemens contributed the stock of Castle to the Company, which has
accounted for the acquisition and Castle's results of operations from the date
of acquisition, as if the Company had effectively acquired Castle. During the
period ended September 30, 1999 and the year ended September 30, 2000, the
Company had expensed and paid $10,000 and $5,000, respectively, related to the
Milestone Incentive Compensation Plan for milestones which had been achieved as
of those dates. No additional milestone payments remain as of September 30,
2000.
On March 12, 1999, Siemens acquired Argon. Under the terms of the
Agreement, Siemens purchased all outstanding securities of Argon for $200,000 in
cash. The transaction was accounted for as a purchase. In conjunction with the
acquisition, Siemens entered into a Milestone Incentive Compensation Plan
whereby if certain performance criteria and development milestones were
achieved, Siemens would compensate the employees of Argon with cash incentives.
In June 1999, Siemens contributed the stock of Argon to the Company, which has
accounted for the acquisition and Argon's results of operations from the date of
acquisition, as if the Company had effectively acquired Argon. No development
milestones had been achieved during the period ended September 30, 1999,
therefore no costs were accrued. At the time of acquisition, Siemens also
initiated a retention bonus plan, for which the Company expensed $2,140 and
$11,133 of cost related to time-based payments in the period ended September 30,
1999 and the year
F-13
94
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
ended September 30, 2000, respectively. No additional retention bonus plan
payments remain as of September 30, 2000.
The amounts allocated to purchased in-process research and development were
determined through established valuation techniques in the high-technology
communications industry and were expensed upon acquisition, because
technological feasibility had not been established and no future alternative
uses existed.
Summary of purchase transactions:
<Table>
<Caption>
ALLOCATED TO
PURCHASED ALLOCATED NET
IN-PROCESS TO ALLOCATED TANGIBLE TOTAL
RESEARCH AND ASSEMBLED TO ASSETS PURCHASE
ENTITY ACQUIRED DEVELOPMENT WORKFORCE GOODWILL ACQUIRED PRICE
- --------------- ------------- --------- --------- -------- --------
Redstone Communications $101,700 $1,130 $342,127 $ 5,043 $450,000
Castle Networks 79,300 870 214,363 5,467 300,000
Argon Networks 36,400 990 148,119 14,491 200,000
-------- ------ -------- ------- --------
$217,400 $2,990 $704,609 $25,001 $950,000
======== ====== ======== ======= ========
</Table>
All payments related to the milestone incentive compensation plans and
retention plan are being recorded as expense in the consolidated financial
statements of Unisphere in the periods following the acquisitions. The expense
is recorded as the milestones are achieved for the milestone plans and ratably
over the retention period for the retention plan. For the period from January
12, 1999 (date of inception) to September 30, 1999 and for the year ended
September 30, 2000, aggregate expense of $47,140 and $31,133, respectively, was
recorded as follows in the accompanying consolidated statement of operations:
<Table>
<Caption>
JANUARY 12, 1999
(DATE OF INCEPTION)
THROUGH YEAR ENDED
SEPTEMBER 30, SEPTEMBER 30,
1999 2000
------------------- -------------
Cost of revenues....................................... $ 923 $ 1,051
Research and development............................... 34,895 25,773
Sales and marketing.................................... 3,919 1,278
General and administrative............................. 7,403 3,031
------- -------
$47,140 $31,133
======= =======
</Table>
F-14
95
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
(4) FINANCIAL STATEMENT DETAILS
The following table summarizes balance sheet items by major component:
<Table>
<Caption>
SEPTEMBER 30, SEPTEMBER 30, JUNE 30,
1999 2000 2001
------------- ------------- ------------
Inventories, net:
Component parts................................ $ -- $ 4,390 $ 4,164
Finished goods................................. 532 9,969 40,175
-------- --------- ---------
$ 532 $ 14,359 $ 44,339
======== ========= =========
Prepaid expenses and other current assets:
Deposits....................................... 447 1,190 --
Insurance...................................... -- -- 182
Non-trade receivables.......................... -- 606 5,020
Service contracts.............................. 211 570 393
Offering costs................................. -- 1,209 2,438
Interest receivable from officers.............. -- 322 1,625
Other.......................................... 447 975 1,731
-------- --------- ---------
$ 1,105 $ 4,872 $ 11,389
======== ========= =========
Property and equipment:
Computer and telecommunications equipment...... $ 15,152 $ 40,444 $ 51,897
Evaluation and service components.............. 1,178 5,612 --
Furniture and office equipment................. 986 1,560 1,804
Leasehold improvements......................... 248 1,841 12,286
-------- --------- ---------
17,564 49,457 65,987
Less: accumulated depreciation and
amortization................................ (3,359) (15,158) (18,905)
-------- --------- ---------
Property and equipment, net............... $ 14,205 $ 34,299 $ 47,082
======== ========= =========
Intangible assets:
Goodwill....................................... $704,609 $ 556,490 $ 556,490
Workforce...................................... 2,990 2,555 2,555
-------- --------- ---------
707,599 559,045 559,045
Less: accumulated amortization................. (61,629) (158,918) (243,031)
-------- --------- ---------
Intangible assets, net.................... $645,970 $ 400,127 $ 316,014
======== ========= =========
Accrued expenses:
Accrued employee-related expenses.............. $ 4,732 $ 9,226 $ 8,125
Accrued professional fees...................... 850 2,413 711
Accrued warranty............................... 19 3,446 3,476
Accrued marketing.............................. 930 542 675
Other liabilities.............................. 5,355 3,707 8,749
-------- --------- ---------
$ 11,886 $ 19,334 $ 21,736
======== ========= =========
</Table>
F-15
96
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
(5) COMMITMENTS AND CONTINGENCIES
The Company's primary office facilities are leased under noncancelable
leases that expire at various times through 2004. Rent expense under operating
leases was $1,252 and $4,347 for the period from inception through September 30,
1999 and for the year ended September 30, 2000, respectively. At September 30,
2000, future minimum lease payments under all non-cancelable operating leases
were as follows:
<Table>
2001....................................................... $ 5,135
2002....................................................... 6,037
2003....................................................... 5,930
2004....................................................... 5,482
2005....................................................... 4,161
Thereafter................................................. 23,251
-------
Total future minimum lease payments........................ $49,996
=======
</Table>
In March 2000, the Company entered into a 10-year lease for a 225,000
square foot building in Westford, Massachusetts. The landlord is in the process
of constructing the building and the Company anticipates occupancy in January
2001. The Company has placed $9,250 in escrow to cover the cost of tenant
improvements. At the time of occupancy, the escrow account will be released to
the lessor and the Company will commence paying annual lease payments ranging
from $2,386 to $2,829, which are included in the table above. The escrow payment
is included in long-term deposits in the accompanying consolidated balance sheet
as of September 30, 2000.
(6) RELATED PARTY TRANSACTIONS
The Company has been funded since inception by Siemens. The funding is
provided based on the Company's operating needs and is accounted for as a
capital contribution. Total capital contributions from Siemens includes the
contribution of the stock of Argon, Castle and Redstone, valued at $950,000, and
capital contributions to fund operations of $49,951, $212,503 and $22,250 for
the period ended September 30, 1999, for the year ended September 30, 2000 and
for the nine months ended June 30, 2001, respectively.
The Company has transactions in the normal course of business with Siemens
group companies. Balances resulting from these transactions are reflected on the
balance sheet as accounts receivable from related parties and accounts payable
to related parties. Transactions included in the statement of operations for the
period ended September 30, 1999, for the year ended September 30, 2000 and the
nine months ended June 30, 2001 are as follows:
<Table>
<Caption>
JANUARY 12, 1999 NINE
(DATE OF INCEPTION) MONTHS
THROUGH YEAR ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30, JUNE 30,
1999 2000 2001
------------------- ------------- ----------
Sales to related parties................... $1,786 $20,343 $38,778
Engineering expenses....................... 1,350 9,216 1,268
Rent expenses.............................. 269 861 --
Other expenses............................. 806 762 --
</Table>
F-16
97
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
(7) STOCKHOLDERS' EQUITY
(a) Common Stock
The Company has authorized 105,824 shares of common stock, $.01 par value,
of which 86,133, 90,285 were outstanding at September 30, 1999 and 2000,
respectively. The holders of the common stock are entitled to one vote for each
share held.
On April 21, 2000, the Board of Directors approved a 1-for-3 reverse stock
split. The accompanying financial statements reflect the effects of this reverse
split for all periods presented. In addition, the Board of Directors increased
the authorized number of shares of common stock to 104,404 and increased the
common stock reserved for issuance pursuant to the 1999 Stock Incentive Plan to
18,271 shares. In July 2000, the Board of Directors further increased the
authorized number of shares of common stock to 105,824 and increased the common
stock reserved for issuance pursuant to the 1999 Stock Incentive Plan to 19,690
shares.
On April 24, 2001, the Company increased the authorized common stock to
115,361. At June 30, 2001, 90,758 shares of common stock were outstanding.
(b) Notes Receivable From Officers
In connection with the sale of restricted stock and in accordance with the
original terms of the award, the Company accepted promissory notes from its
Chief Executive Officer and Chief Operating Officer in the amounts of $26,225
and $2,098, respectively. The notes are secured by the purchased shares and have
recourse to the general assets of the officers of 25% of the principal balance
and 100% of the accrued interest on the notes. Interest paid is not refundable
to the officers. The notes mature in January 2004 and bear interest at the
six-month LIBOR index rate plus fifty basis points per annum (7.4% at September
30, 2000).
(8) INCOME TAXES
The Company prepared its tax provision as if it filed tax returns on a
stand-alone basis. No current provision for federal or state income taxes has
been recorded as the Company has incurred net operating losses since inception.
The following table reconciles the federal statutory income tax rate to the
Company's effective income tax rate:
<Table>
<Caption>
JANUARY 12, 1999
(DATE OF INCEPTION)
THROUGH
SEPTEMBER 30, YEAR ENDED
1999 SEPTEMBER 30, 2000
------------------- -------------------
Income taxes at federal statutory rate............... 34.0% 34.0%
Write-off of acquired in-process research and
development........................................ (19.2) --
Non-deductible goodwill amortization................. (5.4) (10.0)
Write-off of impaired intangible asset............... -- (9.3)
Tax benefit utilized by parent company............... (9.0) (13.3)
Change in valuation allowance and other.............. (0.4) (1.4)
----- ------
--% --%
===== ======
</Table>
F-17
98
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
At September 30, 1999 and 2000, the Company had net operating loss and tax
credit carryforwards resulting from current operations and from its acquisitions
of Redstone, Castle and Argon. The Company has recorded a full valuation
allowance against these net operating loss and tax credit carryforwards, as well
as the net deferred tax assets since management believes that, after considering
all the available objective evidence, both positive and negative, it is more
likely than not that these assets will not be realized. No deferred income tax
provision has been recorded because of the valuation allowance. Temporary
differences between the financial statement carrying amounts and tax bases of
assets and liabilities that give rise to significant portions of federal
deferred tax assets and liabilities are comprised of the following:
<Table>
<Caption>
SEPTEMBER 30, SEPTEMBER 30,
1999 2000
------------- -------------
Deferred tax assets:
Net operating loss and credit carryforwards............... $ 18,192 $ 20,531
Employee-related costs.................................... 5,070 9,868
Accrued compensation...................................... 1,532 377
Amortizable start-up costs................................ 546 480
Inventory reserves........................................ 256 5,585
Bad debt reserves......................................... -- 961
Warranty reserves......................................... -- 1,267
Accrued pension........................................... -- 457
Other..................................................... 8 854
-------- --------
Total gross deferred tax asset.................... 25,604 40,380
Less valuation allowance.......................... (24,542) (39,780)
-------- --------
Net deferred tax asset............................ 1,062 600
-------- --------
Deferred tax liabilities:
Basis differences in acquired intangible assets........... 1,027 527
Depreciation.............................................. 35 73
-------- --------
Total gross deferred tax liability................ 1,062 600
-------- --------
Net deferred tax asset............................ $ -- $ --
======== ========
</Table>
Subsequently reported tax benefits relating to the valuation allowance for
deferred tax assets as of June 30, 2000 will be allocated as follows:
<Table>
<Caption>
SEPTEMBER 30,
2000
-------------
Income tax benefit that would be reported in the statement
of operations............................................. $29,200
Income tax benefit that would be reported as a decrease to
goodwill.................................................. 10,438
Income tax benefit that would increase additional paid-in
capital................................................... 142
-------
$39,780
=======
</Table>
The Company has federal and state net operating loss carryforwards of
approximately $6,013 and $258,641, respectively, as of September 30, 2000. The
federal net operating loss carryforward will expire in 2018 and the state net
operating loss carryforwards will expire from 2002 through 2005. In addition,
the Company has federal and state tax credit carryforwards of approximately
$1,070 and $1,818, respectively,
F-18
99
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
as of September 30, 2000, which will expire from 2011 through 2018. The
utilization of the net operating losses may be limited pursuant to Internal
Revenue Code Section 382 as a result of prior and future ownership changes. In
addition, to the extent these net operating losses can be utilized by Siemens
Corporation, the Company is not entitled to any reimbursement under the existing
tax sharing arrangement and the Company will not receive any current or future
income tax benefit related to these net operating losses.
(9) STOCK-BASED COMPENSATION
In July 1999, the Company adopted the 1999 Stock Incentive Plan (the
"Plan"). The Plan provides for the granting of stock options to acquire common
stock to employees, advisors and consultants of the Company. Options granted
under the Plan may be either incentive stock options or non-statutory (i.e.,
nonqualified) stock options. Incentive stock options ("ISO") may be granted only
to Company employees (including officers and directors who are also employees).
Nonqualified stock options ("NSO") may be granted to Company employees,
non-employee directors, advisors and consultants. The Company reserved 19,690
shares of common stock for issuance under the Plan as of September 30, 2000. On
April 24, 2001, the Company increased the number of shares of common stock
reserved for issuance under the Plan to 29,227.
Options under the Plan may be granted for periods of up to ten years and at
prices to be determined by the Board of Directors, provided, however, that (i)
the exercise price of an ISO shall not be less than 100% of the estimated fair
value of the shares on the date of grant, respectively, and (ii) the exercise
price of an ISO granted to a 10% shareholder shall not be less than 110% of the
estimated fair value of the shares on the date of grant. Options granted
generally vest over four years.
A restricted stock award provides for the issuance of common stock to
directors, officers, consultants and other key personnel at prices determined by
the Board of Directors or a Committee selected by the Board of Directors.
Participants' unvested shares are subject to repurchase by the Company at the
original sale price. Generally, vesting occurs over a three to four year period.
As of September 30, 2000, the Company had the right to repurchase up to 2,741
unvested shares at the original sale price of $10.50 per share.
The following table presents activity under the Plan for the period from
January 12, 1999 (date of inception) to September 30, 1999 and for the year
ended September 30, 2000:
<Table>
<Caption>
SHARES STOCK RESTRICTED
AVAILABLE OPTIONS STOCK WEIGHTED AVERAGE
FOR GRANT OUTSTANDING OUTSTANDING EXERCISE PRICE
--------- ----------- ----------- ----------------
Shares authorized................. 4,533 -- $ --
Options granted................... (3,104) 3,104 -- 7.35
Options terminated................ 208 (208) -- 7.35
------- ------ ------
Balance at September 30, 1999..... 1,637 2,896 -- 7.35
Shares authorized................. 15,157 -- -- --
Options and restricted stock
granted......................... (16,592) 13,371 3,221 10.02
Options exercised................. -- (930) -- 8.58
Restricted stock purchased........ -- -- (3,221) 10.50
Options terminated................ 1,198 (1,198) -- 7.79
------- ------ ------
Balance at September 30, 2000..... 1,400 14,139 -- 9.64
======= ====== ======
</Table>
F-19
100
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
The following table summarizes stock options outstanding and exercisable at
September 30, 2000:
<Table>
<Caption>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------- ------------------------------
EXERCISE NUMBER WEIGHTED AVERAGE WEIGHTED AVERAGE NUMBER WEIGHTED AVERAGE
PRICES OUTSTANDING REMAINING LIFE (YEARS) EXERCISE PRICE EXERCISABLE EXERCISE PRICE
- ------------ ----------- ---------------------- ---------------- ----------- ----------------
$7.35-$10.50 13,737 9.12 $9.42 1,097 $9.02
$17.10 402 9.91 17.10 -- --
------ ----- -----
14,139 9.14 9.64 1,097 9.02
====== =====
</Table>
The weighted average grant date fair value of options granted in the period
ended September 30, 1999 and the year ended September 30, 2000 was $0.00 and
$4.85, respectively. The weighted average modification date fair value of stock
options modified in April 2000, as discussed below, was $3.62. Had compensation
cost for the Company's stock-based compensation plan been determined based on
the fair value at the grant dates for the awards under a method prescribed by
SFAS No. 123, the Company's net loss would have been $385,053 and $432,975 and
basic and diluted net loss per share would have been $4.47 and $5.01, for the
period ended September 30, 1999 and for the year ended September 30, 2000,
respectively.
The Company calculated the fair value of each option on the date of grant
using the Black-Scholes pricing model with the following weighted average
assumptions:
<Table>
<Caption>
JANUARY 12, 1999
(DATE OF INCEPTION)
THROUGH YEAR ENDED
SEPTEMBER 30, SEPTEMBER 30,
1999 2000
-------------------- -------------
Expected life (years)................... 5 5
Risk free interest rate................. 6.03% 6.25%
Volatility.............................. -- 65%
Dividend yield.......................... -- --
</Table>
During the year ended September 30, 2000, the Company issued 176
non-qualified stock options to non-employees for services rendered and has
valued these stock options using a Black-Scholes option pricing model. The
Company used a volatility factor of 65%, a risk free interest rate of 6.03%, a
dividend rate of zero and the contractual lives of the grants, which ranged from
one to ten years. At September 30, 2000, the Company had 176 non-qualified stock
options outstanding to non-employees. The Company has fully amortized the
deferred compensation of $630 into expense during the year ended September 30,
2000 for the grant of options to non-employees.
During the year ended September 30, 2000, the Company sold 3,221 shares of
restricted common stock and granted 4,530 stock options to purchase common stock
at amounts lower than the estimated fair market value. Accordingly, the Company
has recorded deferred compensation related to the restricted common stock and
common stock options that were sold or issued at amounts less than estimated
fair market value. During fiscal 2000, the Company recorded $48,045 in deferred
compensation related to restricted common stock and stock options issued to
employees of the Company. In addition, the Company recorded compensation expense
of $9,985 in fiscal 2000 related to the amortization of deferred compensation
over the vesting period. Future amortization of the deferred compensation will
be $13,215 in 2001, $13,215 in 2002, $8,639 in 2003, $2,558 in 2004 and $433 in
2005.
In April 2000, the Company changed the exercise price of 2,344 employee
stock options to purchase common stock. At September 30, 2000, stock options for
the purchase of 370 shares of common stock had
F-20
101
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
been exercised and 146 stock options had been cancelled. The remaining 1,828
stock options will become exercisable over a four-year period. During the year
ended September 30, 2000, the Company recorded $22,654 in deferred compensation
and $11,849 of non-cash compensation expense related to these stock options.
Deferred compensation amounts are being amortized over the vesting periods of
the applicable stock options. The Company cannot estimate the effect of
stock-based compensation related to employee stock options for which the
exercise price was changed since determination of variable stock-based
compensation expense is based on the fair market value of the Company's common
stock in future periods.
(10) EMPLOYEE BENEFIT PLAN
The Company sponsors several defined contribution plans covering
substantially all of its employees which are designed to be qualified under
Section 401(k) of the Internal Revenue Code. Eligible employees are permitted to
contribute to the 401(k) plans through payroll deductions within statutory and
plan limits. The Company recorded expense of $13 and $0 related to the plans in
the period from January 12, 1999 (date of inception) to September 30, 1999 and
for the year ended September 30, 2000, respectively.
(11) GEOGRAPHIC INFORMATION AND MAJOR CUSTOMERS
The Company operates in a single industry segment encompassing the design,
development, manufacture, marketing, and technical support of networking
products and services.
In the period ended September 30, 1999, the year ended September 30, 2000
and the nine months ended June 30, 2001, Siemens accounted for approximately
63.5%, 41.0% and 30.5%, respectively, of net revenues. In addition, the Company
had a customer who accounted for 28.3% for the year ended September 30, 2000. In
addition, two other customers accounted for 15.2% and 11.9% of net revenues for
the nine months ended June 30, 2001.
Geographic revenues, which are attributed to countries based on the
location of the customer, are as follows:
<Table>
<Caption>
JANUARY 12, 1999 NINE MONTHS
(DATE OF INCEPTION) ENDED
THROUGH YEAR ENDED JUNE 30,
SEPTEMBER 30, 1999 SEPTEMBER 30, 2000 2001
------------------- ------------------ ------------
United States................ $2,020 $29,173 $ 53,574
International
Asia Pacific............... 229 9,886 40,396
South and Latin America.... -- 711 505
Europe..................... 564 9,858 32,736
------ ------- --------
Total international
revenues......... 793 20,455 73,637
------ ------- --------
Total net
revenues......... $2,813 $49,628 $127,211
====== ======= ========
</Table>
There were no significant long-lived assets located in foreign countries at
September 30, 1999 and 2000 and June 30, 2001.
(12) CONVERTIBLE PROMISSORY NOTE (UNAUDITED)
The Company issued an amended and restated $67,000 convertible promissory
note to Siemens in February 2001, pursuant to which Siemens has advanced $67,000
as of June 30, 2001. The note accrues interest at 7.25% per year. The principal
and accrued interest is due at the earlier of November 16, 2001 or the closing
of an initial public offering of the Company's common stock. The Company's
obligations
F-21
102
UNISPHERE NETWORKS, INC.
(AN INDIRECT MAJORITY-OWNED SUBSIDIARY OF SIEMENS AG)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(INFORMATION AS OF AND FOR THE NINE MONTHS ENDED JUNE 30, 2000 AND 2001 IS
UNAUDITED)
under the note may be accelerated if an event of default occurs under the note.
The promissory note will convert into shares of the Company's common stock at
the time of the closing of an initial public offering. The number of shares to
be issued upon such conversion is equal to the sum of the principal amount of
the note plus accrued interest divided by the Company's per share initial public
offering price. Upon the November 16, 2001 due date or any accelerated due date,
if not earlier converted, Siemens has the option to convert the note at the then
fair market value of the Company's common stock.
(13) MERGER-RELATED COSTS (UNAUDITED)
On October 20, 2000, the Company entered into an agreement, which was
amended on February 15, 2001, to acquire BroadSoft, Inc. in a stock-for-stock
merger. In connection with the merger agreement the Company loaned Broadsoft,
Inc. $6,000. On June 22, 2001, the merger agreement was terminated and the
Company established a $6,000 valuation allowance against the note receivable and
expensed $508 of deferred acquisition costs for the nine months ended June 30,
2001.
F-22
103
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Redstone Communications, Inc.:
We have audited the accompanying balance sheet of Redstone Communications,
Inc. (a development stage enterprise) as of April 27, 1999 and the related
statements of operations, stockholders' deficit and cash flows for the period
from January 1, 1999 to April 27, 1999 and for the cumulative period from
inception (September 16, 1997) to April 27, 1999. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted 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 audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Redstone Communications,
Inc. as of April 27, 1999, and the results of its operations and its cash flows
for the period from January 1, 1999 to April 27, 1999 and for the cumulative
period from inception (September 16, 1997) to April 27, 1999, in conformity with
accounting principles generally accepted in the United States of America.
The financial statements referred to above as of April 27, 1999 and for the
period from January 1, 1999 to April 27, 1999 and for the cumulative period from
inception (September 16, 1997) to April 27, 1999 have been restated. See Note
2(a).
/s/ KPMG LLP
Boston, Massachusetts
June 28, 2000, except with respect to the matter
discussed in Note 2(a), as to which the date is
October 19, 2000
F-23
104
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF OPERATIONS
FOR THE PERIOD FROM JANUARY 1, 1999 TO APRIL 27, 1999 AND FOR THE
CUMULATIVE PERIOD FROM INCEPTION (SEPTEMBER 16, 1997) TO APRIL 27, 1999
<Table>
<Caption>
JANUARY 1, 1999 TO CUMULATIVE
APRIL 27, 1999 FROM INCEPTION
------------------ --------------
(RESTATED) (RESTATED)
Operating expenses:
Research and development.................................. $ 21,002,559 $ 30,272,565
Sales and marketing....................................... 6,446,254 7,218,075
General and administrative................................ 1,169,394 2,066,991
------------ ------------
Total operating expenses.......................... 28,618,207 39,557,631
------------ ------------
Loss from operations........................................ (28,618,207) (39,557,631)
------------ ------------
Other income (expense), net:
Interest income........................................... 124,709 614,819
Interest expense.......................................... (15,455) (38,629)
Other income (expense).................................... (2,446) (24,284)
------------ ------------
Other income (expense), net....................... 106,808 551,906
------------ ------------
Net loss.......................................... $(28,511,399) $(39,005,725)
============ ============
Net loss per share -- basic and diluted..................... $ (19.84)
============
Weighted average shares outstanding -- basic and diluted.... 1,436,754
============
</Table>
See accompanying notes to financial statements.
F-24
105
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
BALANCE SHEET
APRIL 27, 1999
(RESTATED)
<Table>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 3,969,424
Inventory................................................. 419,857
Prepaid expenses and other current assets................. 305,879
------------
Total current assets.............................. 4,695,160
Property and equipment, net................................. 1,753,710
------------
Total assets...................................... $ 6,448,870
============
LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS'
DEFICIT
Current liabilities:
Accounts payable.......................................... $ 983,578
Accrued expenses.......................................... 966,417
------------
Total current liabilities......................... 1,949,995
------------
Commitments and contingencies
Redeemable preferred stock, $.01 par value; 10,000,000
shares authorized:
Series A redeemable convertible preferred stock, $.01 par
value; 5,670,000 shares designated, issued and
outstanding; liquidation value of $7,200,900........... 7,200,900
Series B redeemable convertible preferred stock, $.01 par
value; 2,486,702 shares designated, issued and
outstanding; liquidation value of $12,433,510.......... 12,433,510
Stockholders' deficit:
Common stock, $.001 par value; 20,000,000 shares
authorized, 5,005,250 shares issued and outstanding.... 5,005
Additional paid-in capital................................ 23,869,854
Deficit accumulated during the development stage.......... (39,005,725)
Common stock in treasury, at cost, 54,375 shares.......... (4,669)
------------
Total stockholders' deficit....................... (15,135,535)
------------
Total liabilities, redeemable preferred stock and
stockholders' deficit............................. $ 6,448,870
============
</Table>
See accompanying notes to financial statements.
F-25
106
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE PERIODS FROM INCEPTION (SEPTEMBER 16, 1997) TO APRIL 27, 1999
<Table>
<Caption>
DEFICIT
ACCUMULATED
COMMON STOCK ADDITIONAL DURING TREASURY STOCK TOTAL
------------------- PAID-IN DEVELOPMENT DEFERRED ----------------- STOCKHOLDERS'
SHARES AMOUNT CAPITAL STAGE COMPENSATION SHARES COST DEFICIT
--------- ------- ----------- ------------ ------------- ------- ------- -------------
Issuance of common
stock.................. 3,437,500 $3,438 $ 12,932 $ -- $ -- -- $ -- $ 16,370
Net loss................. -- -- -- (592,207) -- -- -- (592,207)
--------- ------ ----------- ------------ ------------ ------- ------- ------------
Balance at December 31,
1997................... 3,437,500 $3,438 $ 12,932 $ (592,207) $ -- -- $ -- $ (575,837)
Issuance of common
stock.................. 1,501,500 1,502 291,259 -- -- -- -- 292,761
Repurchase of common
stock.................. -- -- -- -- -- (45,000) $ (450) (450)
Options exercised........ 5,000 4 45 -- -- -- -- 49
Deferred compensation on
employee grants........ -- -- 7,349,675 -- (7,349,675) -- -- --
Amortization of deferred
compensation on
employee grants........ -- -- -- -- 541,774 -- -- 541,774
Deferred compensation on
non-employee grants.... -- -- 2,456,793 -- (2,456,793) -- -- --
Amortization of deferred
compensation on non-
employee grants........ -- -- -- -- 808,306 -- -- 808,306
Net loss................. -- -- -- (9,902,119) -- -- -- (9,902,119)
--------- ------ ----------- ------------ ------------ ------- ------- ------------
Balance at December 31,
1998................... 4,944,000 $4,944 $10,110,704 $(10,494,326) $ (8,456,388) (45,000) $ (450) $ (8,835,516)
Options exercised........ 14,750 15 1,380 -- -- -- -- 1,395
Issuance of common
stock.................. 46,500 46 23,205 -- -- -- -- 23,251
Repurchase of common
stock.................. -- -- -- -- -- (9,375) (4,219) (4,219)
Deferred compensation on
employee grants........ -- -- 10,836,241 -- (10,836,241) -- -- --
Amortization of deferred
compensation on
employee grants
(restated)............. -- -- -- -- 17,644,142 -- -- 17,644,142
Deferred compensation on
non-employee grants.... -- -- 2,898,324 -- (2,898,324) -- -- --
Amortization of deferred
compensation on non-
employee grants
(restated)............. -- -- -- -- 4,546,811 -- -- 4,546,811
Net loss (restated)...... -- -- -- (28,511,399) -- -- -- (28,511,399)
--------- ------ ----------- ------------ ------------ ------- ------- ------------
Balance at April 27, 1999
(restated)............. 5,005,250 $5,005 $23,869,854 $(39,005,725) $ -- (54,375) $(4,669) $(15,135,535)
========= ====== =========== ============ ============ ======= ======= ============
</Table>
See accompanying notes to financial statements.
F-26
107
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF CASH FLOWS
FOR THE PERIOD FROM JANUARY 1, 1999 TO APRIL 27, 1999 AND FOR THE
CUMULATIVE PERIOD FROM INCEPTION (SEPTEMBER 16, 1997) TO APRIL 27, 1999
<Table>
<Caption>
JANUARY 1, 1999 TO CUMULATIVE
APRIL 27, 1999 FROM INCEPTION
------------------ --------------
(RESTATED) (RESTATED)
Cash flows from operating activities:
Net loss.................................................. $(28,511,399) $(39,005,725)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation........................................... 211,750 581,632
Amortization of deferred compensation on employee
grants............................................... 17,644,142 18,185,916
Amortization of deferred compensation on non-employee
grants............................................... 4,546,811 5,355,117
Changes in operating assets and liabilities:
Inventory............................................ (419,857) (419,857)
Prepaid expenses and other current assets............ (213,546) (305,879)
Accounts payable..................................... 94,116 983,578
Accrued expenses..................................... 699,189 966,417
------------ ------------
Net cash used in operations....................... (5,948,794) (13,658,801)
------------ ------------
Cash flows from investing activity:
Purchases of property and equipment....................... (523,790) (2,335,342)
------------ ------------
Cash flows from financing activities:
Proceeds from issuance of common stock.................... 24,646 333,826
Proceeds from issuance of preferred stock, Series A....... -- 7,200,900
Proceeds from issuance of preferred stock, Series B....... -- 12,433,510
Repurchase of common stock................................ (4,219) (4,669)
Proceeds from issuance of long-term debt.................. -- 550,000
Repayment of long-term debt............................... (550,000) (550,000)
------------ ------------
Net cash provided by (used in) financing
activities...................................... (529,573) 19,963,567
------------ ------------
Net increase (decrease) in cash and cash
equivalents..................................... (7,002,157) 3,969,424
Cash and cash equivalents at beginning of period............ 10,971,581 --
------------ ------------
Cash and cash equivalents at end of period.................. $ 3,969,424 $ 3,969,424
============ ============
Supplemental cash flow information:
Interest paid............................................. $ 14,233 $ 23,742
============ ============
Income taxes paid......................................... $ -- $ 1,190
============ ============
</Table>
See accompanying notes to financial statements.
F-27
108
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS
FOR THE PERIOD FROM JANUARY 1, 1999 TO APRIL 27, 1999 AND FOR THE
CUMULATIVE PERIOD FROM INCEPTION (SEPTEMBER 16, 1997) TO APRIL 27, 1999
(1) NATURE OF THE BUSINESS AND BASIS OF PRESENTATION
Redstone Communications, Inc. (the "Company") was incorporated in Delaware
on September 16, 1997. The Company was founded to develop a high density routing
solution that concentrates hundreds of permanent access lines into the public IP
network. The Company's products will allow service providers to increase
revenues by offering tiered bandwidth and pricing options.
The Company is a development stage enterprise as defined in Statement of
Financial Accounting Standards No. 7, and is devoting substantially all of its
efforts to conducting research and development and raising capital to fund
operations. The ultimate success of the Company is dependent upon the
development and marketing of its products and its ability to secure adequate
financing until the Company is operating profitably.
The Company is subject to a number of risks similar to other companies in
the industry, including rapid technological change, uncertainty of market
acceptance of products, competition from substitute products and larger
companies, protection of proprietary technology and dependence on key
individuals.
On March 14, 1999, the Company entered into an agreement and plan of merger
(the "Merger") by and among Siemens Corporation ("Siemens"), Wolf Acquisition
Corp. ("WAC"), a wholly owned subsidiary of Siemens, and Redstone Communications
Inc., whereby WAC acquired all of the outstanding capital stock of the Company
for $450 million in cash (the "Consideration") and WAC merged with and into the
Company, with the Company becoming a wholly owned subsidiary of Siemens. In
addition, the employees of the Company are entitled to receive an additional $50
million based on certain project milestones and employee retention criteria as
defined.
Upon consummation of the Merger on April 27, 1999, all shares of treasury
stock owned by the Company were canceled and retired and the vesting for all
unvested restricted common shares and outstanding common stock options was
accelerated by 50%. In addition, Siemens settled all remaining unvested stock
options. The consideration received by the common stockholders, preferred
stockholders and common stock option holders was equal to $32.59 per share.
The financial statements and notes to financial statements herein have been
prepared to reflect the financial position of the Company immediately prior to
the effective time of the Merger and do not include any adjustments for the
application of push-down accounting, except that the Company has expensed all of
the remaining unamortized deferred compensation related to the restricted common
shares and outstanding common stock options. See Note 9.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Restatement
Subsequent to its acquisition by Siemens, the Company was contributed by
Siemens to Unisphere Networks, Inc. ("Unisphere"), a then wholly-owned
subsidiary of Siemens. Unisphere began the process of registering its common
stock for sale to the public on August 4, 2000 by filing its first registration
statement on Form S-1 with the U.S. Securities and Exchange Commission ("SEC").
Between August 4, 2000 and December 1, 2000, Unisphere filed three amendments to
its original Form S-1. During this process, Unisphere's management discussed the
accounting for certain transactions recorded by the Company in the period from
January 1, 1999 to April 27, 1999 with the SEC Staff. As a result of these
discussions, Unisphere has revised the Company's accounting as explained below.
F-28
109
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The accompanying financial statements as of April 27, 1999 and for the
periods from January 1, 1999 through April 27, 1999 and the cumulative period
from inception (September 16, 1997) to April 27, 1999 have been restated to
reflect a change in the accounting for the unamortized deferred compensation
that existed at the time the Company was acquired by Siemens. The financial
statements included in Unisphere's first registration statement reflected
amortization of the deferred compensation through the acquisition date. The
accompanying restated financial statements reflect the recognition of all of the
remaining deferred compensation since Siemens settled all of the remaining
unvested stock options at the acquisition date. The effects of this change on
the previously filed financial statements are as follows:
<Table>
<Caption>
APRIL 27, 1999
-------------------------------
PREVIOUSLY FILED RESTATED
---------------- ------------
Balance Sheet:
Deficit accumulated during the development stage............ $(19,400,678) $(39,005,725)
Deferred compensation....................................... (19,605,047) --
</Table>
<Table>
<Caption>
JANUARY 1, 1999
THROUGH CUMULATIVE
APRIL 27, 1999 FROM INCEPTION
------------------------------- -------------------------------
PREVIOUSLY FILED RESTATED PREVIOUSLY FILED RESTATED
---------------- ------------ ---------------- ------------
Statement of Operations:
Research and development................ $ 6,759,114 $ 21,002,559 $ 16,029,120 $ 30,272,565
Sales and marketing..................... 1,323,107 6,446,254 2,094,928 7,218,075
General and administrative.............. 930,939 1,169,394 1,828,536 2,066,991
Loss from operations.................... (9,013,160) (28,618,207) (19,952,584) (39,557,631)
Net loss................................ (8,906,352) (28,511,399) (19,400,678) (39,005,725)
Net loss per share -- basic and
diluted............................... (6.20) (19.84)
</Table>
(b) Financial and Credit Risk
Financial investments which potentially expose the Company to
concentrations of credit risk consist primarily of cash and cash equivalents.
The Company maintains a bank account with a major financial institution.
(c) Cash and Cash Equivalents
Cash equivalents consist of commercial paper, mutual funds, discount notes
and repurchase agreements with remaining maturities at acquisition of three
months or less and are carried at cost plus accrued interest which approximates
fair value.
(d) Property and Equipment
Property and equipment are stated at cost. Depreciation is provided using
the straight-line method over the estimated useful lives of the assets,
typically three years. Upon sale or retirement, the asset cost and the related
accumulated depreciation would be removed from the accounts and any resulting
gain or loss would be reflected in operations. Expenditures for maintenance and
repair are charged to expense when incurred.
(e) Research and Development Costs
Research and development costs are charged to expense as incurred.
F-29
110
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(f) Income Taxes
Deferred tax assets and liabilities are determined based on the difference
between the financial statement and the tax basis of assets and liabilities
using current statutory tax rates. A valuation reserve against deferred tax
assets is recorded if, based upon the available evidence, it is more likely than
not that some or all of the deferred tax assets will not be realized.
(g) Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make assumptions regarding
items that affect the reported amounts of assets and liabilities and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from these estimates.
(h) Stock-Based Compensation
The Company has adopted Statement of Financial Accounting Standards
("SFAS") No. 123, Accounting for Stock-Based Compensation, which permits
entities to recognize as expense over the vesting period the fair value of
stock-based awards on the date of grant. For employee stock-based awards, SFAS
No. 123 allows entities to continue to apply the provisions of Accounting
Principles Board ("APB") Opinion No. 25 and provide pro forma net earnings
disclosures as if the fair-value-based method defined in SFAS No. 123 had been
applied. The Company has elected to apply the provisions of APB Opinion No. 25
and provide the pro forma disclosure of SFAS No. 123.
The Company accounts for non-employee stock-based awards in which goods or
services are the consideration received for the equity instruments issued based
on the fair value of the consideration received or the grant date fair value of
the equity instruments issued, whichever is more reliably measurable.
(i) Basic and Diluted Net Loss Per Common Share
Basic and diluted net loss per share is presented under the provisions of
SFAS No. 128, Earnings per Share, and is calculated by dividing the net loss for
the period by the weighted average number of unrestricted common shares
outstanding during the period. Since the Company incurred a net loss for the
periods presented, common stock options of 701,313 and restricted common shares
of 3,381,836 outstanding at April 27, 1999 were excluded from the diluted net
loss per share calculation, as their effect would be antidilutive. As a result,
diluted net loss per share is the same as basic net loss per share, and has not
been presented separately.
(j) Impairment of Long-Lived Assets
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future undiscounted net cash
flows expected to be generated by the asset. If such assets are considered to be
impaired, the impairment to be recognized is measured by the amount by which the
carrying amount of the assets exceeds the fair value of the assets. Estimated
fair value is generally based on either appraised value or measured by
discounted estimated future cash flows. Considerable management judgment is
necessary to estimate discounted future cash flows.
F-30
111
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(k) Fair Value of Financial Instruments
The carrying amounts of cash, cash equivalents, accounts payable and
accrued expenses approximate their fair values due to the short-term nature of
these instruments.
(l) Other Comprehensive Income
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" for the period from inception to April 27,
1999. This statement requires that changes in comprehensive income be shown in a
financial statement that is displayed with the same prominence as other
financial statements. To date, comprehensive loss and net loss are the same.
(m) Segment Information
The Company has adopted Statement of Financial Accounting Standards No.
131, "Disclosure about Segments of an Enterprise and Related Information," which
requires companies to report selected information about operating segments, as
well as enterprise-wide disclosures about products, services, geographic areas,
and major customers. Operating segments are determined based on the way
management organizes its business for making operating decisions and assessing
performance. The Company is a development stage enterprise and has not generated
any revenue. The Company has determined that it conducts its operations in one
business segment.
(3) PROPERTY AND EQUIPMENT
Property and equipment consisted of the following at April 27, 1999:
<Table>
Computer equipment.......................................... $2,174,685
Furniture and fixtures...................................... 129,782
----------
2,304,467
Less: accumulated depreciation.............................. 550,757
----------
Property and equipment, net................................. $1,753,710
==========
</Table>
(4) ACCRUED EXPENSES
Accrued expenses consisted of the following at April 27, 1999:
<Table>
Accrued legal expenses...................................... $360,000
Payroll and related benefits and taxes...................... 297,563
Other accruals.............................................. 308,854
--------
Total accrued expenses............................ $966,417
========
</Table>
(5) LINE OF CREDIT
On January 6, 1998, the Company entered into a $1,000,000 commercial
equipment line of credit agreement with interest at one quarter of one (.25%)
percentage point in excess of the bank's prime rate. On October 15, 1998, the
Company entered into an interest rate swap with a notional amount of $600,000
(the outstanding balance on the line of credit on that date), which effectively
established an interest rate collar between 7.5% and 8.75% on the interest the
Company pays on the outstanding line of credit. During the period ended April
27, 1999, the Company repaid the line of credit and settled the interest rate
swap agreement.
F-31
112
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(6) INCOME TAXES
No income tax provision or benefit has been provided for federal income tax
purposes as the Company has incurred losses since inception. The actual tax
benefit for the period from January 1, 1999 to April 27, 1999 differed from the
expected tax benefit (computed by applying the U.S. federal income tax rate of
34% to loss before income taxes) as a result of the following:
<Table>
Computed expected tax benefit............................... $(9,693,876)
Increase in deferred tax asset valuation allowance.......... 2,500,000
Nondeductible expenses, primarily deferred compensation..... 7,547,791
Increase in federal tax credits............................. (356,718)
Other....................................................... 2,803
-----------
$ --
===========
</Table>
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
deferred income taxes were as follows:
<Table>
Gross deferred tax assets:
Net operating losses and tax credit carryforwards......... $ 6,420,000
Start-up costs............................................ 382,000
Reserves.................................................. 16,000
-----------
Total............................................. 6,818,000
Valuation allowance......................................... (6,778,000)
-----------
Net deferred tax asset............................ 40,000
Deferred tax liability:
Excess of tax over financial statement depreciation....... $ 40,000
-----------
$ --
===========
</Table>
Management of the Company has evaluated the positive and negative evidence
impacting the realizability of its deferred tax assets, and has determined that
based on the weight of the available evidence, it is more likely than not that
all of the deferred tax assets will not be realized, accordingly, the net
deferred tax asset has been fully reserved. If the Company achieves
profitability, the net deferred tax asset would be available to offset future
income tax expense.
At April 27, 1999, the Company had federal and state net operating loss
carryforwards of approximately $14.6 million and $14.4 million, respectively,
which expire in 2017 through 2019 and 2002 through 2004. The use of net
operating loss carryforwards may be limited due to changes in ownership of the
Company's stock.
(7) REDEEMABLE PREFERRED STOCK
The Company has authorized 10,000,000 shares of preferred stock of which
1,843,298 remain undesignated and 5,670,000 shares are designated and issued as
Series A Redeemable Convertible Preferred Stock ("Series A"), and 2,486,702
shares are designated and issued as Series B Redeemable Convertible Preferred
Stock ("Series B"). During 1997, the Company issued 5,500,000 shares of Series A
and recorded net proceeds of $6,985,000. During 1998, the Company issued 170,000
shares of Series A
F-32
113
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
and 2,486,702 shares of Series B and recorded net proceeds of $215,900 and
$12,433,510, respectively. The terms of Series A and Series B are as follows:
Conversion
Each share of Series A and Series B is convertible into one share of common
stock at the option of the stockholder, subject to antidilution and other
adjustments, by dividing $1.27 for Series A and $5.00 for Series B by the
conversion price (in effect at the time). The conversion price shall initially
be $1.27 for Series A and $5.00 for Series B. If the Company issues additional
shares without consideration or for consideration per share less than the
applicable conversion price in effect on the date of such issue, such conversion
price shall be reduced, concurrently with such issue, to a price calculated
pursuant to the guidelines outlined in the preferred stock agreement.
Upon the closing of an initial public offering of the Company's common
stock, which results in proceeds of at least $10,000,000 and a per share price
of at least $10.00, all outstanding shares of Series A and Series B shall be
automatically converted into shares of common stock at the then effective
conversion rate.
Dividend, Voting and Other Rights
Stockholders of Series A and Series B are entitled to the amount of
noncumulative dividends per share as would be payable as if the Series A and
Series B had been converted into common shares. The holders of Series A and
Series B are entitled to vote on all matters and are entitled to the number of
votes equal to the number of common shares into which the Series A and Series B
are convertible as of the date of record.
Liquidation Preferences
In the event of liquidation, dissolution or winding up of the Company, the
holders of Series A and Series B are entitled to a liquidation preference of
$1.27 and $5.00 per share, respectively, subject to adjustment under certain
events as defined in the preferred stock agreement, prior to any distribution to
holders of common stock. If upon such liquidation the remaining assets shall be
insufficient to pay the holders of Series A and Series B, the holders of Series
A, Series B and any other class or series of stock ranking on liquidation on a
parity with Series A and Series B shall share ratably in any distribution of the
remaining assets of the Company.
Redemption
The Company is required to redeem Series A and Series B at a price of $1.27
and $5.00 per share, respectively, plus all accrued but unpaid dividends. The
Company will be required to redeem the following respective portions of the
number of shares of Series A and Series B held by such holder on the following
dates:
<Table>
<Caption>
PORTION OF THEN OUTSTANDING
SHARES OF SERIES A AND SERIES B
MANDATORY REDEMPTION DATE PREFERRED STOCK TO BE REDEEMED
- ------------------------- -------------------------------
August 26, 2003 33 1/3%
August 26, 2004 50%
August 26, 2005 All shares then held
</Table>
F-33
114
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(8) COMMON STOCK
The Company has authorized 20,000,000 shares of common stock, $.001 par
value. Common stock has full voting rights. Dividend and liquidation rights of
common stock are subordinated to those of all series of preferred stock.
Additionally, 8,156,702 shares of common stock are reserved for the conversion
of preferred stock.
(9) STOCK INCENTIVE PLAN
In 1997, the Company adopted the 1997 Stock Incentive Plan (the "Plan") for
directors, officers, employees and consultants of the Company. In accordance
with the Plan, the Company has reserved 4,500,000 shares of common stock for
issuance of stock options, restricted stock, and other awards as determined by
the Board of Directors (the "Board"). As of April 27, 1999, 836,502 shares of
common stock were available for future awards.
Stock Options
The Plan provides for the granting of incentive stock options and
nonstatutory stock options. All options granted under the Plan are subject to
terms and conditions, as determined by the Board, including exercise price,
vesting and expiration period. The Board shall establish the exercise price and
vesting period at the time each option is granted and specify it in the
applicable option agreement. Options typically are granted at fair value and
vest over 4 to 5 years with partial acceleration upon certain acquisition
events, as defined. The options expire ten years from the date of grant.
The following is a summary of the Company's stock option plan as of April
27, 1999:
<Table>
<Caption>
NUMBER OF EXERCISE PRICE
SHARES WEIGHTED AVERAGE
--------- ----------------
Options outstanding at December 31, 1998.................. 286,500 $0.30
Granted................................................... 440,813 1.33
Exercised................................................. (14,750) (0.09)
Cancelled................................................. (11,250) (0.02)
-------
Options outstanding at April 27, 1999..................... 701,313 0.96
=======
</Table>
The following table summarizes stock options outstanding and exercisable at
April 27, 1999:
<Table>
<Caption>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------- ------------------------------
EXERCISE NUMBER WEIGHTED AVERAGE WEIGHTED AVERAGE NUMBER WEIGHTED AVERAGE
PRICES OUTSTANDING REMAINING LIFE (YEARS) EXERCISE PRICE EXERCISABLE EXERCISE PRICE
- -------- ----------- ---------------------- ---------------- ----------- ----------------
$ .01 48,000 8.88 $ .01 41,127 $ .01
.10 33,500 9.05 .10 32,876 .10
.45 182,500 9.50 .45 96,792 .45
.50 168,813 9.70 .50 86,123 .50
1.00 152,500 9.83 1.00 76,250 1.00
3.00 116,000 9.87 3.00 58,000 3.00
------- -------
701,313 9.58 .96 391,168 .87
======= =======
</Table>
F-34
115
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Restricted Stock
All restricted stock awards granted under the Plan are subject to terms and
conditions, as determined by the Board including the right of the Company to
repurchase any vested shares a stockholder desires to sell at fair market value.
In the event that employment is terminated, the Company may elect to repurchase
any unvested shares for the original purchase price.
During the period from January 1, 1999 to April 27, 1999, the Company
issued 46,500 shares of restricted common stock to various employees and
consultants at a purchase price of $.50 per share. Prior to the inception of the
plan, 2,000,000 shares were issued at a purchase price of $.001 per share.
Pursuant to the plan, 1,863,500 were issued at $.01 per share, 558,500 at $.10
per share and 517,000 shares were issued at $.45 per share. These shares
generally vest between four and five years and are subject to accelerated
vesting in the event the Company is acquired. At April 27, 1999, 1,603,664
shares of restricted stock had vested.
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), requires that companies either recognize
compensation expense for grants to employees of stock, stock options, and other
equity instruments based on fair value, or provide pro forma disclosure of net
income or loss in the notes to the financial statements. For stock-based awards
granted to employees, the Company has adopted the disclosure provisions of SFAS
123 and recognizes compensation cost using the intrinsic value based method
described in Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting
for Stock Issued to Employees." For stock-based awards granted to non-employees,
the Company recognizes compensation costs in accordance with the requirements of
SFAS 123. Had compensation expense for stock-based awards issued to employees
been determined based upon the fair value at the grant dates in accordance with
SFAS 123 for the period from January 1, 1999 to April 27, 1999, net loss would
have been $28,946,673 and net loss per share would have been $20.15.
The fair value of stock options granted to employees at the date of grant
was estimated using a Black Scholes option pricing model. The following table
details the weighted-average assumptions used in the calculations of fair value
for stock options for the period from January 1, 1999 to April 27, 1999:
<Table>
Expected volatility......................................... 0%
Risk-free interest rate..................................... 6.5%
Dividend rate............................................... 0%
Expected life............................................... 8 years
</Table>
The weighted average grant date fair value for options granted during 1999
was $23.48.
Deferred compensation recognized in connection with the issuance of stock
options and restricted stock to nonemployees was $2,898,324 for the period ended
April 27, 1999, and $4,546,811 was amortized into expense. This compensation
cost was calculated using the Black-Scholes option pricing model and the
following weighted average assumptions; expected volatility of 70%, risk-free
interest rate of 5%, zero dividend rate and a contractual life of 10 years.
In connection with the Merger discussed in Note 1, the Company's common and
preferred stockholders and common stock option holders received consideration
equal to $32.59 per share. During the period from January 1, 1999 to April 27,
1999, the Company sold 46,500 shares of restricted common stock and granted
440,813 options to purchase common stock at amounts, in some cases, lower than
the estimated fair market value. Accordingly, the Company has estimated and
recorded deferred compensation related to the restricted common stock and common
stock options that were sold or issued at amounts less than estimated fair
market value.
During fiscal 1998 and the period from January 1, 1999 to April 27, 1999,
the Company recorded $7,349,675 and $10,836,241, respectively, in deferred
compensation related to restricted common stock and
F-35
116
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
stock options issued to employees of the Company. In addition, the Company
recorded compensation expense of $541,774 for fiscal 1998 and $17,644,142 for
the period from January 1, 1999 to April 27, 1999 related to the amortization of
the deferred compensation balances. The amount amortized in the period from
January 1, 1999 to April 27, 1999 included the recognition of all remaining
unamortized deferred compensation at April 27, 1999 as a result of the merger
discussed in Note 1.
(10) EMPLOYEE BENEFIT PLAN
The Company maintains the Redstone Communications, Inc. 401(k) Plan and
Trust (the "Plan") for all eligible employees which provides for matching
employer contributions determined annually by the Board of Directors. There have
been no matching employer contributions made to the Plan for the period ended
April 27, 1999.
(11) COMMITMENTS AND CONTINGENCIES
The Company entered into an operating lease in March 1999 for its office
facility, which expires March 2004. Under the office facility lease agreement,
the Company is also obligated to pay for utilities. The Company has also entered
into three other leases for office equipment. Total rent expense for the period
ended April 27, 1999 was $89,953.
At April 27, 1999, the Company has commitments under these long-term leases
requiring approximate annual payments as follows:
<Table>
<Caption>
CALENDAR YEAR ENDING DECEMBER 31,
- ---------------------------------
1999..................................................... $ 465,233
2000..................................................... 662,732
2001..................................................... 678,827
2002..................................................... 698,873
2003..................................................... 717,213
2004..................................................... 180,414
----------
Total minimum rental payments.................. $3,403,292
==========
</Table>
The Company, from time to time, is involved in various claims and legal
actions arising in the ordinary course of business. In the opinion of
management, the ultimate disposition of these matters will not have a material
adverse effect on the Company's financial position, results of operations or
liquidity.
F-36
117
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
Redstone Communications, Inc.:
In our opinion, the accompanying balance sheets and the related statements
of operations, of stockholders' equity and of cash flows present fairly, in all
material respects, the financial position of Redstone Communications, Inc. (a
development stage enterprise) (the "Company") at December 31, 1997 and 1998, and
the results of its operations and its cash flows for the period from inception
(September 16, 1997) through December 31, 1997, for the year ended December 31,
1998, and cumulative from inception through December 31, 1998, in conformity
with accounting principles generally accepted in the United States of America.
These financial statements are the responsibility of the Company's management;
our responsibility is to express an opinion on these financial statements based
on our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of America which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
/s/ PRICEWATERHOUSECOOPERS LLP
February 8, 1999,
except for Note 11, as to which
the date is March 14, 1999
Boston, Massachusetts
F-37
118
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF OPERATIONS
FOR THE PERIOD FROM INCEPTION (SEPTEMBER 16, 1997) TO DECEMBER 31, 1997, THE
YEAR ENDED
DECEMBER 31, 1998, AND FOR THE CUMULATIVE PERIOD FROM INCEPTION THROUGH DECEMBER
31, 1998
<Table>
<Caption>
CUMULATIVE
1997 1998 FROM INCEPTION
--------- ------------ --------------
Operating expenses:
Research and development......................... $ 502,776 $ 8,767,230 $ 9,270,006
Sales and marketing.............................. 40,657 731,164 771,821
General and administrative....................... 132,738 764,859 897,597
--------- ------------ ------------
Total operating expenses................. 676,171 10,263,253 10,939,424
--------- ------------ ------------
Loss from operations............................... (676,171) (10,263,253) (10,939,424)
--------- ------------ ------------
Interest income, net............................... 83,964 361,134 445,098
========= ============ ============
Net loss........................................... $(592,207) $ (9,902,119) $(10,494,326)
========= ============ ============
Net loss per share -- basic and diluted............ $ (13.35)
============
Weighted average shares outstanding -- basic and
diluted.......................................... 741,832
============
</Table>
F-38
119
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
BALANCE SHEETS
DECEMBER 31, 1997 AND 1998
<Table>
<Caption>
1997 1998
---------- -----------
ASSETS
Current assets:
Cash and cash equivalents................................. $6,318,337 $10,971,581
Prepaid expenses and other current assets................. 16,149 92,333
---------- -----------
Total current assets.............................. 6,334,486 11,063,914
Property and equipment, net................................. 223,448 1,441,670
---------- -----------
Total assets...................................... $6,557,934 $12,505,584
========== ===========
LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS'
EQUITY
Current liabilities:
Accounts payable.......................................... 300 889,462
Accrued expenses.......................................... 148,471 267,228
Debt currently due........................................ -- 200,000
---------- -----------
Total current liabilities......................... 148,771 1,356,690
Long-term debt.............................................. -- 350,000
---------- -----------
Total liabilities................................. 148,771 1,706,690
---------- -----------
Commitments and contingencies (Note 9)
Redeemable preferred stock, $.01 par value; 10,000,000
shares authorized:
Series A redeemable convertible preferred stock, $.01 par
value; 5,500,000 and 5,670,000 shares designated,
issued and outstanding at December 31, 1997 and 1998,
respectively; liquidation value of $6,985,000 and
$7,200,900............................................. 6,985,000 7,200,900
Series B redeemable convertible preferred stock, $.01 par
value; 2,486,702 shares designated, issued and
outstanding at December 31, 1998; liquidation value of
$12,433,510............................................ -- 12,433,510
Stockholders' equity:
Common stock, $.001 par value; 20,000,000 shares
authorized, 3,437,500 and 4,944,000 shares issued and
outstanding at December 31, 1997 and 1998,
respectively........................................... 3,438 4,944
Additional paid-in capital................................ 12,932 10,110,704
Deficit accumulated during the development stage.......... (592,207) (10,494,326)
Deferred compensation..................................... -- (8,456,388)
Common stock in treasury, at cost -- 45,000 shares in
1998................................................... -- (450)
---------- -----------
Total stockholders' equity........................ (575,837) (8,835,516)
---------- -----------
Total liabilities, redeemable preferred stock and
stockholders' equity............................ $6,557,934 $12,505,584
========== ===========
</Table>
The accompanying notes are an integral part of the financial statements.
F-39
120
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE PERIOD FROM INCEPTION (SEPTEMBER 16, 1997) TO DECEMBER 31, 1997, FOR THE
YEAR ENDED
DECEMBER 31, 1998, AND CUMULATIVE FROM INCEPTION TO DECEMBER 31, 1998
<Table>
<Caption>
DEFICIT
ACCUMULATED
COMMON STOCK ADDITIONAL DURING TREASURY STOCK TOTAL
------------------ PAID-IN DEVELOPMENT DEFERRED --------------- STOCKHOLDERS'
SHARES AMOUNT CAPITAL STAGE COMPENSATION SHARES COST EQUITY
--------- ------ ----------- ------------ ------------ ------- ----- -------------
Issuance of common stock....... 3,437,500 $3,438 $ 12,932 -- -- -- -- $ 16,370
Net loss....................... $ (592,207) -- -- -- (592,207)
--------- ------ ----------- ------------ ----------- ------- ----- -----------
Balance, December 31, 1997..... 3,437,500 3,438 12,932 (592,207) -- -- -- (575,837)
--------- ------ ----------- ------------ ----------- ------- ----- -----------
Issuance of common stock....... 1,501,500 1,502 291,259 -- $ -- -- -- 292,761
Repurchase of common stock..... -- -- -- -- -- (45,000) $(450) (450)
Options exercised.............. 5,000 4 45 -- -- -- -- 49
Deferred compensation on
employee grants.............. -- -- 7,349,675 -- (7,349,675) -- -- --
Amortization of deferred
compensation on employee
grants....................... -- -- -- -- 541,774 -- -- 541,774
Deferred compensation on non-
employee grants.............. -- -- 2,456,793 -- (2,456,793) -- -- --
Amortization of deferred
compensation on non-employee
grants....................... -- -- -- -- 808,306 808,306
Net loss....................... -- -- -- (9,902,119) -- -- -- (9,902,119)
--------- ------ ----------- ------------ ----------- ------- ----- -----------
Balance, December 31, 1998..... 4,944,000 $4,944 $10,110,704 $(10,494,326) $(8,456,388) (45,000) $(450) $(8,835,516)
========= ====== =========== ============ =========== ======= ===== ===========
</Table>
The accompanying notes are an integral part of the financial statements.
F-40
121
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF CASH FLOWS
FOR THE PERIOD FROM INCEPTION (SEPTEMBER 16, 1997) TO DECEMBER 31, 1997, FOR THE
YEAR ENDED
DECEMBER 31, 1998, AND FOR THE CUMULATIVE PERIOD FROM INCEPTION TO DECEMBER 31,
1998
<Table>
<Caption>
CUMULATIVE
1997 1998 FROM INCEPTION
---------- ----------- --------------
Cash flows from operating activities:
Net loss.......................................... $ (592,207) $(9,902,119) $(10,494,326)
Adjustment to reconcile net loss to net cash used
in operating activities:
Depreciation................................... 12,116 357,766 369,882
Amortization of deferred compensation on
employee grants.............................. -- 541,774 541,774
Amortization of deferred compensation on non-
employee grants.............................. -- 808,306 808,306
Changes in operating assets and liabilities:
Prepaid expenses and other current assets.... (16,149) (76,184) (92,333)
Accounts payable............................. 300 889,162 889,462
Accrued expenses............................. 148,471 118,757 267,228
---------- ----------- ------------
Net cash used in operations............... (447,469) (7,262,538) (7,710,007)
---------- ----------- ------------
Cash flows from investing activities:
Purchases of property and equipment............... (235,564) (1,575,988) (1,811,552)
---------- ----------- ------------
Cash flows from financing activities:
Proceeds from issuance of long-term debt.......... -- 550,000 550,000
Proceeds from issuance of preferred stock, Series
A.............................................. 6,985,000 215,900 7,200,900
Proceeds from issuance of preferred stock, Series
B.............................................. -- 12,433,510 12,433,510
Proceeds from issuance of common stock............ 16,370 292,810 309,180
Repurchase of common stock........................ -- (450) (450)
---------- ----------- ------------
Net cash provided by financing
activities.............................. 7,001,370 13,491,770 20,493,140
---------- ----------- ------------
Net increase in cash and cash equivalents........... 6,318,337 4,653,244 10,971,581
Cash and cash equivalents, beginning of period...... -- 6,318,337 --
---------- ----------- ------------
Cash and cash equivalents, end of period............ $6,318,337 $10,971,581 $ 10,971,581
---------- ----------- ------------
Supplemental cash flow information:
Interest paid..................................... -- $ 9,509 $ 9,509
Income taxes paid................................. -- $ 1,190 $ 1,190
</Table>
The accompanying notes are an integral part of the financial statements.
F-41
122
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS
1. NATURE OF THE BUSINESS AND BASIS OF PRESENTATION:
Redstone Communications, Inc. (the "Company") was incorporated in Delaware
on September 16, 1997. The Company was founded to develop a high density routing
solution that concentrates hundreds of permanent access lines into the public IP
network. The Company's products will allow service providers to increase
revenues by offering tiered bandwidth and pricing options.
The Company is a development stage enterprise as defined in Statement of
Financial Accounting Standards No. 7, and is devoting substantially all of its
efforts to conducting research and development and raising capital to fund
operations. The ultimate success of the Company is dependent upon the
development and marketing of its products and its ability to secure adequate
financing until the Company is operating profitably.
The Company is subject to a number of risks similar to other companies in
the industry, including rapid technological change, uncertainty of market
acceptance of products, competition from substitute products and larger
companies, protection of proprietary technology and dependence on key
individuals.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Financial and Credit Risk
Financial investments which potentially expose the Company to
concentrations of credit risk consist primarily of cash and cash equivalents.
The Company maintains a bank account with a major financial institution.
Cash and Cash Equivalents
Cash equivalents consist of commercial paper, mutual funds, discount notes
and repurchase agreements with remaining maturities at acquisition of three
months or less and are carried at cost plus accrued interest which approximates
fair value.
Property and Equipment
Property and equipment are stated at cost. Depreciation is provided using
the straight-line method over the estimated useful lives of the assets,
typically three years. Upon sale or retirement, the asset cost and the related
accumulated depreciation would be removed from the accounts and any resulting
gain or loss would be reflected in operations. Expenditures for maintenance and
repair are charged to expense when incurred.
Research and Development Costs
Research and development costs are charged to expense as incurred.
Income Taxes
Deferred tax assets and liabilities are determined based on the difference
between the financial statement and the tax basis of assets and liabilities
using current statutory tax rates. A valuation reserve against deferred tax
assets is recorded if, based upon the available evidence, it is more likely than
not that some or all of the deferred tax assets will not be realized.
F-42
123
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make assumptions regarding
items that affect the reported amounts of assets and liabilities and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from these estimates.
Stock-Based Compensation
The Company has adopted Statement of Financial Accounting Standards
("SFAS") No. 123, "Accounting for Stock-Based Compensation," which permits
entities to recognize as expense over the vesting period the fair value of
stock-based awards on the date of grant. For employee stock-based awards, SFAS
No. 123 allows entities to continue to apply the provisions of Accounting
Principles Board ("APB") Opinion No. 25 and provide pro forma net earnings
disclosures as if the fair-value-based method defined in SFAS No. 123 had been
applied. The Company has elected to apply the provisions of APB Opinion No. 25
and provide the pro forma disclosure of SFAS No. 123.
The Company accounts for non-employee stock-based awards in which goods or
services are the consideration received for the equity instruments issued based
on the fair value of the consideration received or the grant date fair value of
the equity instruments issued, whichever is more reliably measurable.
Basic and Diluted Net Loss Per Common Share
Basic and diluted net loss per share is presented under the provisions of
SFAS No. 128, "Earnings per Share." Since the Company incurred a net loss in
1998, common stock options of 286,500 and restricted common shares of 3,698,040
outstanding at December 31, 1998 were excluded from the diluted net loss per
share calculation, as their effect would be antidilutive. As a result, diluted
net loss per share is the same as basic net loss per share, and has not been
presented separately. No loss per share calculation is presented for 1997
because all of the 3,437,500 common shares outstanding were restricted.
The following table sets forth the computation of basic and diluted net
loss per share:
<Table>
<Caption>
1998
-----------
Numerator:
Net loss.................................................. $(9,902,119)
===========
Denominator:
Weighted average unrestricted common shares outstanding... 741,832
===========
Basic and diluted net loss per share........................ $ (13.35)
===========
</Table>
Impairment of Long-Lived Assets
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. Estimated fair value
is generally based on either appraised value or measured by discounted estimated
future cash flows. Considerable management judgment is necessary to estimate
discounted future cash flows.
F-43
124
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Fair Value of Financial Instruments
The carrying amounts of cash, cash equivalents, accounts payable and
accrued expenses approximate their fair values due to the short-term nature of
these instruments.
Other Comprehensive Income
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income." This statement requires that changes in
comprehensive income be shown in a financial statement that is displayed with
the same prominence as other financial statements. To date, comprehensive loss
and net loss are the same.
Segment Information
The Company has adopted Statement of Financial Accounting Standards No.
131, "Disclosure about Segments of an Enterprise and Related Information," which
requires companies to report selected information about operating segments, as
well as enterprise-wide disclosures about products, services, geographic areas,
and major customers. Operating segments are determined based on the way
management organizes its business for making operating decisions and assessing
performance. The Company is a development stage enterprise and has not generated
any revenue. The Company has determined that it conducts its operations in one
business segment.
3. PROPERTY AND EQUIPMENT:
Property and equipment consisted of the following at December 31, 1997 and
1998:
<Table>
<Caption>
1997 1998
-------- ----------
Computer equipment.......................................... $229,314 $1,780,677
Furniture and fixtures...................................... 6,250 30,875
-------- ----------
235,564 1,811,552
Less: accumulated depreciation.............................. (12,116) (369,882)
-------- ----------
Property and equipment, net................................. $223,448 $1,441,670
======== ==========
</Table>
F-44
125
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
4. INCOME TAXES:
No income tax provision or benefit has been provided for federal income tax
purposes as the Company has incurred losses since inception.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
deferred income taxes were as follows:
<Table>
<Caption>
1997 1998
-------- ----------
Gross deferred tax assets:
Net operating losses...................................... $103,079 $3,036,640
Start-up costs............................................ 134,973 --
Temporary differences..................................... -- 676,162
-------- ----------
Total............................................. 238,052 3,712,802
Valuation allowance....................................... (238,052) (3,712,802)
-------- ----------
Net deferred tax asset............................ -- --
======== ==========
</Table>
Management of the Company has evaluated the positive and negative evidence
impacting the realizability of its deferred tax assets, and has determined that
based on the weight of the available evidence, it is more likely than not that
all of the deferred tax assets will not be realized, accordingly, the deferred
tax assets have been fully reserved. If the Company achieves profitability, the
net deferred tax asset would be available to offset future income tax expense.
At December 31, 1998, the Company had federal and state net operating loss
carryforwards of $7,540,842 and $7,539,530, respectively, which expire in the
year 2018 and 2013. The use of net operating loss carryforwards may be limited
due to changes in ownership of the Company's stock.
5. REDEEMABLE PREFERRED STOCK:
The Company has authorized 10,000,000 shares of preferred stock of which
1,843,298 remain undesignated and 5,670,000 shares are designated and issued as
Series A Redeemable Convertible Preferred Stock ("Series A"), and 2,486,702
shares are designated and issued as Series B Redeemable Convertible Preferred
Stock ("Series B").
The terms of Series A and Series B are as follows:
Conversion
Each share of Series A and Series B is convertible into one share of common
stock at the option of the stockholder, subject to antidilution and other
adjustments, by dividing $1.27 for Series A and $5.00 for Series B by the
conversion price (in effect at the time). The conversion price shall initially
be $1.27 for Series A and $5.00 for Series B. If the Company issues additional
shares without consideration or for a consideration per share less than the
applicable conversion price in effect on the date of such issue, such conversion
price shall be reduced, concurrently with such issue, to a price calculated
pursuant to the guidelines outlined in the preferred stock agreement.
Upon the closing of an initial public offering of the Company's common
stock, which results in proceeds of at least $10,000,000 and a per share price
of at least $10.00, all outstanding shares of Series A and Series B shall be
automatically converted into shares of common stock at the then effective
conversion rate.
F-45
126
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Dividend, Voting and Other Rights
Stockholders of Series A and Series B are entitled to the amount of
noncumulative dividends per share as would be payable as if the Series A and
Series B had been converted into common shares. The holders of Series A and
Series B are entitled to vote on all matters and are entitled to the number of
votes equal to the number of common shares into which the Series A and Series B
are convertible as of the date of record.
Liquidation Preferences
In the event of liquidation, dissolution or winding up of the Company, the
holders of Series A and Series B are entitled to a liquidation preference of
$1.27 and $5.00 per share, respectively, subject to adjustment under certain
events as defined in the preferred stock agreement, prior to any distribution to
holders of common stock. If upon such liquidation the remaining assets shall be
insufficient to pay the holders of Series A and Series B, the holders of Series
A, Series B and any other class or series of stock ranking on liquidation on a
parity with Series A and Series B shall share ratably in any distribution of the
remaining assets of the Company.
Redemption
The Company is required to redeem Series A and Series B at a price of $1.27
and $5.00 per share, respectively, plus all accrued but unpaid dividends. The
Company will be required to redeem the following respective portions of the
number of shares of Series A and Series B held by such holder on the following
dates:
<Table>
<Caption>
PORTION OF THEN OUTSTANDING
SHARES OF SERIES A AND SERIES B
MANDATORY REDEMPTION DATE PREFERRED STOCK TO BE REDEEMED
- ------------------------- -------------------------------
August 26, 2003 33 1/3%
August 26, 2004 50%
August 26, 2005 All shares then held
</Table>
6. COMMON STOCK:
The Company has authorized 20,000,000 shares of common stock, $.001 par
value. Common stock has full voting rights. Dividend and liquidation rights of
common stock are subordinated to those of all series of preferred stock.
Additionally, 8,156,702 shares of common stock are reserved for the conversion
of preferred stock.
7. STOCK INCENTIVE PLAN:
In 1997, the Company adopted the 1997 Stock Incentive Plan (the "Plan") for
directors, officers, employees and consultants of the Company. In accordance
with the Plan, the Company has reserved 4,500,000 shares of common stock for
issuance of stock options, restricted stock, and other awards as determined by
the Board of Directors (the "Board"). As of December 31, 1998, 1,314,500 shares
of common stock were available for future awards.
Stock Options
The Plan provides for the granting of incentive stock options and
nonstatutory stock options. All options granted under the Plan are subject to
terms and conditions, as determined by the Board, including exercise price,
vesting and expiration period. The Board shall establish the exercise price and
vesting
F-46
127
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
period at the time each option is granted and specify it in the applicable
option agreement. Options typically vest over 4 to 5 years with partial
acceleration upon acquisition. The options expire ten years from the date of
grant.
The following is a summary of the Company's stock option plan as of
December 31, 1997 and 1998 and the change during the period and year ending on
those dates:
<Table>
<Caption>
NUMBER OF WEIGHTED AVERAGE
SHARES EXERCISE PRICE
--------- ----------------
Options outstanding at September 16, 1997................. -- --
Granted................................................. 43,500 $ 0.01
Exercised............................................... -- --
Canceled................................................ -- --
------- ------
Options outstanding at December 31, 1997.................. 43,500 0.01
Granted................................................. 248,000 0.35
Exercised............................................... (5,000) (0.01)
Canceled................................................ -- --
------- ------
Options outstanding at December 31, 1998.................. 286,500 $ 0.30
======= ======
</Table>
The following table summarizes stock options outstanding and exercisable at
December 31, 1998:
<Table>
<Caption>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
RANGE OF ------------------------------------------------------- -------------------------------
EXERCISE NUMBER WEIGHTED AVERAGE WEIGHTED AVERAGE NUMBER WEIGHTED AVERAGE
PRICES OUTSTANDING REMAINING LIFE (YEARS) EXERCISE PRICE EXERCISABLE EXERCISABLE PRICE
- -------- ----------- ---------------------- ---------------- ----------- -----------------
$0.01 69,500 1.7 $0.01 44,688 $0.01
0.10 34,500 2.2 0.10 24,500 0.10
0.45 182,500 9.5 0.45 5,542 0.45
</Table>
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), requires that companies either recognize
compensation expense for grants to employees of stock, stock options, and other
equity instruments based on fair value, or provide pro forma disclosure of net
income or loss in the notes to the financial statements. For stock options
granted to employees, the Company has adopted the disclosure provisions of SFAS
123 and recognizes compensation cost using the intrinsic value based method
described in Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting
for Stock Issued to Employees." For stock options granted to nonemployees, the
Company recognizes compensation costs in accordance with the requirements of
SFAS 123. Had compensation expense for stock options issued to employees been
determined based upon the fair value at the grant dates for awards issued under
that Plan in accordance with SFAS 123 for 1997 and 1998, net loss would have
been $592,473 and $9,783,326, respectively, and net loss per share would have
been $13.19 in 1998.
The fair value of the incentive stock options granted to employees at the
date of grant was estimated using the minimum value method. The following table
details the weighted-average assumptions used in the calculations of fair value
for incentive stock options:
<Table>
<Caption>
INCENTIVE
STOCK OPTIONS
-------------
Expected volatility......................................... 0%
Risk-free interest rates.................................... 6.42%
Dividend rates.............................................. 0%
Expected life............................................... 8 years
</Table>
F-47
128
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The weighted average grant date fair value for options granted during 1998
was $8.20.
Deferred compensation cost recognized in connection with the issuance of
stock options to non-employees was $2,456,793 for 1998 of which $808,306 was
amortized into expense. This compensation cost was calculated using the
Black-Scholes option pricing model and the following assumptions; expected
volatility of 70%, risk-free interest rate of 4.66%, zero dividend rate and a
contractual life of 10 years.
Restricted Stock
All restricted stock awards granted under the Plan are subject to terms and
conditions, as determined by the Board including the right of the Company to
repurchase any vested shares a stockholder desires to sell at fair market value.
In the event that employment is terminated, the Company may elect to repurchase
any unvested shares for the original purchase price.
During fiscal years 1997 and 1998, the Company issued 3,437,500 and
1,501,500 shares of restricted common stock, respectively, to various employees
and consultants. Prior to the inception of the Plan, 2,000,000 shares were
issued at a purchase price of $.001 per share. Pursuant to the Plan, 1,863,500
shares were issued at a purchase price of $.01 per share, 558,500 shares were
issued at a purchase price of $.10 per share and 517,000 shares were issued at a
purchase price of $.45 per share. These shares generally vest between four and
five years and are subject to accelerated vesting in the event of an
acquisition. At December 31, 1998, 359,467 shares of stock had vested.
During fiscal 1998, the Company recorded $7,349,675 in deferred
compensation related to restricted common stock and stock options issued to
employees of the Company at exercise prices lower than the estimated fair market
value. In addition, the Company recorded compensation expense of $541,774 for
fiscal 1998 related to the amortization of the deferred compensation balances.
8. EMPLOYEE BENEFIT PLAN:
The Company maintains the Redstone Communications, Inc. 401(k) Plan and
Trust (the "Plan") for all eligible employees which provides for matching
employer contributions determined annually by the Board of Directors. There have
been no matching employer contributions made to the Plan as of December 31,
1998.
9. COMMITMENTS AND CONTINGENCIES:
The Company has entered into an eighteen-month operating lease for its
office facility, which expires March 31, 1999. Under the office facility lease
agreement, the Company is also obligated to pay for utilities. The Company
intends to enter into a new lease for its current office facility. The Company
has also entered into three other leases for office equipment. Total rent
expense for the period ended December 31, 1997 and the year ended December 31,
1998 was approximately $38,600 and $177,992, respectively.
F-48
129
REDSTONE COMMUNICATIONS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
At December 31, 1998, the Company has commitments under these long-term
leases requiring approximate annual payments as follows:
<Table>
1999....................................................... $56,378
2000....................................................... 6,225
2001....................................................... 2,274
2002....................................................... 2,274
2003....................................................... 568
-------
Total minimum rental payments.............................. $67,719
=======
</Table>
10. LONG-TERM DEBT:
On January 6, 1998 the Company entered into a $1,000,000 commercial
equipment line of credit agreement with interest of one quarter of one (.25%)
percentage point in excess of the bank's prime rate (7.75% at December 31,
1998). On October 15, 1998, the Company entered into an interest rate swap with
a notional amount of $600,000, (the outstanding balance on the line of credit on
that date), which effectively established an interest rate collar between 7.5%
and 8.75% on the interest the Company pays on the outstanding line of credit.
The fair market value of the swap at December 31, 1998 was immaterial. At
December 31, 1998, $550,000 was outstanding. The outstanding balance on the line
is being repaid in equal monthly installments through October 2001. Maturities
of long-term debt are as follows: 1999 -- $194,118; 2000 -- $194,118;
2001 -- $161,764.
11. SUBSEQUENT EVENT:
On March 14, 1999 the Company entered into an "Agreement and Plan of
Merger" with Siemens Corporation whereby all of the issued and outstanding
capital stock and the number of shares of capital stock that are issuable under
all options, warrants and similar rights to acquire shares of capital stock of
the Company shall be converted into the right to receive an amount per share in
cash.
F-49
130
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Castle Networks, Inc.:
We have audited the accompanying balance sheet of Castle Networks, Inc. (a
development stage enterprise) as of April 20, 1999 and the related statements of
operations, stockholders' deficit, and cash flows for the period from January 1,
1999 to April 20, 1999 and for the cumulative period from inception (October 16,
1997) to April 20, 1999. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted 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 audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Castle Networks, Inc. as of
April 20, 1999, and the results of its operations and its cash flows for the
period from January 1, 1999 to April 20, 1999 and for the cumulative period from
inception (October 16, 1997) to April 20, 1999, in conformity with accounting
principles generally accepted in the United States of America.
The financial statements referred to above as of April 20, 1999 and for the
period from January 1, 1999 to April 20, 1999 and for the cumulative period from
inception (October 16, 1997) to April 20, 1999 have been restated. See Note
2(a).
/s/ KPMG LLP
Boston, Massachusetts
June 28, 2000, except with respect to the matter
discussed in Note 2(a), as to which the date is
October 19, 2000
F-50
131
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF OPERATIONS
FOR THE PERIOD FROM JANUARY 1, 1999 TO APRIL 20, 1999 AND FOR THE
CUMULATIVE PERIOD FROM INCEPTION (OCTOBER 16, 1997) TO APRIL 20, 1999
<Table>
<Caption>
JANUARY 1, 1999 TO CUMULATIVE
APRIL 20, 1999 FROM INCEPTION
------------------ --------------
(RESTATED) (RESTATED)
Operating expenses
Research and development.................................. $ 10,153,740 $ 16,227,411
Selling and marketing..................................... 10,072,285 11,859,324
General and administrative................................ 2,163,959 3,029,232
------------ ------------
Total operating expenses.......................... 22,389,984 31,115,967
------------ ------------
Other income (expense), net:
Interest income........................................... 131,880 452,857
Interest expense.......................................... (31,380) (75,967)
------------ ------------
Other income (expense), net....................... 100,500 376,890
------------ ------------
Net loss.......................................... $(22,289,484) $(30,739,077)
============ ============
Net loss per share -- basic and diluted..................... $ (18.09)
============
Weighted average shares outstanding -- basic and diluted.... 1,231,857
============
</Table>
See accompanying notes to financial statements.
F-51
132
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
BALANCE SHEET
APRIL 20, 1999
(RESTATED)
<Table>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 6,219,412
Prepaid expenses and other current assets................. 216,719
------------
Total current assets.............................. 6,436,131
Property and equipment, net................................. 1,706,803
Other assets................................................ 105,892
------------
Total assets...................................... $ 8,248,826
============
LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS'
DEFICIT
Current liabilities:
Accounts payable.......................................... $ 621,208
Accrued expenses.......................................... 2,141,590
Current portion of capital lease obligation............... 13,472
------------
Total current liabilities......................... 2,776,270
Lease obligation, excluding current portion................. 5,945
------------
Total liabilities................................. 2,782,215
------------
Preferred stock, Series A, $0.001 par value; mandatorily
redeemable, convertible; authorized 6,925,000 shares;
issued and outstanding 6,925,000 shares; at liquidation
value..................................................... 6,925,000
Preferred stock, Series B, $0.001 par value; mandatorily
redeemable, convertible; authorized 4,084,967 shares;
issued and outstanding 4,084,967 shares; at liquidation
value..................................................... 11,249,999
Stockholders' deficit:
Common stock, $0.001 par value, 19,090,033 shares
authorized; issued and outstanding 5,991,250 shares.... 5,991
Additional paid-in capital................................ 18,029,748
Deficit accumulated during the development stage.......... (30,741,052)
Treasury stock, at cost, 105,000 shares................... (3,075)
------------
Total stockholders' deficit....................... (12,708,388)
------------
Total liabilities, redeemable preferred stock, and
stockholders' deficit............................. $ 8,248,826
============
</Table>
See accompanying notes to financial statements.
F-52
133
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE PERIODS FROM INCEPTION (OCTOBER 16, 1997) TO APRIL 20, 1999
<Table>
<Caption>
DEFICIT
ACCUMULATED
ADDITIONAL DURING THE
COMMON STOCK COMMON STOCK PAID-IN DEVELOPMENT TREASURY
$.01 PAR VALUE $.001 PAR VALUE CAPITAL STAGE STOCK
---------------- ------------------ ----------- ------------ --------
SHARES AMOUNT SHARES AMOUNT
------- ------ --------- ------
Issuance of common stock at $.01 per
share................................ 20,000 $ 200 -- $ -- $ -- $ -- $ --
Net loss............................... -- -- -- -- -- (63,202) --
------- ----- --------- ------ ----------- ------------ -------
Balance at December 31, 1997........... 20,000 200 -- -- -- (63,202) --
Conversion of $.01 par value common to
$.001 par value common............... (20,000) (200) 2,175,000 2,175 -- (1,975) --
Issuance of common stock............... -- -- 3,419,250 3,419 221,197 -- --
Purchase of common shares.............. -- -- -- -- -- -- (3,075)
Deferred compensation on employee
grants............................... -- -- -- -- 6,523,199 -- --
Amortization of deferred compensation
on employee grants................... -- -- -- -- -- -- --
Deferred compensation on non-employee
grants............................... -- -- -- -- 1,504,945 -- --
Amortization of deferred compensation
on non-employee grants............... -- -- -- -- -- -- --
Net loss............................... -- -- -- -- -- (8,386,391) --
------- ----- --------- ------ ----------- ------------ -------
Balance at December 31, 1998........... -- -- 5,594,250 5,594 8,249,341 (8,451,568) (3,075)
Issuance of common stock............... -- -- 397,000 397 118,703 -- --
Deferred compensation on employee
grants............................... -- -- -- -- 7,718,710 -- --
Amortization of deferred compensation
on employee grants (restated)........ -- -- -- -- -- -- --
Deferred compensation on non-employee
grants............................... -- -- -- -- 1,942,994 -- --
Amortization of deferred compensation
on non-employee grants (restated).... -- -- -- -- -- -- --
Net loss (restated).................... -- -- -- -- (22,289,484) --
------- ----- --------- ------ ----------- ------------ -------
Balance at April 20, 1999 (restated)... -- $ -- 5,991,250 $5,991 $18,029,748 $(30,741,052) $(3,075)
======= ===== ========= ====== =========== ============ =======
<Caption>
TOTAL
DEFERRED STOCKHOLDERS'
COMPENSATION DEFICIT
------------ -------------
Issuance of common stock at $.01 per
share................................ $ -- $ 200
Net loss............................... -- (63,202)
------------ ------------
Balance at December 31, 1997........... -- (63,002)
Conversion of $.01 par value common to
$.001 par value common............... -- --
Issuance of common stock............... -- 224,616
Purchase of common shares.............. -- (3,075)
Deferred compensation on employee
grants............................... (6,523,199) --
Amortization of deferred compensation
on employee grants................... 815,060 815,060
Deferred compensation on non-employee
grants............................... (1,504,945) --
Amortization of deferred compensation
on non-employee grants............... 906,770 906,770
Net loss............................... -- (8,386,391)
------------ ------------
Balance at December 31, 1998........... (6,306,314) (6,506,022)
Issuance of common stock............... -- 119,100
Deferred compensation on employee
grants............................... (7,718,710) --
Amortization of deferred compensation
on employee grants (restated)........ 13,426,849 13,426,849
Deferred compensation on non-employee
grants............................... (1,942,994) --
Amortization of deferred compensation
on non-employee grants (restated).... 2,541,169 2,541,169
Net loss (restated).................... -- (22,289,484)
------------ ------------
Balance at April 20, 1999 (restated)... -- $(12,708,388)
============ ============
</Table>
See accompanying notes to financial statements.
F-53
134
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF CASH FLOWS
FOR THE PERIOD FROM JANUARY 1, 1999 TO APRIL 20, 1999 AND FOR THE
CUMULATIVE PERIOD FROM INCEPTION (OCTOBER 16, 1997) TO APRIL 20, 1999
<Table>
<Caption>
JANUARY 1, 1999 TO CUMULATIVE
APRIL 20, 1999 FROM INCEPTION
------------------ --------------
(RESTATED) (RESTATED)
Cash flows from operating activities:
Net loss.................................................. $(22,289,484) $(30,739,077)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization.......................... 119,907 254,164
Amortization of deferred compensation on employee
grants............................................... 13,426,849 14,241,909
Amortization of deferred compensation on non-employee
grants............................................... 2,541,169 3,447,939
Loss on disposal of property and equipment............. -- 8,461
Proceeds from insurance claim.......................... -- 18,109
Changes in assets and liabilities:
Prepaid expenses and other current assets.............. (62,672) (216,719)
Other assets........................................... (92,168) (105,892)
Accounts payable....................................... 374,378 621,208
Accrued expenses....................................... 1,632,280 2,141,590
------------ ------------
Net cash used in operating activities............. (4,349,741) (10,328,308)
------------ ------------
Cash flows from investing activity:
Purchases of property and equipment....................... (512,364) (1,939,201)
------------ ------------
Net cash used in investing activity............... (512,364) (1,939,201)
------------ ------------
Cash flows from financing activities:
Proceeds from issuance of preferred stock Series A........ -- 6,550,000
Proceeds from issuance of preferred stock Series B........ -- 11,249,999
Proceeds from issuance of common stock.................... 119,100 343,916
Purchase of treasury stock................................ -- (3,075)
Payments on capital lease obligation...................... (5,477) (28,919)
Net proceeds from (repayment of) line of credit........... (1,250,000) --
Proceeds from notes payable............................... -- 375,000
------------ ------------
Net cash provided by (used in) financing
activities...................................... (1,136,377) 18,486,921
------------ ------------
Net increase (decrease) in cash and cash
equivalents..................................... (5,998,482) 6,219,412
Cash and cash equivalents at beginning of period............ 12,217,894 --
------------ ------------
Cash and cash equivalents at end of period.................. $ 6,219,412 $ 6,219,412
============ ============
Supplemental disclosures of cash flow information:
Cash paid for interest.................................... $ 31,380 $ 75,967
Supplemental disclosures of noncash investing and financing
activities:
Equipment acquired under capital leases................... -- 48,336
Conversion of notes payable to preferred stock............ -- 375,000
</Table>
See accompanying notes to financial statements.
F-54
135
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS
FOR THE PERIOD FROM JANUARY 1, 1999 TO APRIL 20, 1999 AND FOR THE
CUMULATIVE PERIOD FROM INCEPTION (OCTOBER 16, 1997) TO APRIL 20, 1999
(1) NATURE OF BUSINESS
Castle Networks. Inc. (the "Company") was incorporated in The Commonwealth
of Massachusetts on October 16, 1997. The Company reincorporated in the state of
Delaware on February 19, 1998. The Company was organized to design, manufacture,
market, and sell voice and data convergence equipment for the telecommunications
market. The Company's principal market is in the United States.
Since its inception, the Company has devoted a substantial portion of its
efforts toward establishing its business, raising capital, developing hardware
and software, and marketing. No revenues have been derived from operations.
Accordingly, through the date of these financial statements, the Company is
considered to be a development stage enterprise as defined in Statement of
Financial Accounting Standards No. 7, "Accounting and Reporting by Development
Stage Enterprises."
The Company's continuation as a going concern is dependent upon its ability
to generate sufficient cash flows to meet its obligations on a timely basis or
to obtain additional financing as may be required. The Company has yet to
generate any revenues from customers and has no assurance of future revenues. To
date the Company has been funded by private equity financing.
On March 7, 1999, the Company entered into an agreement and plan of merger
(the "Merger") by and among Siemens Corporation ("Siemens"), Mediator
Acquisition Corp. ("MAC"), a wholly-owned subsidiary of Siemens, and Castle
Networks, Inc., whereby MAC acquired all of the outstanding capital stock of the
Company for $300 million in cash (the "Consideration") and MAC merged with and
into the Company, with the Company becoming a wholly-owned subsidiary of
Siemens. In addition, the employees of the Company are entitled to receive an
additional $15 million based on certain project milestones and employee
retention criteria.
Upon consummation of the Merger on April 20, 1999, all shares of treasury
stock owned by the Company were canceled and retired and the vesting for all
unvested restricted common shares and outstanding common stock options were
accelerated by 50%. In addition, Siemens settled all remaining unvested stock
options. The consideration received by the common stockholders, preferred
stockholders and common stock option holders was equal to $17.21 per share.
The financial statements and notes to financial statements herein have been
prepared to reflect the financial position of the Company immediately prior to
the effective time of the Merger and do not include any adjustments for the
application of push-down accounting, except that the Company has expensed all of
the remaining unamortized deferred compensation related to the restricted common
shares and outstanding common stock options. See Note 9.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Restatement
Subsequent to its acquisition by Siemens, the Company was contributed by
Siemens to Unisphere Networks, Inc. ("Unisphere"), a then wholly-owned
subsidiary of Siemens. Unisphere began the process of registering its common
stock for sale to the public on August 4, 2000 by filing its first registration
statement on Form S-1 with the U.S. Securities and Exchange Commission ("SEC").
Between August 4, 2000 and December 1, 2000, Unisphere filed three amendments to
its original Form S-1. During this process, Unisphere's management discussed the
accounting for certain transactions recorded by the Company in the period from
January 1, 1999 to April 20, 1999 with the SEC Staff. As a result of these
discussions, Unisphere has revised the Company's accounting as explained below.
F-55
136
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The accompanying financial statements as of April 20, 1999 and for the
periods from January 1, 1999 through April 20, 1999 and the cumulative period
from inception (October 16, 1997) to April 20, 1999 have been restated to
reflect a change in the accounting for the unamortized deferred compensation
that existed at the time the Company was acquired by Siemens. The financial
statements included in Unisphere's first registration statement reflected
amortization of the deferred compensation through the acquisition date. The
accompanying restated financial statements reflect the recognition of all of the
remaining deferred compensation since Siemens settled all of the remaining
unvested stock options at the acquisition date. The effects of this change on
the previously filed financial statements are as follows:
<Table>
<Caption>
APRIL 20, 1999
-------------------------------
PREVIOUSLY FILED RESTATED
---------------- ------------
Balance Sheet:
Deficit accumulated during the development stage............ $(17,281,788) $(30,741,052)
Deferred compensation....................................... (13,459,264) --
</Table>
<Table>
<Caption>
JANUARY 1, 1999
THROUGH CUMULATIVE
APRIL 20, 1999 FROM INCEPTION
------------------------------- -------------------------------
PREVIOUSLY FILED RESTATED PREVIOUSLY FILED RESTATED
---------------- ------------ ---------------- ------------
Statement of Operations:
Research and development................ $ 4,248,001 $ 10,153,740 $ 10,321,672 $ 16,227,411
Sales and marketing..................... 2,780,559 10,072,285 4,567,598 11,859,324
General and administrative.............. 1,902,160 2,163,959 2,767,433 3,029,232
Net loss................................ (8,830,220) (22,289,484) (17,279,813) (30,739,077)
Net loss per share -- basic and
diluted............................... (7.17) (18.09)
</Table>
(b) Cash and Cash Equivalents
The Company considers all short-term investments with original maturities
of three months or less at acquisition to be cash equivalents. Cash and cash
equivalents include cash held in banks and short-terns investments in money
market funds. Due to the short-term nature of these assets cost approximates
fair value.
(c) Concentration of Credit Risk
Financial instruments that potentially subject the Company to concentration
of credit risk consist principally of temporary cash investments. The Company
maintains temporary cash investments with major financial institutions with high
credit standing.
(d) Property and Equipment
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method based on estimated useful lives of three to five years.
The cost of significant additions and improvements is capitalized and
depreciated while expenditures for maintenance and repairs are charged to
expense as incurred. Upon retirement or sale, the cost of assets disposed of and
the related accumulated depreciation are removed from the accounts and any
resulting gain or loss is credited or charged to income.
Equipment under capital leases is recorded at the present value of the
minimum lease payments required during the lease period. Equipment under capital
leases is amortized over the shorter of the estimated useful lives or the term
of the lease.
F-56
137
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(e) Research and Development and Software Development Costs
Research and development costs are expensed as incurred. Software
production costs incurred prior to the establishment of technological
feasibility are charged to research and development expense. Software production
costs incurred subsequent to the establishment of technological feasibility are
capitalized until the product is available for general release to customers. As
of April 20, 1999, the Company's products have not established technological
feasibility and accordingly, no software development costs have been
capitalized.
(f) Income Taxes
Deferred tax assets and liabilities are determined based on the difference
between the financial statement and the tax basis of assets and liabilities
using current statutory tax rates. A valuation reserve against deferred tax
assets is recorded if, based upon the available evidence, it is more likely than
not that some or all of the deferred tax assets will not be realized.
(g) Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
(h) Stock-Based Compensation
The Company has adopted Statement of Financial Accounting Standards
("SFAS") No. 123, "Accounting for Stock-Based Compensation", which permits
entities to recognize as expense over the vesting period the fair value of
stock-based awards on the date of grant. For employee stock-based awards, SFAS
No. 123 allows entities to continue to apply the provisions of Accounting
Principles Board ("APB") Opinion No. 25 and provide pro forma net earnings
disclosures as if the fair-value-based method defined in SFAS No. 123 had been
applied. The Company has elected to apply the provisions of APB Opinion No. 25
and provide the pro forma disclosure of SFAS No. 123 for employee awards.
The Company accounts for non-employee stock-based awards in which goods or
services are the consideration received for the equity instruments issued based
on the fair value of the consideration received or the fair value of the equity
instruments issued, whichever is more reliably measurable.
(i) Basic and Diluted Net Loss Per Common Share
Basic and diluted net loss per share is presented under the provisions of
SFAS No. 128, "Earnings per Share", and is calculated by dividing the net loss
for the period by the weighted average number of unrestricted common shares
outstanding during the period. As the Company incurred a net loss for the period
presented, potential dilutive common stock options of 533,950 and restricted
common shares of 4,402,003 were excluded from the diluted net loss per share
calculation as their effect would have been antidilutive. As a result, diluted
net loss per share is the same as basic net loss per share, and has not been
presented separately.
(j) Impairment of Long-Lived Assets
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used
F-57
138
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
is measured by a comparison of the carrying amount of an asset to future
undiscounted net cash flows expected to be generated by the asset. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Estimated fair value is generally based on either
appraised value or measured by discounted estimated future cash flows.
Considerable management judgment is necessary to estimate discounted future cash
flows.
(k) Fair Value of Financial Instruments
The carrying amounts of cash, cash equivalents, accounts payable and
accrued expenses approximate their fair values due to the short-term nature of
these instruments.
(l) Other Comprehensive Income
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" for the period from inception to April 20,
1999. This statement requires that changes in comprehensive income be shown in a
financial statement that is displayed with the same prominence as other
financial statements. To date, comprehensive loss and net loss are the same.
(m) Segment Information
The Company has adopted Statement of Financial Accounting Standards No.
131, "Disclosure about Segments of an Enterprise and Related Information," which
requires companies to report selected information about operating segments, as
well as enterprise-wide disclosures about products, services, geographic areas,
and major customers. Operating segments are determined based on the way
management organizes its business for making operating decisions and assessing
performance. The Company is a development stage enterprise and has not generated
any revenue. The Company has determined it conducts its operations in one
business segment.
(3) PROPERTY AND EQUIPMENT
Property and equipment at April 20, 1999 consist of the following:
<Table>
Furniture and fixtures...................................... $ 63,743
Office equipment............................................ 18,326
Data processing equipment................................... 449,590
Test equipment.............................................. 1,293,554
Leasehold improvements...................................... 17,488
Equipment under capital lease............................... 48,336
Construction in progress.................................... 69,930
----------
1,960,967
Less accumulated depreciation and amortization.............. 254,164
----------
Property and equipment, net................................. $1,706,803
==========
</Table>
At April 20, 1999, accumulated amortization amounted to $28,858 on
equipment under capital leases.
F-58
139
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(4) ACCRUED EXPENSES
Accrued expenses consisted of the following at April 20, 1999:
<Table>
Accrued legal and accounting fees........................... $ 536,320
Payroll and related benefits and taxes...................... 226,649
Consulting fees............................................. 1,000,000
Other accruals.............................................. 378,621
----------
Total accrued expenses...................................... $2,141,590
==========
</Table>
(5) INCOME TAXES
No income tax provision or benefit has been provided for federal income tax
purposes as the Company has incurred losses since inception. The actual tax
benefit for the period from January 1, 1999 to April 20, 1999 differed from the
expected tax benefit (computed by applying the U.S. federal income tax rate of
34% to loss before income taxes) as a result of the following:
<Table>
Computed expected tax benefit............................... $(7,578,425)
Increase in deferred tax asset valuation allowance.......... 2,322,000
Nondeductible expenses, primarily deferred compensation..... 5,430,908
Increase in federal tax credits............................. (174,052)
Other....................................................... (431)
-----------
$ --
===========
</Table>
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
deferred income taxes were as follows:
<Table>
Gross deferred tax assets:
Net operating losses and tax credit carryforwards......... $ 5,556,000
Start-up costs............................................ 15,000
Reserves and accruals..................................... 168,000
-----------
Total............................................. 5,739,000
Valuation allowance......................................... (5,669,000)
-----------
Net deferred tax asset............................ 70,000
-----------
Deferred tax assets:
Excess of tax over financial statement depreciation....... $ 66,000
Other..................................................... 4,000
-----------
Total............................................. 70,000
-----------
--
===========
</Table>
Management of the Company has evaluated the positive and negative evidence
impacting the realizability of its deferred tax assets, and has determined that
based on the weight of the available evidence, it is more likely than not that
all of the deferred tax assets will not be realized, accordingly, the net
deferred tax asset has been fully reserved. If the Company achieves
profitability, the net deferred tax asset would be available to offset future
income tax expense.
F-59
140
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
At April 20, 1999, the Company had federal and state net operating loss
carryforwards of approximately $12.7 million and $12.5 million, respectively,
which expire in 2017 through 2019 and 2002 through 2004. The use of net
operating loss carryforwards may be limited due to changes in ownership of the
Company's stock.
(6) LINE OF CREDIT
In March 1998, the Company obtained an equipment line of credit from a bank
which provides for maximum borrowings of $1,250,000 and bears interest at 0.5%
over the Bank's prime rate (8.25% at December 31, 1998). The line of credit is
collateralized by the Company's inventories (if any), accounts receivable (if
any), and equipment. In addition, the agreement places certain financial
restrictions on the Company, including limitations on the payment of dividends,
the acquisition of capital assets, and the incurrence of additional
indebtedness. During 1999, the Company repaid the entire $1,250,000 balance that
was outstanding at December 31, 1998.
(7) COMMITMENTS AND CONTINGENCIES
The Company leases its office space and certain office equipment under
noncancelable operating leases. Total rent expense under these operating leases
was approximately $59,000 for the period from January 1, 1999 to April 20, 1999.
At April 20, 1999, the Company has various capital leases for office
equipment expiring during calendar year 1999.
Future minimum lease commitments at April 20, 1999 are as follows:
<Table>
<Caption>
CAPITAL OPERATING
CALENDAR YEAR ENDING DECEMBER 31 LEASES LEASES
-------------------------------- ------- ----------
1999........................................................ $15,627 $ 324,539
2000........................................................ 6,000 711,468
2001........................................................ 543 605,828
2002........................................................ -- 553,008
2003........................................................ -- 553,008
Thereafter.................................................. -- 553,008
------- ----------
Total minimum lease payment................................. 22,170 $3,300,859
==========
Less amount representing interest........................... 2,753
-------
Present value of minimum lease payments..................... 19,417
Less current portion........................................ 13,472
-------
Obligations under capital lease, excluding current
portion................................................... $ 5,945
=======
</Table>
The Company, from time to time, is involved in various claims and legal
actions arising in the ordinary course of business. In the opinion of
management, the ultimate disposition of these matters will not have a material
adverse effect on the Company's financial position, results of operations or
liquidity.
(8) REDEEMABLE PREFERRED STOCK
The Company's Board of Directors has authorized 6,925,000 shares of Series
A Convertible Preferred Stock ("Series A"), $.001 par value and 4,084,967 shares
of Series B Convertible Preferred Stock ("Series B"), $.001 par value. In
February 1998, the Company sold 6,550,000 shares of Series A at a
F-60
141
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
price of $1.00 per share and received proceeds of $6,550,000. In connection with
the sale of Series A, the Company converted $375,000 of promissory notes and
issued 375,000 shares of Series A preferred stock. In September 1998, the
Company sold 4,084,967 shares of Series B at a price of $2.754 per share and
received proceeds of $11,249,999.
The terms of the Series A and Series B preferred stock are as follows:
Conversion
Each share of Series A and Series B may be converted into one share of
common stock at any time at the option of the holder, subject to adjustment for
certain events such as a stock split, stock dividend, or stock issuance. Upon
the closing of an initial public offering of the Company's common stock at a
price which equals or exceeds $5.00 per share and results in proceeds of a least
$10,000,000, all outstanding Series A automatically convert into shares of
common stock. Upon the closing of an initial public offering of the Company's
common stock at a price which equals or exceeds $11.00 per share and results in
proceeds of a least $20,000,000, all outstanding Series B automatically convert
into shares of common stock.
Dividend and Voting Rights
Commencing February 25, 2002, the holders of Series A and Series B are
entitled to fixed, preferential, cumulative dividends in the amount of 8% per
annum of the issue price per share of $1.00 and $2.754 for Series A and Series
B, respectively, When and if declared by the Company's Board of Directors,
dividends on Series A and Series B are payable in cash in preference and prior
to any payment of any dividend on common shares. Any dividends that are not
declared by the Board of Directors shall accrue. The holders of Series A and
Series B are entitled to vote on all matters and are entitled to the number of
votes equal to the number of common share into which the Series A and Series B
are convertible as of the date of record.
Liquidation Preference
In the event of any liquidation, dissolution, or winding up of the Company,
the holders of Series A and Series B are entitled to receive, prior and in
preference to any payment or distribution of any assets or surplus funds of the
Company to holders of the common shares, an amount for each share of Series A
and Series B held, equal to $1.00 and $2.754, respectively, plus in each case,
any accrued and unpaid dividends on Series A and Series B that have been
declared. In addition, the Series A and Series B share on a pro rata basis with
common shareholders in the remaining assets of the Company up to a maximum of
$4.00 per share for Series A and $5.516 per share for Series B.
Redemption
If the holders of 65% of Series A or Series B, at any time after February
25, 2002, so demand, the Company will be required to redeem 25% of the shares of
Series A and Series B outstanding and an additional 25% of each on the three
succeeding anniversaries of such demand. The redemption price of each share of
Series A and Series B will be $1.00 and $2.754, respectively, plus all accrued
and unpaid dividends, if any, whether or not declared.
(9) STOCK-BASED COMPENSATION
In accordance with the Company's 1998 Stock Incentive Plan (the "Plan"),
incentive stock options (ISOs) and nonqualified stock options, restricted stock,
or other stock-based awards may be granted to
F-61
142
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
qualified individuals by the Company's Board of Directors. Options of the Plan
are exercisable over periods determined by the Board of Directors. The maximum
number of shares authorized for award under the Plan is 8,080,066.
Stock Options
ISOs are granted to employees of the Company at not less than the fair
market value of the shares on the date of grant, as determined by the Company's
Board of Directors. Nonqualified options may be granted to employees, officers,
directors, consultants and other advisors to the Company on terms set forth by
the Company's Board of Directors on an individual basis. Generally, one-fourth
of the original number of shares vest on the first anniversary of the grant date
and one-thirty-sixth of the original number of shares vest on each successive
full-month period following the first anniversary of the grant date. The options
expire ten years from the date of grant.
In the event of a sale, liquidation, merger or acquisition of the Company,
the then unexercised stock options will, as determined by the Board of
Directors, be substituted for equivalent options of the succeeding company or
alternatively such unexercised options will become exercisable in full. In the
event of a sale, merger or acquisition under the terms of which the holders of
common stock will receive a cash payment for each share held, all options shall
terminate and each option holder will receive a cash payment based on a formula
outlined in the Plan.
A summary of the Company's stock option activity for the period from
January 1, 1999 to April 20, 1999 is presented below:
<Table>
<Caption>
WEIGHTED AVERAGE
SHARES EXERCISE PRICE
------- ----------------
Options outstanding at December 31, 1998................... 183,000 $.22
Granted.................................................. 350,950 .43
-------
Options outstanding at April 20, 1999...................... 533,950 .36
=======
</Table>
The following table summarizes stock options outstanding and exercisable at
April 20, 1999:
<Table>
<Caption>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------- ------------------------------
EXERCISE NUMBER WEIGHTED AVERAGE WEIGHTED AVERAGE NUMBER WEIGHTED AVERAGE
PRICES OUTSTANDING REMAINING LIFE (YEARS) EXERCISE PRICE EXERCISABLE EXERCISE PRICE
- -------- ----------- ---------------------- ---------------- ----------- ----------------
$.10 78,000 9.02 $.10 58,583 $.10
.30 215,500 9.62 .30 109,110 .30
.50 240,450 9.86 .50 116,091 .50
------- -------
533,950 9.58 .36 283,784 .34
======= =======
</Table>
Restricted Stock
Restricted stock may be issued to employees, officers, directors,
consultants, and other advisors. The Plan states that the Company has the right
to repurchase the common stock at the issuance price (which shall be at least
equal to the par value per share for each share of common stock subject to such
award) or other stated or formula price in the event that conditions specified
by the Board of Directors in the award agreement are not satisfied prior to the
end of the applicable restriction period or periods established for such award.
The vesting period for employees is four years.
F-62
143
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The following table summarizes restricted stock outstanding at April 20,
1999:
<Table>
<Caption>
PURCHASE NUMBER WEIGHTED AVERAGE
PRICES OUTSTANDING PURCHASE PRICE
- -------- ----------- ----------------
$ -- 2,175,000 $ --
.001 1,390,000 .001
.01 1,769,250 .01
.30 552,000 .30
---------
5,886,250 .058
=========
</Table>
At April 20, 1999, 1,484,247 shares of stock had vested.
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), requires that companies either recognize
compensation expense for grants to employees of stock, stock options, and other
equity instruments based on fair value, or provide pro forma disclosure of net
income or loss in the notes to the financial statements. For stock-based awards
granted to employees, the Company has adopted the disclosure provisions of SFAS
123 and recognizes compensation cost using the intrinsic value based method
described in Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting
for Stock Issued to Employees." For stock-based awards granted to nonemployees,
the Company recognizes compensation costs in accordance with the requirements of
SFAS 123. Had compensation expense for stock-based awards issued to employees
been determined based upon the fair value at the grant dates in accordance with
SFAS 123 for the period from January 1, 1999 to April 20, 1999, net loss would
have been $22,524,314 and net loss per share would have been $18.28.
The fair value of stock options granted to employees at the date of grant
was estimated using a Black-Scholes option pricing model. The following table
details the weighted-average assumptions used in the calculations of fair value
for stock options for the period from January 1, 1999 to April 20, 1999:
<Table>
Expected volatility......................................... 0%
Risk-free interest rate..................................... 6.5%
Dividend rate............................................... 0%
Expected life............................................... 7 years
</Table>
The weighted average grant date fair value for options granted during 1999
was $12.57.
Deferred compensation cost recognized in connection with the issuance of
stock options and restricted stock to non-employees was $1,942,994 for the
period from January 1, 1999 to April 20, 1999, and $2,541,169 was amortized into
expense. This compensation cost was calculated using the Black-Scholes option
pricing model and the following weighted average assumptions; expected
volatility of 70%, risk-free interest rate of 5%, zero dividend rate and a
contractual life of 10 years.
In connection with the Merger discussed in Note 1, the Company's common and
preferred stockholders and common stock option holders received consideration
equal to $17.21 per share. During the period from January 1, 1999 to April 20,
1999, the Company sold 397,000 shares of restricted common stock and granted
350,950 options to purchase common stock at amounts, in some cases, lower than
the estimated fair market value. Accordingly, the Company has estimated and
recorded deferred compensation related to the restricted common stock and common
stock options that were sold or issued at amounts less than estimated fair
market value.
During 1998 and for the period from January 1, 1999 to April 20, 1999, the
company recorded $6,523,199 and $7,718,710, respectively, in deferred
compensation related to restricted common stock and
F-63
144
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
stock options issued to employees of the Company. In addition, the Company
recorded compensation expense of $815,060 in 1998 and $13,426,849 for the period
from January 1, 1999 to April 20, 1999 related to the amortization of the
deferred compensation balance. The amount amortized in the period from January
1, 1999 to April 20, 1999 included the recognition of all remaining unamortized
deferred compensation at April 20, 1999 as a result of the Merger discussed in
Note 1.
(10) EMPLOYEE BENEFIT PLAN
The Company sponsors a defined contribution plan covering substantially all
of its employees which is designed to be qualified under section 401(k) of the
Internal Revenue Code. Eligible employees are permitted to contribute to the
401(k) plan through payroll deductions within statutory and plan limits. The
Company has not contributed to the plan.
F-64
145
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
Castle Networks, Inc.:
In our opinion, the accompanying balance sheets and the related statements
of operations, of stockholders' deficit and of cash flows present fairly, in all
material respects, the financial position of Castle Networks, Inc. (a
development stage enterprise) (the "Company") at December 31, 1997 and 1998, and
the results of its operations and its cash flows for the period from inception
(October 16, 1997) to December 31, 1997, the year ended December 31, 1998, and
for the period from inception (October 16, 1997) to December 31, 1998, in
conformity with accounting principles generally accepted in the United States of
America. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with auditing standards generally accepted in the United States of
America which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
/s/ PRICEWATERHOUSECOOPERS LLP
March 19, 1999
Boston, Massachusetts
F-65
146
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF OPERATIONS
FOR THE PERIOD FROM INCEPTION (OCTOBER 16, 1997) TO DECEMBER 31, 1997, THE YEAR
ENDED
DECEMBER 31, 1998, AND FOR THE CUMULATIVE PERIOD FROM INCEPTION (OCTOBER 16,
1997) TO DECEMBER 31, 1998
<Table>
<Caption>
CUMULATIVE FROM
FROM INCEPTION INCEPTION
(OCTOBER 16, 1997) (OCTOBER 16, 1997)
TO DECEMBER 31, 1997 1998 TO DECEMBER 31, 1998
-------------------- ----------- --------------------
Operating expenses:
Research and development................ $ 22,450 $ 6,051,221 $ 6,073,671
Selling and marketing................... 2,339 1,784,700 1,787,039
General and administrative.............. 38,413 826,860 865,273
---------- ----------- -----------
Total operating expenses........ 63,202 8,662,781 8,725,983
---------- ----------- -----------
Interest income........................... -- (320,977) (320,977)
Interest expense.......................... -- 44,587 44,587
---------- ----------- -----------
Net loss.................................. $ (63,202) $(8,386,391) $(8,449,593)
========== =========== ===========
Net loss per share basic and diluted...... $ (14.99)
===========
Weighted average shares outstanding, basic
and diluted............................. 559,450
===========
</Table>
The accompanying notes are an integral part of the financial statements.
F-66
147
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
BALANCE SHEETS
AS OF DECEMBER 31, 1997 AND 1998
<Table>
<Caption>
1997 1998
-------- -----------
ASSETS
Current assets:
Cash and cash equivalents................................. $ 47,302 $12,217,894
Prepaid expenses and other current assets................. 6,348 154,047
-------- -----------
Total current assets.............................. 53,650 12,371,941
Property and equipment, net................................. 754 1,314,346
Other assets................................................ 6,238 13,724
-------- -----------
Total assets...................................... $ 60,642 $13,700,011
======== ===========
LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS'
DEFICIT
Current liabilities:
Accounts payable.......................................... 5,602 246,830
Accrued expenses.......................................... 10,000 509,310
Notes payable............................................. 108,042 --
Current portion of line of credit......................... -- 479,200
Current portion of capital lease obligations.............. -- 21,266
-------- -----------
Total current liabilities......................... 123,644 1,256,606
Line of credit.............................................. -- 770,800
Capital lease obligations, excluding current portion........ -- 3,628
Commitments and contingencies (Note F)
Preferred stock, Class A, $.001 par value; mandatorily
redeemable, convertible; authorized 6,925,000 shares;
issued and outstanding 0 and 6,925,000 shares at December
31, 1997 and 1998, respectively; at liquidation value..... -- 6,925,000
Preferred stock, Class B, $.001 par value; mandatorily
redeemable, convertible; authorized 4,084,967 shares;
issued and outstanding 0 and 4,084,967 shares at December
31, 1997 and 1998, respectively; at liquidation value..... -- 11,249,999
Stockholders' deficit:
Common stock, $.01 par value, 200,000 shares authorized;
issued and outstanding 20,000 shares at December 31,
1997................................................... 200 --
Common stock, $.001 par value, 19,090,033 shares
authorized; issued 5,594,250 shares at December 31,
1998................................................... -- 5,594
Additional paid-in capital................................ -- 8,249,341
Deficit accumulated during the development stage.......... (63,202) (8,451,568)
Less treasury stock, at cost, 105,000 shares.............. -- (3,075)
Deferred compensation..................................... -- (6,306,314)
-------- -----------
Total stockholders' deficit....................... (63,002) (6,506,022)
-------- -----------
Total liabilities, redeemable preferred stock, and
stockholders' deficit........................... $ 60,642 $13,700,011
======== ===========
</Table>
The accompanying notes are an integral part of the financial statements.
F-67
148
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE PERIOD FROM INCEPTION (OCTOBER 16, 1997) TO DECEMBER 31, 1997, THE YEAR
ENDED
DECEMBER 31, 1998, AND FOR THE PERIOD FROM INCEPTION (OCTOBER 16, 1997) TO
DECEMBER 31, 1998
<Table>
<Caption>
DEFICIT
COMMON STOCK COMMON STOCK ACCUMULATED
$.01 PAR VALUE $.001 PAR VALUE ADDITIONAL DURING THE
---------------- ------------------- PAID-IN DEVELOPMENT TREASURY
SHARES AMOUNT SHARES AMOUNT CAPITAL STAGE STOCK AMOUNT
------- ------ --------- ------- ---------- ----------- ------------
October 16, 1997:
Issuance of common stock at $.01 per
share............................. 20,000 $ 200 -- -- -- -- --
October 16, 1997 through December 31,
1997:
Net loss............................ -- -- -- -- -- $ (63,202) --
------- ----- --------- ------ ---------- ----------- -------
Balance at December 31, 1997.......... 20,000 200 -- -- -- (63,202) --
February 19, 1998:
Conversion of $.01 par value common
stock to $.001 par value common
stock............................. (20,000) (200) 2,175,000 $2,175 -- (1,975) --
February 20, 1998 - December 31, 1998:
Issuance of common stock to
employees and non-employees....... -- -- 3,419,250 3,419 $ 221,197 -- --
Purchase of 105,000 shares of
treasury stock, at cost........... -- -- -- -- -- -- $(3,075)
Deferred compensation on employee
grants.............................. -- -- -- -- 6,523,199 -- --
Amortization of deferred compensation
on employee grants.................. -- -- -- -- -- -- --
Deferred compensation on non-employee
grants.............................. -- -- -- -- 1,504,945 -- --
Amortization of deferred compensation
on non-employee grants.............. -- -- -- -- -- -- --
Net loss.............................. -- -- -- -- -- (8,386,391) --
------- ----- --------- ------ ---------- ----------- -------
Balance at December 31, 1998.......... -- $ -- 5,594,250 $5,594 $8,249,341 $(8,451,568) $(3,075)
======= ===== ========= ====== ========== =========== =======
<Caption>
TOTAL
DEFERRED STOCKHOLDERS'
COMPENSATION DEFICIT
------------ -------------
October 16, 1997:
Issuance of common stock at $.01 per
share............................. -- $ 200
October 16, 1997 through December 31,
1997:
Net loss............................ -- (63,202)
----------- -----------
Balance at December 31, 1997.......... -- (63,002)
February 19, 1998:
Conversion of $.01 par value common
stock to $.001 par value common
stock............................. -- --
February 20, 1998 - December 31, 1998:
Issuance of common stock to
employees and non-employees....... -- 224,616
Purchase of 105,000 shares of
treasury stock, at cost........... -- (3,075)
Deferred compensation on employee
grants.............................. $(6,523,199) --
Amortization of deferred compensation
on employee grants.................. 815,060 815,060
Deferred compensation on non-employee
grants.............................. (1,504,945) --
Amortization of deferred compensation
on non-employee grants.............. 906,770 906,770
Net loss.............................. -- (8,386,391)
----------- -----------
Balance at December 31, 1998.......... $(6,306,314) $(6,506,022)
=========== ===========
</Table>
The accompanying notes are an integral part of the financial statements.
F-68
149
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
STATEMENTS OF CASH FLOWS
FOR THE PERIOD FROM INCEPTION (OCTOBER 16, 1997) TO DECEMBER 31, 1997, THE YEAR
ENDED
DECEMBER 31, 1998, AND FOR THE CUMULATIVE PERIOD FROM INCEPTION (OCTOBER 16,
1997) TO DECEMBER 31, 1998
<Table>
<Caption>
FOR THE YEAR CUMULATIVE FROM
FROM INCEPTION ENDED INCEPTION
(OCTOBER 16, 1997) DECEMBER 31, (OCTOBER 16, 1997)
TO DECEMBER 31, 1997 1998 TO DECEMBER 31, 1998
-------------------- ------------ --------------------
Cash flows from operating activities:
Net loss............................................. $(63,202) $(8,386,391) $(8,449,593)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization..................... -- 134,257 134,257
Loss on disposal of property and equipment........ -- 8,461 8,461
Proceeds from insurance claim..................... -- 18,109 18,109
Amortization of deferred compensation on employee
grants.......................................... -- 815,060 815,060
Amortization of deferred compensation on
non-employee grants............................. -- 906,770 906,770
Changes in assets and liabilities:
Prepaid expenses and other current assets......... (6,348) (147,699) (154,047)
Other assets...................................... (6,238) (7,486) (13,724)
Accounts payable.................................. 5,602 241,228 246,830
Accrued expenses.................................. 10,000 499,310 509,310
-------- ----------- -----------
Net cash used in operating activities........ (60,186) (5,918,381) (5,978,567)
Cash flows from investing activities:
Purchases of property and equipment.................. (754) (1,426,083) (1,426,837)
-------- ----------- -----------
Net cash used in investing activities........ (754) (1,426,083) (1,426,837)
Cash flows from financing activities:
Proceeds from issuance of common stock............... 200 224,616 224,816
Proceeds from issuance of preferred stock Series A... -- 6,550,000 6,550,000
Proceeds from issuance of preferred stock Series B... -- 11,249,999 11,249,999
Proceeds from line of credit......................... -- 1,250,000 1,250,000
Proceeds from notes payable.......................... 108,042 266,958 375,000
Purchase of treasury stock........................... -- (3,075) (3,075)
Payments on capital lease............................ -- (23,442) (23,442)
-------- ----------- -----------
Net cash provided by financing activities.... 108,242 19,515,056 19,623,298
-------- ----------- -----------
Net increase in cash and cash equivalents.............. 47,302 12,170,592 12,217,894
Cash and cash equivalents, beginning of period......... -- 47,302 --
-------- ----------- -----------
Cash and cash equivalents, end of period............... $ 47,302 $12,217,894 $12,217,894
======== =========== ===========
Supplemental disclosures of cash flow information:
Cash paid during the period for interest............. -- $ 44,587 $ 44,587
Supplemental disclosures of noncash investing and
financing activities:
Equipment acquired under capital leases.............. -- 48,336 48,336
Conversion of notes payable to preferred stock....... $108,042 $ 266,958 $ 375,000
</Table>
The accompanying notes are an integral part of the financial statements.
F-69
150
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS
A. NATURE OF BUSINESS:
Castle Networks, Inc. (the "Company") began operations on October 16, 1997
and was incorporated in The Commonwealth of Massachusetts in November, 1997. The
Company reincorporated in the state of Delaware on February 19, 1998. The
Company was organized to design, manufacture, market, and sell voice and data
convergence equipment for the telecommunications market. The Company's principal
market is in the United States.
Since its inception, the Company has devoted a substantial portion of its
efforts toward establishing its business, raising capital, developing hardware
and software, and marketing. No revenues have been derived from operations.
Accordingly, through the date of these financial statements, the Company is
considered to be a development stage enterprise as defined in Statement of
Financial Accounting Standards No. 7, "Accounting and Reporting by Development
Stage Enterprises."
The Company's continuation as a going concern is dependent upon its ability
to generate sufficient cash flows to meet its obligations on a timely basis or
to obtain additional financing as may be required. The Company has yet to
generate any revenues from customers and has no assurance of future revenues. To
date the Company has been funded by private equity financings. On March 7, 1999,
the Company signed a definitive plan of merger agreement to be acquired by
Siemens Corporation ("Siemens") for an estimated aggregate purchase price of
$300,000,000 based on the value of the shares to be exchanged on the date of
closing. Therefore, the Company expects to operate as a subsidiary of Siemens
and receive future funding from Siemens as its parent.
B. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Cash and Cash Equivalents
The Company considers all short-term investments with original maturities
of three months or less at acquisition to be cash equivalents. Cash and cash
equivalents include cash held in banks and short-term investments in money
market funds. Due to the short-term nature of these assets cost approximates
fair value.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to concentration
of credit risk consist principally of temporary cash investments. The Company
maintains temporary cash investments with major financial institutions with high
credit standing.
Property and Equipment
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method based on estimated useful lives of three to five years.
The cost of significant additions and improvements is capitalized and
depreciated while expenditures for maintenance and repairs are charged to
expense as incurred. Upon retirement or sale, the cost of assets disposed of and
the related accumulated depreciation are removed from the accounts and any
resulting gain or loss is credited or charged to income.
Equipment under capital leases is recorded at the present value of the
minimum lease payments required during the lease period. Equipment under capital
leases is amortized over the shorter of the estimated useful lives or the term
of the lease.
F-70
151
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Research and Development and Software Development Costs
Research and development costs are expensed as incurred. Software
production costs incurred prior to the establishment of technological
feasibility are charged to research and development expense. Software production
costs incurred subsequent to the establishment of technological feasibility are
capitalized until the product is available for general release to customers. As
of December 31, 1998, the Company's products have not established technological
feasibility and accordingly, no software development costs have been
capitalized.
Income Taxes
Income taxes are accounted for under the asset and liability method. Under
this method, deferred tax assets and liabilities are determined based on
temporary differences between the financial statement and tax basis carrying
amounts of assets and liabilities measured using current statutory rates in
effect for the year in which the differences are expected to reverse. At
December 31, 1998, the Company had a net deferred tax asset of $2,794,000
consisting principally of net operating loss carryforwards for federal income
tax purposes of approximately $2,638,000. The carryforwards begin to expire in
2013. The Company's net deferred tax asset at December 31, 1998 has been offset
in full by a valuation allowance as the realization of related tax benefits is
uncertain. The net operating loss carryforwards could be limited in future years
if there is a significant change in Company ownership.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Stock-based Compensation
The Company has adopted Statement of Financial Accounting Standards
("SFAS") No. 123, "Accounting for Stock-Based Compensation," which permits
entities to recognize as expense over the vesting period the fair value of
stock-based awards on the date of grant. For employee stock-based awards, SFAS
No. 123 allows entities to continue to apply the provisions of Accounting
Principles Board ("APB") Opinion No. 25 and provide pro forma net earnings
disclosures as if the fair-value-based method defined in SFAS No. 123 had been
applied. The Company has elected to apply the provisions of APB Opinion No. 25
and provide the pro forma disclosure of SFAS No. 123 for employee awards.
The Company accounts for non-employee stock-based awards in which goods or
services are the consideration received for the equity instruments issued based
on the fair value of the consideration received or the fair value of the equity
instruments issued, whichever is more reliably measurable.
Basic and Diluted Net Loss Per Common Share
Basic and diluted net loss per share is presented under the provisions of
SFAS No. 128, "Earnings per Share." As the Company incurred a net loss in 1998,
potential dilutive common stock options of 183,000 and restricted common shares
of 4,544,004 were excluded from the diluted net loss per share calculation at
December 31, 1998 as their effect would have been antidilutive. As a result,
diluted net loss per share is the same as basic net loss per share, and has not
been presented separately. No loss per share calculation is presented for 1997
because all of the common shares outstanding were restricted.
F-71
152
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The following table sets forth the computation of basic and diluted net
loss per share:
<Table>
<Caption>
1998
-----------
Numerator:
Net loss.................................................. $(8,386,391)
===========
Denominator
Weighted average unrestricted common shares outstanding... 559,450
===========
Basic and diluted net loss per share........................ $ (14.99)
===========
</Table>
Impairment of Long-Lived Assets
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to future net cash flows expected
to be generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. Estimated fair value
is generally based on either appraised value or measured by discounted estimated
future cash flows. Considerable management judgment is necessary to estimate
discounted future cash flows.
Fair Value of Financial Instruments
The carrying amounts of cash, cash equivalents, accounts payable and
accrued expenses approximate their fair values due to the short-term nature of
these instruments.
Other Comprehensive Income
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" for the period from inception to December
31, 1998. This statement requires that changes in comprehensive income be shown
in a financial statement that is displayed with the same prominence as other
financial statements. To date, comprehensive loss and net loss are the same.
Segment Information
The Company has adopted Statement of Financial Accounting Standards No.
131, "Disclosure about Segments of an Enterprise and Related Information," which
requires companies to report selected information about operating segments, as
well as enterprise-wide disclosures about products, services, geographic areas,
and major customers. Operating segments are determined based on the way
management organizes its business for making operating decisions and assessing
performance. The Company is a development stage enterprise and has not generated
any revenue. The Company has determined it conducts its operations in one
business segment.
F-72
153
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
C. PROPERTY AND EQUIPMENT:
Property and equipment at December 31, 1997 and 1998 consist of the
following:
<Table>
<Caption>
1997 1998
---- ----------
Furniture and fixtures...................................... $154 $ 51,047
Office equipment............................................ 600 16,966
Data processing equipment................................... -- 347,773
Test equipment.............................................. -- 966,993
Leasehold improvements...................................... -- 17,488
Equipment under capital lease............................... -- 48,336
---- ----------
754 1,448,603
---- ----------
Less accumulated depreciation and amortization.............. -- (134,257)
---- ----------
Property and equipment, net................................. $754 $1,314,346
==== ==========
</Table>
At December 31, 1997 and 1998, accumulated amortization amounted to $0 and
$12,746, respectively, on equipment under capital leases. Depreciation and
amortization expense for the years ended December 31, 1997 and 1998 was $0 and
$134,257, respectively.
D. RELATED PARTY:
In 1998, the Company purchased $109,260 of computer equipment and furniture
and fixtures from a related party.
E. LINE OF CREDIT:
In March 1998, the Company obtained an equipment line of credit from a bank
which provides for maximum borrowings of $1,250,000 and bears interest at 0.5%
over the Bank's prime rate (8.25% at December 31, 1998). During 1998, the
Company borrowed $1,250,000 under this line. Beginning January 1, 1999, the
outstanding principal balance will be repaid monthly in 36 equal installments
for hardware purchases and 24 equal installments for software purchases. The
line of credit is collateralized by the Company's inventories (if any), accounts
receivable (if any), and equipment. In addition, the agreement places certain
financial restrictions on the Company, including limitations on the payment of
dividends, the acquisition of capital assets, and the incurrence of additional
indebtedness. Beginning on March 31, 1999, the Company will be required to
maintain a minimum tangible capital base (defined as stockholder's equity plus
subordinated debt less intangible assets) not less than the greater of (i)
$500,000 or (ii) 75% of outstanding borrowings on the facility.
F. COMMITMENTS:
The Company leases its office space and certain office equipment under
noncancelable operating leases. Total rent expense under these operating leases
was approximately $12,162 and $137,626 for the years ended December 31, 1997 and
1998, respectively.
At December 31, 1998 the Company has two 36 month capital equipment leases
expiring on November 30, 2000 and December 31, 2000, respectively, and a 24
month capital equipment lease ending on November 30, 1999.
F-73
154
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Future minimum lease commitments at December 31, 1998 are as follows:
<Table>
<Caption>
OPERATING CAPITAL
YEAR ENDING DECEMBER 31, LEASES LEASES
- ------------------------ --------- -------
1999........................................................ $192,973 $21,266
2000........................................................ 192,973 3,628
2001........................................................ 63,443 --
2002........................................................ -- --
2003........................................................ -- --
Thereafter............................................. -- --
-------- -------
$449,389 24,894
========
Less: long-term portion..................................... (3,628)
-------
$21,266
=======
</Table>
The Company has entered into an operating lease for new office space which
commences on April 10, 1999 and terminates on December 31, 2004. Annual rent
expenses under this operating lease, not included above, will be $218,899 for
the year ended December 31, 1999 and $553,008 per year for each year ended
December 31, 2000 to 2004.
G. REDEEMABLE PREFERRED STOCK:
The Company's Board of Directors has authorized 6,925,000 shares of Series
A Convertible Preferred Stock ("Series A"), $.001 par value and 4,084,967 shares
of Series B Convertible Preferred Stock ("Series B"), $.001 par value. In
February 1998, the Company sold 6,550,000 shares of Series A at a price of $1
per share and received proceeds of $6,550,000. In connection with the sale of
Series A, the Company converted $375,000 of promissory notes and issued 375,000
shares of Series A preferred stock. In September 1998, the Company sold
4,084,967 shares of Series B at price of $2.754 per share and received proceeds
of $11,249,999.
The terms of the Series A and Series B preferred stock are as follows:
Conversion
Each share of Series A and Series B may be converted into one share of
common stock at any time at the option of the holder, subject to adjustment for
certain events such as a stock split, stock dividend, or stock issuance. Upon
the closing of an initial public offering of the Company's common stock at a
price which equals or exceeds $5 per share and results in proceeds of a least
$10,000,000, all outstanding Series A automatically convert into shares of
common stock. Upon the closing of an initial public offering of the Company's
common stock at a price which equals or exceeds $11 per share and results in
proceeds of a least $20,000,000, all outstanding Series B automatically convert
into shares of common stock.
Dividend and Voting Rights
Commencing February 25, 2002, the holders of Series A and Series B are
entitled to fixed, preferential, cumulative dividends in the amount of 8% per
annum of the issue price per share of $1 and $2.754 for Series A and Series B,
respectively. When and if declared by the Company's Board of Directors,
dividends on Series A and Series B are payable in cash in preference and prior
to any payment of any dividend on common shares. Any dividends that are not
declared by the Board of Directors shall accrue. The holders of Series A and
Series B are entitled to vote on all matters and are entitled to the
F-74
155
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
number of votes equal to the number of common shares into which the Series A and
Series B are convertible as of the date of record.
Liquidation Preference
In the event of any liquidation, dissolution, or winding up of the Company,
the holders of Series A and Series B are entitled to receive, prior and in
preference to any payment or distribution of any assets or surplus funds of the
Company to holders of the common shares, an amount for each share of Series A
and Series B held, equal to $1 and $2.754, respectively, plus in each case, any
accrued and unpaid dividends on Series A and Series B that have been declared.
In addition, the Series A and Series B share on a pro rata basis with common
shareholders in the remaining assets of the Company up to a maximum of $4 per
share for Series A and $5.516 per share for Series B.
Redemption
If the holders of 65% of Series A or Series B, at any time after February
25, 2002, so demand, the Company will be required to redeem 25% of the shares of
Series A and Series B outstanding and an additional 25% of each on the three
succeeding anniversaries of such demand. The redemption price of each share of
Series A and Series B will be $1 and $2.754, respectively, plus all accrued and
unpaid dividends, if any, whether or not declared.
H. STOCK-BASED COMPENSATION:
In accordance with the Company's 1998 Stock Incentive Plan (the "Plan"),
incentive stock options (ISOs) and nonqualified stock options, restricted stock,
or other stock based awards may be granted to qualified individuals by the
Company's Board of Directors. Options of the Plan are exercisable over periods
determined by the Board of Directors. The maximum number of shares authorized
for award under the Plan is 8,080,066.
Stock Options
ISOs are granted to employees of the Company at not less than the fair
market value of the shares on the date of grant, as determined by the Company's
Board of Directors. Nonqualified options may be granted to employees, officers,
directors, consultants and other advisors to the Company on terms set forth by
the Company's Board of Directors on an individual basis. Generally, one-fourth
of the original number of shares vest on the first anniversary of the grant date
and one-thirty-sixth of the original number of shares vest on each successive
full-month period following the first anniversary of the grant date. The options
expire ten years from the date of grant.
In the event of a sale, liquidation, merger or acquisition of the Company,
the then unexercised stock options will, as determined by the Board of
Directors, be substituted for equivalent options of the succeeding company or
alternatively such unexercised options will become exercisable in full. In the
event of a sale, merger or acquisition under the terms of which the holders of
common stock will receive a cash payment for each share held, all options shall
terminate and each option holder will receive a cash payment based on a formula
outlined in the Plan.
Restricted Stock
Restricted stock may be issued to employees, officers, directors,
consultants, and other advisors. The Plan states that the Company has the right
to repurchase the common stock at the issuance price (which shall be at least
equal to the par value per share for each share of common stock subject to such
award)
F-75
156
CASTLE NETWORKS, INC.
(A DEVELOPMENT STAGE ENTERPRISE)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
or other stated or formula price in the event that conditions specified by the
Board of Directors in the award agreement are not satisfied prior to the end of
the applicable restriction period or periods established for such award. The
vesting period for employees is four years. The number of restricted stock
shares outstanding at December 31, 1997 and 1998 was 0 and 5,489,250,
respectively.
A summary of the Company's stock option activity for 1998 is presented
below:
<Table>
<Caption>
WEIGHTED-
AVERAGE
SHARES EXERCISE PRICE
------- --------------
Options outstanding at January 1, 1998:
Granted................................................... 195,000 $0.23
Exercised................................................. -- --
Cancelled................................................. 12,000 0.30
------- -----
Options outstanding at December 31, 1998.................... 183,000 $0.22
======= =====
</Table>
At December 31, 1998, no options were exercisable. The weighted-average
grant-date fair value of options granted during 1998 was $6.84. The weighted
average remaining contractual life for options outstanding at December 31, 1998
is nine years. No options were granted prior to 1998.
The Company accounts for its stock-based compensation plans in accordance
with Accounting Principles Board (APB) Opinion No. 25, "Accounting or Stock
Issued to Employees." Had compensation cost for the Company's stock-based
compensation plans been determined based on the fair value at the grant dates in
accordance with Statement of Financial Accounting Standards No. 123, "Accounting
for Stock-Based Compensation" (SFAS 123), the Company's net loss for the year
ended December 31, 1998 would have been $8,253,068 and net loss per share would
have been $14.75.
The effects of applying SFAS 123 in this pro forma disclosure are not
indicative of future amounts and additional awards in future years are
anticipated.
The fair value of each stock option is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions: an expected life of 7 years, no dividends, no volatility, and a
risk-free rate of 4.95% for the year ended December 31, 1998.
During 1998, the Company recorded $6,523,199 in deferred compensation
related to restricted common stock and stock options issued to employees of the
Company at exercise prices lower than the estimated fair market value. In
addition, the Company recorded $815,060 in compensation expense related to the
amortization of the deferred compensation balance.
Deferred compensation cost recognized in connection with the issuance of
stock options and restricted stock to non-employees was $1,504,945 for the year
ended December 31, 1998, of which $906,770 was amortized into expense. This
compensation cost was calculated using the Black-Scholes option pricing model
and the following weighted average assumptions; expected volatility of 70%,
risk-free interest rate of 5.5%, zero dividend rate and a contractual life of 10
years.
I. EMPLOYEE BENEFIT PLAN:
The Company sponsors a defined contribution plan covering substantially all
of its employees which is designed to be qualified under section 401(k) of the
Internal Revenue Code. Eligible employees are permitted to contribute to the
401(k) plan through payroll deductions within statutory and plan limits. The
Company has not contributed to the plan.
F-76
157
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Argon Networks, Inc.:
We have audited the accompanying balance sheets of Argon Networks, Inc. (a
Delaware corporation in the development stage) as of March 31, 1998 and March
12, 1999 and the related statements of operations, redeemable convertible
preferred stock and stockholders' deficit, and cash flows for the year ended
March 31, 1998, the period from April 1, 1998 to March 12, 1999 and the period
from inception (March 13, 1997) to March 12, 1999. 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 auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Argon Networks, Inc. as of
March 31, 1998 and March 12, 1999 and the results of its operations and its cash
flows for the year ended March 31, 1998, the period from April 1, 1998 to March
12, 1999 and for the period from inception (March 13, 1997) to March 12, 1999 in
conformity with accounting principles generally accepted in the United States.
/s/ ARTHUR ANDERSEN LLP
Boston, Massachusetts
April 30, 1999
F-77
158
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENT OF OPERATIONS
<Table>
<Caption>
PERIOD FROM CUMULATIVE PERIOD
YEAR ENDED APRIL 1, 1998 FROM INCEPTION
MARCH 31, TO MARCH 12, (MARCH 13, 1997)
1998 1999 TO MARCH 12, 1999
----------- ------------- -----------------
Operating Expenses:
Research and development...................... $ 3,821,567 $ 17,350,574 $ 21,172,141
Selling, general and administrative........... 1,044,678 5,027,246 6,071,924
----------- ------------ ------------
Total operating expenses.............. 4,866,245 22,377,820 27,244,065
Interest Income................................. 330,710 1,280,236 1,610,946
Interest Expense................................ (27,019) (114,767) (141,786)
----------- ------------ ------------
Net loss................................... $(4,562,554) $(21,212,351) $(25,774,905)
=========== ============ ============
Basic and Diluted Net Loss per Share............ $ (105.97) $ (16.97)
=========== ============
Basic and Diluted Weighted Average Shares
Outstanding................................... 43,056 1,249,794
=========== ============
</Table>
The accompanying notes are an integral part of these financial statements.
F-78
159
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
BALANCE SHEETS
MARCH 31, 1998 AND MARCH 12, 1999
<Table>
<Caption>
1998 1999
----------- ------------
ASSETS
Current Assets:
Cash and cash equivalents................................. $20,484,105 $ 6,811,905
Short-term investments.................................... 9,874,350 10,064,191
Prepaid expenses and other current assets................. -- 32,460
----------- ------------
Total current assets.............................. 30,358,455 16,908,556
----------- ------------
Property and Equipment, at cost:
Software and computer equipment........................... 956,421 2,501,142
Research and development test equipment................... -- 684,731
Furniture and fixtures.................................... 70,422 122,623
Leasehold improvements.................................... -- 29,183
----------- ------------
1,026,843 3,337,679
Less -- Accumulated depreciation.......................... 213,577 974,614
----------- ------------
813,266 2,363,065
----------- ------------
Other Assets................................................ 38,000 38,375
----------- ------------
$31,209,721 $ 19,309,996
=========== ============
LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' DEFICIT
Current Liabilities:
Current portion of long-term debt (Note 4)................ $ 186,825 $ 622,619
Accounts payable.......................................... 215,410 958,592
Accrued expenses.......................................... 364,470 1,792,961
----------- ------------
Total current liabilities......................... 766,705 3,374,172
----------- ------------
Long-term Debt, less current portion (Note 4)............... 745,476 1,444,330
----------- ------------
Commitments (Note 5)
Series A Redeemable Convertible Preferred Stock, $0.01 par
value --
Authorized, issued and outstanding -- 5,704,063 shares, at
redemption value.......................................... 7,779,778 7,779,778
----------- ------------
Series B Redeemable Convertible Preferred Stock, $0.01 par
value --
Authorized, issued and outstanding -- 7,154,469 shares at
March 31, 1998 and March 12, 1999, at redemption value.... 26,399,991 26,399,991
----------- ------------
Stockholders' Deficit:
Common stock, $0.01 par value --
Authorized -- 20,000,000 shares
Issued -- 3,545,000 and 3,955,625 shares, at March 31,
1998 and March 12, 1999, respectively
Outstanding -- 3,545,000 and 3,688,125 shares at March
31, 1998 and March 12, 1999, respectively............ 35,450 39,556
Additional paid-in capital................................ 96,000 6,136,425
Deficit accumulated during the development stage.......... (4,613,679) (25,826,030)
Treasury stock, at cost -- No shares at March 31, 1998 and
267,500 shares at March 12, 1999....................... -- (38,226)
----------- ------------
Total stockholders' deficit....................... (4,482,229) (19,688,275)
----------- ------------
$31,209,721 $ 19,309,996
=========== ============
</Table>
The accompanying notes are an integral part of these financial statements.
F-79
160
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK AND
STOCKHOLDERS' DEFICIT
FOR THE PERIOD FROM INCEPTION (MARCH 13, 1997) TO MARCH 12, 1999
<Table>
<Caption>
REDEEMABLE CONVERTIBLE DEFICIT
PREFERRED STOCK COMMON STOCK ACCUMULATED
------------------------ --------------------- ADDITIONAL DURING THE
NUMBER OF REDEMPTION NUMBER OF $.01 PAID-IN DEFERRED DEVELOPMENT
SHARES VALUE SHARES PAR VALUE CAPITAL COMPENSATION STAGE
---------- ----------- --------- --------- ---------- ------------ ------------
Inception (March 13, 1997)........ -- $ -- 2,000,000 $20,000 $ -- $ -- $ --
Sale of restricted common
stock.......................... -- -- 1,545,000 15,450 96,000 -- --
Sale of Series A redeemable
convertible preferred stock,
net of issuance costs of
$24,011........................ 5,704,063 7,779,778 -- -- -- -- (24,011)
Sale of Series B redeemable
convertible preferred stock,
net of issuance costs of
$27,114........................ 7,154,469 26,399,991 -- -- -- -- (27,114)
Net loss......................... -- -- -- -- -- -- (4,562,554)
---------- ----------- --------- ------- ---------- ----------- ------------
Balance, March 31, 1998........... 12,858,532 34,179,769 3,545,000 35,450 96,000 -- (4,613,679)
Sale of restricted common stock
and exercise of common stock
options........................ -- -- 410,625 4,106 118,875 -- --
Repurchase of restricted common
stock.......................... -- -- -- -- -- -- --
Deferred compensation related to
the issuance of restricted
common stock and stock options
to employees................... -- -- -- -- 5,267,250 (5,267,250) --
Amortization of deferred
compensation related to the
issuance of restricted common
stock and stock options to
employees...................... -- -- -- -- -- 5,267,250 --
Compensation expense related to
the issuance of restricted
common stock and stock options
to nonemployees................ -- -- -- -- 654,300 -- --
Net loss......................... -- -- -- -- -- (21,212,351)
---------- ----------- --------- ------- ---------- ----------- ------------
Balance, March 12, 1999........... 12,858,532 $34,179,769 3,955,625 $39,556 $6,136,425 $ -- $(25,826,030)
========== =========== ========= ======= ========== =========== ============
<Caption>
TREASURY STOCK
--------------------- TOTAL
NUMBER OF STOCKHOLDERS'
SHARES COST DEFICIT
---------- -------- -------------
Inception (March 13, 1997)........ -- $ -- $ 20,000
Sale of restricted common
stock.......................... -- -- 111,450
Sale of Series A redeemable
convertible preferred stock,
net of issuance costs of
$24,011........................ -- -- (24,011)
Sale of Series B redeemable
convertible preferred stock,
net of issuance costs of
$27,114........................ -- -- (27,114)
Net loss......................... -- -- (4,562,554)
---------- -------- ------------
Balance, March 31, 1998........... -- -- (4,482,229)
Sale of restricted common stock
and exercise of common stock
options........................ -- -- 122,981
Repurchase of restricted common
stock.......................... 267,500 (38,226) (38,226)
Deferred compensation related to
the issuance of restricted
common stock and stock options
to employees................... -- -- --
Amortization of deferred
compensation related to the
issuance of restricted common
stock and stock options to
employees...................... -- -- 5,267,250
Compensation expense related to
the issuance of restricted
common stock and stock options
to nonemployees................ -- -- 654,300
Net loss......................... -- -- (21,212,351)
---------- -------- ------------
Balance, March 12, 1999........... 267,500 $(38,226) $(19,688,275)
========== ======== ============
</Table>
The accompanying notes are an integral part of these financial statements.
F-80
161
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF CASH FLOWS
<Table>
<Caption>
CUMULATIVE
PERIOD FROM
PERIOD FROM INCEPTION
YEAR ENDED APRIL 1, 1998 TO (MARCH 13, 1997)
MARCH 31, 1998 MARCH 12, 1999 TO MARCH 12, 1999
-------------- ---------------- -----------------
Cash Flows from Operating Activities:
Net loss..................................... $(4,562,554) $(21,212,351) $(25,774,905)
Adjustments to reconcile net loss to net cash
used in operating activities --
Compensation expense related to the
issuance of restricted common stock and
stock options to employees and
nonemployees............................ -- 5,921,550 5,921,550
Depreciation and amortization............. 213,577 761,037 974,614
Changes in assets and liabilities --
Prepaid expenses and other current
assets............................... -- (32,460) (32,460)
Increase in other assets................ (38,000) (375) (38,375)
Accounts payable........................ 214,410 743,182 958,592
Accrued expenses........................ 364,470 1,428,491 1,792,961
----------- ------------ ------------
Net cash used in operating
activities......................... (3,808,097) (12,390,926) (16,198,023)
----------- ------------ ------------
Cash Flows from Investing Activities:
Sale of short-term investments............... 2,200,000 26,997,000 29,197,000
Purchase of short-term investments........... (12,074,350) (27,186,841) (39,261,191)
Purchase of property and equipment, net...... (1,026,843) (2,159,261) (3,186,104)
----------- ------------ ------------
Net cash used in investing
activities......................... (10,901,193) (2,349,102) (13,250,295)
----------- ------------ ------------
Cash Flows from Financing Activities:
Net proceeds from sale of Series A redeemable
convertible preferred stock............... 7,755,767 -- 7,755,767
Net proceeds from sale of Series B redeemable
convertible preferred stock............... 26,372,877 -- 26,372,877
Proceeds from sale of restricted common stock
and exercise of common stock options...... 111,450 122,981 254,431
Repurchase of restricted common stock........ -- (38,226) (38,226)
Proceeds from officer (stockholder)
promissory note payable................... 100,000 -- 100,000
Payments on officer (stockholder) promissory
note payable.............................. (100,000) -- (100,000)
Payments under equipment line of credit and
note payable.............................. (7,083) (383,509) (390,592)
Borrowings under equipment line of credit and
note payable.............................. 939,384 1,366,582 2,305,966
----------- ------------ ------------
Net cash provided by financing
activities......................... 35,172,395 1,067,828 36,260,223
----------- ------------ ------------
Net (Decrease) Increase in Cash and Cash
Equivalents.................................. 20,463,105 (13,672,200) 6,811,905
----------- ------------ ------------
Cash and Cash Equivalents, beginning of
period....................................... 21,000 20,484,105 --
----------- ------------ ------------
Cash and Cash Equivalents, end of period....... $20,484,105 $ 6,811,905 $ 6,811,905
=========== ============ ============
Supplemental Disclosure of Cash Flow
Information:
Cash paid for --
Interest..................................... $ 27,019 $ 114,767 $ 141,786
=========== ============ ============
Supplemental Disclosure of Noncash Financing
Activities:
Equipment acquired under capital lease....... $ -- $ 151,575 $ 151,575
=========== ============ ============
</Table>
The accompanying notes are an integral part of these financial statements.
F-81
162
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS
MARCH 12, 1999
(1) OPERATIONS AND MERGER
(a) Operations
Argon Networks, Inc. (the Company) was incorporated as a Delaware
corporation on March 13, 1997 and is engaged in the development of data
communications hardware and software. The Company commenced operations in April
1997.
The Company is in the development stage and is devoting substantially all
of its efforts toward product research and development. The Company is subject
to a number of risks similar to those of other development stage companies,
including dependence on key individuals, competition from established companies,
the development of commercially viable products and the continued financial
support of Siemens, necessary to fund product development.
(b) Merger
On February 4, 1999, the Company entered into an agreement and plan of
merger (the Merger) by and among Siemens Corporation (Siemens), Arthur
Acquisition Corp. (AAC), a wholly owned subsidiary of Siemens, and Argon
Networks, Inc. whereby Siemens and AAC acquired all of the outstanding capital
stock of the Company for $200 million in cash (the Consideration) and AAC merged
with and into the Company, with the Company becoming a wholly owned subsidiary
of Siemens. In addition, the employees of the Company are entitled to receive an
additional $32.1 million based on certain project milestones and employee
retention criteria, as defined.
Upon consummation of the Merger on March 12, 1999, all shares of treasury
stock owned by the Company were canceled and retired. All nondissenting shares
of common stock converted into the right to receive 21.52% of the Consideration
divided by the number of common shares outstanding immediately prior to the
effective date of the transaction. All nondissenting shares of preferred stock
converted into the right to receive 71.45% of the Consideration divided by the
number of preferred shares outstanding immediately prior to the effective date
of the transaction. Additionally, the vesting of all outstanding common stock
options accelerated and were canceled and converted into the right to receive
7.03% of the Consideration divided by the number of common shares issuable
pursuant to the outstanding stock options immediately prior to the effective
date of the transaction. The consideration received by the common stockholders,
preferred stockholders and common stock optionholders was equal to $11.44,
$11.11 and $11.46 per share, respectively.
At the effective time of the Merger, Siemens distributed $180 million in
cash and entered into an escrow agreement, whereby $20 million was deposited
into an escrow account. The escrow account will be released 18 months after the
effective date of the transaction.
The financial statements and notes to financial statements herein have been
prepared to reflect the financial position of the Company immediately prior to
the effective time of the Merger and do not include any adjustments for the
application of push-down accounting. The financial statements reflect the
amortization of deferred compensation, resulting from the acceleration of
vesting that occurred at the time of the merger, related to shares of restricted
common stock and stock options issued to employees. (See Note 8(b)).
F-82
163
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(2) SIGNIFICANT ACCOUNTING POLICIES
(a) Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
(b) Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with an
original maturity of 90 days or less to be cash equivalents.
(c) Short-Term Investments
The Company accounts for investments under Statement of Financial
Accounting Standards (SFAS) No. 115, Accounting for Certain Investments in Debt
and Equity Securities. As of March 12, 1999, all of the Company's investments
are classified and accounted for as held-to-maturity and reported at amortized
cost. As of March 31, 1998 and March 12, 1999, the amortized cost of the
Company's short-term investments, which approximates fair market value, consists
of the following:
<Table>
<Caption>
1998 1999
---------- -----------
U.S. government agencies................................... $4,939,278 $ 5,399,842
Commercial paper........................................... 4,935,072 4,664,349
---------- -----------
$9,874,350 $10,064,191
========== ===========
</Table>
The average maturity of the Company's short-term investments at March 31,
1998 and March 12, 1999 is 104 and 125 days, respectively. Realized gains and
losses from the sale of investment securities are recorded on the trade date by
specific identification of the security sold. Realized gains and losses were not
material during the period from April 1, 1998 to March 12, 1999 and the year
ended March 31, 1998.
(d) Depreciation and Amortization
The Company provides for depreciation by charges to operations on a
straight-line basis in amounts estimated to allocate the cost of the assets over
their estimated useful lives, as follows:
<Table>
<Caption>
ESTIMATED
ASSET CLASSIFICATION USEFUL LIFE
- -------------------- -------------
Software and computer equipment............................. 2-3 years
Research and development test equipment..................... 5 years
Furniture and fixtures...................................... 2-5 years
Leasehold improvements...................................... Life of lease
</Table>
(e) Software Development Costs
All of the Company's research and development expenses have been charged to
operations as incurred. In accordance with SFAS No. 86, Accounting for the Costs
of Computer Software To Be Sold, Leased or Otherwise Marketed, the Company will
capitalize material software development costs incurred after the technological
feasibility of software development projects has been established. For the year
F-83
164
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
ended March 31, 1998 and the period from April 1, 1998 to March 12, 1999, no
software development costs met the criteria for capitalization.
(f) Comprehensive Income (Loss)
SFAS No. 130, Reporting Comprehensive Income, requires disclosure of all
components of comprehensive income on an annual and interim basis. Comprehensive
income is defined as the change in equity of a business enterprise during a
period from transactions and other events and circumstances from nonowner
sources. Comprehensive net loss is the same as net loss for all periods
presented.
(g) Loss Per Share
Basic and diluted net loss per share is computed by dividing the net loss
for the period by the weighted average number of unrestricted common shares
outstanding during the period. Basic and diluted net loss per share are the
same, as the effect of the inclusion of shares of common stock issuable upon the
conversion of redeemable convertible preferred stock, as well as stock options
and restricted common stock, would be antidilutive. In accordance with
Securities and Exchange Commission (SEC) Staff Accounting Bulletin (SAB) No. 98,
Earnings Per Share in an Initial Public Offering, the Company has determined
that there were no nominal issuances of common stock or potential common stock.
The following weighted average total of securities were excluded from the
calculation of dilutive weighted average shares outstanding, as their effect
would be antidilutive:
<Table>
<Caption>
PERIOD FROM
YEAR ENDED APRIL 1, 1998
MARCH 31, 1998 TO MARCH 12, 1999
-------------- -----------------
Redeemable convertible preferred stock................ 4,962,942 12,858,532
Common stock options.................................. 122,441 1,011,421
Restricted common stock............................... 3,000,713 2,419,437
--------- ----------
Total....................................... 8,086,096 16,289,390
========= ==========
</Table>
(h) New Accounting Standards
American Institute of Certified Public Accountants (AICPA) Statement of
Position (SOP) 98-5, Reporting on the Costs of Start-up Activities, was issued
in April 1998. SOP 98-5 requires that all nongovernmental entities expense the
costs of start-up activities, including organizational costs, as those costs are
incurred. The Company has recorded all start-up costs as expense when incurred.
In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, (collectively referred to as
derivatives) and for hedging activities. SFAS No. 133, as amended by SFAS No.
137, is effective for all fiscal quarters of fiscal years beginning after June
15, 2000. This new standard is not anticipated to have a significant impact on
the Company's financial statements.
(3) INCOME TAXES
The Company accounts for federal and state income taxes in accordance with
SFAS No. 109, Accounting for Income Taxes. Under the liability method specified
by SFAS No. 109, a deferred tax asset or liability is determined based on the
difference between the financial statement and tax bases of assets and
liabilities, as measured by the enacted tax rates assumed to be in effect when
these differences reverse.
F-84
165
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
As of March 12, 1999, the Company had net operating loss and tax credit
carryforwards that could result in future potential tax benefits.
As of March 12, 1999, the Company had federal and state net operating loss
carryforwards and research and development credit carryforwards available to
offset future taxable income, if any, of approximately $14,502,000, $14,021,000
and $625,000, respectively. These carryforwards expire beginning in 2012 and are
subject to review and possible adjustment by the Internal Revenue Service. In
addition, the occurrence of certain events, including significant changes in
ownership interests (see Note 1), may limit the amount of the net operating loss
carryforward available to be used in any given year.
The components of the Company's net deferred tax assets at March 31, 1998
and March 12, 1999 are as follows:
<Table>
<Caption>
1998 1999
----------- -----------
Net operating loss and credit carryforwards............... $ 1,604,000 $ 6,706,000
Other temporary differences............................... 420,000 1,803,000
Valuation allowance....................................... (2,024,000) (8,509,000)
----------- -----------
$ -- $ --
=========== ===========
</Table>
The Company has recorded a full valuation allowance against its net
deferred tax asset as of March 31, 1998 and March 12, 1999, because the future
realizability of such asset is uncertain.
(4) LONG-TERM DEBT
(a) Equipment Line of Credit and Note Payable
The Company has entered into three equipment lines of credit with a bank
totaling $2,500,000, $1,600,000 and $30,000, respectively. All outstanding
borrowings bear interest at the prime rate (7.75% at March 12, 1999) and are
collateralized by substantially all assets of the Company. In addition, the
Company is required to comply with certain restrictive covenants regarding
minimum levels of tangible net worth and liquidity. As of March 12, 1999, the
Company was in compliance with all covenants.
All advances that are outstanding under the $2,500,000 line of credit as of
December 11, 1999 convert into a promissory note that is payable in 36 equal
monthly installments of principal plus interest beginning January 11, 2000. As
of March 12, 1999, $676,106 was outstanding under this facility. The $1,600,000
line of credit converted to a promissory note on August 28, 1998 and is payable
in 36 equal monthly installments of principal plus interest through August 28,
2001. The $30,000 line of credit converted to a promissory note on July 28, 1997
and is payable in 36 equal monthly installments of principal plus interest
through July 28, 2000.
(b) Capital Lease
During fiscal 1999, the Company entered into a capital lease with a
financing institution with the principal amount totaling $151,575. The capital
lease bears interest at 13.5% and is payable in 12 equal monthly installments of
principal and interest of $13,423 through July 1999.
(c) Officer/Stockholder Promissory Note Payable
On May 30, 1997, the Company entered into a $100,000 promissory note
payable (the Note) with an officer/stockholder of the Company. The Note was
repaid, including interest of $611, with the proceeds from the sale of the
Series A redeemable convertible preferred stock (Series A Preferred Stock) (see
Note 6) during June 1997.
F-85
166
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(d) Future Minimum Payments
The following table summarizes future principal payments required on these
facilities:
<Table>
<Caption>
FISCAL YEAR-
- ------------
2000........................................................ $ 622,619
2001........................................................ 763,914
2002........................................................ 492,754
2003........................................................ 187,662
----------
$2,066,949
==========
</Table>
(5) COMMITMENTS
The Company conducts its operations in a leased facility and is obligated
to pay monthly rent through 2004. In addition, the Company leases certain office
equipment under operating lease agreements. The minimum future rental payments
under these operating lease agreements are approximately as follows:
<Table>
<Caption>
FISCAL YEAR-
- ------------
2000........................................................ $ 240,000
2001........................................................ 240,000
2002........................................................ 240,000
2003........................................................ 257,000
2004........................................................ 46,000
----------
$1,023,000
==========
</Table>
Rent expense for the year ended March 31, 1998 and the period ended March
12, 1999 was approximately $94,000 and $174,000, respectively.
(6) REDEEMABLE CONVERTIBLE PREFERRED STOCK
The Company has authorized 12,858,532 shares of redeemable convertible
preferred stock, of which 5,704,063 and 7,154,469 have been designated as Series
A Preferred Stock and Series B redeemable convertible preferred stock (Series B
Preferred Stock), respectively. In April 1997, the Company sold 131,970 shares
of Series A Preferred Stock at $1.3639 per share for net proceeds of $180,000 to
the two cofounders of the Company. In June, 1997, the Company sold to various
investors 5,572,093 shares of Series A Preferred Stock at $1.3639 per share for
net proceeds of $7,575,767. On March 10, 1998, the Company sold 7,154,469 shares
of Series B Preferred Stock at $3.69 per share for net proceeds of $26,372,877.
The rights, preferences and privileges of the Series A and Series B
Preferred Stock are listed below.
Dividends
The Company shall not declare or pay any dividends on shares of common
stock unless the holders of the Series A and Series B Preferred Stock then
outstanding receive an amount equal to the dividends declared or paid on common
stock.
F-86
167
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Conversion
Each share of Series A and Series B Preferred Stock is convertible at the
option of the holder into one share of common stock, adjusted for certain
dilutive events, as defined. In addition, all shares of the Series A and Series
B Preferred Stock shall be automatically converted into shares of common stock
upon the closing of an initial public offering at a per share price of at least
$11.00 and resulting in net proceeds to the Company of at least $15,000,000.
Mandatory Redemption
The Company will be required to redeem, subject to certain conditions, on
March 10, 2003, March 10, 2004 and March 10, 2005, each a Mandatory Redemption
Date, the percentage of Series A and Series B Preferred Stock, as listed in the
following table, at a rate of $1.3639 per share in the case of the Series A
Preferred Stock and $3.69 per share in the case of the Series B Preferred Stock.
<Table>
<Caption>
PORTION OF SHARES OF SERIES A
AND SERIES B PREFERRED STOCK
MANDATORY REDEMPTION DATE TO BE REDEEMED
- ------------------------- -----------------------------
March 10, 2003 33.33%
March 10, 2004 50.00%
March 10, 2005 All shares then held
</Table>
Voting Rights
The Series A and Series B preferred stockholders are entitled to vote on
all matters with the common stockholders as if they were one class of stock. The
Series A and Series B preferred stockholders are entitled to the number of votes
equal to the number of shares of common stock into which each share of the
Series A and Series B Preferred Stock is then convertible.
Liquidation
In the event of any voluntary or involuntary liquidation, dissolution or
winding up of the Company, as defined, the holders of the Series A and Series B
Preferred Stock then outstanding will be entitled to be paid an amount equal to
$1.3639 per share and $3.69 per share, respectively, plus any dividends declared
but unpaid on such shares prior to any payment to common stockholders. Amounts
remaining after payment to the Series A and Series B preferred stockholders, if
any, will be shared among all stockholders on a proportional basis depending on
the number of shares of common stock into which the shares are convertible.
(7) STOCKHOLDERS' EQUITY
(a) Merger
As discussed in Note 1, on February 4, 1999, the Company entered into an
Agreement and Plan of Merger, whereby all of the outstanding capital stock of
the Company was acquired. All shares of treasury stock owned by the Company were
cancelled and retired. All nondissenting shares of common and preferred stock
converted into the right to receive 21.52% and 71.45%, respectively, of the
Consideration divided by the number of shares outstanding immediately prior to
the effective date of the transaction. Additionally, the vesting of all
outstanding common stock options were accelerated and were canceled and
converted into the right to receive 7.03% of the Adjusted Merger Consideration
divided by the number of common shares issuable pursuant to the outstanding
stock options immediately prior to the effective date of the transaction.
F-87
168
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(b) Reverse Stock Split
On June 17, 1997, the Company effected a reverse stock split of .26394 per
share of Series A Preferred Stock. All share and per share amounts have been
retroactively restated.
(c) Common Stock
The Company has 20,000,000 authorized shares of common stock, of which a
total of 3,955,625 shares have been issued as of March 12, 1999. The Company has
reserved a total of 5,704,063 and 7,154,469 shares of common stock for the
conversion of the Series A and Series B Preferred Stock, respectively.
(d) Founders Shares
On March 13, 1997, the Company sold 2,000,000 shares of common stock to its
co-founders at $.01 per share, which represented the fair value of the common
stock as determined by the Board of Directors. In conjunction with the sale, the
Company entered into a stock restriction agreement with its cofounders under
which 500,000 shares became vested on March 1, 1998. In the event that the
cofounders are no longer employed by the Company, the Company has the right to
repurchase at the original price, through March 1, 2001, the total number of
shares that have not vested. This repurchase right on the remaining 1,500,000
shares will lapse at a rate of 125,000 shares at the end of each three-month
period beginning on March 1, 1998. As of March 12, 1999 a total of 1,000,000
shares remain unvested and upon consummation of the Merger all such unvested
shares vested in full.
(8) THE 1997 STOCK PLAN
In April 1997, the Company's Board of Directors approved the 1997 Stock
Plan (the 1997 Plan), which provides for the granting of Incentive Stock Options
(ISOs) and Nonqualified Stock Options, awards of common stock and the sale of
common stock to key employees, directors and consultants of the Company.
(a) Restricted Common Stock
Under the 1997 Plan, the Board of Directors may authorize the sale of
common stock to employees, directors and consultants of the Company. The
purchase price for the common stock shall be determined by the Board of
Directors, but shall not be less than the fair market value on the date of the
grant. In addition, for each grant, the Board of Directors will determine the
terms under which the Company may repurchase such shares.
During fiscal 1998 and 1999, the Company sold 1,545,000 and 365,000 shares,
respectively, of common stock to various employees, directors and consultants.
The Company has also entered into stock repurchase agreements with the common
stockholders, which provides that in the event the stockholder is no longer
employed or affiliated with the Company, the Company has the right initially to
repurchase all shares at a price per share equal to the original purchase price.
For those stockholders that terminate their employment or affiliation after
their first anniversary date but prior to the fourth anniversary date, the
Company generally has the right to repurchase 75% of the shares less 6.25% of
the shares per quarter beginning on the anniversary date. During fiscal 1999,
the Company repurchased 267,500 shares of common stock; no shares of common
stock were repurchased in fiscal 1998.
F-88
169
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(b) Stock Options
Under the 1997 Plan, the Board of Directors may grant ISOs and nonqualified
stock options to key employees, directors and consultants of the Company. ISOs
may be granted only to employees, with the exercise price not less that 100% of
the fair market value on the date of grant, or in the case of 10% or greater
shareholders, not less that 110% of the fair market value. Nonqualified stock
options may be granted to key employees, directors or consultants of the
Company. The exercise price of each nonqualified stock option shall be
determined by the Board of Directors, but shall not be less than the par value
of the common stock on the date of grant. In general the vesting period for
common stock options is four years. All stock options issued under the 1997 Plan
expire within 10 years, or in the case of 10% or greater stockholders, within
five years.
Activity under the 1997 Plan is summarized as follows:
<Table>
<Caption>
OPTION PLAN
-------------------------------------------
WEIGHTED AVERAGE EXERCISE
NUMBER OF PRICE PER PRICE PER
SHARES SHARE SHARE
--------- ---------------- ----------
Outstanding, March 31, 1997................. -- $ -- $ --
Granted................................... 390,000 0.23 0.13-0.37
--------- ----- ----------
Outstanding, March 31, 1998................. 390,000 0.23 0.13-0.37
Granted................................... 1,013,000 0.63 0.25-1.50
Exercised................................. (45,625) 0.21 0.13-0.25
Cancelled................................. (57,500) 0.31 0.25-0.37
--------- ----- ----------
Outstanding, March 12, 1999................. 1,299,875 $0.54 $0.13-1.50
========= ===== ==========
Exercisable, March 12, 1999................. 131,877 $0.27 $0.13-0.37
========= ===== ==========
Exercisable, March 31, 1998................. -- $ -- $ --
========= ===== ==========
</Table>
Information regarding stock options as of March 12, 1999 is as follows:
<Table>
<Caption>
OUTSTANDING
------------------------------------------------- EXERCISABLE
RANGE OF WEIGHTED AVERAGE ------------------------------
EXERCISE NUMBER REMAINING WEIGHTED AVERAGE NUMBER WEIGHTED AVERAGE
PRICES OUTSTANDING CONTRACTUAL LIFE EXERCISE PRICE EXERCISABLE EXERCISE PRICE
- ----------- ----------- ---------------- ---------------- ----------- ----------------
$0.13 154,375 8.53 $0.13 43,125 0.13
$0.25-$0.37 907,500 9.23 0.36 88,752 0.34
$1.50 238,000 9.58 1.50 -- --
--------- ----- ------- -----
1,299,875 $0.54 131,877 $0.27
========= ===== ======= =====
</Table>
SFAS No. 123, Accounting for Stock-Based Compensation, requires the
measurement of the fair value of stock options or warrants to be included in the
statement of operations or disclosed in the notes to the financial statements.
The Company has determined that it will account for stock-based compensation for
employees under Accounting Principles Board Opinion No. 25 and elect the
disclosure-only alternative under SFAS No. 123. Options granted during the
period ended March 12, 1999 and the year ended March 31, 1998 have been valued
for disclosure purposes using the Black-Scholes option pricing model prescribed
by SFAS No. 123.
F-89
170
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The weighted average assumptions used for the year ended March 31, 1998 and
the period from April 1, 1998 to March 12, 1999 are as follows:
<Table>
<Caption>
1998 1999
---------- ----------
Risk-free interest rate.................................... 5.40-6.19% 4.18-5.50%
Expected dividend yield.................................... 0.00% 0.00%
Expected lives............................................. 5 years 1 year
Expected volatility........................................ 0.00% 0.00%
Weighted average grant date fair value..................... $0.05 $0.03
Weighted average remaining contractual life................ 9.75 years 9.32 years
</Table>
Had compensation cost for the Company's stock option plan been determined
consistent with SFAS No. 123, the Company's net loss would have resulted in the
following pro forma amounts:
<Table>
<Caption>
1998 1999
----------- ------------
Net loss --
As reported.............................................. $(4,562,554) $(21,212,351)
Pro forma.............................................. $(4,564,635) $(21,221,644)
Basic and diluted net loss per share --
As reported............................................ $ (105.97) $ (16.97)
Pro forma.............................................. $ (106.02) $ (16.98)
</Table>
The Black-Scholes option pricing model was developed for use in estimating
the fair value of traded options that have no vesting restrictions and are fully
transferable. In addition, option pricing models require the input of highly
subjective assumptions, including expected stock price volatility. Because the
Company's stock options have characteristics significantly different from those
of traded options and because changes in the subjective input assumptions can
materially affect the fair value estimate, in management's opinion, the existing
models do not necessarily provide a reliable single measure of the fair value of
its stock options.
In connection with the Merger discussed in Note 1, the Company's common and
preferred stockholders and common stock option holders received consideration
equal to $11.44, $11.11 and $11.46 per share, respectively. During the period
from April 1, 1998 to March 12 ,1999, the Company sold 365,000 shares of
restricted common stock and granted 1,013,000 options to purchase common stock,
at amounts that were, in some cases, lower than the deemed fair market value.
Accordingly, the Company has estimated and recorded deferred compensation
related to the restricted common stock and common stock options that were sold
or issued at amounts less than the deemed fair market value.
During the period from April 1, 1998 to March 12, 1999, the Company
recorded $5,267,250 in deferred compensation related to restricted common stock
and stock options issued to employees of the Company. In addition, the Company
recorded compensation expense of $5,267,250 and $654,300 related to the vesting
of restricted common stock and stock options issued to employees and
nonemployees, respectively.
F-90
171
ARGON NETWORKS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
(9) 401(k) PROFIT SHARING PLAN
In September 1997, the Board of Directors adopted the Argon Networks, Inc.
401(k) Profit Sharing Plan (the Plan). All employees who are 21 years of age and
have completed one year of service, with the exception of the initial plan year,
are eligible to contribute 1% to 12% of their annual compensation, subject to
IRS limitations. The Company may elect to make discretionary contributions to
the Plan. There have been no discretionary contributions made by the Company to
date.
(10) ACCRUED EXPENSES
Accrued expenses at March 31, 1998 and March 12, 1999 consist of the
following:
<Table>
<Caption>
1998 1999
-------- ----------
Accrued payroll and benefits................................ $251,373 $ 770,608
Accrued professional fees................................... 48,267 196,491
Accrued other............................................... 64,830 825,862
-------- ----------
$364,470 $1,792,961
======== ==========
</Table>
F-91
172
[GRAPHIC -- INSIDE BACK COVER]
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174
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175
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176
Centered on top of the page is our logo.
Below our logo are four boxes lined up in a horizontal row depicting, from
left to right, the ERX-1400, the ERX-700, the SMX-2100 and the SRX-3000.
Below the boxes depicting the ERX-1400 and the ERX-700 is the phrase
"Internet Protocol Routing and Broadband Access Products".
Below the boxes depicting the SMX-2100 and the SRX-3000 is the phrase
"Voice Switching and Service Mediation Products".
[UNISPHERE NETWORKS LOGO]
177
PART II
INFORMATION NOT REQUIRED IN THE PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
Estimated expenses (other than underwriting discounts and commissions)
payable in connection with the sale of our common stock offered hereby are as
follows:
<Table>
SEC registration fee........................................ $ 56,773
----------
NASD filing fee............................................. 22,005
----------
Nasdaq National Market listing fee.......................... 75,000
----------
Printing and engraving expenses............................. 700,000
----------
Legal fees and expenses..................................... 985,000
----------
Accounting fees and expenses................................ 850,000
----------
Blue Sky fees and expenses (including legal fees)........... 10,000
----------
Transfer agent and registrar fees and expenses.............. 20,000
----------
Miscellaneous............................................... 151,222
----------
Total.................................................. $2,870,000
==========
</Table>
We will bear all expenses shown above.
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Article EIGHTH of our amended and restated certificate of incorporation
provides that we will indemnify our directors and officers (a) against all
expenses (including attorneys' fees), judgments, fines and amounts paid in
settlement incurred in connection with any litigation or other legal proceeding
(other than an action by or in the right of us) brought against him by virtue of
his position as our director or officer if he acted in good faith and in a
manner he reasonably believed to be in, or not opposed to, our best interests,
and, with respect to any criminal action or proceeding, had no reasonable cause
to believe his conduct was unlawful and (b) against all expenses (including
attorneys' fees) and amounts paid in settlement incurred in connection with any
action by or in the right of us brought against him by virtue of his position as
our director or officer if he acted in good faith and in a manner he reasonably
believed to be in, or not opposed to, our best interests, except that no
indemnification shall be made with respect to any matter as to which such person
will have been adjudged to be liable to us, unless a court determines that,
despite such adjudication but in view of all of the circumstances, he is
entitled to indemnification of such expenses. Notwithstanding the foregoing, to
the extent that a director or officer has been successful, on the merits or
otherwise, including, without limitation, the dismissal of an action without
prejudice, we are required to indemnify him against all expenses (including
attorneys' fees) incurred in connection therewith. Expenses shall be advanced to
the director or officer at his request, provided that he undertakes to repay the
amount advanced if it is ultimately determined that he is not entitled to
indemnification for such expenses.
Indemnification is required to be made unless we determine that the
applicable standard of conduct required for indemnification has not been met. If
we determine that the director or officer did not meet the applicable standard
of conduct required for indemnification, or if we fail to make an
indemnification payment within 60 days after such payment is claimed by such
person, such person is permitted to petition the court to make an independent
determination as to whether such person is entitled to indemnification. As a
condition precedent to the right of indemnification, the director or officer
must give us notice of the action for which indemnity is sought and we have the
right to participate in such action or assume the defense thereof.
II-1
178
Article EIGHTH of our amended and restated certificate of incorporation
further provides that the indemnification provided therein is not exclusive and
that if the Delaware General Corporation Law is amended to expand the
indemnification permitted to directors or officers, we must indemnify those
persons to the fullest extent permitted by such laws as so amended.
Article NINTH of the our amended and restated certificate of incorporation
provides that none of our directors will be personally liable for any monetary
damages for any breach of fiduciary duty as a director, except to the extent
that the Delaware General Corporation Law prohibits the elimination or
limitation of liability of directors for breach of fiduciary duty.
Under Section 7 of the underwriting agreement, the underwriters are
obligated, under certain circumstances, to indemnify our directors and officers
against certain liabilities, including liabilities under the Securities Act.
Reference is made to the form of underwriting agreement filed as Exhibit 1.1
hereto.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.
Since our incorporation, we have issued the following securities that were
not registered under the Securities Act:
(a) Issuance of Capital Stock.
In January 1999, we issued 1,000 shares of our common stock, $1.00 par
value per share, to Siemens. In June 1999, we issued an additional
258,399,000 shares of our common stock to Siemens. In April 2000, we
effected a 1-for-3 reverse stock split of our common stock and, in July
2000, we changed the par value of our common stock to $.01 per share.
Consequently, Siemens Corporation currently owns 86,133,333 shares of our
common stock. These shares were issued pursuant to Section 4(2) under the
Securities Act.
In August 2000, we sold an aggregate of 3,221,334 shares of restricted
common stock, $.01 par value per share, to James A. Dolce, Jr., Thomas M.
Burkardt, Jeffrey P. Lindholm and Kurt A. Melden for an aggregate purchase
price of $33,824,007. These shares were issued pursuant to Rule 701 under
the Securities Act.
In January 2001, we issued a $42.0 million convertible promissory note
to Siemens. In February 2001, we amended and restated this note. The
amended and restated note is a $67.0 million convertible promissory note
which will automatically convert upon the closing of our initial public
offering into 5,770,663 shares of our common stock, assuming a $12.00 per
share conversion price and $2,247,953 of accrued interest. This note was
issued pursuant to Section 4(2) under the Securities Act.
(b) Grants and Exercises of Stock Options.
As of June 30, 2001, we had granted options to purchase an aggregate
of 20,008,000 shares of common stock under our amended and restated 1999
stock incentive plan exercisable at a weighted average exercise price of
$10.14 per share. As of June 30, 2001, we had issued 1,403,435 shares of
common stock for an aggregate purchase price of approximately $12.0 million
pursuant to the exercise of options. These options and shares were issued
pursuant to Rule 701 under the Securities Act.
No underwriters were involved in the foregoing sales of securities. Such
sales were made in reliance upon an exemption from the registration provisions
of the Securities Act set forth in Section 4(2) thereof relative to sales by an
issuer not involving any public offering or the rules and regulations
thereunder, or, in the case of options to purchase our common stock, Rule 701
under the Securities Act. All of the foregoing securities are deemed restricted
securities for purposes of the Securities Act.
II-2
179
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) EXHIBITS:
<Table>
<Caption>
EXHIBIT
NO. DESCRIPTION
- ------- -----------
1.1+ Form of Underwriting Agreement.
2.1+ Agreement and Plan of Merger by and among the Registrant,
Pitcher Acquisition Corp. and BroadSoft, Inc., dated as of
October 20, 2000, as amended.
3.1 Certificate of Incorporation, as amended.
3.2+ Amended and Restated Certificate of Incorporation, to become
effective upon completion of this offering.
3.3+ By-laws.
3.4+ Amended and Restated By-Laws, to become effective upon
completion of this offering.
4.1+ Specimen certificate for shares of common stock.
5.1+ Opinion of Hale and Dorr LLP.
10.1+ Amended and Restated 1999 Stock Incentive Plan.
10.2+ 2000 Employee Stock Purchase Plan.
10.3+ Amended and Restated Employment Agreement by and between the
Registrant and James A. Dolce, Jr., dated as of July 31,
2000.
10.4+ Employment Agreement by and between the Registrant and
Evanthia C. Aretakis, dated as of January 15, 2001.
10.5+ Employment Agreement by and between Castle Networks, Inc.
and Thomas M. Burkardt, dated as of March 7, 1999.
10.6+ Employment Agreement by and between Redstone Communications,
Inc. and Kurt A. Melden, dated as of March 14, 1999.
10.7+ Employment Agreement by and between Redstone Communications,
Inc. and Jeffrey P. Lindholm, dated as of March 14, 1999.
10.8+ Employment Agreement by and between the Registrant and
Martin C. Clague, dated as of April 1, 1999.
10.9+ Severance Agreement by and between the Registrant and Martin
C. Clague, dated as of January 31, 2000.
10.10+# Custom Sales Agreement by and between Redstone
Communications, Inc. and IBM Corporation, dated as of
January 1, 1999.
10.11+# Manufacturing Services Agreement by and between Redstone
Communications, Inc. and ACT Manufacturing, Inc., dated as
of December 3, 1998.
10.12+# Software License Agreement by and between Trillium Digital
Systems, Inc. and Castle Networks, Inc., dated as of
February 25, 1998.
10.13+ Master Purchase Agreement by and between the Registrant and
Siemens AG, dated as of August 1, 2000.
10.14+ Tax Sharing Agreement by and between the Registrant and
Siemens Corporation, dated as of July 31, 2000.
10.15+ OEM Software Distribution Agreement for DirX-Metadirectory
Software by and between the Registrant and Siemens AG, dated
as of March 29, 2000.
10.16+ Software Development Services Agreement by and between the
Registrant and Siemens Canada Limited, dated as of May 12,
2000.
10.17+ One Executive Drive Lease by and between MGI Chelmsford
Corp. and Castle Networks, Inc., dated as of February 25,
1999, with respect to property located at One Executive
Drive, Chelmsford, Massachusetts.
10.18+ Lease by and between 235 Littleton Road Associates, Inc. and
the Registrant, dated as of December 15, 1999, with respect
to property located at 235 Littleton Road, Westford,
Massachusetts.
</Table>
II-3
180
<Table>
<Caption>
EXHIBIT
NO. DESCRIPTION
- ------- -----------
10.19+ Lease by and between Glenborough Fund V and Redstone
Communications, Inc., dated as of February 17, 1999, with
respect to property located at 5 Carlisle Drive, Westford,
Massachusetts.
10.20+ Lease by and between Trustees of Michelson Farm-Westford
Technology Park Trust and the Registrant, dated as of March
31, 2000, as amended, with respect to property located at
Michelson Farm-Westford Technology Park, Westford,
Massachusetts.
10.21+ Lease by and between Trustees of Michelson Farm-Westford
Technology Park Trust and the Registrant, dated as of June
30, 2000, with respect to property located at Michelson
Farm-Westford Technology Park, Westford, Massachusetts.
10.22+ Lease by and between 7800 Congress L&C and the Registrant,
dated as of May 9, 2000, with respect to property located at
7800 Congress Avenue, Boca Raton, Florida.
10.23+ Agreement and General Release by and between the Registrant
and George S. Donahue, dated as of July 31, 2000.
10.24+# Master Manufacturing and Purchase Agreement by and between
Castle Networks, Inc. and Bull HN Information Systems Inc.,
acting through Bull Electronics Unit (now known as Celestica
Inc.), dated as of September 22, 1999.
10.25+ OEM Agreement for Purchase of Products by and between Castle
Networks, Inc. and Siemens Information and Communication
Networks, Inc., dated as of December 23, 1998.
10.26+ Purchase Order by and between Siemens Telecom Innovation
Centre and Redstone Communications, Inc., dated as of
October 1, 1999.
10.27+ Preliminary Unsupported Software License Agreement by and
between the Registrant and Fujitsu Siemens Computers, dated
as of August 7, 2000.
10.28+ Engineering Services Agreement by and between the Registrant
and Siemens Information and Communication Networks, Inc.,
dated as of October 2, 2000.
10.29+ Assignment and Assumption Agreement by and between the
Registrant and Siemens Information and Communication
Networks, Inc., dated as of April 1, 1999, as amended.
10.30+ Master Purchase Agreement by and between the Registrant and
Siemens SAS, ICN Fixed Networks, dated as of December 15,
2000.
10.31+ First Amended and Restated Convertible Promissory Note by
the Registrant, dated as of February 8, 2001.
10.32+ Lease by and among the Registrant, Silver Seven Road Inc.
and Alberta Ltd., dated as of December 20, 2000, with
respect to property located at Silver Seven Road, City of
Kanata, Province of Ontario.
10.33+ Form of Promissory Note by Certain Optionholders of the
Registrant.
10.34+ Form of Pledge Agreement by Certain Optionholders of the
Registrant.
10.35+ Employment Agreement by and between Redstone Communications
and Christopher P. Lawler, dated as of March 14, 1999.
10.36+ RTP OEM Software License Agreement by and between the
Registrant and Fujitsu-Siemens Computers GmbH, dated as of
March 1, 2001.
10.37 Agreement and General Release by and between the Registrant
and Thomas M. Burkardt, dated as of July 2, 2001.
10.38 Amended and Restated Promissory Note by Thomas M. Burkardt,
dated as of April 24, 2001.
10.39 Loan Agreement by and between the Registrant and BroadSoft,
Inc., dated as of April 6, 2001.
21.1+ Subsidiaries of the Registrant.
23.1 Consent of KPMG LLP.
23.2 Consent of KPMG LLP.
23.3 Consent of KPMG LLP.
23.4 Consent of PricewaterhouseCoopers LLP.
23.5 Consent of Arthur Andersen LLP.
</Table>
II-4
181
<Table>
<Caption>
EXHIBIT
NO. DESCRIPTION
- ------- -----------
23.6+ Consent of Hale and Dorr LLP (included in Exhibit 5.1).
24.1+ Power of Attorney (included in the signature pages to this
registration statement).
</Table>
- ---------------
+ Previously filed.
# We have sought confidential treatment from the Securities and Exchange
Commission for selected portions of this exhibit. The omitted portions have
been separately filed with the Securities and Exchange Commission.
(b) FINANCIAL STATEMENT SCHEDULES
Schedule II -- Valuation and Qualifying Accounts
ITEM 17. UNDERTAKINGS.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
registrant pursuant to the provisions described in Item 14 above, or otherwise,
the registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as expressed
in the Securities Act and is, therefore, unenforceable. In the event that a
claim for indemnification against such liabilities (other than the payment by
the registrant of expenses incurred or paid by a director, officer or
controlling person of the registrant in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, the registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act and will be governed by the final adjudication of such issue.
The undersigned registrant hereby undertakes:
(1) To provide to the underwriters at the closing specified in the
underwriting agreement, certificates in such denominations and registered
in such names as required by the underwriters to permit prompt delivery to
each purchaser.
(2) For purposes of determining any liability under the Securities
Act, the information omitted from the form of prospectus filed as part of
this registration statement in reliance upon Rule 430A and contained in a
form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or
(4) or 497(h) under the Securities Act shall be deemed to be part of this
registration statement as of the time it was declared effective.
(3) For the purpose of determining any liability under the Securities
Act, each post-effective amendment that contains a form of prospectus shall
be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
II-5
182
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
registrant has duly caused this amendment no. 6 to the registration statement to
be signed on its behalf by the undersigned, thereunto duly authorized, in
Westford, Massachusetts on August 24, 2001.
UNISPHERE NETWORKS, INC.
By: /s/ JAMES A. DOLCE, JR.
------------------------------------
James A. Dolce, Jr.
President and Chief Executive
Officer
Pursuant to the requirements of the Securities Act of 1933, as amended,
this amendment no. 6 to the registration statement has been signed by the
following persons in the capacities and on the dates indicated.
<Table>
<Caption>
SIGNATURE TITLES DATE
--------- ------ ----
/s/ JAMES A. DOLCE, JR. President, Chief Executive August 24, 2001
- --------------------------------------------------- Officer and Director (Principal
James A. Dolce, Jr. Executive Officer)
/s/ MARK NASIFF Chief Financial Officer August 24, 2001
- --------------------------------------------------- (Principal Financial and
Mark Nasiff Accounting Officer)
/s/ * Chairman of the Board of August 24, 2001
- --------------------------------------------------- Directors
Anthony T. Maher
/s/ * Director August 24, 2001
- ---------------------------------------------------
Craig R. Benson
/s/ * Director August 24, 2001
- ---------------------------------------------------
Dietrich A. Diehn
/s/ * Director August 24, 2001
- ---------------------------------------------------
Stephan D. Howaldt
/s/ * Director August 24, 2001
- ---------------------------------------------------
Daniel E. Smith
*By: /s/ JAMES A. DOLCE, JR.
---------------------------------------------
James A. Dolce, Jr.
Attorney-in-Fact
</Table>
II-6
183
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Unisphere Networks, Inc.:
Under date of November 30, 2000, we reported on the consolidated balance
sheets of Unisphere Networks, Inc. and Subsidiaries (an indirect majority-owned
subsidiary of Siemens AG) as of September 30, 1999 and 2000, and the related
consolidated statements of operations, stockholders' equity and cash flows for
the period from January 12, 1999 (date of inception) to September 30, 1999 and
for the year ended September 30, 2000. In connection with our audit of the
aforementioned consolidated financial statements, we also audited the related
financial statement schedule listed in Item 16(b). This financial statement
schedule is the responsibility of the Company's management. Our responsibility
is to express an opinion on this financial statement schedule based on our
audit.
In our opinion, such financial statement schedule, when considered in
relation to the basic consolidated financial statements taken as a whole,
presents fairly, in all material respects, the information set forth therein.
/s/ KPMG LLP
Boston, Massachusetts
November 30, 2000
UNISPHERE NETWORKS, INC.
SCHEDULE II-VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<Table>
<Caption>
BALANCE AT ADDITIONS BALANCE AT
BEGINNING OF CHARGED TO END OF
PERIODS EXPENSES DEDUCTIONS PERIOD
------------ ---------- ---------- ----------
Allowance for doubtful accounts:
For the period January 12, 1999 to September
30, 1999.................................... $ -- $ -- $ -- $ --
For the year ended September 30, 2000......... $ -- $ 827 $ -- $ 827
For the nine months ended June 30, 2001
(unaudited)................................. $ 827 $ 301 $ -- $1,128
Reserve for sales returns, allowances & other:
For the period January 12, 1999 to September
30, 1999.................................... $ -- $ -- $ -- $ --
For the year ended September 30, 2000......... $ -- $1,267 $ (204) $1,063
For the nine months ended June 30, 2001
(unaudited)................................. $1,063 $1,441 $ -- $2,504
Note Receivable Reserve:
For the period January 12, 1999 to September
30, 1999.................................... $ -- $ -- $ -- $ --
For the year ended September 30, 2001......... $ -- $ -- $ -- $ --
For the nine months ended June 30, 2001
(unaudited)................................. $ -- $6,000 $ -- $6,000
</Table>
S-1
184
EXHIBIT INDEX
<Table>
<Caption>
EXHIBIT NO. DESCRIPTION
- ----------- -----------
1.1(1) Form of Underwriting Agreement.
2.1(2) Agreement and Plan of Merger by and among the Registrant,
Pitcher Acquisition Corp. and BroadSoft, Inc., dated as of
October 20, 2000, as amended.
3.1 Certificate of Incorporation, as amended.
3.2(3) Amended and Restated Certificate of Incorporation, to become
effective upon completion of this offering.
3.3(4) By-laws.
3.4(5) Amended and Restated By-Laws, to become effective upon
completion of this offering.
4.1(5) Specimen certificate for shares of common stock.
5.1(5) Opinion of Hale and Dorr LLP.
10.1(6) Amended and Restated 1999 Stock Incentive Plan.
10.2(6) 2000 Employee Stock Purchase Plan.
10.3(5) Amended and Restated Employment Agreement by and between the
Registrant and James A. Dolce, Jr., dated as of July 31,
2000.
10.4(1) Employment Agreement by and between the Registrant and
Evanthia C. Aretakis, dated as of January 15, 2001.
10.5(4) Employment Agreement by and between Castle Networks, Inc.
and Thomas M. Burkardt, dated as of March 7, 1999.
10.6(4) Employment Agreement by and between Redstone Communications,
Inc. and Kurt A. Melden, dated as of March 14, 1999.
10.7(4) Employment Agreement by and between Redstone Communications,
Inc. and Jeffrey P. Lindholm, dated as of March 14, 1999.
10.8(4) Employment Agreement by and between the Registrant and
Martin C. Clague, dated as of April 1, 1999.
10.9(4) Severance Agreement by and between the Registrant and Martin
C. Clague, dated as of January 31, 2000.
10.10(5)# Custom Sales Agreement by and between Redstone
Communications, Inc. and IBM Corporation, dated as of
January 1, 1999.
10.11(3)# Manufacturing Services Agreement by and between Redstone
Communications, Inc. and ACT Manufacturing, Inc., dated as
of December 3, 1998.
10.12(5)# Software License Agreement by and between Trillium Digital
Systems, Inc. and Castle Networks, Inc., dated as of
February 25, 1998.
10.13(3) Master Purchase Agreement by and between the Registrant and
Siemens AG, dated as of August 1, 2000.
10.14(5) Tax Sharing Agreement by and between the Registrant and
Siemens Corporation, dated as of July 31, 2000.
10.15(7) OEM Software Distribution Agreement for DirX-Metadirectory
Software by and between the Registrant and Siemens AG, dated
as of March 29, 2000.
10.16(7) Software Development Services Agreement by and between the
Registrant and Siemens Canada Limited, dated as of May 12,
2000.
10.17(4) One Executive Drive Lease by and between MGI Chelmsford
Corp. and Castle Networks, Inc., dated as of February 25,
1999, with respect to property located at One Executive
Drive, Chelmsford, Massachusetts.
10.18(4) Lease by and between 235 Littleton Road Associates, Inc. and
the Registrant, dated as of December 15, 1999, with respect
to property located at 235 Littleton Road, Westford,
Massachusetts.
</Table>
185
<Table>
<Caption>
10.19(4) Lease by and between Glenborough Fund V and Redstone Communications, Inc., dated as of
February 17, 1999, with respect to property located at 5 Carlisle Drive, Westford,
Massachusetts.
10.20(5) Lease by and between Trustees of Michelson Farm-Westford Technology Park Trust and the
Registrant, dated as of March 31, 2000, as amended, with respect to property located
at Michelson Farm-Westford Technology Park, Westford, Massachusetts.
10.21(5) Lease by and between Trustees of Michelson Farm-Westford Technology Park Trust and the
Registrant, dated as of June 30, 2000, with respect to property located at Michelson
Farm-Westford Technology Park, Westford, Massachusetts.
10.22(4) Lease by and between 7800 Congress L&C and the Registrant, dated as of May 9, 2000,
with respect to property located at 7800 Congress Avenue, Boca Raton, Florida.
10.23(7) Agreement and General Release by and between the Registrant and George S. Donahue,
dated as of July 31, 2000.
10.24(5)# Master Manufacturing and Purchase Agreement by and between Castle Networks, Inc. and
Bull HN Information Systems Inc., acting through Bull Electronics Unit (now known as
Celestica Inc.), dated as of September 22, 1999.
10.25(3) OEM Agreement for Purchase of Products by and between Castle Networks, Inc. and
Siemens Information and Communication Networks, Inc., dated as of December 23, 1998.
10.26(5) Purchase Order by and between Siemens Telecom Innovation Centre and Redstone
Communications, Inc., dated as of October 1, 1999.
10.27(5) Preliminary Unsupported Software License Agreement by and between the Registrant and
Fujitsu Siemens Computers, dated as of August 7, 2000.
10.28(3) Engineering Services Agreement by and between the Registrant and Siemens Information
and Communication Networks, Inc., dated as of October 2, 2000.
10.29(3) Assignment and Assumption Agreement by and between the Registrant and Siemens
Information and Communication Networks, Inc., dated as of April 1, 1999, as amended.
10.30(1) Master Purchase Agreement by and between the Registrant and Siemens SAS, ICN Fixed
Networks, dated as of December 15, 2000.
10.31(2) First Amended and Restated Convertible Promissory Note by the Registrant, dated as of
February 8, 2001.
10.32(6) Lease by and among the Registrant, Silver Seven Road Inc. and Alberta Ltd., dated as
of December 20, 2000, with respect to property located at Silver Seven Road, City of
Kanata, Province of Ontario.
10.33(1) Form of Promissory Note by Certain Optionholders of the Registrant.
10.34(1) Form of Pledge Agreement by Certain Optionholders of the Registrant.
10.35(2) Employment Agreement by and between Redstone Communications and Christopher P. Lawler,
dated as of March 14, 1999.
10.36(2) RTP OEM Software License Agreement by and between the Registrant and Fujitsu-Siemens
Computers GmbH, dated as of March 1, 2001.
10.37 Agreement and General Release by and between the Registrant and Thomas M. Burkardt,
dated as of July 2, 2001.
10.38 Amended and Restated Promissory Note by Thomas M. Burkardt, dated as of April 24,
2001.
10.39 Loan Agreement by and between the Registrant and BroadSoft, Inc., dated as of April 6,
2001.
21.1(4) Subsidiaries of the Registrant.
23.1 Consent of KPMG LLP.
23.2 Consent of KPMG LLP.
23.3 Consent of KPMG LLP.
23.4 Consent of PricewaterhouseCoopers LLP.
23.5 Consent of Arthur Andersen LLP.
</Table>
186
<Table>
<Caption>
EXHIBIT NO. DESCRIPTION
- ----------- -----------
23.6(5) Consent of Hale and Dorr LLP (included in Exhibit 5.1).
24.1(4) Power of Attorney (included in the signature pages to this
registration statement).
</Table>
- ---------------
(1)Incorporated by reference to the Form S-1/A (SEC file no. 333-43144) filed by
the Registrant with the Securities and Exchange Commission on February 9,
2001.
(2)Incorporated by reference to the Form 10/A (SEC file no. 000-31855) filed by
the Registrant with the Securities and Exchange Commission on March 23, 2001.
(3)Incorporated by reference to the Form S-1/A (SEC file no. 333-43144) filed by
the Registrant with the Securities and Exchange Commission on December 1,
2000.
(4)Incorporated by reference to the Form S-1 (SEC file no. 333-43144) filed by
the Registrant with the Securities and Exchange Commission on August 4, 2000.
(5)Incorporated by reference to the Form S-1/A (SEC file no. 333-43144) filed by
the Registrant with the Securities and Exchange Commission on October 20,
2000.
(6)Incorporated by reference to the Form S-1/A (SEC file no. 333-43144) filed by
the Registrant with the Securities and Exchange Commission on January 18,
2001.
(7)Incorporated by reference to the Form S-1/A (SEC file no. 333-43144) filed by
the Registrant with the Securities and Exchange Commission on September 25,
2000.
# We have sought confidential treatment from the Securities and Exchange
Commission for selected portions of this exhibit. The omitted portions have
been separately filed with the Securities and Exchange Commission.